In 2022, the real estate markets have been fairly turbulent. In such uncertain times, it can be difficult to predict exactly where the real estate market is headed. After all, no one has a crystal ball. However, savvy real estate investors can make money in any market, and this market is no exception. Here are some tips for how to keep multifamily properties profitable in today’s economy.
- Remain calm and focused on what you do know and what you can control.
One of the most important things that we do know is that housing is grossly undersupplied at the moment. In fact, the U.S. housing market is short 3.8 million housing (paywall) units to keep up with new household formation. Because housing is so undersupplied, it means that single-family home prices will most likely continue to remain high, resulting in large droves of people continuing to flock to multifamily housing. Regardless of where we are in the economic cycle, multifamily is a great place to be. Period.
So, if you are feeling stressed about all of the uncertainty in the housing market, just remember that demand is likely to stay very strong for some time to come. It is unlikely that the supply of houses in the U.S. will catch up to demand for years. This indicates that multifamily property should be a good place to invest your money and build your wealth for the foreseeable future.
- Be smart about financing and the risks associated with it.
The market is currently going through a “value discovery” period in which the true value of the assets is being realized. Rising inflation has caused some confusion over real estate prices. As a real estate investor, you will have to choose between fixed-rate loans vs. floating-rate loans if you are going to use debt to finance your investments. Each of these options has both pros and cons. Here is a look at the advantages and disadvantages of each type of loan.
• Fixed: Fixed-rate loans are ultimately more expensive because the buyer is going to push the risk burden onto the lender and hedge their bet. However, it is likely more predictable. So, fixed-rate loans are more expensive on a month-to-month basis, but they are more predictable and thus less risky for the buyer in some ways.
• Floating: The risk of floating is in how high the rates go and how much you must pay for a rate cap. With floating rate loans, it is harder to project costs, but it might be more cost-effective than overpaying at a fixed rate. Also, many floating mortgages, or adjustable-rate mortgages (ARMs), have entry-level rates that are very low. So, this can be attractive to many real estate investors, especially those who do not intend to keep the properties on a long-term basis.
If you are going to finance your real estate investments, you need to make sure you choose the loan type that is best for your situation. If you need predictability, then you should go with a fixed-rate mortgage. If a sudden rise in monthly payments does not intimidate you, and if you have the funds to deal with it, a floating-rate mortgage could be good for you. Whichever route you take, just make sure that you can properly afford the payments before you give the investment the green light.
- Cash flow is king.
Keeping cash flow strong is absolutely crucial for real estate investors during times of uncertainty. In order to keep your cash flow strong during periods of high volatility, there are three critical factors you should focus on that you can control.
• Occupancy: Occupancy is the number one priority. It drives all cash flow for the profitability of the property and keeping cash flowing is more important now than ever. There are a number of things that you can do to keep occupancy high. First, make sure to screen tenants properly. Second, you can carry out exit interviews with your tenants to see why they are leaving. If you discover a problem, fix it. Finally, make sure you only invest in properties that are in desirable locations. Location alone can solve a large percentage of occupancy problems.
• Renovations: Many multifamily investors implement a “value add” strategy by renovating apartments to justify rent increases. If units are offline (vacant) while being renovated, they are not generating cash. Be conservative and pace the renovation plans to have a minimum impact on the overall cash flow of the asset. Essentially, you should do your renovations at a more moderate pace to avoid diminishing your cash flow too much at once. Also, consider prioritizing high-impact renovations that can boost profitability significantly but do not take very long to complete. For example, adding a “smart package” by swapping out typical electric outlets with upgraded USB ports and smart thermostats is easy and effective.
• Reduced Expenses: Make sure operations are running as tightly and efficiently as possible. Assess net operating income (NOI) regularly and address any and every area where there is room for improvement or cost reduction. You can reduce expenses and improve NOI by getting new bids on services, improving energy efficiency by installing new lights and bulbs and reducing water usage. For example, LED lights use 80% less electricity than standard lighting. Water is one of the single largest expenses for most properties, but you can get your water usage down by installing low-flow toilets, showerheads, and aerators. Doing this can lead to a 30% reduction in water usage by tenants.
Good investments can still produce passive income in any economic cycle. Don’t panic, and ride through the more challenging times with confidence. Focus on factors within your control to maintain your success over time, and always remember to be smart about your financing and risk. Prioritize cash flow and fiduciary responsibilities first and foremost. Remember the fundamentals and believe in your multifamily real estate investment.