As I was driving into the office today I was thinking about some deals we are planning to do on the real estate side of this company. Our goal at one point in time was to find a deal that was turn key, rent it and wait. The problem with that is you slow down the velocity of your money. You also turn into a speculator, not an investor.
If we go turn key, then the prior owner, who is likely also an investor/flipper, took the risk, rehabbed it and is now exiting out the deal taking all his profit out. We effectively become the greater fool and could take a loss on the deal in the event that there is a correction which could likely happen. We also have our money (the down payment) stuck in this deal because we didn’t create enough value upon acquisition to refinance it out.
As I was thinking about this deal I realized that value add deals are essentially the same thing as making a value play in stocks. There are people who invest in stocks for income and growth. What I do is I find great companies that are undervalued (difference between intrinsic value and market value) and then I profit on the come up. The same principle applies to value add deals in real estate. When you find a value add deal in real estate you find a distressed property that is priced under market and then, through sweat equity, increase the value of that product back up to market value. The difference between what you bought it, paid to rehab it and then sold it for is your “value” or profit.
There are some real estate guys who ONLY buy distressed property. This is because investing any other way leaves your fate up to the market and successful people never leave their wealth up to the market. Investing for appreciation is a form of leaving your success and wealth up to the market and is dangerous. This is exactly what people did leading up to the 2008 crash and it just doesn’t work. At some point in time the music stops and there are no chairs left in that game of musical chairs of real estate.
Any seasoned investor will tell you that you make money on the BUY. We all know that you need to make your money on the buy and if you are making money only if the market goes up you have lost the game of buying assets. Too many people in this market are breaking even on the buy, especially in multi family real estate. Don’t chase those deals, let them come to you. If someone is willing to take the product above what you would pay after factoring in your profit, let them make that mistake. It is their problem now. Just make sure you are lined up with cash when that deal turns against them.
Here are three tips to spot a value add real estate deal or stock:
- Look for a market that is being beaten down heavily
- See the possibility that others cant see
- Be greedy when others are fearful
The three points above are the best ways I have found to get my hands on value add or value play deals. The first, is to buy what other people hate. This is great because their hate usually pushes down the price and their loud voice usually points you to the market you were over looking. This is true for areas like Detroit or stocks like Chipotle. At one point in time these were great areas and/or companies and at one point in time they will return to glory. When they do, there is money to be made.
The second is you have to see what others can’t see. When you are buying something that other people hate you have to still see the upside possibility. It is easy to see what is already great (Los Angeles, Manhattan, Amazon, Apple) but its hard to see what could be in a world full of naysayers. Yes it is hard. Seeing what is not there takes creativity and like Ford said “thinking is the hardest work ever”. Seeing what is not there requires you to think. Seeing what is already there is easy and there is no money in easy. When an idea is in the paper or widely accepted it is too late to hop in now. Just ask people looking to buy real estate in Inglewood or Brooklyn these days.
Lastly, be greedy when naysayers are fearful. This is the hardest one because most people are seeking some form of approval or acceptance. It is very hard to hop in and be greedy at a time when experts and smart people are all telling you that it sucks. They are smart people so they are supposed to be right, right? Wrong. Be greedy in areas like Detroit, or Baltimore or maybe even oil when others are fearful. This will help you find great deals in the market and it will help you beat the returns that people are getting by holding onto old faithful companies that have already had their hay day.
At the time of this writing our investment club has an annualized return of 11.5 percent and I want you to get on board with this movement. Email us at email@example.com to get on board.