June 2022

My friend, Ron, is a single-family developer on the East Coast. Ron has spent decades successfully developing subdivisions. He told me this shocking story the other day. 

He was planning to build 2,200 square foot homes on about 40 lots that he had developed, hoping to sell these homes in the range of $350,000. They were nothing special but near a beach, so that helped.

He saw a new house on the market in a subdivision across the street. It was only 1,500 square feet and sold for over $400,000 last spring, so he was very encouraged. He was surprised when it hit the market a few months later for $625,000. And it sold!

He was even more surprised when it hit the market again for $820,000 last month. It went pending quickly, and he told me the other day it actually sold for $20k over the asking price at $840,000. 

Remember, this is for a 1,500-square-foot house that isn’t beachfront. 

When it’s this easy, something might be wrong. 

Another friend of mine is an outstanding multifamily syndicator. He told me about a multifamily property that is particularly challenging for his team. 

Before I go on, I want to say he is one of the best multifamily syndicators I know. He’s got an excellent property management team, great marketing, great systems, and he usually doesn’t make mistakes with acquisitions. Well, this was one mistake. 

He told me his net operating income was barely covering his debt service. His debt service coverage ratio was dangerously low. Because he uses floating rate debt, his interest rate was in the 2% range. 

His property management team had done all they could but could not get the rent bumps they projected and the needed increases in net operating income. 

This was not a great investment. Then it became one. 

My friend got an offer 50% higher than he paid for this asset. The new buyer, probably a less experienced syndicator, has a floating interest rate at approximately more than double my friend’s, at roughly 5%. 

Think about this—how in the world is this going to work? How is it going to end for the investors? 

I don’t understand how the math works or how they got a loan, but that happens in times like this. In times that precede a market top (a bubble bursting), debt flows freely, and syndicators gobble up every bit they can.  

The only way this could even work, in my mind, is if the buyer got extremely low LTV debt and is hoping, praying, and counting on inflation to rescue him and his investors. 

But that’s not the point of this post. The point is that my friend got out of a terrible investment with a very nice profit. 

Once again, when it’s this easy, something might be wrong.

Charlie Munger, the legendary curmudgeon investing partner of Warren Buffett and Vice-Chairman of Berkshire Hathaway, said, “It’s not supposed to be easy. Anyone who finds it easy is stupid.” 

If Warren and Charlie invested in real estate, I think they would be selling right now. That is unless they could locate assets with significant intrinsic value that could be harvested. I’ve written on this, and my firm has staked our future on it: “There Are Still Deals Out There (for Now)—Here’s Where to Find Them.”

This is not limited to just these two examples. I hear examples like this all the time. I mean all the time. 

And it is not limited to a few asset classes. I’m hearing stories like this in multifamily, single-family, self-storage, mobile home parks, and more. 

This type of behavior almost always precedes the top of the market and a bubble that eventually bursts. 

I will admit it’s possible that massive inflation could save many of these speculators. But do you really want to count on that? I mean, do you really want to be in a position and put your investors in a position where things outside of your control have to go your way to make things work? 

If you are collecting fees and will get paid regardless, you may be tempted to charge forward. But I am pleading with you to reconsider that for the sake of your future, your reputation, and especially on behalf of all the people who are counting on you. 

This is not the time to play double or nothing. When the market is at unprecedented levels, then the margin of safety is the smallest (and, in this case, perhaps negative). 

This is the time to avoid risk and wait for blood to run in the streets (from others’ mistakes). If you keep playing double or nothing, you will eventually land on nothing. Then what will you have left to double? 

Speculators sometimes end up driving a Maserati and living in a mansion. But some of them wind up delivering pizzas. There is nothing wrong with delivering pizzas, but I am guessing you are involved in the BiggerPockets community because you want more. 

We all know that low risk leads to low returns. Correspondingly, we assume that high risk leads to high returns. But that’s not true. High risk leads to the potential for higher returns. And also the potential for low returns or total loss. 

Don’t gamble with your wealth. And certainly, don’t gamble with others’ wealth. They deserve better than that. So do you and your family. 

I was talking with another investor recently and used a term I assumed he would be familiar with. He wasn’t, which led me to realize that a simple but very effective tool for decision-making was likely to be overlooked by many others as well.

The tool/concept is called expected value (EV), and I’m most familiar with this concept because I spent my youth playing way too much high-stakes poker. 

In poker, EV is one of the most common tools used to determine an optimal decision (fold, call, raise, etc.) in the middle of a hand, especially in big situations where all the chips are on the line.

But, EV can be applied to a wide range of decisions, including decisions related to our investments. 

How Does Expected Value Work?

Let’s look at how EV works, using a straightforward example from the poker world.

We’re sitting in a poker game. It’s the end of the hand, and there’s $400 in the pot, and the other player in the hand bets $100, making the pot $500, requiring you to put in $100 to see a show-down.

You have a decision to make: Do you call the $100 bet or not?

While I could give you all the details of the hand—what cards you have, how the betting played out, whether the other player looks nervous. The only piece of information you need to make an optimal decision about whether to call is what you estimate the likelihood of you having the best hand (and therefore winning the pot).

To determine the expected value for a decision, you multiply the probability of each possible outcome by the value of that outcome and then add up the results.

In this case, there are three possible outcomes:

1. You have the best hand and win
2. You have the worst hand and lose
3. You have the same hand (we’ll ignore this)

Let’s say that you believe there’s a 25% chance that you have the best hand and a 75% chance of having the worst hand. In other words, you will most likely lose, regardless of what you do. 

But what about the expected value?

There’s a 25% chance of the first scenario above happening (you having the best hand and win), and if it does, you’ll win $500 (the amount in the pot). There’s a 75% chance of the second scenario happening (you have the worst hand and lose), and if it does, you’ll lose $100 (the amount you need to spend to call the bet).

To determine the EV, we multiply the probability by the outcome for each scenario and add them up:

EV = (25% * $500) + (75% * -$100)

EV = ($125) + (-$75)

EV = $50

The Expected Value is $50. What does this mean?

It means that, while we have no idea if we’ll win $500 or lose $100 this hand, if we were to play out this exact situation a million times, we should expect to win, on average, $50 per situation.

A good poker player knows that while there is a 75% chance of losing this hand and going broke. Over the long term, taking that risk every time it comes up will ultimately make money. 

In fact, if a poker player finds themselves in this exact situation 100 times, they should expect to earn 100 * $50 = $5,000 across all these situations.

A positive expected value investment/decision is one that you should always consider making. A negative EV investment/decision is one that you should always consider passing on. 

Had the expected value for the poker situation above been negative, a fold would have been the right move.

How Expected Value Applies to Other Investment Decisions

We can apply the same logic to other types of decisions and different types of investments.

For example, it’s typical for house flippers who do a high volume of deals to consider “self-insuring” their properties. This means they don’t get insurance for the flips and assume the risk/cost themselves.

But is it smart to self-insure your flips? Let’s make some assumptions and run an EV equation.

Let’s assume:

• A typical insurance policy for a house flip will cost $1,000
• 1 in 50 flips (2%) will have a small ($10,000) claim
• 1 in 200 flips (.5%) will have a big ($100,000) claim
• The rest of the flips (97.5%) will have no insurance claim

Should we pay the $1,000 in insurance for each of our flips? Or self-insure?

Let’s take a look at the EV for self-insuring. We’ll start with the possible outcomes and the value of each:

• 97.5% of the time, there would be no claim. Therefore, no out-of-pocket cost.
• 2% of the time, there would be a small claim of $10,000 that we’d have to pay out-of-pocket.
• .5% of the time, there would be a large claim of $100,000 that we’d have to pay out-of-pocket.

EV = (97.5% * $0) + (2% * $10,000) + (.5% * $100,000)

EV = $0 + $200 + $500 

EV = $700

The EV on self-insuring is $700. That means, on average, we’d spend $700 per project paying for things that would have otherwise been covered by insurance.

In other words, if we were to do 100 flips, we could expect that we’d save about $300 per flip by self-insuring. Or $30,000 across all 100 flips! 

Final Thoughts

While this is highly simplified, and you’ll have to use the numbers that make sense for your flips (both insurance costs and likely claims), you can see why many house flippers who are doing large volumes of flips choose to self-insure.

There are thousands of scenarios you’ll run into, both with your investments and daily life, where expected value calculations allow you to make much better decisions than just “going with your gut”.

Disclaimers about expected value

• Yes, there was another option in the poker example (raising). We’re ignoring that one.
• Yes, this discussion ignores variance. Sometimes, lower variance is more important than higher EV.
• Yes, you need to consider other things besides EV, especially when it comes to catastrophic risk (risk of losing everything).
• Yes, this requires that you are good at estimating the probability of each outcome and the value for each outcome, which can be difficult.

Prepare for a market shift

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Ryan Schneider, Anywhere Real Estate CEO, joins ‘Squawk on the Street’ to discuss why the company decided to rebrand, how the business is changing and if the rising rate environment is affecting all income brackets when buying a home.

Mark Zandi, Moody’s Analytics chief economist, joins ‘Power Lunch’ to discuss his take on the housing market after Wednesday’s mortgage demand data, his predictions for different housing market stability metrics and more.

If you haven’t noticed, real estate is the most expensive it’s ever been. For newcomers and experienced investors, it’s been a lot harder to find good deals at affordable prices.

Luckily, real estate investing provides enough strategies that you can get around the barrier of entry by executing a tactic known as “house hacking”. Let’s talk about what that means.

What is House Hacking?

House hacking is where you leverage the home you live in by renting out some portion of the property to generate income and offset your monthly mortgage payment. 

For most people, a monthly mortgage or rent payment is their biggest expense. If you could reduce or eliminate your monthly housing payment, you would inevitably have more financial independence, extra passive income for the lifestyle you want, and more cash to set aside for your next real estate investment. 

In reality, house hacking is an actual life hack that forces your largest expense to work for you. It’s also one of the easiest ways to become a landlord.

Why Now is the Best Time To Start House Hacking

Just think of the headlines in real estate over the past two years: “historically low-interest rates”, “unprecedented appreciation”, “historic low inventory”, and “record inflation”. The list goes on. 

We face surging inflation as we enter the aftermath of these unprecedented and historic runs. To combat it, the Fed has raised interest rates, and in conjunction, the 30-year fixed mortgage rate has already jumped from an average of mid-3% to over 5% in a few months.

Here’s how that affects people’s wallets:

Let’s use a $500,000 home as an example.

Based on the 2% rise in interest, the monthly payment has increased by over $500! $500 extra each month can make a real impact on your budget. Based on the Fed’s indications, rates could continue to increase. People have also lost significant purchasing power because of the increased rates. 

As the market fights against first-time home buyers and eager investors trying to get in, house hacking is an advantageous weapon in your arsenal.

Who is House Hacking For?

Technically, anyone can take advantage of the benefits of house hacking, but it isn’t for the faint of heart. It can be uncomfortable. You may have to share parts of your house that you previously enjoyed to yourself, or it may take a significant up-front financial investment. 

While anybody can house hack, here are some categories of people who stand to gain the most by putting it into practice.

Those looking to save and earn more from their homes

Studies show that up to 64% of Americans live paycheck to paycheck. It’s even higher depending on the income bracket. 

Amongst these groups, a large portion of their paycheck goes towards housing costs. If the average American can lower or eliminate that housing cost, it can change their entire financial picture. Utilizing a house hacking strategy is a life-changing opportunity that affords the ability to save and have increased disposable income for individuals and families.

Those searching for financial independence

There is a large group of people that make decent money and have a comfortable life, but that comes at the expense of their time. Most of our lifestyles, homes, cars, and healthcare costs are all predicated on doing what someone else wants us to do and being where they require us to be for 40+ hours a week. Many of us work the job we do because we have to, not because we want to.

For example, I knew personally that to earn some degree of financial independence, house hacking was the right move. My wife and I downsized by renting out our comfortable four-bedroom home, invested our savings into another house, and flipped half of it into an Airbnb to eliminate the housing costs and get us one step closer to financial freedom. 

It’s not stress-free, but there’s a substantial economic impact that will pay dividends for years to come. House hacking is an accelerant for those searching for financial independence.

The young and hungry

Hands down, the person who stands to gain the most from house hacking is a younger person looking to acquire more real estate sooner. 

Generally, someone starting out in the workforce isn’t making a ton of money and may already have some significant debt with student loans. 

It’s hard to save with lower wages, debt payments, and rent payments. If someone in this situation can get into home ownership and utilize house hacking to have lower costs than what they would pay in rent, they win! 

They begin to leverage an asset, and real estate does its magic. Equity grows, cash-flow increases, the home appreciates, and they can save more to buy the next property sooner.

Ways to House Hack

1. Rent to roommates

This is the simplest and easiest way to house hack. Purchase a home and rent out some of the rooms to friends or even people you don’t know. Why pay a landlord when you can be the landlord? 

I have a buyer in Denver who is a recent college grad trying to achieve this exact scenario. Rather than rent a room himself for $800-$1,000/month, or rent an apartment for $1,500-$2,000/month, he’s decided to buy real estate early and offset his costs through house hacking. 

We are currently looking at 3-4 bedroom houses where he can rent out other rooms. Only $1000/month will come out of his pocket to own an appreciating, updated 3-4 bedroom home in Denver when he’s all done.

2. Start a short-term rental 

Another lucrative way to house hack is by setting up a short-term rental (STR) through popular platforms like Airbnb and VRBO.

In my case, this is the strategy I use for house hacking. We purchased our second home in Denver with the goal of completely mitigating our mortgage. Our separate-entry guest suite with one bedroom, one bathroom, and living space consistently pays us more than our mortgage payment. 

3. Buy a multifamily home

Many refer to this model as the “OG” of house hacking. Buy a duplex, triplex, or quadplex, live in one of the units and rent out the others. This allows an investor to get into multifamily investing for the least amount of money. 

Generally, a multifamily investment takes a 25% down payment. You can get in for as low as 15% down if it is a primary residence. 

In one move, you can purchase multiple units that can bring enough income to eliminate your out-of-pocket mortgage payment.

4. Build a “hackable” space

Many homeowners really love their homes, dislike the idea of moving, and don’t want to give up any space they already use. Those same people who have enjoyed living in their homes for a while have probably experienced unprecedented and historic appreciation over the past few years, giving them a ton of equity at their disposal.

I have friends who are in this exact dilemma. They want to get ahead by investing in real estate and find the extra income and financial independence that comes with house hacking, but they love their home and don’t want to move or give up any of their amenities. 

What’s their solution? 

Leveraging their equity with a home equity line of credit (HELOC) to build an addition to their house to create a short-term rental space. 

We ran the numbers, and the income they stand to make from their Airbnb will pay for their mortgage payment plus the HELOC payment.

Final Thoughts

There are various house hackable spaces and ideas at hand for homeowners. Finishing out a basement, building an ADU, or even putting up an airstream in the backyard could make extra cash. 

All of these ideas are subject to your city’s zoning and regulations, but the concept remains the same, there are ways to win by house hacking your home.

You’ll hear a lot of investors talk about house hacking time and time again because it works. It’s not the most flashy of investments. It can be uncomfortable and possibly invade your privacy. But house hacking has the power to radically reorganize your financial situation and reorient your mindset to making real estate work for your behalf.

That alone makes it worth it.

Let’s face it, being a real estate or rental property owner is like trying to navigate a minefield. At every point, you must double-check federal and state laws to ensure you don’t cross boundaries on your own property. The various housing laws that exist always protect the interest of the tenants over that of the landlords.

So, it may seem that landlords have few, if any, rights. However, specific landlord-tenant laws protect a landlord’s rights. This article discusses some of these rights and how they protect your interests as a property rental owner. 

First, there is one important question to discuss: How did landlord-tenant laws shift in favor of tenants, rather than the landlord, who invested a lot of money in a house or apartment?

Reasons for Revising Housing Laws 

Changes to housing law legislation resulted from a growing awareness of the welfare of tenants. Unfortunately, this was primarily due to the unfair treatment of tenants in the past. The term slumlord came to mean a landlord who tried to maximize profit but failed to upkeep the property. As a result, the government set out to protect tenant interests by enacting rent control laws to defend them from oppressive landlords.

Also, in modern times, tenants are mobile, often moving from city to city, region to region, to suit their needs. As a result, past tenancy agreement laws might not be relevant or practical nowadays. For example, tenants used to repair and upgrade rented apartments. This was usually because they stayed in those locations longer than they do now.

The implied warranty clause means that rental units must be “fit for purpose.” This means that the property is up to standard and fit for human habitation. Landlords must ensure heating, hot water, waste disposal, and plumbing work. Of course, once the tenant moves in, they are responsible for caring for the place. However, the landlords still have responsibilities to ensure essential maintenance and repairs are carried out.

So, any damage caused by the tenant is their responsibility. Either the tenant repairs the damage, it gets taken from their security deposit, or it becomes a lease violation.

What Are My Rights as a Landlord? 

Landlords have rights, even though they sometimes seem like the bare minimum. Let’s briefly discuss some of those rights.

1. The right to tell a tenant how clean to keep the house

A landlord has the right to ensure a certain level of cleanliness in the rental unit. It’s within a landlord’s right to require that tenants remove garbage regularly, clean pet mess, and prevent unhygienic conditions from attracting pests and vermin. This is why it’s a good idea to have a cleanliness clause in the rental agreement. 

Of course, it’s not within a landlord’s jurisdiction to say how often to vacuum the carpets or clean the bathtub. However, you have a right to tell a tenant to keep the house clean. 

2. Landlord rights when a tenant destroys property

As a landlord, you have the right to inspect the property if you suspect a tenant is trashing the place. Of course, you must give proper notice in line with state laws. During a thorough inspection, you can document the evidence and take pictures. You can then decide on the best action to take. 

Destroying property is a lease agreement violation. Therefore you have the right to start an eviction action. This involves serving the delinquent tenant with a “cure or quit” notice in writing. If the tenant hasn’t repaired the damage after a reasonable amount of time, you can file for eviction. After the tenant vacates the property, you have the right to withhold part of all of the security deposit to pay for repairs. 

3. The right to screen tenants

The landlord reserves the right to screen potential tenants before signing lease agreements with them. While screening, the landlord confirms the character of the prospective tenant. Then, they decide whether they will sign the rental agreement. 

However, it is not permissible to base a decision on any discriminatory criteria. So, it is vital to check what the Fair Housing Act says about discriminating against any tenant seeking accommodation.

A landlord has the right to assess potential tenants based on the following criteria:

• A physical interview or meeting to assess the prospective tenant’s suitability.
• Check their identity.
• Check their credit score and history.
• Get references from previous landlords and employers.
• Verify whether they have a criminal record. However, state laws may prohibit this check. 

4. Right to collect rent and security deposits.

The landlord has the right to set the rental price and security deposits. However, state laws may limit the amount of security deposit you can charge. 

The tenant must pay the security deposit and a month’s rent in advance upon signing the rental agreement. The rent, in this case, refers to all the fees stated in the lease agreement. These fees include utility bills (if stated), taxes on the property, and fees for keeping a pet.

Landlords have the right to request a security deposit in line with state laws. This money is a kind of insurance against damage or unpaid rent. The landlord can use the security deposit to pay for costs to repair damage caused by a tenant. 

However, at the end of the lease agreement, a landlord generally must return the security deposit to the tenant. 

5. Right to evict tenants for lease violations

Tenants have obligations to the landlord while using their property. They include:

• Obligation to pay rent: In this context, rent refers to all forms of payment stipulated in the lease agreement. Therefore, the tenant must pay these fees as they are required. Non-payment of rent is a lease violation. 
• Not altering the property’s structure: The tenant can only modify the property if the lease agreement allows for this. For instance, they might repaint walls and install shelves only if the lease allows it. However, it is not acceptable to increase a room’s size by removing walls or making structural alterations. Also, a tenant must not cause damage to the property.
• Illegal activities: A tenant must not use the property for unlawful activity.

Violation of any of these rules or failure to comply with them gives landlords the right to serve an eviction notice to “cure or quit.”

For example, suppose a tenant fails to pay rent. In that case, the landlord has the right to start an eviction process. This would involve proving to a judge that the tenant is in violation of the lease agreement. Then, if the tenant fails to make the rent payment in full in the specified time, they can be evicted. 

6. Right to access the property

Landlords can access their property even after renting it out. The main clause in this is that they must give prior notice to the tenants before coming. Most states in the U.S. demand a 24-hour notice, while some ask even higher. If the landlord violates this clause, the tenants can sue them for privacy invasion.

However, in emergency cases, the landlord can come in without a notice to secure his property from losses. 

7. Right to make a “moving-out” inspection

The landlords have the right to inspect the property whenever the tenant notifies them of their desire to leave the property. Once they receive the notice, they can inspect the property for any damage that is more than just regular “wear and tear.” 

Regular “wear and tear” is superficial damage to the property due to day-to-day living. However, it doesn’t include severe damage to the property, fixtures, or fittings. For example, there is a difference between surface scratches on a baseboard and a large hole in drywall. 

Conclusion

Landlord-tenant laws in the U.S. indeed tend to favor tenants. However, it’s vital to remember that landlords have specific rights to collect rent on time, make regular inspections, and evict a tenant for a lease violation.

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David:
This is the BiggerPockets Podcast, show 619.

Laurence:
I think we might, and this is another prediction and I’m not an economist, but this is just my own personal belief. I think there’s a decent chance we’d go through a period of stagflation. So normally you’d raise interest rates to stop inflation, but I think in this case inflation’s going to keep going up, which makes affordability and cost of living also go up, but it’s less affordable so we might hit a recession even though there’s tremendous growth in prices. And that could cause a period of stagflation. So you could see some spiraling out of control in this way.

David:
What’s going on, everyone? This is David Greene, your host of the BiggerPockets Real Estate Podcast, the best real estate investing podcast bar none. Today, my co-host Dave Meyer and I will be interviewing Laurence Jankelow, the co-founder of Avail and the VP of Rentals at Realtor.com. Laurence is passionate about helping landlords do their jobs better and make more money in real estate. And Dave and I have a fascinating interview with him where he shares how he uses technology to help do a better job with investing in real estate, which areas he invests in, which asset classes he likes. We get into some really good stuff. Dave, what were some of your favorite parts of today’s show?

Dave:
I think Laurence provides some really practical, tactical advice on how to be a better property manager, particularly in an uncertain economy, which we’re seeing right now. But a lot of people talk about property management, whether you should sell [inaudible 00:01:30], or if you should hire a professional property management company. But don’t talk about the actual logistics, nuts and bolts of what you should be doing, particularly as a new property manager. I know I had a lot of very embarrassing and painful lessons when I was first self-managing and I think he gave some great advice on how to avoid some of those common pitfalls.

David:
Yeah, that’s a very good point. We got pretty deep into what to look for in a tenant, what to avoid, how important choosing the right tenant actually is. And it’s not talked about enough in real estate. Today’s quick tip – go to check out biggerpockets.com/podcasts. At BiggerPockets, we have now put together a landing page where you can see all of the podcasts that we offer on specific topics, as well as learn a little bit more about the host and what you can expect from every show. So head over to biggerpockets.com/podcast, click on The Real Estate Show to learn about me, click on the On the Market icon to learn more about Dave and see what BiggerPockets has to offer you that you might not be aware of.
Dave, my friend, so I got to admit, I have had my head completely zoomed in and focused on running the David Greene team, running The One Brokerage and in the middle of a 1031, trying to find replacement properties. And I’ve been so focused on the individual details of making this happen that I haven’t been able to pay as much attention to the market in general as I would like. But sometimes knowing what’s happening in the market in general is actually more helpful than paying attention to a specific property because the market tends to move as a whole. So would you be so kind as to kind of filling me in on what you’ve been seeing, what you’ve been noticing? What’s the talk in the real estate world today?

Dave:
Yeah, absolutely. I would love to. I think there are two topics that are really top of mind for me. And the first is inventory and just general inventory dynamic. I’m sure you’re saying this in all of your businesses, but to me it seems like the housing market is starting to have this sort of epic tug of war. And on one side we have demand and it’s just how many people want to buy homes. And that with rising interest rate is showing signs of softening. It’s definitely not tanking. But I follow things like the Mortgage Bankers Association survey and they track how many mortgage applications people are putting in every month. And those are down about 10% year over year. But so far there hasn’t been a decline in housing prices and housing prices are still going up double digits year over year because of the other side of this tug of war, which is inventory.
So even if demand starts to slip as it has been, if inventory remains as low as it has been for so long, housing prices really can’t go anywhere. You have to see inventory increase before the market can moderate. And so far, we just haven’t seen that yet. In fact, if you look at new listings on a seasonally adjusted basis, which is the way you have to look at these things, you can’t just say like, “Oh, listings went up from March to April.” Of course it does. That happens every single year. But if you look at this on a year over year basis, new listings are actually going down right now.
We just saw some new data came out that said construction permits were down 3%. Foreclosures, which a lot of people have been thinking are going to lead to a glut of inventory, they’re at record lows. They’ve been going down for seven consecutive quarters. So right now in the tug of war, I’m seeing demand, even though it’s down, is still far surpassing inventory. And that’s just how I’m reading it right now. That of course could change. And I think it will start to moderate and change. But to me, that’s the thing that I’m really focusing on to try and see where this market’s going. What do you think about all that?

David:
I think you’re spot on. You’re looking at the right things. One thought that I had when it comes to the, because really in a market where demand is steady or rising, it’s supply that’s the variable that controls the price. And that supply side perspective of economics will really help someone understand what’s happening with real estate. And I was thinking about how housing was something that used to be tied to how many people needed a place to live. That was the only reason that real estate existed. So you either owned a house or you rented a house from somebody that owned it. It was pretty simple to figure out how much supply was needed in a given market. And people didn’t move around the country nearly as much as they do now because they were tied to a location because of work and family support systems.
And it’s really technology that has created the ability for people to have like you, you’re living in Amsterdam right now and still doing your same job and still living your life. It’s just become easier to be a human with technological advances. So all of the things we used to need, like you needed a family member that could watch your kid or could help bring the cup of sugar over if you ran out of money. Well, it’s easier to connect with people when you move into new places. And obviously the work environment changing has played a role in this too. So people can leave areas much more quickly and easily than they could before, which makes it harder to regulate supply. How many houses do we need in Fargo, North Dakota once people realize I don’t have to live in Fargo anymore. And the other piece is that now housing is not just a place where people need to live. It has now become a business.
So with people traveling through short term rentals, one house, you could have a house that you don’t need as far as just how many people need a place to live in this city, but it makes a ton of money from people traveling to visit that city. And then you can start to get a hundred houses more than what you need that still make economic sense because people are traveling to use them. So now that the short term rental concept of vacationing and staying in someone’s home instead of a hotel, combined with how much more frequently people can move around easily has made it a lot trickier to figure out how much supply is actually needed. And I think that causes builders to be nervous about building homes because they don’t want to build and then there’s no one to buy.
It’s harder to tell. It makes it more difficult for the government to figure out what incentives to offer to get people to build homes. It makes it more nerve wracking for someone who isn’t familiar with real estate to go buy a house in the first place. And it gives an advantage to the big, the investor who has experience or institutional capital that’s playing the long game to sort of weather the storm of some of those risks that a normal person wouldn’t. And so it’s much more complicated to solve these problems than the last 200 years that we experienced.

Dave:
That’s a really good point. I think that the migration that’s going on over the last two years, and it’s slowing down a little bit, but not that much, still up well above pre pandemic levels, is creating this like reshuffling of supply and demand. And no one exactly knows what’s going to happen. And if I can plug on the market, actually I think given when this recording comes out, the next one that will be coming out is going to be a conversation with an economist from Redfin who actually modeled out all of the migration from the coast to the Sunbelt and how that’s changing the dynamics of the housing market. If anyone here is interested in those migration patterns and how they might be impacting your market, you should definitely check that out.
The second thing that I’m looking at right now is a recession. I think you we’re hearing it across every media outlet right now that we’re heading towards a recession and the signals of recessions are sort of confusing right now. If you’ve heard of the yield curve, which is a really reliable predictor of recessions, that inverted slightly, which isn’t exactly a recession trigger, but it’s starting to point that way.
There’s something called the lead economic indicators, which tends to predict recessions six to eight months ahead of time and it’s basically been flat, but it’s starting to decline. And so there are some concerning signs, particularly with the Fed continuing to raise interest rates that we could be heading for a recession. I just want to say that recession, technically all that means is GDP contracting for two consecutive quarters. That doesn’t necessarily mean that there’s going to be crashes in the housing market or the stock market. Those are independent things. But just, I think it’s worth noting that there are a lot of red flags coming up for a recession right now and I’m curious to hear your thoughts on this.

David:
All right. So this is me having to get out a crystal ball, which I always want to give a disclaimer, don’t make your decisions just based on my crystal ball, which looks a lot like my head. But I will share what I’m thinking-

Dave:
Very shiny.

David:
Yes, exactly. I think, and I mentioned this before, that we are going to have a economy where at the upper end of wealthy people, they’re doing very well. Those that are owning assets, those assets are going to continue to increase in value because inflation’s going to push their value higher. Those at the lower end of the spectrum are actually going to lose wealth. They’re going to be squeezed. I don’t think it’s like a tide where everyone rises and everyone falls. You’re going to see a division where the people that are in a position of advantage, where they own assets are going to do very well. The people who don’t are going to get squeezed. And this is not uncommon to many things in the world. If you’re a basketball player right now in the NBA and you’re this really slow, seven foot tall kind of useless guy that used to be really valuable in the NBA when shot blocking and everyone is trying to get close to the rim and you could be strong and tough and get rebounds.
Those were the people everyone wanted. Well now it’s the little guys with high levels of skill that with the current rule set where you can’t touch people, you can’t knock them around. They’re doing better. This is just how life goes. There’s shifts in who is in a position of advantage and who’s not. I think we are likely going to see the people at the lower end of the scale, unfortunately, be squeezed very hard as food prices are going to continue to increase, as gas prices are going to continue to increase depending on what happens in the Eastern part of the world, where supply chains could be further disrupted, now we’d have to start making things in America, which makes them way more expensive than what we think is normal. So paying $14 for a t-shirt is something we got used to. If you’re making that in America, it’s going to be much more than $14.
That’s unfortunately going to affect the people that make the least amount of money. I would expect to see in some case, depending on, I don’t know when it’s going to happen, but I do think there will be a recession in that sense, but I don’t think it’s going to necessarily crush assets. I don’t think you’re going to see a ton of wealthy people being super affected by this. They’ll probably end up making more money, which is usually what happens with wealthy people when we head into recessions.
Now, the other thing I’ll say is I think that we have printed so much money that there’s actually a bunch of it sitting on the sidelines waiting to jump in. So cryptocurrencies are down, the stock market is down. There’s a lot of traditional measures of value that we look at and it’s like, “Oh, we’re going bad, Bitcoin dropped whatever.” That could change in a day. I think there’s so much money sitting on the sidelines that if it rushes in, all of a sudden it was down to Bitcoin has record highs, it’s so easy to see and many different kinds of crypto. So it’s not enough just to look at what’s happening right now, you have to understand how much money is playing in the market and how much is sitting on the sidelines to wait and see what’s going to happen.
And with talks of recession, wealthy people tend to withdraw their money out of the market, hold it in cash and wait to see where the opportunity is before they rush back in. I think that raising rates is a smart move if we’re trying to stop inflation. I think it’s too little too late. I think this is like a semi truck going down a hill and the brakes are out and it’s barreling down. That’s why we’re seeing asset prices continue to rise so quickly. I think that rising rates is like just stepping on the brake pedal and you’re barely making an impact.
It’s going to affect people, unfortunately that are least likely to be able to handle it. That’s the best description I can give is to don’t look at it like the entire economy is going to move up or down as a whole. There are segments of the economy that are going to behave differently, much like this type of player in this NBA is going to do better than a different type.

Dave:
That’s a very interesting take. And I think, unfortunately, you’re right that this is going to disproportionately impact those on the lower end of the socioeconomic spectrum. It just seems that we’re going to see layoffs. That’s basically usually happens with a recession, and you also see inflation causing a situation where money is stretched further and further, even if people do retain their jobs. I do just also want to stress that although there is a lot of fear, rightfully so around a recession, recessions are a normal part of the economic cycle. And as an investor or as someone who’s just trying to manage their personal finances, there are things that you can do to prepare yourself for a recession. Just as an example, if you’re an investor, keep a bigger cushion. There might be an increased chance that you lose your job. Hopefully you don’t.
But if you’re going to make an investment, maybe you keep 12 months of reserves where you used to keep six. Examples like that. And recently just actually I was talking to, you know Jay Scott, right? We just had him on, On the Market. He wrote the book on recession proof real estate investing, which is a great book. It’s filled with tons of practical tips for how to prepare for this type of thing. And you can also check out my conversation with him On the Market. It just came out yesterday about that. But I just think that it doesn’t necessarily, like you said, have to be all or nothing, but there are things to keep in mind and you want to operate a little bit differently with the increased market risk that we’re seeing right now. And it could be year away, could be two years away. No one really knows, but I think it’s prudent to at least inform yourself on what you can do as an investor to do as well as you can in a potential recession.

David:
Yeah. And that’s one of the reasons that I’ve been giving advice that this doesn’t apply to everyone, but when everything was going great, the whole dream of quit your job, just live off of your real estate income, it made more sense to a larger degree of people. With this much uncertainty with not knowing what’s going to happen, we have ample time to prepare. It doesn’t mean that nobody should be quitting their job and going full time in real estate, but less of the people that have that opportunity should be doing so. I think that if you’re worried about a layoff, which you should be if there’s a recession coming, because like you said, that typically happens, now is it time to be improving your skillset. Can you learn how to be good at different things? Now is when you should double down on the value that you bring as far as your work ethic to your employer, what you’re capable of doing.
Not what a lot of gurus have been telling people is, “Hey, take my course, learn how to do real estate and then you don’t need to worry about a skill set in life. Your real estate is going to take care of everything for you.” In essence, now is not the time to become less valuable or weaker. Now is the time to start preparing to become more valuable and stronger so that when that does come, you’re not knocked over. I look at it like there’s a huge wave that’s coming, I want to brace myself and be ready for it. I don’t want to be looking the other direction, thinking everything is fine.

Dave:
Yeah, I completely, completely agree. And I actually think if you look, the economy right now is a little confusing because there are these red flags, but there are opportunities right now. And I think the biggest opportunity is if you want to change industries and find a job that’s more personally fulfilling to you or has more income, this is one of the best times, at least in my lifetime and I think in American history to try and find a new job. Workers have a lot of leverage right now. And as David was saying, that can really set you up for the long term. You can improve your debt to income ratio. You can have more money with which to invest in a couple of months. And that could really set you up. Of course, it’s not the dream of financial freedom, but given where the market is right now, I do agree that can make a lot more sense.

David:
Well, on the topic of a recession coming and cutting expenses and pinching pennies a little bit, there are many investors that will find themselves managing their own properties to try to keep their profit margins higher because property management is going to become tougher to afford quite frankly, when asset prices continue to increase.
So today we are going to be interviewing expert on this topic, Laurence Jankelow who is passionate about using technology to help make real estate investors lives easier.

Dave:
Okay, let’s bring in Laurence.

David:
Lawrence Jankelow, welcome to the BiggerPockets Podcast.

Laurence:
Thanks David. It’s a pleasure being here.

David:
Yeah, so can you tell us a little bit about your resume, what your company Avail does and then how you got started in real estate?

Laurence:
Yeah, totally. Well, I’ll start with how I got started in real estate I think first. I’m a do it yourself landlord, got started in 2010, purchased a three unit residential brownstone walk up here in Chicago from a friend I used to work with at Goldman thinking, “Hey, passive income, who wouldn’t want it?” Took the dive. I think you quickly realize once you have one passive income’s not really all that passive. And so that was my entrance into real estate, but at that time trying to manage an investment banking job and this passive income proved to be a little too hard. And so decided along with a buddy, “Hey, this isn’t how it should be for landlords and armchair investors.”
So left Goldman to build a startup that really aimed at helping landlords manage their rental properties called Avail. And essentially it takes a lot of the operational pieces of running your business as a landlord and makes it all mostly automated. So finding and screening tenants, collecting rent online, submitting and collecting maintenance tickets online, all of those things, it just does it for you.

David:
So you basically solved your own problems and then said, “Hey, I fixed this, now I’m going to offer this to other people.”

Laurence:
Yeah. In some ways you have to. No one was catering to small landlords in 2010, 2012. 2012 is when we started the business. But I struggled for two years managing the rental property myself. And you’ll find that there’s really no software back then and still even today outside of a handful that is geared towards such a small landlord, mostly because the economics aren’t there, like it’s too risky of a business. It’s really hard to find us. We’re super fragmented. And so the only way to come about it is to solve your own problem and go from there.

David:
And then how did you get started investing in real estate yourself? What was it that pulled you in? Did you have a friend that told you about it? Did you just read an article and get interested?

Laurence:
Yeah. Maybe it’s embarrassing or cliche, but read Rich Dad, Poor Dad in college and always had aspired and you realizing, “Hey, you got to have a little bit of money.” So after about six years of working in the real world had enough to buy that first business. And that’s I think how most people kind of enter it is you have this dream of what it’s supposed to be and then you buy it and you start getting a little bit of income coming in, you’re like, “Wow, this is great.” And then you want to expand it. So today I’ve got just over 20 units that started with just the humble three units in a single building. And I wouldn’t change it for anything other than maybe trying to get it earlier.

Dave:
Laurence, you mentioned that one of the reasons for starting Avail is that you were struggling with your own rental property management. I think most of us have also been there, but I’m curious, what specific issues were you encountering that felt insurmountable or necessitated you to start your own business to solve?

Laurence:
Yeah, for me, it started with just posting the listing on Craigslist, which people still do today crazy enough. And the way Craigslist operated then is you’d post a listing and it would be at the top for about eight seconds and then it would drop to the bottom. And then the next day, 24 hours and one second later you could go and post the next one. And it didn’t make sense. And then you’d get these leads and you can’t tell if they’re quality or not, which, spoiler alert, on Craigslist they’re not. And then you try to figure out, “Well, how do I know if these are good or not?” And there’s no access for some person who only has one or two or three units to actually get a credit score, background check, there’s no capabilities for those things. So I find that access to information and data that a professional would have was impossible.
Those were really the two starting points for me that we said, “Hey, we’re going to go build this.” And that’s how we started. And in Chicago, it’s really tough finding VCs that want to invest in you, particularly in 2012. And it’s really tough finding engineering talent. So my co-founder actually rolled up our sleeves and taught ourselves to code. I wrote the first 600,000 plus lines of code. And when you’re doing that yourself, you really make it what it should be and what it should be for landlords like me. So that was the first two problems we solved was listing syndication and tenant screening.

Dave:
How have you seen, starting and managing properties in 2010, I imagine was pretty different than how it is now. So what are some of the big changes that you’ve seen in the property management industry over the last 12 years?

Laurence:
Yeah, well, certainly the pandemic changed a lot. In 2010, if I’m remembering correctly, it just felt a little more even keeled between landlords and renters. I remember doing showings and it was a lot more of a barter and a trade, trying to make sure you landed those renters and, “Hey, here’s all these features and I’ll give you $200 towards moving” or whatever it is, you have to make some concessions a little bit then. And now it’s completely gone the other way around.
I get 20 or 30 visitors to a property and I can only take one. And so it’s completely changed and that’s forcing rents to go up. It’s forcing people to compete with each other. People are not getting places. It’s a lot more favorite towards the landlord now than it used to be. That’s maybe the biggest change, and the technology’s come about quite a bit. So back then it was common to find renters on Craigslist. It was common to receive a check in the mail and now it’s not that common to not have some technology behind you.

David:
So Laurence, obviously we are in very complicated market right now. There is a shortage of inventory, prices continue to go up, demand seems very strong, but now rates are going up at the same time that inflation is occurring. What I kind of see happening is that price of the assets is rising with inflation, but the ability for a tenant to pay the higher rents that are going up may not be in certain markets because their food, their gas, all the things they have to pay for are going up just proportionately to what they are able to make at work. We kind of have this stretch where I feel like the top of the market is getting hotter, but the downside is also growing in risk also because your tenant’s having a harder time paying their rent.
From your perspective on all of this, what do you think is the biggest challenge that real estate investors are facing with this very unique market we’re in right now?

Laurence:
The data’s going to show that renters pay their rent for the most part. I don’t know that getting your rent is going to be the biggest issue, but maybe it’s going to start coming in a little later than you normally would’ve as they try to make ends meet. I think the bigger issue is for those who are trying to grow their portfolio, they’re going to find it extremely difficult to find deals that they wanted because prices are going up still, even though inflation is going… It’s in line with inflation so it makes sense that it’s going up, but interest rates should have brought prices down and they’re not. It’s going to be hard to find those deals. And of course your cost now of ownership is tougher. And then you’ll find that if you want to liquidate or get out of your portfolio counter to everything, also prices because they’re up, you’re going to find it harder to liquidate and get out of what you want if you needed to.
We’ll find that I think transaction volume will come down a lot and that hasn’t happened yet. That’s more of a prediction. We’ll see if that comes out. At the same time for renters, I think we might, and this is another prediction and I’m not an economist but this is just my own personal belief. I think there’s a decent chance we’d go through a period of stagflation. So normally you’d raise interest rates to stop inflation, but I think in this case, inflation’s going to keep going up, which makes affordability and cost of living also go up, but it’s less affordable. So we might hit a recession, even though there is tremendous growth in prices and that could cause a period of stagflation. You could see some spiraling out of control in this way.

David:
I think that’s a really solid point to highlight because there’s errors that are made in real estate I think where people just make assumptions that they shouldn’t. I notice this happened with the phrase HELOC for a long time was just synonymous with bad business decision because HELOCs led to a lot of foreclosures. I’ll hear the phrase appreciation tied to speculation, which they’re not the same thing, but people will do that. There’s another concept that every recession will lead to a crash in home prices, that the two are tied together. And I don’t believe that’s the case. In fact, I think in three out of the last four recessions home prices continue to rise. Dave, you’re shaking your head. Am I wrong here?

Dave:
No, no, you’re exactly right. That’s exactly right. The last recession is obviously freshest on people’s mind and that was a dramatic decline in home prices, but there are plenty of examples over the last several decades where home prices did increase during recessions.

David:
And that’s because the last recession was caused by the market crashing. You almost can’t even tie them together because you’re you think recession leads to home prices. Well, the last time it was home prices crashing led to a recession. Those that are sitting there saying, “Hey, home prices are going to drop because we’re raising rates, that’s going to lead to a recession.” It doesn’t make logical sense if you understand the way that the economy works, because most people that own real estate already had a lot of money. They’re the ones that weather recessions. They’re in a position to do better.
Do you mind just sharing your opinion on that idea and what you are thinking when it comes to if we do head into recession, how you’re going to handle your finances?

Laurence:
Yeah. And I’ll admit it’s been a while since I’ve dusted off an economics textbook here, but in the most basic sense, it’s all driven by supply and demand. So I agree with both of you, it’s not necessarily a given that during a recession that housing prices come down. Historically there has been a correlation because when there’s a recession, people have less money than that makes demand come down.
I think what’s happening now is exactly what Dave said. People have a lot of money built up and it’s just sitting there. They have money that they want to do something with. And a lot of that’s just been accumulation over the pandemic because they haven’t gone on vacation or whatnot. And at the same time, supply is still at a low. And so when supply is low and demand is the same or even growing, you would expect that prices for housing is still going to increase and therefore not come down. And I think that’s what we’re seeing despite interest rates going up.

Dave:
Laurence, what are you seeing in the data about rent growth? Over the last year, it’s preceded at basically a breakneck unprecedented rate. Recently I’ve seen rates over 30% in certain markets, rent growing. It feels to me to be unsustainable, but I’m curious what you’re seeing with rent growth and if you think this could continue or perhaps even slide backwards on the other end of the spectrum.

Laurence:
Yeah. Nationwide we’re seeing rents are up 17% year over year, which is an astronomical number and over the last two years even higher. Most landlords, I think, Avails showing from our surveys that 75% of landlords are planning on raising the rent, tenants are telling us that on average their rent’s gone up $200 or more over the last year. Rents are going up. We’re seeing that. And I that’s going to cause, it could go one of two paths. It could cause renters to have turnover and start to look to move, look for cheaper alternatives; could be leaving some of those more expensive cities. We’re seeing a lot of folks move to more of the Sunbelt area, just because those are generally less expensive than some of the larger metros on the coasts. Or the alternative is you might find that renters don’t move.
Now I know these are complete opposites and it’s tough to move when you know your rent that the next place for an equivalent size unit is going to go up dramatically. What happens especially for DIY landlords or the smaller landlords is they don’t really raise rent on tenants who are renewing or they don’t raise it as much as they would for new renters. So you might see this bifurcation of renters who really stay to avoid those things. And then you’ll see the other side where they’re really trying to find a cheaper alternative and don’t know which way is going to push higher. But we’ll see over the next coming months. This summer will be a big telling point.

Dave:
It’s interesting what you said about smaller landlords not raising rent on existing tenants. I know that’s something I’ve always believed in is if you have a good relationship with a good tenant, why would you stretch that? Is that something that’s backed up with data that you’ve seen at Avail? Or is that just an observation of yours?

Laurence:
Yeah, both. Although I don’t have the data in front of me, so I can’t quite quote it, but we are seeing that change this year from the historical patterns too. Real estate taxes have been going up. I think everywhere in the United States costs of ownership for landlords are going up. So I think this year, and we’ll see it come out over the summer, might be maybe one of the first years where you see even DIY landlords or the smaller landlords skew towards raising rents on renewing tenants at a higher rate than we’ve seen in the past.

David:
Yeah, so that was part of my question is I’m wondering, do you see a future where it’s difficult to raise rents on tenants even though the asset price is going up because their ability to repay is being decreased by the money that they have left over at the end of the month because of inflation on your average daily things you have to pay for?

Laurence:
Yeah, it’s always… Frankly as a human being trying to work my own tenants and telling them, “Hey, I’m going to have to raise rents.” And then if you’re doing it in person, you can kind of see the looks on their faces of shock and it’s a scary proposition for them. So it makes it difficult on an emotional level to raise rent. It’s not like I want to. If I could keep making the same return I was before, then I wouldn’t raise rents. And I think a lot of folks, especially for the smaller landlords, they don’t realize how little landlords actually make. I think they all think we’re these super rich money makers who can just absorb it, but we actually don’t. I think on the average landlord might make a hundred bucks on a rental property a month.
It’s really not a lot. And any change in cost, now all of a sudden you’re losing money. So we have to stay in line and it’s difficult for renters, it’s difficult for us. Inflation causes problems for everybody. And those problems are felt in the shorter term more so than the longer term. Over periods of time, things kind of reach an equilibrium. You can adjust your own vendors that you’re using to find cheaper alternatives. But in the short term, you really don’t have a lot of options other than to raise rent.

David:
Do you see do it yourself landlording as far as managing your own properties and fixing some of the stuff yourself as sort of a path that many people are going to have to take to make the numbers work as they continue to get tighter and tighter?

Laurence:
Yeah, that’s an interesting, I don’t know if that’s a prediction on your end or not, or if you’re looking for me to make that prediction, but yeah, I could see that. We historically advocated for being a do it yourself landlord for our own audience. One, because you learn the business better. But two, because if you don’t, you’re paying those fees, you just don’t make money. For most landlords paying a property manager to find a tenant for you and collect rent for you puts you in the red and then it didn’t make sense to buy their rental property in the beginning. You should just get out of that business. I think you could see a change here where more and more landlords have to manage it themselves than previously.

David:
Yeah, I can see. I was just looking at short term rental property in Scottsdale this weekend. And even with the properties at best case scenario crushing it as far as revenue. Putting almost a million dollars down on some of these things, the numbers were barely breaking even. And part of that was because management fees at like 20%, they could be like $80,000 a year. And I was thinking the only way this works is if I don’t pay a manager 20%. That started my mind down to, “Well, what would this take?” And I quickly was like, “Oh, I don’t want anything to do with that. That’s that seems so much work to get this thing going, especially with a short term rental.”
But I’m sure if I thought that other people have got to be thinking the same thing. The margins are getting tighter. Where can I cut costs? There’s going to be people that are thinking property management is the place to cut. So what advice do you have if somebody is going down that road for how they can prepare themselves for how to do this well, what they’re really getting into some tools they could use, kind of speak to that person.

Laurence:
Yeah. If you’re going down this path and you’re, hey, all of these expenses are growing on you, you want to start paying attention to that. Most people in real estate will appeal their property taxes every chance they get, try to keep them lower. So if your audience is listening and haven’t done that, they should 100% do that. Sometimes whatever assessor’s office is looking at these things doesn’t really know the value, they just know it’s gone up and sometimes they just do it more than it should. And so you can appeal those. I would look if you have a property manager at renegotiating with that manager to reduce the fee or remove the manager. I think that’s a good avenue to go. If you just aren’t in state or you just can’t find a time to be on site, then maybe you have less option there.
So I would call and ask to go, if you’re paying 10% of rents, push it down to 5% or find a manager who’s willing to do that. I think not that managers are commodity, but in some ways you just don’t have a choice. I would also be thinking about how you’re buying all of the supplies you’re using for your rental. If you have just one unit, you can’t really get any kind of economies of scale, but if you’ve got a whole bunch of others, then try to keep it to be the same paint so that you can use the same paint in one place versus another, try to think about all of the tools that can just be shared across all of your properties and whatnot. Those things can help. And like I said, most landlords only make a couple hundred bucks so that can go a long way in getting you where you need to go.

Dave:
So Laurence, given this confusing environment we’re in, are you seeing a shift in the types of properties that people are renting or where rent is growing the fastest or just any of those dynamics?

Laurence:
Yeah. Two I think trends that are noticeable. One is folks are looking for slightly larger places, even though affordability has gotten tougher. So we’re seeing an increase proportionally for folks looking for two bedrooms over one bedrooms and three bedrooms over two bedrooms is increasing a little bit. Mostly driven by the pandemic and the idea of, hey, people are working from home a lot more, afraid of maybe another lockdown and you need the space and whatnot. So that’s one trend.
The other trend we’re seeing is a lot of folks moving towards the Sunbelt, a little more and away from the coasts, potentially away from some of the areas that might have some natural disasters or are super expensive. So we’re seeing those kinds of trends.

Dave:
That’s really interesting. I’m curious if the rental market is also mimicking the housing market in a shift towards the suburbs. Because after 2008, the suburbs got absolutely hammered in terms of housing prices, disproportionately to more urban areas. And then since the pandemic, suburb housing prices have been leading the way. Is the same thing happening with rents?

Laurence:
Yeah, you’re seeing that a little bit in condos and in more congested places. The prices on those are coming down or at least not going up as much as you would see on a single family home in the suburbs. People are looking for a little more breathing room and so that’s happening at the same time. And then those condo buildings are still aging, so the assessments are still going up, they become less affordable for folks. So both in terms of wanting more space to live in and from an affordability perspective, we’re seeing single family homes just do better than condos.

Dave:
Yeah, I think that makes sense given all the other dynamics and shifts in buyer preferences right now and renter preferences.

David:
When it comes to what type of buyer you think is best to be getting into condos and who should be sticking to single families, what’s your avatar of where you think that the individual investors should, or what does that investor look like that should be getting into condos versus single family homes?

Laurence:
Oh, I don’t know. Maybe I have a very narrow mindset on investing. I’m the kind of investor that likes to see cash flow. I generally advocate for folks looking for deals that are going to make them cash, whether their metric is a cash on cash number or they’re looking at some sort of net operating income. I think you’re going to find it easier when you’re dealing with some sort of individual property, so a non condo, for instance, a three flat, a four flat, even a single family home.
I think you can make those numbers work better than you can in a condo and have a little more control. And then a lot of condos have bylaws and association rules that can prevent renters or the type of renting or how often they can come in and out. So there is a risk to your business in that way. So not that you shouldn’t ever be an investor in a condo, but if you’re looking for cash flow, that’s probably not the best investment. There is potentially always the case for appreciation on those, but with where we’re seeing trends and even with what Dave said around how folks are moving to the suburbs, maybe condos might not be the best investment right now.

David:
Well, I’ll also say if someone doesn’t have experience with condos, how do I want to put this? When you’re buying a single family home in general, in a specific market, you’re looking at mostly the same things for every house. What does the inspection look like? The rents are not too hard to find. There’s not as many variables when you’re looking at single family homes.
The second you get into condos, it becomes remarkably complicated. Those bylaws are different for every single one of them. Sometimes the property itself has a lot of deferred maintenance and you’re going to get hit with assessments. They do have restrictions on how many people can be renting out units in there. It becomes exponentially more likely that you are going to have something that you did not see coming up when you’re buying into a condo, which is mostly the people that invest in those are really, really good at investing. They know what to look for.
If you’re not a big fan of jumping asset classes, what do you look for in a specific market that you think is attractive when it comes to where investors can be putting their attention?

Laurence:
Yeah, well, no, I love having multiple asset classes, so between real estate and non-real estate. But again, I tend to focus on things that produce cash. There are certainly parts of the United States where investing in real estate’s going to get you more cash and is less about appreciation. I take Chicago for instance, I just know the most about Chicago. That’s where I live. You can invest in an area of Chicago, maybe for instance Andersonville, which is maybe less well known as like a neighborhood like Lincoln Park. And therefore you’re going to get a better cash on cash or a better cash flow, but maybe not a better long term appreciation of the asset class itself or asset value. Whereas Lincoln Park would be the exact opposites. It’s already very built out, your cap rate or cash on cash is going to be a lot lower, but because it’s such a sought after area, you might find that appreciation is higher.
If you’re the kind of investor who’s looking to build net worth over the long periods of time and don’t care about the cash coming in today, then maybe that kind of area is better for you as your wealth might grow faster. You just won’t see the cash from it as quickly. You could take that approach into any city and choose neighborhoods in that way, or you could take it more holistically based on cities themselves. You could say Chicago is kind of already that built up city and you might want to move to a less built up, move your money to a less built out city. But for most investors, especially if they’re getting started, the easiest path is to do it where they live, where they can see it, get a feel for it, be there in case they need to, and they can find parts of their neighborhood where it makes sense.

Dave:
I was going to say, Laurence, you seem to be suggesting a very simple and practical approach to getting started, which I always like which is investing close to where you live, managing the property yourself. That’s how I got started, I think how most people get started. If someone is able to do that successfully and find a small multi or single family, what are some of the common pitfalls you see with DIY landlords when they’re first getting started? And do you have any tips for trying to avoid those pitfalls?

Laurence:
Sure. This definitely goes into the realm of opinion for what it’s worth. There’s a couple, there’s this idea of, “Hey, am I going to be strict with how I have my budget? Am I not going to be strict? How strict should I be?” And I think some landlords will misinterpret that. I think you want to have a budget and you want to be strict with it. But a lot of landlords will take that as an excuse to be cheap or have deferred maintenance. And in the end, that’s going to hurt you in a big way. So yes to budget, but don’t interpret that budget means don’t pay for things when they need repair. Your best bet is normally going to be preventive maintenance. That’s going to be less costly. Even some of the simple things like changing air filters is preventive maintenance, but some landlords don’t want to spend the 20 bucks to replace an air filter.
They think it’s only breathing quality, which is so important. But it extends the lifetime of the HVAC system by years. You can’t be cheap, but you do have to be wise with where you’re spending money. I think that’s a big pitfall. I’d say another pitfall is not thinking of your tenants as customers. They are customers. They’re not just people that… Sometimes you get the sense of you feel like you’re better than them or not better than them because they’re renting from you. And that’s the worst possible approach to come in. They’re your customers. You have to be doing things that make them want to live there and make them treat the property well. For all my tenants, I’ll usually use some sort of welcome basket on the kitchen counter for them when they move in. It’s usually nothing more than toilet paper and maybe some cleaning supplies, stuff that they forget to have, but that sets us both off on that right path and how we work together.
And then they’ll take better care of the property because of that. And that translates over time. And so there’s those things there. I don’t know if there’s a question in there around how do you go from one, your first purchase to multiple because there’s a lot of pitfalls in there thinking around, “Hey, the second property is identical to the first and I’ll do all of the same things.” That can sometimes backfire. You do have to kind of make sure you’re really looking at your investments as two separate businesses in a way, and you have to individualize them in that way.

Dave:
That’s great advice. I think that is probably the most common one is learning that you really get what you pay for. And if you go with cheap contractors, you’re going to hire two contractors and you’ll just hire the expensive one second after you already hired the first one. And I love what you said about treating your tenants as customers. That’s exactly right. The property that you’re offering is a product and this is a business and it’s your job to make your customer happy. And I think a lot of people don’t view it that way. I definitely respect that opinion. Before we get out of here, I also wanted to ask since you have so much knowledge about this, do you have any best practices or pitfalls with tenant screening that you can share with our listeners?

Laurence:
Yeah. When we started, we had seen, started Avail, we had seen an article, I think it was in USA Today that said, “Hey, 60% of landlords don’t screen their tenants.” That’s the number one pitfall, I would say. You should screen your tenants in some manner or the other. I think what happens is a lot of landlords get scared that they won’t fill a vacancy and they’ll just take the first renter that they see or they won’t dig in a little deeper thinking that, “Hey, the renter’s going to bounce and go to another place.” But I think in the end, you’d rather have a vacancy than a bad tenant because a bad tenant is going to have all of the negatives of the vacancy. You’re not going to be making your money or you’re collecting your rent, but they’re also going to just trash the place or have the potential to trash the place.
And although a bad renter can sometimes be seeded because you’re a bad landlord and you don’t know how to build a relationship with them. Oftentimes there are things that you would find in doing whatever screening reports. So checking with prior landlords, did they pay their rent on time? How did they treat the place? Looking at their credit score. How they treat other creditors is likely how they might treat you, just even looking to see how much debt they have. Can they afford the rental? Sometimes landlords will look at income to rent, but they won’t look at how much debt that income is taking up to. And so you might miss that and you might think, “Hey, they have three times the income to rent,” but when you factor in debt, they don’t. And so that’s something to look at. Depending on where you live and what laws there are in your state, I would suggest also criminal and eviction checks.
I think eviction being the most serious. Once someone’s been evicted a couple times, it’s probably a trend that’s going to continue to happen. And then of course you want to make sure you feel comfortable approaching the renter should something happen. I tend to try to avoid super violent criminal history and be flexible with things that aren’t. I’m not going to balk at someone having a speeding ticket necessarily. It’s got nothing to do with them and their capability of paying their rent. There’s lots of things in that realm where you first screen them and then just be flexible in your approach and thinking.

David:
I think choosing tenants is an extremely underrated element of successful real estate investing. If you think about the advice that you’re often given, invest in a good area, what you’re really saying is put yourself in a position where you’re likely to find a better tenant. It’s not the area, it’s the person who’s going to be renting from you. You could rent in any neighborhood anywhere. If you have a good tenant, it’s going to work out for you.
In fact, that’s often how people start or why they start looking into markets with lower price points because the price to rent ratio is higher. It just becomes more difficult to find the tenant that’s going to pay consistently and not ruin your house. If you’re going to be self-managing, the ability, the skill to choose the right tenant will absolutely have a huge impact on the success that you have with real estate investing. When it comes to technology within real estate, can you just share your opinion on where you think that’s going, what different technological advances will have an impact on the way that we manage rental property?

Laurence:
Yeah. Not to plug Avail, which is my company, but some sort of landlord platform is pretty critical in running your business. And there are others out there other than Avail, but you need to have something. That’s the one I recommend. And I think we’re going down the path where everybody will have one of those. Right now, it’s pretty uncommon for a landlord to use technology. So there’s this wide gap to bridge because the folks who don’t use technology aren’t going to do as well and they’re going to start doing worse than the folks who do use technology. If you’re one of those listening and you’re not using some sort of landlord platform, just go out and Google landlord tools or landlord software or Avail and start using something. I think there’s also technology around making showings a lot easier, better.
Those are still typically done in person, even if you’re using something like Avail. And with the pandemic, there’s been a lot of new technology that’s come around for virtual showings, for 3D tours, for floor plans. Some of those things the price has been outside of the realm for someone who’s got three units or something like that. But there are a bunch of providers who are bringing very affordable tools that allow you to do a 3D tour or something like that virtually that are coming about. And I think that’s a trend that we’ll continue to see.
I think we’re also starting to see software tools that are also geared towards helping renters more than they have in the past. So whether it’s helping renters report their on time rent payments, or helping renters better manage how they save for a down payment or how they become first time home buyers, all of those things are coming out. And I know at both Avail and Realtor, we’re focused on trying to figure out, “Hey, how do we bridge that gap between renters becoming first time home buyers? How do we help them communicate better with their landlords?” All of those things. And so I think that’s going to be a huge change in how real estate’s going to be done.

Dave:
Laurence, one last question, particularly on the technology side before we go, I’m assuming you’re familiar with the idea of Web3 and hearing about a lot of the direction that real estate is going with NFTs and crypto. Do you have any thoughts on where that side of things is heading right now?

Laurence:
Yeah, to be Frank, I don’t have as much of a background on some of those areas as I should. But the advice I would give for most landlords is what we talked about earlier, which is try to keep it simple for now. I think if you’re wanting to participate in some of those NFTs or think about blockchain or those things, it may still be too early for most people to consider. And I would follow the path of what’s going to get me the metrics I need to be successful and focus on finding good deals, finding good renters and being a responsible landlord. And then as you get experience, if you start to say, “Hey, I need this deeper technology to make my process better, or out eke this little last bit of return somehow” then maybe incorporate that into how you’re doing things. But for most folks, I think it’s probably a little still premature.

Dave:
I’m with you for the record. I think there is some really interesting things going on there, but is it actually at a point where it helps your business? I haven’t seen any examples of how it’s truly adding value to a small landlord’s ability to generate a solid return and to provide a good product.

Laurence:
Yeah, I have one renter who pays in Bitcoin every month, which is fine. It’s more of a nuisance than anything else for me as a landlord. I acquiesce because it makes it easier for them. It’s a pretty expensive rental. It’s nearly $5,000 a month, which is… In the scheme of it, it’s pretty pricey rental. And so I kind of allow it, but for me, it means I get it into Coinbase, I’ve got to immediately convert it to US dollars and I don’t want to take the risk. I don’t want to conflate my investment in real estate and the cash flow it generates with the speculative investment of Bitcoin or digital currency valuations. And so I always have to separate those two and treat them as two separate investments. It’s more of a pain for me than an opportunity.

Dave:
Just logistically, is the price fixed? Is there a floating exchange rate between USDs and Bitcoin and he adjusts the amount of Bitcoin based on the dollar price or the other way around?

Laurence:
Yeah, I’m not sure what it looks like when you go into Coinbase to schedule your payments or whatnot, whether you’re scheduling it in dollars and it converts in real time to Bitcoin, or if he’s doing the conversion on his own. But when it comes to me, it’s Bitcoin and then I have it automatically converted to US dollars right away. I think it’s important for landlords to do that, or for any investor to do that. I’m not suggesting people don’t invest and I’ll use air quotes on invest in crypto. It’s just, you should separate the two investments. They have two separate thesises. They have two separate metrics and how you want to analyze them. I don’t think we should conflate the investment of rentals with the investment of cryptocurrencies. I would take the cash in dollars and then if I find, “Hey, I think crypto’s a good investment,” I would then do a separate transaction for those things.

David:
There’s something I find very interesting about every single investment asset class opportunity that I don’t hear people talking about, just sort of the BiggerPockets audience. I’m going to let you guys in on a concept to think about, and then Laurence, I want to get your opinion on it. When we talk about Bitcoin, cryptocurrency, real estate, art, NFTs, stocks, everything, the value of it is expressed in terms of the dollar. So when something goes up or down, we have to take its value, convert it into a dollar and express how well it did in relation to a dollar. So it’s all tied to this central currency.
You can’t say this house is worth this many Bitcoin or this many shares of Apple stock or whatever. We have to have a baseline that we compare it to. But as we printed so much money, the value of the dollar has gone down. And now it’s very difficult to know how much value, and I’m using the word value as opposed to worth or money because I’m trying to separate it from the dollar because we typically express value in terms of dollars. What’s your thoughts on how confusing this is to leading people to believe they’re actually building wealth when they may not be, or some asset classes appearing like they’re doing better than they really are?

Laurence:
There’s almost a like a history lesson of going off like the gold standard but I’ll spare us. I tend to think of investments as something different than speculation. I don’t believe an investment is gambling and some people will. They’ll say, “Hey, investing in the stock market is gambling or buying a rental property is gambling.” But I don’t believe that to be the case.
I think investing is something about taking earnings or cash flow, figuring out what that cash over a period of time is worth to you today. And you can’t do that with something like cryptocurrency because there is no cash flow that’s occurring. There’s no inputs and outputs happening there. So for that reason alone, you can’t necessarily consider it an investment. I would consider it to be speculation and that’s fine.
Maybe in a good allocation strategy, maybe you leave 5% of your portfolio for some crazy thing like that. I think of art as the same way, as speculation because it doesn’t produce income, I can’t really discount that cash flow to what it’s worth today. But stocks and income properties are investments. And I think even though the dollar can fluctuate in value, relative to those investments, you have a sense of, are you making money? Is it appreciating or not? The value of your rental is nothing more than some multiple on the rents. And depending on what area you’re in, the multiple is a little different, but you can broadly think about it as like a 12 times multiple on rent is how much the property’s worth 12 times annual rent.
And you can look at that and say, “Hey, my investments improving over time or not improving over time.” And it all comes down to you increasing rents over time. And the same thing is true of stocks. You hope that the earnings increase each year so that the multiple on earnings has an impact and now what your investment was, which goes up. And that all of that should be irrelevant to what happens with the dollar because those earnings change in lockstep with the dollar as it changes.

David:
All right. Well, thank you, Laurence. This has been a fascinating interview where we’ve gotten actually some really good nuanced detail about many different types of real estate investing. I want to thank you for taking some time to do this with us. Before we get out of here, David, do you have any last words or any last questions that you’d like to address?

Dave:
No. Thank you, Laurence. This has been really enlightening. I appreciate your deep knowledge and data driven approach to providing answers to our listeners here.

Laurence:
Well, David, Dave, thank you so much for having me. Don’t fact check me too hard. If you find anything inaccurate in there, we’ll talk about in a separate time. Appreciate being on this show.

David:
All right, Laurence, last question for you, where can people find out more about you?

Laurence:
I love interacting with people on a one-on-one basis so they can certainly learn more about Avail or Realtor.com on our website. So Avail.co or Realtor.com. But if people want to talk with me, I love receiving emails. I respond to them. They can reach me at [email protected] Would love to engage with folks.

David:
Awesome. Dave Meyer, where can people find out more about you?

Dave:
You can find me on Instagram where I am @thedatadeli.

David:
Yeah, and if you have not been following Dave, please go do so. His page is blowing up. On YouTube your videos are crushing it. I don’t know if it’s your handsome face, if it’s your well articulated delivery, but you’re like that sandwich that someone put together and everyone is addicted to it and you’re selling like hot cakes.

Dave:
Comparing me to a sandwich is the best compliment I’ve ever gotten, David. You’re going to make me blush.

David:
In fact, we might even have to stop calling it hot cakes. We’re going to have to say you’re selling like Dave cakes, because that’s how fast you’re actually selling.

Dave:
Well, thank you. I appreciate that. And hopefully people do come check out the new YouTube channel because I am on the main BiggerPockets channel, but also I’m going to be transitioning more to the, On the Market YouTube channel where we’re going to be doing a lot more data news, current event type shows. We have all sorts of great content coming out there. So make sure to check that out.

David:
There you go. And Laurence, thank you for fighting the good fight of trying to make landlord’s jobs easier and make it more successful to invest in this awesome asset class. We are sort of under fire from hedge funds and institutional capital and municipalities that don’t like real estate investors and politicians that don’t like real estate investors. There’s a lot of different people that are making it more difficult to do what we love doing. So anytime we get somebody on our side helping to push the ball forward, I really appreciate that.

Laurence:
Well, thanks again for having me.

David:
All right, I’ll get us out of here. This is David Greene for Dave “Dave Cakes” Meyer, signing off.

Dave:
Hey, everyone, welcome to On the Market. We have a different kind of show for you today that I am very excited for. First I am going to be chatting with J scott, author of Recession Proof Real Estate Investing, who’s going to give us a background on the current economic climate, the current economic cycle, where we are, where we might be going, and how we got here. Then we are going to turn the conversation over to our panel. We have Jamil, Kathy, and James here to talk about practical steps you can take to prepare for a potential recession. And then at the end, we answer some user questions about how they can handle a pending recession. It is my great pleasure to welcome the one and only J scott to On the Market. J, thanks so much for being here.

J:
Yeah, the one and only. I’m the only one stupid enough to have a one letter first name. So I’ll take, I’ll take the one and only,

Dave:
No, we are so excited to have you here. You literally wrote the book on recession proof investing and are one of the greatest… If anyone listening doesn’t know J from the Bigger Pockets forums or his many books, is one of the greatest analytical minds in real estate investing that I’ve ever encountered and super excited to have him here to talk about sort of a scary topic, but hopefully we can work through some of the fear, J, and you can help us understand how the current economic cycle and current economic situation we’re in exists in the context of the business cycle and what our listeners can do about this confusing economic time. So with that, let’s just get started. Where are we right now and how did we get here? Can you just drop some knowledge on us?

J:
Yeah, so let me step back a little bit, because a lot of economics… First of all, everybody thinks they know what they’re talking about, including the economists. And most of them are just guessing. Now some guesses are better than other guesses. People that really understand what’s going on can see the trends and look at the history and make better guesses than people who are just randomly guessing. But anything we talk about in this discussion, let’s be clear, I’m guessing. I mean, I could be talking about data and historic stuff, I’m not guessing, but any predictions I make or trends that I see coming, nobody really has any idea. So I just want to get that out of the way that I don’t want anybody to go take their 401k and put it on red because I like red.
Okay, so where are we? Let’s start with a little bit of history. When we talk about the economy, the economy works cyclically. It goes up, it goes down. I think a lot of people who are new to investing since 2008, a lot of people in their 20s and 30s, they probably don’t really remember recessions. They saw 2008, they saw 2008 was absolutely horrendous, but they’ve been conditioned to think that 2008 was an anomaly. We went a hundred years since the great depression, the market went up for a hundred years, and then 2008 happened, everything collapsed. And that’s actually not the way things work. Typically we see these cycles of boom and bust, not as bad as 2008, but still downturns every five, six, seven years. And we’ve seen that for the last 150 years.
So what typically drives these cycles is on the upside of the cycle, things are going well, people are making lots of money. Businesses are doing well. Basically everything we saw from 2014 to 2020, till COVID. Businesses are doing well, people are making a lot of money. They’re happy. Unemployment is low. And because everybody’s doing so well, what are they doing? They’re going out and they’re spending money. They’re spending money on travel. They’re spending money on luxury goods. They’re spending money on cars. They’re spending money on restaurants. And when you start spending lots of money, all the businesses that are providing these things that money is being spent on, they need to grow. Restaurants need to hire more staff and car companies need to build more manufacturing plants, and Amazon needs more warehouses and people. And all of these things cost money. So the businesses go out and they take out loans so that they can build more warehouses or buy more equipment, or they have to compete for labor so they have to spend more money to get more waiters and waitresses in the restaurant. And all of these things cost money.
Businesses, they don’t mind spending money, but they’re not going to eat that cost. They’re going to pass that cost on to consumers. So when the businesses pass those costs onto consumers, that’s called inflation, and lots of different definitions for inflation. But let’s start with the basic. Prices going up is inflation. So businesses doing well leads to inflation because they have to buy stuff and hire people. Prices go up. When prices go up, this is where are things are okay for a while. Prices go up a little bit, that’s good. Prices tend to go up. But when prices go up too much, like we’ve seen over the last couple years, when we get too high inflation, the government starts to get concerned, because if prices go up too much, people can’t afford food, people can’t afford to travel, people can’t afford baby formula, people can’t afford new cars, and that’s always a bad thing. So the government doesn’t like when we have too much inflation.
So when things really heat up in the market and we have too much inflation, the Federal Reserve steps in. One of the things the Federal Reserve can do is they can raise and lower interest rates. They will raise interest rates to slow down inflation. And the reason raising interest rates slows down inflation is because if interest rates are higher, it encourages Americans to do two things. One, it encourages us to spend less money. It costs more to get a mortgage for a house because rates are higher. It costs more to buy a car because loan rates are higher. It costs more to borrow on a credit card because credit card rates are higher. So we borrow less money because it’s more expensive. Also when rates are higher, savings account rates go up. We can get more by putting our money in the bank. So people save more money.
So by raising interest rates, the Fed encourages people to stop spending and start saving. And when people stop spending and start saving, well, what’s going to happen? The economy’s going to slow down and these businesses are going to see less profit and they’re going to have less demand for restaurants and travel and cars and all these things. And then when things slow down, now the businesses, they’ve hired all these people, they have all this debt that they use to grow, and now businesses get in trouble, businesses slow down, so they have to start laying people off because suddenly there aren’t as many people eating in the restaurant, so they have to lay off the waiters and waitresses. Or fewer people are buying books, so Amazon shuts down a warehouse. Or fewer people are buying cars, so Toyota has to shut down a manufacturing plant.
That’s basically what leads to a recession. The businesses are laying off people. They’re cutting hours. They’re cutting wages. Now suddenly consumers don’t have as much money, they don’t have as many hours at work, they can’t pay their bills, they can’t pay their mortgage. That’s the recession. We basically ride that down to the point where the government realizes, “Nope, we need to do something about this.” So what do they do? They lower interest rates. When they lower interest rates, just opposite of raising it, that encourages people to start spending again because they can get cheap debt and they no longer can get a lot of money by having their money in a savings account, so they start spending and the spending takes us up the upside of that curve again, where everything is good and the economy grows. And that’s the cycle that we’ve seen 33 or 34 times over the last 150 years.
Now, back to your question, where are we today? So the last time we had a major recession, technically we had one in 2020 during COVID. So first quarter of 2020, second quarter of 2020, economy was basically shut down. Technically that was a recession. But the last real recession that we had that was prolonged was 2008. And if you remember I said typically these things happen every five, six, seven years. Never in the history of this country. Have we gone nine, 10, 11 years without a recession, or at least not in the last 150 years since we’ve been tracking this. So the fact that between 2008 and 2020 we didn’t have a recession was pretty unprecedented. And a lot of people were predicting that in 2018, 19, even leading into 2020 that we were probably in for a recession just based on the fact that the market was heating up, the economy was heating up and it had been so long since the last one.
So here comes COVID. COVID comes along, basically the economy crashes, everybody’s thinking, “Okay, this is going to be an apocalypse,” where every people are out of work, businesses are shut down, nobody’s leaving their house. So what does the government do in spring summer of 2020? They say, “Okay, we need to fix this. We need to get people spending money no matter what it takes.” So again, they did the one thing that they’re really good at. They lowered interest rates. Suddenly people could get lots of cheap debt. I mean basically near 0% interest rates meant really cheap mortgage rates, really cheap credit card rates, really cheap everything. So that was number one. They lowered interest rates so that people were encouraged to start spending their money. Number two, they did the other thing they’re really good at is they started printing lots of money. They started putting a ton of money out in the economy so that everybody was richer. Businesses were richer. Consumers were richer. Everybody had more money to spend.
When people have money. People aren’t really good at saving money, especially, again, with really low interest rates, they spend it. So all this free money that got put out into the economy went right back into the economy. Now, people who are on the lower end of the economic spectrum, they were using that money to pay their mortgages, they were using that money to buy food, they were using that money to buy clothes. They didn’t need to use that money to pay for gas for their car because they weren’t going anywhere. Basically they were saving a bunch of money and they were using the rest of it for the things they really needed. But then there were the rest of the Americans, the 1%, the 5%, the 10%, the people that already had their clothes and their food and their housing covered. Now they have all this extra money. What are they going to do with it?
They’re going to invest it. So all this money we’re talking three trillion, four trillion dollars went from the government to the people, and the people that didn’t need that money desperately to live took that money, and where did they put it? They put it in the stock market, they put it in crypto, they put it in housing, they put it in other hard assets. So now we see all of these crazy bubbles in the market. And I don’t like that term bubble because we don’t really know something’s a bubble till after it pops, but I think it’s safe to say that what we’ve seen with the stock market, the real estate market, crypto, I mean, it’s certainly as close to a bubble as you can get. So basically today we’re at this point, or recently we were at this point where real estate is an all time high and affordability is an at an all time low. The stock market, all time high, the crypto market all, time high. Anything that people can take their money and stick it into a speculative asset or an investment is pretty much at an all time high.
So that’s where we were as of a couple months ago. And that’s how we got here. Now, there’s one other thing that we should point out. One of the big things that everybody’s been talking about in hearing about is inflation, and the number that the government’s throwing around is right now 8.3% inflation. A lot of people think the number’s higher than that. It probably is higher than that. I think it’s always been calculated in a way that disguises the real number, but regardless 8.3, 9.3, 15.3, whatever the number is, inflation’s really high right now. A lot of people are wondering why is inflation so high right now? Some people are going to blame Trump. Some people are going to blame Biden. Some people are going to blame Russia. Some people are going to blame whoever. There’s plenty of blame to go around.
But the real reason why we’re seeing so much inflation right now, there’s two reasons. Number one, after COVID, we still didn’t figure out all of our supply chain issues. We’re still having problems getting products from there to here, whether there is California to Georgia, or China to the US, or wherever to wherever. We still have these supply chain issues. We have a lot of manufacturers that haven’t fully ramped up. We have a lot of raw material providers that haven’t fully gotten their pipelines fixed. So it’s really hard to get all the things that the high demand is asking for. It’s hard to get furniture. It’s hard to get cars. It’s hard to get computer chips. It’s hard to get everything. So when supplies are constrained, simple supply and demand, lots of demand for something, very little supply for something, the prices, inflation, is going to go up. So that’s the supply side.
But there’s also a demand side issue here. So I know people say, “Yeah, we saw the same thing back in 2008.” The government printed trillions of dollars and people had lots of money to spend, but we didn’t see high inflation. Inflation was like at 2 or 3% between 2010 and 2021. So what’s the difference between what we saw in 2008 and what we’re now seeing in 2021 and 2022 with respect to inflation? The big difference there, and this is the analogy I like to use, and I’m not advocating drugs, I’m not a drug user, but it’s a good analogy. The way the government infused money into the system back in 2008 is the equivalent of getting high on secondhand smoke. They trickled that money into the system in a way that we didn’t even realize it was there, but it was still effective. And what they did was they took a whole bunch of money, trillions of dollars, they handed it to the banks and they said to the banks, “Go make more loans. Go make loans to businesses, go make loans to consumers, get the money out there.”
But it still had to go through the banks, it had to go through these intermediaries. And in a lot of cases, the banks aren’t efficient. They took years to spend that money. In a lot of cases the money stayed in the banks’ repositories or reserves forever and the banks never spent that money. So that money eventually made it into the economy, but it was relatively slowly, it was relatively inefficiently, so we didn’t have this big infusion of cash all at once. When COVID happened, the government realized that wasn’t going to work. We can’t slowly infuse this money into the economy by sticking it into the banks and telling the banks to lend. We need to get this directly into the veins or arteries of the economy. And instead of the secondhand smoke, we need to be injecting this directly into our veins. So basically instead of handing the money to the bank, what we did was we took that money and we sent checks to every American. We created this PPP loan stuff where businesses could basically fill out a form and get ridiculous amounts of money.
Lots of things. I mean, there were bailouts, both corporate bailouts and smaller business bailouts. The Fed, instead of just buying bonds, and I don’t want to get too technical, but basically they were buying equities, meaning they were directly handing cash to businesses. We infused this money not slowly but directly into the veins of the economy, and we got basically our heart beating really, really fast, our blood pressure went up and that was inflation. That’s the demand side inflation. And that’s the difference between 2008 and 2020. It’s not a different president, it’s not a different Fed, it’s not a different this, a different that. It’s how we had to inject the money into the economy in order to keep things from collapsing. And because we had to direct it so directly into the economy, literally sending checks to every American, we were able to stimulate the economy very quickly, but also very powerfully, and we didn’t let off the gas soon enough, and here we are, we’re in an economy that’s overheating, our heart’s beating too fast, our blood pressure’s too high and things are in a pretty bad situation.

Dave:
Well, this is exactly why we wanted to bring you on, J. You just gave us an economics lesson in like 15 minutes or 10 minutes, which is great. But if I could just summarize what you’re saying, it sounds like we’re in part of a normal economic cycle, but it’s sort of just been elongated in this weird way, where normally we expect to see a economics cycle last five to seven years, but coming out of the great recession, you would’ve expected to see a slow down 2015, 2016, and then we were sort of approaching the point where people were thinking like, “eh, probability wise, it’s about time to get a recession.” And then this black swan event comes, we inject all this money into the economy, at a perfect time where supply is constrained, which is the perfect storm for inflation. You have increased demand, decreased supply. That’s inflation all day.
And now we’re in this situation where we have really inflated asset prices. But in my opinion people are feeling like… Starting to think the party might be over soon. It’s starting to feel like, to use your analogy, the drugs might be wearing off a little bit. So I’m curious where you think we are right now. That was a great background, but what does this mean for the current economic situation, particularly as it pertains to investors?

J:
Let me latch onto one of the things you said, which is the drugs are wearing off. I think, unfortunately, it’s just the opposite. The drugs aren’t wearing off, and inflation, I think, is the indication that the drugs aren’t wearing off. They’re in our bloodstream and they’re taking effect, and we want them to wear off. We would love for this inflation to subside naturally, but this is where we need to bring in the medics and we need to take inventive action and we need to inject. What is that needle that they jab into your heart?

Dave:
Yeah, it’s like the epinephrine.

J:
Yeah. And literally that’s what they’re doing. That is what the Fed is doing right now.

Dave:
Isn’t that what they’re doing with raising rates. So that’s what I mean by like the drugs are wearing off is we’re seeing… I mean, crypto’s down 50% off its high, you see the NASDAQ as of this recording, I don’t know what it’s today, is 20% off its high or something like that. So it feels like while we’re… I think you’re entirely right that the sign that the drugs are out of our system is that inflation reaches that 2 to 4% range that we’re normally seeing, but it does feel like… To me, at least, it feels like we’re trending in that direction, or do you think we have a long way to go?

J:
So the conventional wisdom is that in order to reduce high inflation, you need to increase the interest rates. We talk about the thing called the federal funds rate, and that’s the lowest rate there is, that’s the rate that the Fed controls, it’s the rate that basically banks can borrow money from the government. Right now it’s at about 1%. It was near 0%. The conventional wisdom is in order to control inflation, that interest rate needs to be higher than the inflation rate. So right now, that interest rate’s at 1%, the inflation rates at 8.3 or 8.4%. So in theory, we need to raise the federal funds rate to the point that it’s over the inflation rate. Now it’s not that bad. I mean, we don’t need to raise it eight points to get to eight and a half percent.
Because as you raise the federal funds rate, you’re going to be slowing down the economy. So at the same time you’re raising the Federal funds rate. The inflation rate should be coming down, it’s taking effect, and there’s going to be some equilibrium there. There’s going to be some point where the inflation rate drops to the same point that the federal funds rate comes up and they cross over each other, and then hopefully inflation goes down to normal levels. Nobody really knows where that is. Is that 2%, is that 3%, is that 5%? So what the Fed is doing now is they’re saying, “Okay, every month or two we’re just going to raise rates. Hopefully inflation’s going to come down and we’ll see at what point we have to raise rates so that inflation comes down to normal levels,” and their definition of normal is 2 to 3%.
So when somebody asks me how high do you think they’re going to raise rates? We don’t know. They don’t know. I think it really depends on how inflation and the economy reacts to the raising of rates. Now here’s something that… I don’t want to get complicated, but I think this is really important. A lot of people talk about this idea of stagflation, this idea of basically a situation, and this is the worst case situation for an economy, it’s a situation where you have high inflation, but you also have recession. So high unemployment and just lots of bad economic conditions, but also inflation. I talked about how we typically raise interest rates to slow the economy down. If the economy’s bad, well, at least inflation’s low. But if you don’t do all of this correctly, you can get in a situation where the economy goes to hell and inflation is still high.
And this is what Japan saw from 1991 to 2005. Literally there was a decade, two decades that Japan, their entire economy was… If anybody’s interested, look up the term lost decades. And Japan went from being one of the economic superpowers in the late 80s to basically barely functioning for 20 years because they had stagflation. So how do we avoid the situation where we have persistent inflation and recession? The best way to avoid that is not to raise rates too slowly. If you raise rates too slowly, you get in a situation where you can start to spiral downward.
So I think the Fed realizes that there’s a risk in raising rates too slowly, and that’s the reason why we saw a quarter point two months ago, a half point last month, I have a feeling we’re going to see a half point again at the next Fed meeting. I wouldn’t be surprised if we see a half point after that. A lot of people are thinking, “Whoa, whoa, why are we doing things so quickly and so drastically? Let’s take our time so we don’t collapse the economy.” But I think the Fed realizes that if they do things too slowly, that they run the risk of getting into this stagflationary environment that could be much, much worse and much, much longer lasting than just a regular recession.

Dave:
Before we get out of here, I have two things to say. First, if you want to read J’s excellent, excellent book called Recession Proof Real Estate Investing… Do you have it there? You could show it off. Recession Proof Real Estate Investing. We have a 20% discount off any format. You go to biggerpockets.com/recessionbook. That’s biggerpockets.com/recessionbook. And the code is MARKETPROOF. We will put this in the show notes, or if you’re on YouTube, we’ll put it in the description below. That is one book deal. And as J mentioned, J and I co-authored a book together that is coming out.

J:
You wrote it. I just put my name on it.

Dave:
That is absolutely not true. This book was entirely your idea, and we have been working on it for, God, it feels like a decade. I don’t know. We have been working on this book for so long. But it is coming out this fall, and it is all about the fundamentals. How to understand how to be a good investor, how to understand the numbers behind any good real estate deal. So definitely check that out. J, you are such a wealth of knowledge. It is so great to have you on, and we’ll obviously have to have you back right before our book comes out to talk about some of those fundamentals.

J:
Yeah, and now that I’ve gone through like the 18 hour overview of how the economy works, next time we can just keep things light and fun.

Dave:
Yeah, let’s talk some deals next time. I want to hear what you’re up to. Well thanks, J. We will see you again real soon. We always appreciate your time.

J:
Thanks, Dave. This was a lot of fun.

Dave:
Thank you so much to J Scott, the one and only author of Recession Proof Real Estate Investing, for joining us. I now am going to turn this over to our esteemed panel. We have Kathy Feki, James Daynard, and Jamil Damji joining me today to take this from what J was talking about, which was a very helpful historical context and lesson about how we arrived in the current situation, and let’s turn this to a more practical conversation about how our listeners can prepare themselves for a recession. Of course, we don’t know exactly what will happen. Personally I think we’re heading to a recession, at least technically. Don’t know how bad it will be, we don’t know how long it’ll be, but eventually one day or another, we are going to get there. So even if it’s not for another couple of months or another couple of years, this information is still really practical. James, I’m going to start with you. I’d love to hear what you took away from this interview and how you’re thinking about preparing yourself and your portfolio for a recession.

James:
So the two things that we’re doing right now as we’re preparing for the new market, A, is access to capital. We are talking to every lender that we’ve been working with, and we’re finding out where their appetite is and where they are going to be most aggressive on where they want to lend. That tells us what kind of liquidity we need to keep on reserves, and then what’s our cost basis. As we look at our pro formas. And speaking of pro formas, that’s the other key thing that we are doing right now is we are patting everything.
So on construction, I do think inflation’s going to continue to increase. Instead of adding 10% to our construction pro formas, we’re adding 20% because we want to make sure that our walk-in margins are protected and that we have the right numbers in there. In addition to everything that we’re looking at, if it’s value add and we have a transitionary period from stabilization during the renovation, we’re adding about another half point to the current rates. So we’re at 6.5% right now on investor rates, we’re actually putting 7% in our pro formas just so we don’t get caught on the back end.

Dave:
That’s great advice. I think the pro forma’s particularly relevant to pretty much any strategy. If you could just pad your numbers right now, that makes a lot of sense given all the uncertainty. Did want to ask you, what are you hearing from your lenders? Are they still ready to lend or is credit going to tighten in the next couple months compared according to what you’re hearing?

James:
The business banks are actually… Our local banks are being pretty aggressive. I mean, one thing is they have made a ton of money these last 24 months, and they’re sitting on a lot of capital right now, and they do want to deploy it. And the moral relationships you’re building, they’re still being pretty loose with what they’re… They’re actually looking at new ventures rather than what they’ve always been lending on. They’re expanding their products right now. So rates are better in the commercial world. They’re about at point cheaper than the residential. And in addition to, the lenders are getting more creative, because they don’t want to sit on the sidelines with their money either. I mean, inflation’s also affecting them, so they’re being a little bit… Surprisingly more aggressive than I thought.

Dave:
That’s good to hear because one of the major reasons the 2008 crash was so prolonged is that credit tightened so dramatically that it took a really long time for investors or builders to get any lending. So I’m hopeful that even if there is a recession that we won’t see that severe tightening of credit that would really impede any sort of economic recovery. Kathy let’s turn to you. What are you doing to prepare yourself for a potential recession?

Kathy:
Oh my gosh, I’m going to sound so boring. We’re doing what we’ve always done. We are following jobs. I know. I wish it were creative and wow like these guys, but we’re following where the employers are going. There was a lot of lessons learned over the last couple of years and businesses learned where they can keep their businesses open, and many of those businesses are moving. So there’s never been… I don’t want to say never been. This is an incredibly exciting time to follow the jobs and follow the demographics and get there before the crowds. There’s always going to be ebbs and flows, recessions or lack of. I’m at a single family rental conference right now in Miami beach with hedge funds from all over the world. It’s never been so packed with so much money. Walk down the aisles and they’re trying to give you millions of dollars to buy homes. Problem as there aren’t any to buy it. It’s kind of wild.
And when you see the business suits in Miami beach, where I am right now, and know that so many of these bankers are moving to this area. So it’s become an international city. So much activity moving to Florida. You just have to see, it’s almost like hungry hippo, the game that’s happening right now. It’s like, “Oh, the hippo’s here and now he’s here and now…” Things are moving and you’ve got to pay attention. And if you follow it, you can really benefit from what’s happening in these growing areas, just like the last 50 years, just follow the trends, follow the demographics. That’s what we’re doing.

Dave:
So are you worried at all that in a potential recession, we might see increased unemployment? That’s almost guaranteed in a recession. Maybe there would be declines in rent or increases in vacancy. Are you concerned that will impact your business at all?

Kathy:
It just depends on where you’re invested. So right now would be a really good time to sell your lesser performing assets, because there’s probably a buyer out there for them. You might own something that you haven’t really paid attention to, but you should. Look and see what’s happening in that area and determine if this is still going to make sense over the next few years. And if it isn’t, then get into an area where it might be making more sense. Again, I’m at this conference with New York hedge fund managers who are… It was standing room only. It was thousands of people and they’re trying to buy real estate. And there was a panel of the biggest lenders who lended these guys saying, “We don’t see a recession.” Well one guy said maybe 2023, but you’re going to have to kill a lot of jobs to get there, and it’s not going to happen this year most likely.
Again, anything can happen. I mean, there’s things that can happen. We learned that two years ago. There could be a surprise. But at this time, for the Fed to try to kill 11 million jobs by raising rates, it’s not happening yet. One guy on the stage thought 2023, but it would be mild. Again, nobody knows. Nobody knows. But what they are betting on is that right now there’s 870,000… And again, I’m just talking about single family homes, there’s all kinds of ways to invest. And there’s all kinds of recessions and recessions can happen in different asset classes, and it may or may not be real estate, but I’m just going to focus on single family homes right now. There’s 870,000, approximately an inventory. Well, the peak of 2007, there was 3.7 million in inventory. Very different scenario right now. You can’t compare today to 10 years ago or 20… Everything has changed.
But what we know is that we have massive demand, gigantic population that is forming households, and there’s a fourth of what the inventory was 10 years ago for these people. So the consensus of these hedge fund managers was that it probably rents are going to continue to rise because the difference between a mortgage payment and the rent is growing. As the home prices rise and as mortgage rates rise, it’s becoming harder and harder to own a home. That means more renters and more renters fighting over the same properties. They think that rents will continue to rise.

Dave:
I do want to come back to this idea of rebalancing your portfolio and maybe selling off some things that maybe you don’t want to hold for the long term right now. But before we do that, I want to get Jamil’s opinion here, because I have a feeling he’s going to take a different view. Jamil, what are you doing to prepare for a potential recession?

Jamil:
You’re right. I am going to prepare for a potential recession, but I’ve always been preparing for a potential recession because I am fundamentally a trader. I trade homes. That’s what I do. When I got away from trading homes… This is my second time at bat. I went through the first cycle from 2002 to 2008. I made millions of dollars. I got creamed and I got creamed because I was holding. I was holding leverage. I was holding debt. I put myself in a situation where I couldn’t unravel. I didn’t have stacks of cash. I wasn’t prepared. I’m not in that situation this time. I’ve been prepared and I’ve been preparing for this since we got back to it. And that’s just sticking to the fundamentals of understanding value.
First, know what things are worth. Everybody who’s out there who’s been buying on speculation, that is not going to help you. That is not going to help you. But secondly, let’s look at the fundamentals of supply and demand. Listen to what Kathy’s saying. It’s very telling, the mood in which she’s she’s describing right now. You have all these hedge fund managers, you have all the suits hanging out in Miami. She’s describing this very, very aggressive front of Wall Street coming in and making and taking huge bets at housing. Why? Why are they doing that? And I’ll tell you exactly why. These people don’t play. They know when they’re at a table and they know what the dealer’s holding. And the dealer’s holding no inventory, no houses, because they’ve been buying it all.
So when I saw live over the weekend where a woman went out to rent a property in New York and there were a hundred people there and there was outrage because one $3,000 a month apartment had hundreds of applicants to try to rent it. When I see things like that happening, I can tell you that demand is not going away. We do not have enough inventory right now, so there’s… Stick to the fundamentals of understanding value, know how to trade, don’t hold too much. But thinking that we’re going to have this massive influx of inventory on the market is wishful, absolutely wishful.

Dave:
Totally, I sort of agree. If you actually look at new listings on a seasonally adjusted basis, it’s going the wrong direction. It’s going down. And just for people who are listening to this, if you’re seeing numbers and people saying that inventory is going up, because it went up from March to April, that happens every single year, that is called seasonality. And if you want to understand the data better, you can adjust that for seasonality. You can do this on Redfin or Zillow, they do it for you. And look at it then, because that shows you what’s supposed to happen in March to April and how it’s comparing to previous years, just as a heads up. Jamil, J Scott in his book, which I just reread, kind of timely, has put something in his discussion of peak market phase, which is, I think, where we are right now in just terms of the market cycle. He said wholesale instead of flip. Since you’re in both of those industries, pretty deep, do you agree or disagree with that advice?

Jamil:
100% agree. We are turning down our flipping activity and we’re wholesaling a lot more. If we do flip a property, when we do flip a property, because of course I’m in the world of entertainment for flipping as well, so it’s not just as a business. So these have to make sense, but why I love wholesale so much is it lets me identify the real gems, the real diamonds, the places where I can’t get hit. So when I can find these really beautiful opportunities, I flip those, I wholesale everything else. So J’s 1000% right. The way that he’s thinking, it’s moving in the same lines is how I’ve been preparing and how I think the rest of the audience needs to prepare it. Learn the fundamentals of wholesale and you can’t get burnt.

James:
Can I jump in on that, because obviously I like flipping. I’m still a flipper. I’m a wholesaler as well. But one thing that I’ve done, what that I’ve learned I’ve done really well in over the last 18 years is go where people don’t want to go. And I have noticed the general sentiment is be cautious, maybe wholesale, maybe pull your liquidity out. That creates a massive opportunity for flippers. I agree, you don’t want to buy flips that you are buying for the last 12 to 24 months, but you do want to buy the ones that are heavily discounted. Investor fatigue is a real thing and people are starting to pull out of the market and it is creating some excellent buys. In addition to wholesaling is, I agree with Jamil 100%, it is a great way to have low risk when you’re going into any sort of transitional market.
But at the same time, if the demand’s not there on the investor side, for certain types of product, your wholesale fees do get beat up a little bit at that time. You can’t charge as much to that next investor. So for me, I’m actually doubling down to get ready to flip a lot more because I like to invest where everybody is afraid to invest in. Yes, construction costs are hard to manage. Well then I got to figure it out. I can just add it into my pro forma. Flipping could be riskier. Yes, I will buy it cheaper, then. The next wholesale deal that comes through, I’m going to expect a way better margin. So I still am an active… I mean, we just bought six flips in the last two weeks, and I do think that market’s going into a trouble sometime, but we also paid 10% less than we were paying the last 24 months. I just renegotiated a deal down $120,000 during feasibility on a single family house because I said, “Hey, the data, I don’t like it anymore. Here’s where I’m at.” And the seller took it.

Dave:
Would the seller have taken that six months ago?

James:
Oh, absolutely not. Because it was in Bellevue. In Bellevue, you couldn’t… I mean the lots were trading for 1.35, and I have this house for 1.15, and because every builder got nervous, they all pulled out of the market rapidly because they had bought too many lots over the last five months. They would be very aggressive. So created this… I mean I just paid $220,000 cheaper than someone was paying 35 days ago. So as people pull out, there’s a huge opportunity. I like to buy on the dip and I’m starting to see a little bit of a dip there.

Jamil:
But are we at a dip, James? That’s the thing. Are we at the dip or are we just at the little piece after the peak? Is that a dip or is that a slip?

James:
We’re in the dip, but I think we have a further dip, too. I actually think there’s a lot of inventory coming to market. I have a different perception from maybe what you guys have because the emotional standpoint in the psyche, you can’t factor your pro forma into the data. What I do know is investors have a weak stomach a lot of times. I mean, we saw that in March of COVID. What happened? All these hedge funds that are buying all these houses, they weren’t buying in March, were they? They all shut their doors down, banks shut their doors down, hard money lenders shut their doors down. They have no stomach. We went and bought 15 homes. We just suggested our margins, so even right now, that home that I just contracted in Bellevue, we’re not paying a little bit less, we are paying nearly 20% less in a 35 day period. So as long as my margin makes sense, I can still flip that property. And honestly I’ll probably do very well in that house, but just adjust your margins. If you’re nervous, just buy cheaper.

Kathy:
Oh James, you guys, I have to jump in because I couldn’t agree more. Right now there is so much fear. As there should be, every headline is saying there’s a recession coming. This is a great time to negotiate. This is a great time to get a good deal. We are finally able to get some inventory from people who are really scared of what’s coming because they maybe haven’t researched the fundamentals of what’s really happening. They’re just reading the headlines. That’s the whole point of this show is to go behind the headlines and really give the data because the world is not paying attention to the fundamentals and the facts.
And the facts are we… Absolutely, the Federal Reserve is trying to increase inventory as it should. There isn’t enough. And by raising rates, there will be, in hopes of doubling the current inventory. That’s where we need to be at 870,000 homes on the market. You need to double it. We’re going to see that. But there’s a whole lot of people who are afraid of that because they’re going to see the headlines that say increased inventory, which is a good thing. It’s a really good thing for buyers. So if people are scared to buy, that’s good for you and me. We’re finally, finally getting deals again.

Dave:
I want to come to… So I actually had this question that we were going to save to the crowdsource section, but since it just came up, I will ask, and Jamil, I’ll start with you because you were starting to hit on this. This came from the On the Markets forum, On the Market forums on Bigger Pockets, which you should all check out if you have not been there yet. Some great conversations going on there. And this comes from Connor Olson, who asked, “Is it possible to be in an economic recession and not see that affect housing prices? Maybe supply will be so low that prices will keep going up.” And I just want to re reiterate before you turn this over to Jamil that the technical definition of recession is that GDP contracts two consecutive quarters. So the question is, could we hit that technical definition of a recession, but not see housing prices decline? Jamil, what do you think?

Jamil:
1000%. History shows us that they’re not directly related. We’ve had recessions where you have an increase in housing and… The last recession was devastating on housing, of course, but look at what got us to that. What Kathy was saying. There was an excess of like three and a half, four million homes. That was insanity. People owned three, four, five houses that shouldn’t have even owned one. That’s what caused us to have that meltdown in the first place, but I do not believe that just because we move into a recession that it’s going to hit housing. Look, stock market’s already getting creamed. Crypto’s getting creamed. So many people are absolutely feeling this already. It’s just that in real estate right now, we’re sort of pivoting, because we’re like, “Wait, it hasn’t got bad yet. What’s happening. Is everything okay? We’re fine. We’re not wet.”
And I don’t think we’re going to get wet. I think it’s going to get harder for us to make money because, again, you’ve got the 9,000 pound gorilla hanging out in Miami right now with Kathy. And the 9,000 pound gorilla is out there right now waving cash, waving cash. Do you not think that 9,000 pound gorilla was well thought out? That the reason why they’re doing what they’re doing right now with billions of dollars in spending and research? Guys, come on.

James:
These big hedge fund guys, we’ve done a lot of business with them, too, over the years, and they’re great buyers and they have a great business model, but at the end they are the 9,000 pound gorilla, but the Fed is mother nature and they will always win. No matter what, the Fed is going to control what happens, and I think they’ve been actually very clear about what they’re going to do. They’re not really hiding it. And Powell, the last time he spoke, he’s like, “Yeah, rates are going to go up.” I mean, they’re basically saying that they are purposely going to jam us into a recession. And that gorilla’s going to get wet. And the thing about the Fed in even that correlation with mother nature is you can prepare, it doesn’t matter. I can have a tornado come through right now, and as long as I got my cellar and I prepare correctly and have my food supply, I’m going to weather the storm and make it right out of that storm at that point.
But at the end of the day, money controls everything, and the Fed controls those hedge funds pockets. And if their pockets start to get a little bit more difficult, they’re going to tighten up. And again, I’m going back to the point of all those big buyers were not big buyers in March of 2018. I was laughing how quickly people shut their doors. Granted, it was a scary time, but at the end of the day, the assets were still the assets, and if they thought it was going to melt down then, we could have a meltdown now. So as soon as they have any feeling of meltdown, they pull back instantly.
And that’s why actually going back to what I was talking about with the bank market, go meet with lots of lenders right now, go talk to banks, because banks are telling me one thing today, but I have to have an arsenal banks because that’s one thing I did learn in 2008. They pulled their money back and I could not get any more of it. So talk to your lenders, put the arsenals on your banks because what they’re saying today will change tomorrow. And just have constant communication.

Kathy:
I just got to answer that question if you can have housing boom during a recession. And my answer to that is yes and no, and there isn’t a housing market. There’s a bunch of little pockets of houses all around a very, very big country. So in 2005 we were selling in a bubblelicious market. Remember one that didn’t make sense in California where prices… No average person could afford the average price. It was just crazy loans that allowed that. We sold those, and we 10-31 exchanged to Dallas where we bought right, they cash flowed, we knew there was growth, there was job growth, there was population growth, but the homes were very affordable and there was infrastructure growth. Remember that, job growth, population growth, infrastructure growth. Those properties rode through the worst housing recession since the great depression without feeling it. Because again, we bought right, in the path of progress, in affordable market, with high paid jobs.
So you could say how did anyone survive 2009? Well, if you prepared for it properly, it wasn’t that hard. You just had to get in the right current. And the current was where does it still make sense today? So it’s the same thing. There’s going to be real estate markets that get affected for sure. Right now we’ve got problems with tech stocks. And a lot of cities that have bubbled up are based on tech companies. So there’s going to be layoffs there. So some areas, maybe Austin, I don’t know, you’re Austin one last time, but right now those tech companies are hurting a little bit. There could be layoffs. There could be an impact on real estate. We don’t know. But I’m going to be careful and cautious about being in tech cities right now. And I’m going to be in markets that are more diversified. That was, again, a big lesson we learned in 2008. Be in a market that has lots of different employers so that if wind goes down, there’s plenty there to keep the market held up.

Jamil:
So is now the time to sell the castle in Malibu?

Kathy:
It could be, but I can’t. I can’t. I wish I could live somewhere else, but I can’t. And if you could find me a place where I could surf and mountain bike and rock climb and hike and… Fine, I’ll go there. But find it first.

Jamil:
It’s lifestyle. I get it. I get it.

Dave:
So earlier, Kathy, you had said something about selling things that aren’t performing, and I’ve been talking to a lot of people recently about this idea of rebalancing your portfolio, maybe by selling things that you don’t want to hold onto for more than a year or two, or maybe moving to a lower price market. Kathy, do you have any advice, like practical things about how people can go about do that? What type of markets… You just gave some good advice to that, but what types of loan products should they be looking for or what types of portfolio dynamics would you recommend in this market?

Kathy:
One of the things that I saw that I’m seeing people do right now is refinance with portfolio lenders. These are private lenders that aren’t as regulated as the the Fannie, Freddie backed loans. So you’ve got international investors looking for yield. If they stay in, I don’t know, European treasuries or… Right now Europe is heading towards recession. There’s a lot of money looking for yield. And one of the places they’re looking is lending to Americans. So you’ve got some of these funds, lending funds that are just enormous, and I’m not kidding when I say I’m walking down aisles here at this conference and there… I had one guy come up and say, “We’ll give you a 10 million credit line. Just fill this out.” It’s private money. It’s private money now. I’m not going to take it because it’s 8%. That one I’m not going to take.
So what’s the answer. Look and find out what kind of loans there are. I still think you should max out… Again, this is buy and hold one to four units. I’d max out my 10 loans that I can get from Fannie and Freddie, because it’s still pretty low. And I might get on a 7 or 10 year arm. I don’t normally do that. I like my 30 year fixed rate, but I’m still fairly comfortable with a 7 to 10 year arm. It’s fixed for those 7 or 10 years, whatever you get, and the rates are quite a bit lower. So I still think it’s great to max those out. If you’re married and you’re both working, you might each be able to get 10 of those. Again, if you’re buying that many and then you can go to the portfolio lenders that tend to be a little bit higher.
But what is weird is that some aren’t. Some of these private lenders are less than the Fannie, Freddie conventional loans. I do know some people and I’ll make sure that we have this in the show notes… I know a guy where you could… He created a website or an app where you can just type in the kind of loan you’re looking for and it’ll pop up the lenders that will do it.

Dave:
Oh, that’s great. That would be very helpful. So we’ll throw that in the show notes. I think one of the interesting dynamics is that people assume that… A lot of people, I should say, seem to think that if there is a dip in housing prices, it’s just the same exact market conditions, but with cheaper prices. But I think, James, what you were saying is lending gets harder, people get gun shy. But Jamil, I’m curious what you think. Are you seeing anything that points to better buying conditions ahead or do you think right now is the best it’s going to be for a while?

Jamil:
It’s a great question, Dave, because we transact at such a high volume across the country in wholesale. I can tell you month after month, if we see dips and what price points we’re seeing spikes or dips in, and I think there’s absolutely been a small pause for some of the higher priced inventory that we would wholesale. So I think that what that’s going to do is it’s going to create some downward pressure on sellers, it’s going to create downward pressure on wholesalers and our assignment fees are going to get chopped up a little bit and we’re going to have to start providing better value to investors. So absolutely, I think James is right in what he’s saying. I think Kathy’s correct in what she’s saying. I think we’re going to have some really select opportunities moving in the next little while, and I think understanding how to communicate that to sellers and real estate agents that you’re working with is an important thing.
Look, if a house hasn’t traded in one of the most historically heated real estate markets in the United States history, and it’s been sitting for the last six months on the MLS, there’s an opportunity there for you. There’s an opportunity to have a real conversation with someone to get value. And I think that, yes, there’s going to be real conversations, real deals to be had. And I believe that there will still be a plethora of investors who are ready to take the plunge and buy something that they find value in, as long as you’re sticking to the fundamentals of your numbers. Don’t be buying things thinking that, “Oh my God, this is going to be a great Airbnb.” This only cash flows as an Airbnb, you’re in trouble.
So be cognizant. Be cognizant of how things are going to pan out for you. But yes, buying opportunities are coming around the corner. They’re already here. Just like James. He just renegotiated 20% on his lot. That’s going to be the norm. Renegotiations are coming around. Real conversations with sellers are coming around the corner. Real conversations with agents are coming around the corner. Now is the time to really get down to the basics and start learning how to comp.

Kathy:
I want to mention that the Federal Reserve is not federal and it doesn’t have reserves. It is a private company. It’s a banking system. It’s the banks. It’s the biggest banks. They learned a lot. The big banks learned a lot in 2007, 2008. They’re not going to repeat that, guys. If you think that we’re going to go through another 2009 and have banks just give their assets away for nothing, you’re wrong. Because in 2009, those of us who were buying were taking advantage of that. It was very quick that the banks learned, “Oh, maybe this isn’t so good to give it all away.” And they started to keep those properties and fix them up, and even some went in the rental business. Or they sold them off to their buddies on Wall Street. They’ve learned. The Federal Reserve is a group of banks. Do you think they want to fail? They’re not going to fail.

Dave:
All right. This has been excellent advice from the three of you. Thank you so much. It seems that each of you have a slightly different take, different opinions on what might happen with housing prices. But generally the theme that I’m hearing is a return to fundamentals, to make sure, if you are investing right now, to really understand the value of what you’re buying, as Jamil said, to understand the fundamentals and make sure that you are buying things, not on speculation, but based on their true intrinsic value. Things that you might want to hold on for a longer period of time. And personally, this is just my advice, is not to take on any excessive risk right now. But that being said, there still are deals to be had, and if the numbers work, they work. So with that, let’s take a quick break, and after this, we will come back and give some advice to one of our crowd who is a little fearful of a recession. We’ll be back right after this.
Okay, for our crowdsourced section today, we are going to return to the Bigger Pockets forums, where we have a question from Michael Sellers who said, “Any advice for someone who feels stuck between, one, not wanting to take on a highly leveraged 203K loan,” and for anyone who doesn’t know what that is, it is a loan product that allows you to buy a house and wraps some of your rehab costs into the loan. “With so many logistical factors pointing to a recession, and two, not wanting to fall into the cliche of waiting for the correction to take action.” So Michael’s clearly feeling both sides of this debate.
He says, “This would be my first purchase and would involve a few months of renovation and construction after closing. In general, I have a pretty risk tolerant attitude, but with all the geopolitical turmoil and domestic inflation and interest rate spiking, being highly leveraged doesn’t seem like the best idea despite it being many people’s only option to break into markets they are otherwise priced out of.” All right, we only have a few minutes left in this show, but James, would love to hear quickly what your advice for Michael would be.

James:
Yeah, it really depends on what kind of asset you’re trying to buy, whether it’s a rental or a fix and flip with that 203K loan. If you’re a newer investor and you’re leveraging heavy on a fixed and flip, pad your margins. Add more in your construction budget. Make sure you have reserves too, because to get more funds from that 203K loan won’t happen. So put extra money aside just for cost overruns, and then just run your… Buy cheaper. If you’re nervous, buy cheaper. I mean, if someone’s going to sell me something that’s 60% of value right now, I’ll go buy it. I don’t care what’s going to happen in the market. And the other thing to do is to make sure, as you’re looking at things, that your rents are going to cover. You’re only over leveraged if your asset can’t pay for it. So if your asset can pay for it, you’re not overleveraging. So verify your rents, make sure it covers the cost and you’ll be fine.

Dave:
Jamil, what do you think?

Jamil:
Oh, I love everything James just said, because that’s the meat and potatoes here right now, guys. Make sure you’re buying right. Really, really, really look at the numbers, really make sure that you’ve understood where the comparables are, where you can force appreciation. And if that forced appreciation is just going to get you back to zero, great. Great. That’s okay. You worked hard, you sweated and you didn’t get anything for it. Oh, well. Guess what, you still have the asset and that will eventually work out well for you. But as long as you’re buying right. Like James said, you buy at 60 cents on the dollar right now and then you go and force some appreciation by adding value to the property, and all of a sudden we have a dip and you’re not over leveraged, you’re just perfectly leveraged. So that’s how you got to be buying, that’s how you’ve got to be playing. Get smart about it. Really, really run your numbers. That was great advice, James.

Dave:
Kathy, last word. What is your advice to Michael?

Kathy:
There’s no problem with the vehicle. It’s like saying, “Is this Ferrari dangerous or not?” Well, if you give it to a 16 year old, yeah, it’s dangerous. If you give it to a race car driver, no problem. So it’s not the vehicle at all. It’s who’s behind it. Just make sure that you know how to drive.

Jamil:
Don’t be a 16 year old behind a Ferrari.

Dave:
I think that’s really good advice because right now, if you are taking on your first major rehab, you’re hearing James, who’s been doing this, who’s done hundreds or thousands of deals, who is cautioning to really pad construction costs, renovation costs. So make sure that you are cautious on that, Michael, if you are going to take on this renovation as your first deal. All right, James, Kathy, Jamil, thank you all so much for being here as always. It is always a pleasure. If you’re listening to this, we would really appreciate if you like this show to give us a five star review on either Apple or Spotify. It does us a huge favor. We really appreciate, want to get up on those charts.
I will see you all again next week, when we are going to have an excellent show with Taylor Marr from Redfin, who’s going to be talking all about migration patterns and how they are impacting local housing markets. We’ll see you then. On the Market is created by me, Dave Meyer, and Kalin Bennett. Produced by Kalin Bennett. Editing by Joel Ascarza and Onyx Media. Copywriting by Nate Weintraub, and a very special thanks to the entire Bigger Pockets team. The content on the show On the Market are opinions only. All listeners should independently verify data points, opinions, and investment strategies.