There are two major components to real estate investing – Fundamentals and Strategies. Strategies are the methods by which you buy, sell or hold a property. The fundamentals are the controlling factors and circumstances that influence what strategy choice you make. Fundamentals are also those things which impact how successful or unsuccessful you will be with any given real estate strategy.
Property fundamentals are those things about a given property that factor into the deal and they tend to dictate your choice of strategy. Here are several of the primary fundamentals every investor will have to deal with on every property they look at:
1. Location – The all time classic property fundamental. Everyone knows that the 3 most important things in real estate are location, location and location. This is because location cannot be changed. It is what it is. Sometimes you have a great location and sometimes the location causes an investor to pass on a property that otherwise might have been a good investment. Location has a lot to do with how much a property will appreciate in value over the coming years. Location can also result in a property losing money.
2. Condition – What is the condition of the property, and how much money will the repairs or renovations cost? And how much will the property be worth after the repairs are completed?
3. Equity – How much equity is in the property? That is, how much does the seller owe, compared to the value of the property? These days, with millions of homeowners underwater, having no equity at all, it definitely impacts the choice of strategy. If a property has good location and the repair budget is manageable, but there is no equity, the only possible strategy might be to try a short sale to put some equity back into the property.
4. Seller Motivation – Real estate investors know that even though a property might have good equity, minimal repairs and good location, if the seller is not motivated to make a deal, the odds of the property being a good investment are pretty small. The gurus like to say that “you are not searching for houses to invest in, you are searching for motivated sellers”.
That being said, motivated sellers are not always distressed folks on the verge of foreclosure. Sometimes they are well situated themselves and are in a position to be flexible. I once purchased a property from an elderly property owner. She had bought the property at a foreclosure auction years earlier and had made good money renting it for years. But she was getting up in years and no longer wanted the responsibility. She had a lot of equity in the property, and was not desperate financially, but she was motivated to sell because of her age and health. Sellers don’t have to be desperate or down on their luck, but if they are stuck on what they want and are not motivated by some circumstance, it’s much more difficult to structure a deal that will work for both parties.
Market Fundamentals are the other important facet of real estate investing. These include items that can impact the real estate market in general, but which you as the investor have virtually no control over. Here are some examples of market fundamentals:
1. Interest Rates – The cost of mortgage financing is a huge factor. Low interest rates generally result in more home sales because financing is cheaper. High interest rates usually result in fewer home sales because financing is more expensive. The Federal Reserve has, in recent years, kept interest rates low in an attempt to jump start the housing market. Unfortunately it has not worked very well this time, because of our next market fundamental…
2. Employment and Job Growth – This has a direct impact on the demand for homes. If people are working and employment is very good, there are more folks with the money to purchase a home. Today, with unemployment at very high levels, and millions of people out of the work force, home sales are still well below normal levels because fewer people have an income that can support a home purchase. Even the low interest rates we have today can’t overcome the problem of a lack of jobs across the broader market.
3. Supply and Demand – A classic market fundamental. When the supply of homes is greater than the demand, prices fall. As a result, investors may find it more difficult to turn a profit. Today’s combination of high unemployment and an over supply of homes on the market due to foreclosures has resulted in a market that is much more challenging. Still, some cities do have job growth and are seeing home prices rise somewhat due to the extra demand from buyers.
Low home prices don’t guarantee a profit if there is no demand from a buyer. Investors have to make sure they are buying as cheaply as possible just to insure that they won’t lose money. In “normal” times, lower interest rates like we have today, combined with cheap houses would result in a boom for the housing industry, but the nagging unemployment problem has undermined what would otherwise be a very good environment for housing growth.
Today’s market has a very unusual set of fundamentals and is challenging for all real estate investors. It’s crucial to know what the fundamentals are in your local market so that you can make wise investing decisions and choose investing strategies that will be supported by your local fundamentals.
In the article to follow this one, I’ll be discussing real estate investing strategies, and how they are supported or undermined by the fundamentals.
Donna S. Robinson is a real estate investor, housing market analyst, investing coach, author and speaker located in Atlanta, GA. Follow her on twitter at donnaconsults. Her website is RealtyBizConsulting.com