What the heck is going on with the 2023 real estate market? From high interest rates and high purchase prices to elusive cash flow, this market includes enough uncertainty to spook new and beginner investors into thinking the best course of action might be to sit this cycle out.
Pro tip: Don’t sit out.
You know the old adage:
When’s the best time to plant a tree?
“20 years ago.”
When’s the second-best time to plant a tree?
Many expert investors will call this truth in 2023 in regard to real estate. For sure, this year has forced us to be more conservative and strategic than we’ve been in the past, but most say you’re still better off “in” than “out”.
We spoke to two experienced investing teams, Ali and Josh Lupo (aka theFIcouple), who invest in the Albany, New York area, and Megan Ahern (aka the Tatty investor), who invests in the Lincoln, Nebraska area with her husband Jeff, to understand the current market and get some advice on how to navigate decisions in 2023. They agree that these are the two constants so far this year.
- Interest rates and home prices are staying high: “The two biggest challenges are that interest rates have gone up dramatically over the last 12-24 months,” says Josh Lupo, “and that people think there’s a magical inverse relationship between interest rates and price and that prices should naturally come down when interest rates are high.” But that’s just not what we’re seeing, he says.
- Inventory is low: “Something like 50% of homes are currently either paid off or have a mortgage rate below 4% right now. People don’t want to sell and go into a 6% mortgage,” adds Lupo. That means no one is moving. Costs to build also remain really expensive, so few people are doing it.
Five Tips to Guide You Through the Rapids
1. Don’t be spooked, just figure it out
“If you’re sitting there waiting for the perfect market conditions, guess what. They do not exist,” says Megan Ahern. “If you think about any moment in history, there’s something challenging about that market. Either you can’t get good financing like now, or you can’t get good deals because it’s 2020, and everything’s going 40k over asking. You just have to figure out how to invest with that issue in place.”
2. Play the long game
Both Ahern and the Lupos agree that in 2023, you shouldn’t be focused on driving a ton of cash flow in year one. Instead, think about a 5-year horizon, says Ahern. “If I can make the deal work at 7% or 7.5% or whatever we’re at right now, I’m still going to purchase it. Because I can see that, like, five years from now, 10 years from now, with inflation going the way that it is, it will be worth more than it is today. Rents will be higher than they are today. And if it can pay for itself on 7.5%, I’m still going to buy it.” Ahern is targeting $200 a month/door for minimum cash flow this year.
The Lupos agree, “We’re not thinking as much about 2023. We are looking at 2043,” says Josh Lupo. “We’re still buying on fundamentals and not really changing much in terms of our criteria—a bad deal can really hurt you. We still only buy in a 5-mile radius of our location, we know our buy box, and we know what our cash flow goal is.”
3. But keep your project horizon short
“This year, I would not get into anything that’s going to be a longer-term project,” says Ahern. “I wouldn’t start developing right now because you’re a year to build. I want to get in and get out in a few months. I know I’ll be able to see any kind of market correction or crash happening a few months out, but I don’t know what’s going to happen a year from now.”
4. Consider seller financing to get around high interest rates
The Lupos focus only on off-market deals they find through organic networking, services like Propstream and DealMachine, and by talking directly to owners. They are finding they’re working with a disproportionate number of baby boomers this year because “these properties are owned by people who have little to no debt at this point,” says Lupo. “That allows us to structure the deals in a creative way where we and the seller can find a mutually beneficial arrangement. That means instead of paying 7-8% interest on a property, we can arrange seller financing paying 6% interest and putting down 5%.”
5. Be very conservative with underwriting
This is not the year to fudge your numbers or inch them toward what you wish they would be. “You hear those horror stories,” says Josh Lupo, “but If you really drill down, you start unearthing all the false assumptions people are making in their underwriting. The numbers never lie, and there are so many unpredictable variables. The thing I have control over is the deal.”
In this market, Ahern has also become more conservative in her underwriting and has defaulted to keeping three months of expenses plus a 30% capex/vacancy/repair fund at all times. “I keep enough cash on hand to weather whatever storm may happen,” says Ahern. “As long as you go, okay, even if we have to accept less rent, can we still just keep this property, even if it wasn’t fully cash flowing or have enough cash on hand to cover vacancy or whatever?
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Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.