Bruce W. McNeilage, CEO Kinloch Partners.
Last summer, I was flying home to Nashville when the pilot came on and said: “Please buckle up. We are heading into a little bit of turbulence.” How right he was. That’s probably the best metaphor for the real estate market in the second half of 2022: It was indeed a bumpy ride.
From October 2021 to October 2022, home prices rose 10.1% overall, according to CoreLogic. In the first half of 2022, many markets were still seeing bidding wars that ended up with multiple offers above the asking price. Lower interest rates (3.45% for a 30-year fixed in mid-January 2022) made it easier for some buyers to simply boost their offers with only a slight bump to their monthly payments. With inventory low, outbidding the competition was often the only way to buy a property. But, as the year went on, the real estate industry turned. Interest rates roughly doubled and were north of 7% in November. This resulted in a slowdown for most real estate activity.
The question today is: Where is this plane going to land?
For the most part, I believe where investors are today is where they will be three to six months from now. Usually, the market swings like a pendulum; sometimes it has ample supply but a dearth of buyers, and sometimes it has multiple buyers and tight supply. Right now, that pendulum is simply stuck with few properties on the market and few buyers who can afford them. Inventory is tight, dropping from 1.31 million units in July 2022 to 1.14 million in November 2022. But, interest rates on a 30-year mortgage have gone from 4.3% in February 2022 to 6.4% in April 2023. This has pushed a lot of buyers out of the market.
People must live somewhere. If they can’t buy, they must rent. If more people must rent, then rents are going to go up. It’s simple supply and demand 101.
But, for aspiring landlords, there is a catch. The cost of borrowing is going up so much that higher rents don’t guarantee profitable rental agreements. In addition, in light of the interest rates and the potential economic downturn, many banks are becoming more reserved, making it harder for investors to find real estate loans.
For real estate investors, there are two very significant implications: First, cash is king, and the market will likely favor those with deep pockets. Second, patient investors could find some great deals.
With the increased cost of borrowing, investors should keep in mind that they will need to bring more money to the table. The days of finding cheap money, purchasing some rental properties and creating instant cash-flow-positive portfolios are, if not dead, at least on hold for the time being. This is where the need for deep pockets comes in. An investor who can put a significant down payment into their properties might still be able to keep their payments low enough to create positive cash flow.
Second, patience is a virtue. With real estate activity slowing significantly, I believe prices will start to drop. This is good news for deep-pocketed real estate investors looking for attractive prices in the next 12 months. Investors who can buy low and afford to hold onto their properties for a year, two years or even five years might consider doing so; from my perspective, they could experience profits over time.
The investor who wants to buy and make a quick flip might want to consider sitting things out for a while. But, the investor who has had their cash on the sidelines and is in it for the long haul can keep an eye out for great deals. If they are patient enough to wait out our current storm, they could land safely with some profitable long-term investments.
The information provided here is not investment, tax, or financial advice. You should consult with a licensed professional for advice concerning your specific situation.
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