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Could Real Estate be Investing’s Next Greatest Opportunity After the Housing Market Crash?

By Michael Black, CFP, CDFA
Michael Phillips Black Wealth Management
December, 2007


The housing market is in a slump! Not just here, but everywhere, regardless of where "here" is. This slump is the natural outcome of an over-heated housing market earlier this decade. The "irrational exuberance" of real estate buying, whether for speculation or ownership, was similar to the tech crazed buying of the 1990s stock markets ... and we all know what that led to. We now know this last real estate boom and subsequent meltdown was fueled by the sub-prime "liar loans" offered during the last decade. If you were caught speculating on residential real estate and invested towards the end of the cycle, you had your hat handed to you! According to Robert Shiller at Yale University, "It is not improbable that we will see large real price declines [of residential real estate] extending over many years in major cities that have seen large increases ... In the last cycle in the U.S., real home prices fell only 15% from the peak in 1989 to 1996, but some cities real prices fell much more. Los Angeles fell 42% from 1989 to 1997. London fell 47% from 1988 to 1995." Based on history, we may have just begun to see the slaughter!

Since 1995 the number of families renting actually declined as renters bought homes, even as the population was increasing. During this same period, home ownership increased about 35%. In 1995 about 28 million Americans owned homes. As of 2005 about 38 million Americans owned a home which represents an increase from 64% to 69% of the population. This is exactly the same time period the mortgage industry introduced the "sub-prime liar loans" or loans that did not require verification of income, tax returns or ability to repay loans. In essence, just about everybody qualified to purchase a home!

But as always, problems create potential opportunities. According to the Wall Street Journal, August 6, 2007, "’The US housing boom over the past decade turned 5 million renters into homeowners’, says William Wheaton, a professor of economics and real estate at MIT. But many of the loans that made that possible have proved unsustainable. Dr. Wheaton expects about two thirds of those people to go back to renting."

 In addition, the population of "Echo Boomers," or kids of baby boomers, ages 24-34 will start increasing by about 20% over the next 20 years. The housing affordability index suggests that housing costs have risen to unaffordable levels over the last decade. Add to that the supply of rental properties has declined nationally due to the "condo conversions" and the lack of apartment building and this all suggests that demographically, economically and even socially, investing in apartment buildings appears to be the perfect storm of investment opportunities. But as in all real estate investing, the same metrics still apply; Location, Location, Location!  Just as some cities outpaced others during the residential real estate price run up ... and now down, apartment building investing success will be equally as spotty. "Cities with a ‘buzz’ are where the action is. Cities attracting young, creative people will also attract employment growth," quotes Kevin Finkel, Executive Vice President of Resource Real Estate, a private equity fund that sponsors nationwide apartment investments based in Philadelphia, Pennsylvania. According to Finkel, "It used to be that when a kid graduated from college, he left his hometown to find a job. Today, he moves to the hippest place he can find/afford. The employment pool chases the talent and relocates to the talent pool." Hence, we see employment growth following socially desirable, diversified and educated "hot spots."

 According to Richard Florida at Carnegie Mellon University, and his book, "The Rise of the Creative Class", "Diversity and creativity are basic drivers of innovation and regional and national growth." Therefore, determining where the creative class is moving helps determine where the next best rental markets are or will evolve. Corporate America is following the same trend, providing the necessary employment base. Investors should seek out cities that attract young, educated renters. These cities typically exhibit the "buzz", that is, cities that have an excitement, open-mindedness, a thriving nightlife and an overall atmosphere conducive to creativity. Within each city, look for opportunities to invest in infill locations proximate to high-income areas that are centrally located and offer easy access to employment centers and recreational opportunities. Furthermore, proximity to colleges and universities are of particular interest.

Generally, new construction and land costs are so high that only class "A" expensive apartments are currently being built. This is forcing new construction to take place outside of the city’s main attraction to "Gen Y" renters: night life and entertainment ... the "buzz." Closer in town opportunities exist in existing class "B" apartments. These "infill" opportunities have more barriers to competition. It’s expensive to tear down an existing building to build a new apartment building. With less competition, and high demand, occupancies tend to be higher and values appreciate. Add to the formula, the classic real estate investment determinates such as employment trends, in-depth evaluation of major employers and dominant industry evaluation, population growth (both historic and forecasted), median household income trends, median home values, median age of population, existing market supply, replacement costs, property condition, local competition, etc. and investors can find great investment opportunities in the apartment building sector made available, at leastpartially, by the sub-prime mortgage fiasco and residential real estate market crash!

Michael Black, CFP, CDFA

Office: 480-425-0154

Information is for educational purposes only. These views are those of the author and should not be construed as investment or mortgage advice nor should it be considered as an offer to sell or buy any securities, provide investment advice, or make investment recommendations. Individuals are encouraged to consult with a professional in regards to legal, tax, mortgage, and/or investment issues.