The main question that needs to be ask before evaluating a market is what is my business plan? Generally speaking, there are two main real estate investing model: invest for cash flow or invest for appreciation.
If you’ve been a loyal follower of this blog, you know that we NEVER invest for appreciation, so the answer to that question is simple. Now what?
Russ Gray, who is the co-host of The Real Estate Guys radio show, one of the top real estate podcasts in the world, with over 6 million overall downloads, also adheres to the cash flow model. In our conversation on my podcast, Russ provided a list of questions he answers when evaluating a market to determine if it’s a good candidate for cash flow investing.
Always Stick to the Fundamentals
It’s important to understand that when investing, there are always bubbles, hot money and hot markets, and all kinds of deformations that can occur seemingly at random. Therefore, it is important to always stick to the fundamentals in order to thrive in any market condition.
Looking at the fundamentals will tell you everything that you need to know about a market. For example, what is the cap rate trend? If you look at multifamily cap rates in a market and see that they are becoming compressed, meaning people are bidding higher than the income demands, cash flowing deals will be difficult to find.
Another important, fundamental question Russ asks is what is the interest rate outlook? If you see that interest rates are rock bottom low, you may not be able to count on refinancing down the road at a similarly low rate if you need to save a tight cash flow situation.
Besides the cap rate and interest rates, here is a list of other fundamental questions that Russ asks when evaluating a market:
- Who is your tenant pool?
- Who do they work for?
- What drives the local economy?
- Is it business friendly?
- Tax friendly?
- Is it the kind of market that a CEO that is making decisions to survive in a tough economy will tend to gravitate towards, rather than away from?
- What is the affordability index?
- How solid is the transportation infrastructure?
- Education infrastructure?
- The labor pool?
- Do the market’s industries have a strong tie to the geography, so that jobs cannot be exported to China, India, Mexico, etc.?
- Is it a distribution hub or energy-producing town? (Russ finds that these types of jobs are safe from relocation)
- Is there a diverse number or industries or is there one company/industry that is dominate? (As a rule of thumb, I don’t like to see one industry that makes up more than 25% of the jobs. If that industry crashes or disappears, so does the real estate market)
When Russ says, “investing comes down to the fundamentals,” he really means that “investing comes down to cash flow.” Therefore, the questions above will give you an idea of whether or not the market will be a good fit for a cash flow investing model.
When you are investing for cash flow, you may not be getting rich quickly, but cash flow keeps you stable. Although, the upside, besides stability, is that if you discover a good cash flow market, then it will likely eventually attract the “hot money,” and you will get to see benefits on the equity side too!
Advice in Action
Follow Russ’s advice. Stick to the fundamentals. Ask the questions that will gauge the markets cash flowing prospects. And eventually see the equity benefits of the inflow of “hot money.” Then, since you initially invested for cash flow, you will be prepared to “ride it out” when the hot money recedes!
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Disclaimer: The views and opinions expressed in this blog post are provided for informational purposes only, and should not be construed as an offer to buy or sell any securities or to make or consider any investment or course of action.