Richard

UBS Analyst John Lovallo joins ‘Power Lunch’ to discuss the ‘housing recession’ and a new survey that shows consumer confidence is beginning to rebound in the market.

Dave:
Hi everyone. Welcome to On The Market. I’m your host, Dave Meyer, joined today by Kathy Fettke. Kathy, how are you?

Kathy:
I’m doing great and so excited for this interview. I can’t wait to hear what he has to say. Hopefully, it’s great news.

Dave:
I know. Nick is an excellent interview, and I follow him closely on Twitter. He just knows everything about the Fed. I feel like I follow it closely, and every time I read something he writes, or listen to an interview with him, I learn something new. Hopefully you all will too.

Kathy:
Yeah, the Fed is for a lot of people, something they never really heard of until this year, or didn’t know very much about. It’s still this sort of mysterious thing. What is it? Is it a government agency? Is it a private company? How does it work? What do they look at? What we do know is that whatever they decide affects all of us a lot. I think it’s important for people to start to recognize what is the Fed, who are they, what are they doing, and how is it going to affect me? We’re going to learn a lot from today’s interview.

Dave:
I wonder if you did a poll of how many Americans know who Jay Powell is in 2019 versus today, it’s probably quadrupled or more.

Kathy:
Yeah.

Dave:
I feel like no one knew who he was prior to the pandemic, and now everyone waits on his every word. He’s like the most important person in the country.

Kathy:
Or even, did people know what a Fed fund rate was? Oftentimes, reporters would get confused between what a Fed fund rate was and what a mortgage rate was, and therefore the audience was confused. Again, hopefully that clarity has been made and that there’s more insight on how we as investors and consumers are really manipulated by this thing called the Fed, and therefore we really need to understand it.

Dave:
Absolutely. Well, with that, let’s get into our interview with Nick, but first we’re going to take a quick break. Nick Timiraos, who is the chief economics correspondent for the Wall Street Journal, welcome back to On the Market.

Nick:
Thanks for having me, Dave.

Dave:
Yeah. I actually looked this up before you came back. You are our first ever guest. The first two podcasts we ever did for this show was just the panelists and the regular occurring people, and you were the first external guest we had. Thank you for helping launch our show. I think we’re like 60 or 70 episodes later and going strong. We’re super excited to have you back.

Nick:
Thank you. Thank you so much for having me back.

Dave:
All right. Well, back then it was April, so we were sort of just going, and for anyone listening who didn’t hear that, Nick is one of the most, in addition to knowing a lot of things about the economy in general, and how the government plays a role in that is, one of the most foremost experts on the Federal Reserve, and we talked a lot about that last time. You’ve also written a book, Trillion Dollar Triage, about how the US responded to the COVID pandemic economically.
Back when we had you on the first time in April, we were just at the beginning of this rate hike journey that we’ve been going on for the last eight months. I think most people who listen to this podcast have probably been following along, but could you tell us in your own words how you would summarize what’s happened with the Fed over the last, basically over the course of 2022?

Nick:
Yeah. Well, really what we’ve seen in 2022 has been the most rapid increase in interest rates in any year since the early 1980s. When I was on your program back in April, the Fed had just raised interest rates by a quarter point. Of course, inflation was very high. It would get up to 9% in June, largely because of what happened in 2021, but then also the Ukraine War that started at the beginning of 2022. The Fed was just beginning to figure out how to shift to a higher gear.
The Fed raised interest rates a half point in May, and then three quarters of a point in June, which hadn’t done since 1994. They did four of those increases in 2022, and then they stepped down to a half point rate increase last month in December. That’s where we are now. Interest rates are now slightly below four and a half percent. The Fed is suggesting they’re going to raise interest rates a few more times this year in 2023.

Kathy:
Do you think it will work? Do you think they’ll get what they want? Lower inflation to 2%?

Nick:
Yeah, that’s a great question. Will it work? The Fed seems determined here to get inflation down and we already see some signs, of course, that inflation has been coming off the boil. We can talk a little bit about why that is and where that’s coming from. When you say will it work, I think the big question everybody has for 2023 is how bad is the recession going to be if we have a recession? How do you define success in terms of getting inflation down? I think for the Fed, they are resigned to having a downturn if that’s what it requires.
Of course, everybody hopes we don’t have a recession, but if you look historically, when we’ve had inflation this high, it’s never come down without a recession. Then, of course, if you’re in the real estate industry, if you’re in the housing market right now, we’re in a deep downturn already. I think the question really is, when does it spread to other parts of the economy, to manufacturing, to goods production, and then ultimately to the labor market and higher unemployment rate? That’ll be the big question for 2023.

Kathy:
I was going to say, didn’t the Fed jump in a little late though on all of this? There’s still so much money printing. Of course, I want to tie the money printing to all the inflation. Let’s start there. Would you agree there’s a correlation?

Nick:
If the question is did the Fed get started too late? Yes. Everybody I think agrees broadly, including the Fed, and there were reasons why they were late that made some sense at the time. There was a view that inflation would be transitory, that inflation was tied to the pandemic, that if the pandemic was something that would have a beginning, a middle, and end, so would the inflation. Monetary policy textbooks say you don’t overreact to a supply shock.
If there’s a big contraction in the ability of the economy to supply goods and services, and you’ve been successful in keeping inflation at 2%, a low and stable inflation, then you have that credibility. You don’t have to react to a supply shock. What the Fed misjudged in 2021 was that it was only partly because of supply bottlenecks. It was because there was a lot of demand in the system. They also misjudged, I think, the strength of the labor market and the imbalances in the labor market. The question now, a lot of people say, “Well look, inflation’s coming down.”
The goods prices, used cars went up 40% in 2021. They thought used car prices would come down faster in 2022. They are beginning to come down now. You are seeing elements of this sort of transitory inflation from the parts of the economy that were really distorted by the pandemic. The concern now is that high inflation is going to be sustained because incomes are growing, because wages are rising, and because the labor market’s tight. If you haven’t changed your job, you’re probably not getting a raise that’s keeping up with inflation. You’re getting a four or 5% raise when inflation was six, seven, 8% last year.
The way that you beat inflation if you’re a worker is you go change your job right now, because you can get more money if you go to a different company. That’s the concern the Fed has is that even though the labor market is not what started this fire, it could provide the kindling that sustains the fire. Yes, if the Fed had started raising interest rates earlier, maybe inflation wouldn’t have been so high, though you can look at other countries around the world. Inflation is high almost everywhere, in places that did a really good job dealing with the pandemic, and in places that didn’t; in places that provided a lot of generous support, and in places that didn’t.
It’s a tough time for central bankers, because they have egg on their face from waiting too long at the end of 2021 to raise rates. They played catch up last year. When you play catch up and you go really fast, it raises the risk that you end up raising rates more than you have to, and you cause unnecessary damage.

Kathy:
Again, coming back to the modern monetary theory and this policy that you can just print money without consequences, just looking at the money supply alone, it’s 21 trillion versus, what was it just a few years ago, 15 trillion with 7 trillion flooding the market. It seems like they’re trying to mop up a flood with a wet mop. How do you pull that? Is there again, is there a correlation between all that monetary policy, all that printing and inflation?

Nick:
Well, we printed a lot of money. It’s true, but a lot of that cash wasn’t lent out. Banks actually make money by keeping those funds, they’re called reserves. They’re basically bank deposits that you keep at the Fed, and they earn money on them. They weren’t lending out that money. Some of the correlations that were really popular, if you took a high school economics course in the eighties or nineties, the growth of the money supply would cause inflation. Since 2008, the Fed has changed how they conduct monetary policy.
You could say they’ve sterilized the money supply. Banks aren’t lending out all of that money. I think the big difference in 2020 and 21 versus what we saw after the 2008 financial crisis is that you didn’t have a lot of damage to the economy after the pandemic. Households were healthy, people were out buying homes, they were spending money on cars. You had a lot of fiscal stimulus. Even though the Fed was keeping interest rates low, the big difference this time was that Washington went and handed out money to people, gave money to businesses, and that is what really added to the inflation.
The Fed in 2021 was looking at the experience of 2008 and nine and 10, 11, 12, saying, “God, we really don’t want to do that again. We don’t want to have this really long slog painful recovery, where it just takes a long time to get the economy growing again. We’re going to commit to really provide a lot of support, keep interest rates low for a long time.” What ended up happening was that the economy was just completely different. This wasn’t the last war. The Fed fought the last war. 2022 was a story of catching up, raising interest rates a lot, and trying to pop some of these bubbles that you had seen forming in 2021.

Dave:
Nick, you noted that the risk now seems to be of an overcorrection. The Fed was late in raising interest rates, and now some people at least are arguing that they are raising rates too fast for too long, and that there’s a risk of overcorrection. I understand that inflation is still really too high. 7.1% CPI is ridiculous, but it is on a downward trajectory.
I’m curious, how does the Fed in your mind view inflation, and do they look at it all equally? For example, we’ve seen some segments of the economy, prices have come down, and prices are no longer growing. Other sections, notably to this group, shelter for example, inflation remains super high. Can you tell us a little bit about how the Fed evaluates inflation data and what they care about most?

Nick:
Yeah, that’s a great question. It’s true that the risk right now, there are two risks for the Fed. One risk is that you do too much. You cause unnecessary weakness. You push the unemployment rate up above 5% or 6%, and you have a harder landing than you might need to get inflation down. The other risk is that you don’t do enough, and you kind of get off of the throat of the inflation dragon too soon, and you allow a more pernicious inflationary cycle to take hold.
If you look at the 1970s, that’s what the Fed is worried about going into this year. In the early 1970s, inflation was very high. There was a recession in 1973, 1974. The Fed raised interest rates a lot, but then as the economy weakened, they cut interest rates. Inflation fell, but it didn’t fall that much, and it re-accelerated. That’s the worry the Fed has right now is yes, they could do too much. They probably will do too much. It’s a little bit like driving a car and not finding out where you were until 15 or 20 minutes later.
You’re going to miss your exit when that’s the way that you’re driving a car, especially if you’re driving very fast, which the Fed was last year. Those are the two risks, and they see the risk of doing too much as probably the lesser risk, the risk of not doing enough, and having what they called the stop-go rate rises of the 1970s, where you never really get on top of inflation. That’s the worry. Now, on inflation, what are we seeing right now? You can look at a speech that Fed chair J Powell gave at November 30th to get a really good idea of how they’re thinking.
Just to summarize it, he broke inflation down into three buckets. The first is goods: used cars, appliances, furniture, the things that really increased in price a lot over the last two years, because of what happened in the supply chain, because we were all stuck in our homes in 2020. We were buying stuff instead of spending money on restaurants and travel and so forth.
You’re seeing the deflation or the declines in prices that the Fed was always expecting to get in 2021, they are coming through right now. You look at the last couple of inflation reports, and inflation has printed soft. It’s been in part because of energy and in part because of goods. That’s a positive story for the Fed. They see that, they want to see more of that. That’s good news.
Then the next bucket is what’s happening in the housing market and shelter. Of course, housing inflation’s measured a little bit differently. The labor department, which calculates the consumer price index, they look at rents of primary residences, and then something called owner’s equivalent rent, which is basically the imputed cost of the caring cost to rent your own house. That’s how the government measures housing inflation. Now, rents have been decelerating a lot in the last couple months. They really came off the boil in the fourth quarter.
Household formation kind of exploded coming out of the pandemic. People were moving out on their own, wanted more space, work from home, made a lot of flexibility there in terms of where you could live. People bought and rented. Of course, a lot of your listeners know, that’s now slowing, but because of the way the government calculates these inflation, these shelter inflation readings, it’s very lagged.
Even though you see new lease rents declining right now, that won’t feed through to the government inflation measures for another nine to 12 months.The Fed is basically saying, “We see that. We know it’s coming.” On two of these three inflation buckets, they’re expecting progress. That’s one of the reasons they expect inflation to fall this year to about 3% by the end of the year. In their most recent reading, it was a little bit below 6% if you look at headline inflation.
That leaves the third bucket. The third bucket is basically everything else. They call it core services, so services excluding food and energy. Then they also exclude housing since we counted that in the second bucket. For the Fed’s preferred inflation gauge, which is called the personal consumption expenditures index, that’s about a little bit more than half. The reason it’s a concern to the Fed, that they’re so focused on this core services excluding housing, is because services are very labor intensive.
If you think about a restaurant meal or a haircut, pet care, hospital visits, car repairs, a lot of what you’re paying for is labor. If wages are rising, that can provide the fuel that sustains higher inflation, even if you think you’re going to get a lot of help from goods and housing. The Fed has a forecast right now that has inflation coming down to 3% by the end of this year, from close to 6% in the fall of 22. We may get more than that if housing really weakens a lot, and we get more goods deflation, if energy prices come down more, we may get more help there. That would be great news.
The concern for the Fed is that we could have a wage price spiral, which is where paychecks and prices rise in lockstep. I haven’t been keeping up with inflation in my wage. I’m asking for higher pay. Companies have pricing power because people are spending money, they have income, income growth, they’re getting jobs, they’re changing jobs, they’re getting more pay. The worry there is that inflation settles out at a lower level, but still between, say, three and 4% or maybe even higher than that. The Fed has a 2% inflation target.
The final point here is the concern for the Fed is if you think about a calendar year effect, where the end of the year you say, “Well, prices went up this much. Wages went up a little bit less, I need more.” We had that in 2021, we had that in 2022. If you now have a third calendar year here of higher wages, but not quite keeping up with prices, then you could actually bake in a higher wage growth rate into the economy, and that wouldn’t be consistent with 2% inflation. The Fed worries a lot about that.
They worry about expectations that what people think prices are going to be in a year actually determines what prices are going to be in a year. They’re trying to prevent a change in psychology where prices continue to rise. That’s the big question this year is are wages going to slow down? If wage growth slows, then the Fed will be able to really take its foot off the break and say, “Okay, we think we’ve done enough, on top of everything we’re seeing in the housing and goods sectors.”

Kathy:
Do you see that as a possibility when there’s such a severe labor shortage, that we would see wages decline?

Nick:
The optimistic story the Fed says, you hear about this soft landing. What is a soft landing? A soft landing is inflation comes down without a recession, without a really bad recession. Powell has referred to a soft-ish landing, which is basically, yeah, we might have a couple of quarters of negative growth, a technical recession, but we can get the labor market to slow down without a big rise in the unemployment rate. How would that happen?
One way would be for companies to cut back hours, but they’re going to hoard labor because it’s been so hard for them to find employees. They’re not going to let everybody go at the first sign of weakness. They could reduce job openings. Right now, there are over 10 million job openings. There’s about 1.7 job openings for every unemployed person. It was about 1.1, 1.2 before the pandemic. There’s room in their view to bring down the number of unfilled jobs without having a huge increase in the unemployment rate. That’s kind of the positive stories.
Maybe we can do this without as much pain as you would look back over history and see what’s been required to get inflation to come down. We only have seven or eight examples of business cycles since World War II, and we don’t have any examples of something like what we had with the pandemic, where we were basically asking people not to work, to stay in their homes for the sake of the public health infrastructure. It’s a different environment perhaps, but you always do get goosebumps when you start saying things like, “Well, this time is different.” We’ll see.
I think the concern here would be that when the unemployment rate starts to go up a little bit, it goes up a lot. These things are not linear. The economists call them non-linearities. Usually, when the unemployment rate goes up by a half percentage point, it goes up by a lot more than that because every time the unemployment rate has gone up by a half percentage point, a recession has followed. The idea that the Fed can fine tune this, they talk about using their tools, but they really only have one tool. It’s a blunt instrument, as people in the real estate sector have discovered over the last year.
That’s the challenge here is you want to moderate demand for labor without a recession. You want to slow consumer spending so that companies actually have to compete again on price. They have to lower their prices. They can’t keep passing along price increases to their customers. If you look at recent earnings reports, you don’t see a lot of evidence that that’s happening. I like to look at companies like Cracker Barrel, the restaurant chain. They’re reporting lower sales growth, but higher prices. They’re passing along higher prices.
They had a lot of food inflation last year, but they’re able to pass that along right now. They’re reporting 7%, 8% wage growth. That’s probably not going to be consistent with the kind of inflation the Fed wants. You do have to wonder if at the end of the day here, the Fed, they won’t say publicly that they’re trying to cause a recession, but they’re taking steps that have almost always led to a recession.

Kathy:
Whew.

Dave:
Yeah. It certainly seems like we’re heading in that direction. That’s super interesting and something I hadn’t exactly heard about, that potential optimistic case, but I agree that it does sound like everything would have to align really well for that to happen.

Nick:
Yeah, you would need good luck. After a year where the Fed had a lot of bad luck, the war in Ukraine was just really disruptive. Huge increases in food prices, commodities, energy, and so it’s hard to predict the future. Maybe things will start to go the Fed’s way, but you have to do a lot of charitable pulling the threads there.

Dave:
Yeah. Well, we can hope. I do want to get back to this idea of the 2% inflation target. I understand that some inflation is desirable, a low level, because it stimulates the economy and gets people to spend money. Where does the 2% number come from, and why is this the magical target that the Fed is aiming for?

Nick:
Yeah, that’s a great question. The Fed formally adopted this 2% inflation target in 2012. They’ve had it for about 11 years now. They had sort of behaved. They released all the transcripts of their meetings with a five year delay. Really since the late 1990s, they had sort of behaved as if one and a half to 2% was a desirable way to ensure price stability. Congress has given really two mandates to the Fed: to maximize employment and to maintain stable prices. They haven’t defined what price stability is. The Fed beginning in the late 1990s, but again, officially in 2012, decided 2% was how they would define Congress’ price stability mandate.
2% actually began in New Zealand in the early 1990s. The Central Bank, the Reserve Bank of New Zealand was the first to adopt a specific numerical inflation target. 2% at the time, there wasn’t like some great science behind it. I don’t want to say it was completely picked randomly, but it wasn’t as if there was a lot of study that said, “Oh 2% is better than 3%.” New Zealand picked 2%. A number of other central banks followed suit. As I said, the Fed was behaving as if one and a half to 2% was a desirable amount of inflation.
Alan Greenspan in 1996, there was a big debate behind closed doors at one of the Fed meetings in 1996, where they began to talk about, “Well, how would you define price stability?” Alan Greenspan defined it as price stability is where consumers just don’t pay attention to what’s happening with inflation, where prices are low and stable enough that you don’t take it into account in your behavior or your decision making. People thought 2% was about right. The reason they didn’t pick 0%, there were some people that said, and that still say, “Why not zero?” There’s measurement error, we can’t perfectly measure inflation.
There’s a concern that if you have prices too low, you could tip into deflation, declining prices, which is actually a much more pernicious problem, harder to fix for central banks. 2% was seen as something that gave you a little bit of a buffer. It was low enough to satisfy Greenspan’s definition of prices low enough, people just ignore what’s happening with inflation. That’s sort of where we were over the last 25 years. In fact, right before the pandemic, the Fed was concerned that it had been too hard to hit 2%, that they had provided all this stimulus.
They had kept interest rates very low after the global financial crisis, and they were just struggling to get their chin up to 2%. There was a lot of discussion around monetary policy not being powerful enough in the next downturn because of some of the things you had seen in other countries, in Europe and in Japan, where they had negative interest rates, they had low inflation, and very little scope or juice to squeeze out of the fruit when the economy weakened. You couldn’t stimulate the economy.
The discussion had actually turned towards, “Well, could we see periods where we might want to have a little bit higher than 2% inflation, because that would give you more room to stimulate economic growth in a downturn?”

Kathy:
Yeah, it seems like it would be really hard to measure because say, a bag of chips, I don’t know if you’ve noticed, but the chips, there’s a lot less of them. It might be the same price maybe, but you’re getting less. Would you say that, it was about a year ago that inflation really started to rear its ugly head, and now the year over year data might look better because of that? Do you think that’ll make a difference?

Nick:
Yeah, so those are called base effects, where you’re just the denominator from a year ago, when it was very high, now it’s easier to beat the number from a year ago. Inflation first spiked March, April of 2021. There was a hope that in 2022, as you began to lap those high numbers, the year over year readings would come down. That didn’t happen, again, because there was more strength in the economy, spending began to rotate out of the goods sector into services, and you had some of the effects of the Ukraine war.
Now, we’ve had two years really of high inflation. It is true if you look at the last few months, the year over year numbers are coming down, in part because the growth rates of inflation have slowed, at least in the last two consumer price index reports. Also because inflation a year earlier was much higher. You have seen the CPI fall from 9% in June to 7.1% in November. Next week, we’ll get the December CPI where we’ll see if now we have more of a durable trend of lower inflation. The Fed will pay attention to that. They use a different index as I said before, but you don’t have to look at the 12 month trend to conclude that inflation’s getting better.
You can look, and the Fed does look, at three month annualized inflation rates, six month annualized inflation rates. If the inflation report is good on January 12th, then you’ll now have three months, at least in the CPI, of much better behaved inflation. You’ve already started to see markets get very optimistic now that the Fed might be done. Mortgage rates have fallen through December, through the latter part of November, because of this much more constructive or bullish outlook for inflation.
If you look in different securities markets, there’s a treasury inflation protected security, so kind of a market you could look at as a market-based measure of where investors think inflation will be in a year. Investors are looking at inflation coming down to two and a half percent, maybe close to 2% a year from now. The market really has bought into this idea that even though inflation rose a bunch last year, it could come down pretty quickly. The market right now probably sees inflation improving faster than the Fed does.
I think part of that’s because of this view that the Fed has over wages, and they’re concerned that it may not come down quite as fast because inflation is high in categories that don’t come down very fast. They’re called stickier prices, they’re slower to come down.

Dave:
Nick, as we head into this new year, one question I’m curious about is how long do you think the Fed wants to keep inflation? How long does it have to stay under 2% for them to adjust policy? To your point about the seventies, what seems to have happened is that they’d see inflation come down to where they thought it was better, then they would cut rates, and it would just bounce right back up.

Nick:
Right.

Dave:
It seems like the Fed this time around is inclined to get it down to a level they find acceptable, below 2%, and then hold it there for a while, to really make sure that we lock in and squeeze out and push out inflation for a while. Do you have any sense of how long that sort of rest period would have to be?

Nick:
It really depends on what’s happening in the economy. When Powell talks about these three categories, goods, shelter, and then core services excluding shelter, that third category, really just think of the labor market. I think what the Fed is beginning to say is, “All right. For so much of 2022, we told you we were very focused on inflation.” I did an interview with Powell in May in New York. At the time he said, “This is not a time for overly nuanced readings of inflation.” Now, his November 30th speech, he was allowing for more nuance in inflation.
I think what they’re doing is they’re basically saying, “Okay, we see that inflation’s coming down but we’re worried about the labor market. The labor market is too strong, it’s too tight. Wage growth is not consistent with 2% inflation.” The answer to your question, how long do they continue to raise rates? How long do they hold rates at that higher level, whether it’s a little bit below 5%, a little bit above 5%, or whether it’s closer to 6%, how long they hold there? It depends on how long it takes for them to see some softness in the labor market.
Once they see that, then I think there will be more comfort. It’s almost insurance that you’ve done enough, because now if the labor market’s softening, you don’t have to worry as much about the stop-go of the 1970s. What Powell has said, including at his last news conference in mid-December, is the Fed wouldn’t cut interest rates until they’re very confident that inflation is on a path back to 2%. There are different ways you could define that. One way you could define that would be you’ve seen now six months of inflation that’s consistent with two or two and a half percent.
They would want to see something like that. We’ve had two months. Powell has said that’s not nearly enough to be confident. I think of the Fed’s policy tightening, interest rate increases here, coming in three phases. Phase one is over. Phase one last year was moving aggressively to get to a place where you could be confident you were restricting growth, where you were removing all the stimulus that had been put into the economy. That meant moving in large 75 basis point or three quarters of a percentage point increases. They dialed down to a 50 basis point increase in December.
We’ll see whether they do 25 or 50 basis points in their meeting in early February. Phase two would be trying to find that peak rate or that terminal rate, the place where you’re going to say, “All right, we think we’ve done enough. We can stop, we can hold it here for a while.” They really don’t want to have to restart rate increases once they stop. They’ll do it if they have to, but it would be quite disruptive perhaps to markets for the Fed. Once the fed stops, everybody’s going to assume the next move will be a cut. They’re going to try to find that resting place. That’s phase two. That’s where we are right now.
Phase three will be once they’ve stopped raising interest rates, when do they cut? Usually, the Fed cuts once the economy’s going into recession, but this time could be different. We haven’t been through a period in 40 years where inflation was this high. Markets right now I think have been primed to expect that the minute the economy looks like it’s really weakening, the Fed will cut a lot. The big surprise I think this year could come when the Fed, even if they do cut, they may not cut as much as they have in the past.
Again, I think part of that has to do with what they’re seeing in the labor market, and whether some of these labor shortages are going to be more persistent. They might actually be comfortable with an unemployment rate that is closer to four and a half or 5%. Right now we’ve been below 4% for the last year or so.

Kathy:
Yeah, they seem to be pretty clear that they’re not changing course for a while, and that they’ll be holding where they are if they don’t raise. With that said, so many of our listeners are trying to figure out what to do for 2023. Do they hold onto their money? Do they get a second job? Do they invest? What’s the outlook for 2023, say, for a real estate investor?

Nick:
It’s difficult. I think that I hear a lot of people asking me, “When are mortgage rates going to get back to something with a 3% or a 4%?” I don’t know, and I don’t know if you can plan on that happening again because this isn’t just something we’re seeing in the United States. Other central banks that had very accommodative monetary policy over the last decade, the European Central Bank had negative interest rates. The Bank of Japan has been trying to hold down long-term 10 year government bonds in Japan near zero.
What happens is as these other jurisdictions, as these other countries normalize their own monetary policy, all of a sudden, the returns in those countries start to look better. If you can earn a positive interest rate in Europe, maybe you don’t have to invest in US risk assets, buy US real estate, buy US treasuries. It’s possible that in the next downturn, we do get back to very low levels. I think you don’t necessarily, I wouldn’t make that my base case.
We don’t know if we’re entering into a different inflation regime here, where if some of the forces that held inflation down over the last 25 years and made central bankers look very smart, those forces included favorable demographics, more working age people coming into the global labor market. You had in the 1990s, a billion and a half people between Eastern Europe and China that came into the labor market and that was the tailwind for inflation. You had globalization, you had these amazing supply chains that allowed people to move production overseas.
Even though that was quite harmful for US manufacturing, American consumers, when you bought shoes and clothes and furniture, you benefited in the form of lower prices. If that’s facing a headwind now, if companies are deciding, “Well, maybe we don’t want to put everything in China because we’re not sure if that’s the best thing to do anymore,” and they began to have multiple suppliers just in case inventory management replacing just in time, that all means inflationary pressures could be higher. You could have more volatility in inflation, and in the business cycle, and in interest rates.
That just makes it even harder to plan for what the future’s going to be like if some of these positive tailwinds start to reverse. Maybe they don’t, and maybe we continue to benefit from a more globalized economy and better demographics. Maybe inflation does come back, and we end up looking back at the period of 21, 22 as sort of this freakish aberration. Maybe that wouldn’t be so bad.

Kathy:
A freakish aberration sounds about right. It’s very funny because just a few years ago, there were headline stories about, “Oh, the robots are going to take everybody’s jobs, but right now we could really use a lot of robots and automation.” We’re starting to see more of that with ordering food and so forth. How positive is that outlook that we might be able to solve some of these issues with more automation?

Nick:
Yeah, it’s a good question. There’s always concerns that you’re going to displace workers when these innovations happen, but banks still employ a lot of people, even though we have ATMs. I think the one occupation that probably was rendered obsolete by automation was elevator operators. You used to have all elevator operators and you don’t anymore.
It’s possible that as you have more of these kiosk ordering, that just allows those businesses to hire people to do other things, stock shelves, help customers, but we’ll see. That’s a big wild card for the economy in the years to come.

Dave:
Nick, you mentioned this low period of inflation over the last 25 years. We’ve also been in a very low interest rate environment for the last 15 years at least. I think everyone knows during the pandemic, it went down, but even during the 2010s, we were in a pretty historically low level of interest rates.
Do you get the sense that the Fed wants to change the baseline interest rate and that the average interest rate, we’re talking about cuts and hikes and all this stuff, but do you think the average interest rate, I don’t even know, I know this is a hard forecast to make, but over the next 10 years will be probably higher than they’ve been since the Great Recession?

Nick:
You do see markets expecting that. The 10 year treasury, if you take the 10 year treasury yield as a proxy for where interest rates might be in 10 years, then yes. Markets do expect higher nominal interest rates. For the Fed, I don’t think they have an objective here that we want to get higher interest rates. When they began to raise interest rates in 2015, you did hear some people saying, “Well, gee, it would be really nice to have, they call it policy space, but basically means we’d like to be able to cut interest rates if there’s a downturn.”
When interest rates are pit near zero, you can’t do that unless you want to have negative interest rates, which are not popular at the Fed, not something that the US is eager to try out anytime soon. Yes, you did hear some of that. I think now the Fed is much more focused on meeting their mandate, which right now is getting inflation down. Even before inflation was a problem, I think their view was if you just deliver on low inflation and maximum employment, then the other things will sort themselves out.
The big worry, of course, before the pandemic hit, was that we would go into a downturn and there wouldn’t be policy space, that fiscal policy wouldn’t engage, that monetary policy would be constrained. There wouldn’t be that much room to cut interest rates. Lo and behold, as I write about in my book, March, 2020 arrives, and you had this massive response. Washington really stepped up and said, “All right, we’re going to throw everything at this.” You do have an episode there where the policy response was really strong.
I think the question now is if we go into a recession, whether it’s the early part of this year, later in the year, or maybe it doesn’t happen until 2024, but what’s that response going to look like? This time the Fed will have a lot more room to cut interest rates than it did when the pandemic hit in March, 2020. Interest rates were a little bit below 2% when the pandemic hit, but what’s going to happen on fiscal policy? Will we see the same kind of generous increase in unemployment insurance benefits, child tax credits, sending checks out to people? Maybe not.
It’s possible Congress is going to say that really, we overdid it last time, and we’re going to kind of hold the purse strings. It’s always hard to predict where these things are going to go. Every recession is different, every shock is different. When you look back at the last couple of downturns, there was always a view when the economy was slowing that, well, we could achieve a soft landing.
You can see in early 2007 Fed officials talking about, “Yeah, we think it’s possible to have a soft landing.” Of course, that didn’t happen. We had a global financial crisis. Predicting these things is always difficult, but that’s kind of how I think we see it right now.

Kathy:
What grade would you give the Fed for the last couple of years?

Nick:
I don’t do grades.

Kathy:
No grades.

Nick:
I try to maintain objectivity as best I can, and it’s not easy, but trying to form opinions, I’ll leave the grading to other people.

Kathy:
Well, you got to get that Powell interview next time, right?

Dave:
Yeah, exactly. Jay’s got to pick up the phone.

Kathy:
Yeah.

Dave:
Well, Nick, thank you so much for joining us. You are a wealth of knowledge. We really appreciate you joining us. If people want to learn more about your research and reporting, or connect with you, where should they do that?

Nick:
I’m on Twitter, @NickTimiraos, and you can follow all of my writing at the Wall Street Journal.

Dave:
All right. Well, thank you, Nick. We really appreciate it, and hopefully we’ll have you on again to learn about what the Fed’s done over the course of 2023.

Nick:
Thank you, Dave. Thank you, Kathy.

Dave:
What’d you think?

Kathy:
My head’s exploding. I can’t tell if I feel more optimistic or less. What about you?

Dave:
Yeah. I don’t know about optimism or pessimism, but it helps me understand what’s going on a little bit more. When he was breaking down the different buckets of inflation, and why they care about service inflation because it’s stickier, that actually makes a little bit more sense. Sometimes, at least over the last couple months, you see the CPI starting to go down. You see these things that point to continuing to go down.
You’re like, “Why are they still raising rates?” I’m not sure if I agree, I’m not a economist and don’t have the forecasters they have, so I don’t know what’s right at this point, but at least I can make a little bit more sense of their thinking about inflation.

Kathy:
Yeah. The part I still can’t make sense of is why they were still stimulating the housing market this year, early this year with buying mortgage backed securities, that being the second bucket, that clearly, clearly the housing market was already stimulated.

Dave:
That’s a good point.

Kathy:
Yeah, he’s not going to grade them. I won’t share my grade, but it is disappointing. People who bought this year or trying to sell this year are going to be hurt by that.

Dave:
Yeah. That is really interesting, because I can understand when he’s saying that they thought, oh, it was transitory because of a supply shock. That all makes sense, but there’s a difference between going to neutral and stimulating. It seems like if you thought inflation was transitory, you could at least just go to neutral and see how things play out. They still had their foot on the gas for a really, really long time.

Kathy:
Yeah.

Dave:
You could probably guess where Kathy and I grade things. I do think that it is encouraging. One thing I really liked tearing was that they do look at some private sector data. One thing that my fellow housing market nerds complain about and talk about a lot is how that lag he was talking about in shelter inflation, and how it doesn’t show up in government data for six to 12 months.
It is encouraging to hear that at least the people are making these decisions are looking at some of the data you and I look at, and can see that rent, not only is it not going up 7% a year like they say, it’s actually been falling since August.

Kathy:
Yeah. Hopefully they do pay attention to that.

Dave:
Yeah. Well, do you have any guesses what will happen in 2023?

Kathy:
I kind of like to call 2023 Tuesday. 2020 was Saturday and it was a little bit scary at first to go to the party, but then it took off. Then the party raged through Sunday. Then Monday is like, oh, not feeling so good. That would be 2022 is Monday. It’s like party’s over, and you’re not feeling great.
Then next year just kind of feels like Tuesday, where I do believe things will kind of stabilize. It’s like, okay, everybody pick yourself up. It’s just back to work, and hopefully a little bit closer to what 2019 felt like.

Dave:
Yeah. Yeah, that makes sense. I think we’re going to see inflation moderate in a significant way, but per Nick’s comments, we’re probably, that doesn’t mean the fed’s going to start stop raising interest rates right away or start cutting interest rates. As we’ve discussed on this show many times, the key to the housing market reaching some level of stability and predictability is mortgage rates to moderate.
Until the Fed really charts a fresh course on interest rates, I think that’s going to be hard to come by, and maybe at best by the end of 2023, but maybe more likely the beginning of 2024 at this point.

Kathy:
Yeah, listening to my gut, it would be that they’re going to slow down the rate hikes, but what they’re saying is not that. It’s like, are they bluffing? All I know is like listen to what they say because they’ve been pretty serious this year. They haven’t budged from their plans. You got to assume that they’re going to keep rates high and maybe even keep hiking. My gut says that they’ll slow it down.

Dave:
You’re not alone in that. I think a lot of Wall Street is betting that they’re bluffing, that they just don’t want people to start reinvesting and stuff anytime soon. They have to keep signaling that they’re going to keep raising rates. Only time will tell though. That was fascinating. I learned a lot. Hopefully all of you learned a lot. Now as you hear new inflation reports come out, new reports from the Fed, you have a better understanding of what exactly is going on.
Thank you all so much for listening. We will see you next time for On The Market. On The Market is created by me, Dave Meyer, and Caitlin Bennett, produced by Caitlin Bennett, editing by Joel Esparza and Onyx Media, researched by Puja Gendal, and a big 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.

Matt:
This is the Bigger Pockets podcast show number 711.

Andrew:
I feel like we’re going to see opportunities we haven’t seen in 10 years. When I look back at 2012, 2013 and 2014, my only regret is I didn’t buy more. I didn’t have the capability. My mom wrote my first check as a syndicator and then it took a long time to get everybody else to join in. So I’m looking at this now as this is coming up, probably starting mid 2023 is going to be the time to scoop up deals that otherwise were unobtainable for the last five, six, seven years. And for those listening who the last three years have been frustrating because you can’t get in the market because there’s no deals out there, the deals are coming. And then also, not to be morbid, but you’re going to have a lot less competition.

Matt:
Welcome everybody to the Bigger Pockets podcast. My name is Matt Faircloth and I am the co-host of the Bigger Pockets podcast. And I want to bring in one of my besties, one of my friends, the host of the Bigger Pockets podcast today. Not really the host, but you and I stole the microphone didn’t we Andrew? We stole the mic and we are now running the Bigger Pockets podcast. Who knows what’s going to come out of our mouths today, right?

Andrew:
Yeah. David went off to Mexico and left his link live and you and I are going to jump in and see what we can do.

Matt:
Oh, what could go wrong? It’s great. But quick Andrew, tell me how you are today.

Andrew:
I am good. I am staying positive and testing negative.

Matt:
Can I steal that?

Andrew:
Yeah, give me credit the first time and the rest of the time it’s yours.

Matt:
Okay, cool. If we’re going to be stealing the microphone, do you promise me you’ll have lots of awesome Andrew Kushman analogies and cool straight faced humors and David Greene analogies as well we can use throughout the show?

Andrew:
Yeah, I’ll do my best. I’m a little nervous filling in for the Green and I forgot to put on my tank top so I’ll channel him as best as I can.

Matt:
No way I’m filling those shoes but I’m happy to hold his microphone for him just for a second here.

Andrew:
Sounds like a good plan.

Matt:
Andrew, before we get going, there is an awesome thing that happens at the beginning of every Bigger Pockets podcast. You and I know because you’ve probably listened to 710 episodes of it, you and I both. So let us get going with the quick tip.

Andrew:
Quick tip. I’m actually going to go rogue on you and give you two, right? Since I’m not wearing my tank top, I’ll have to make up for it.

Matt:
Hey, it’s our microphone today man. Give it.

Andrew:
So first of all, we’re going to reference an article that Paul Moore wrote for Bigger Pockets on the blog. If you’re listening and you haven’t read that article, go back to November 15th and read it. It’s going to give a lot more background on what we’re talking about and then lots of other important stuff for today’s market. Second of all, some of the stuff we’re going to talk about might sound a bit gloomy, but that’s really not the case. That’s the farthest thing from the truth. We’re going to talk about risks and how the markets are shifting and is our pricing going down? That’s all stuff that should be exciting for you if you’re getting started in 2023 or looking to scale your business. So now is the time to be greedy when others are fearful. So don’t let what we’re talking about scare you off. Use it to get excited about diving into all the resources that Bigger Pockets has so that you can learn and scale and grow your business.

Matt:
Double the tip. There it is. Thank you so much Andrew. I appreciate that man. Let’s get into the market man. Let’s talk about the current market status. What do you think, you want to go?

Andrew:
Yeah, let’s do it. There’s lots to talk about.

Matt:
I’m in, following you.

Andrew:
All right, Matt, welcome to 2023. We are in a rapidly changing market. It’s funny, Paul Moore put out a great article back in November addressing some things that we’re seeing now. What are your thoughts on what’s going on out there?

Matt:
I didn’t get a chance to read the article yet and you and I are both friends with Paul Moore and I’ve heard a lot of great things about the article. I’ve actually seen some people referencing it. And yes, absolutely things are changing it seems like daily as well. So what did you get out of the article? Tell me about it.

Andrew:
There’s a lot in there. We could spend a whole hour on it, but I’d say the most important if I were to condense it into one sentence is that interest rates are higher than cap rates. And for those who are listening, it’s like okay, well so what? That’s a big problem, and that’s a huge problem. We haven’t seen that in the last 10 years and maybe even for multiple decades. The reason that’s a problem is it creates negative leverage. So what it means is if you’re buying, let’s say a million dollar 10 unit property and it produces a net operating income of $50,000 a year, that’s a 5% cap rate, a 5% yield, and you go borrow money at 6% in order to do that, you are losing money by borrowing to obtain that asset.
So let’s pretend you bought it all cash and you’re getting a 5% yield and then let’s pretend, to make it simple, you get 100% financing instead at 6%. Your annual debt service is 60,000, but your yield is 50,000. You have a built-in operating loss just on your debt of $10,000 a year. That’s a problem. If interest rates are higher than cap rates, it screws up the market big time. And just for the listeners who are like, whoa, hold on, slow down Andrew. NOI cap rates, you’re tossing these terms around. Cap rate stands for capitalization rate. It is basically the unleveraged yield on a property. So I mentioned buying it all cash. A cap rate is you buy a million dollar property, it produces a $50,000 net operating income. 50,000 divided by a million is 5%, the cap rate is 5%. Net operating income is basically kind of just what it sounds like. It’s your gross revenue minus your operating expenses. And then that is what is left over to pay the debt. And so when that NOI is less than the debt, that creates a huge problem.
So how does this resolve? There’s a handful of things that can resolve it. Number one, interest rates would have to go back down. They peaked a couple of months ago at four and a quarter and then dropped 80 basis points. Who knows where they’re going to go now? I left my crystal ball in my pocket and it went through the wash so it’s permanently foggy. I’m not going to pretend that I can predict where interest rates are going to go. So interest rates could go back down. NOI could go up. If you can increase rent and increase that NOI, then you can overcome to some degree the fact that the cost of debt is higher, or prices could come down. My personal thought, Matt, is that it’s going to be a combination of all three of those things, but I would like to toss it to you and see where you think we’re headed here in 2023.

Matt:
I also put my crystal ball in the shop and I can’t seem to get it out. They won’t give it back to me. So what the future will hold, I don’t know, but I’ll tell you what investors like you and I can control. We can control an OI. We can control pushing revenue on properties. That’s one factor that’s in our favor. Okay, what I know is going to happen, I don’t know, but what I think is probably something different. So what I think is going to happen is something like… Rates have gone up drastically, a lot more than a lot of people thought. Are they going to go up at that rate of acceleration again? I don’t think so. I think we maybe are getting towards the top of the ceiling. I don’t think they’re going to come back down. And so I think that if rates stay up like this Andrew, it’s going to force cap rates to go up a little bit.
And so cap rates are going to come up, rates maybe creep down a little bit but it’s still going to be in the five, six, seven range, somewhere in there to borrow money I think for the foreseeable future. I just think that is what it is. So that’s what I predict is going to happen. And I think that on both sides, the buyers and sellers and investors, because you and I both work a lot with investors, limited partner investors, all three are going to have to get more realistic and everybody’s going to have to take a deep breath and settle down and realize that this is no longer a seller puts a for sale sign on the front of their property and they get 10 bids.
This is likely not going to be the future of what we’re going into. I think that sellers are going to have to get realistic, buyers are going to get a little more strength in their voice in what they can command from a seller, and thirdly Andrew, I think investors are going to learn to get more patient. I can tell you that the scenario you gave on cap rates and interest rates is all valid. But what the truth of the matter is people likely don’t buy a property either free and clear or 100% financed. What they do is they buy it with some sort of an equity check that gets left in there. And if cap rates are lower than interest rates, as you said, there’s no money left in the property and most importantly, there’s no money left to go to the equity side, whether that’s LP investors or folks writing a check out of their own pocket to go to the property.
So the property’s either not going to cash flow very much, talking like low single digit rates of return either for investors or for the owner direct. And that means that the equity’s going to need to be a little more patient if you’re buying a big value add property that is going to cash for a little bit in the beginning and then make more money in the long term. I believe the world of producing a six to 7% guaranteed aka preferred rate of return for investors right under the gate when you buy a property may go away all completely or it may change drastically. Because if you’re going to buy a property today, likely it’s not going to produce any cash flow at all if a little bit, but certainly not enough to pay a six or 7% preferred return.

Andrew:
Yeah, you’re absolutely right. All these changes and shifts are affecting different market participants in different ways. So like sellers that I talked to, or I mean, Matt, you and I are both in different multi-family masterminds and we either know or have heard stories of sellers who they’re having trouble making the mortgage payments because they had an adjustable rate loan that has gone from three and a half to seven and a half. And yes, some people have caps on it, meaning it hits a certain level and it doesn’t go up anymore. But lots of others don’t, and they have watched their mortgage payments double or even two and a half sometimes triple in the last six months, and that’s creating financial stress for sellers. Also on the flip side, sellers who aren’t having trouble paying the mortgage or have fixed rate debt, it’s slowing volume down because they’re just sitting back going, well, I’m not going to sell in this market. I want to get the price I got in January of 2022 and no one’s offering me that so I’m not going to sell my property.
It’s kind of like the kid at the playground who’s just like, that’s it, I’m taking my toys and I’m leaving. They’re out of the game. They’re going to sit there and wait and they’re not motivated to sell because operations are still really good. That’s another kind of weird aspect of this market is the distress out there is financial, it’s not operations. Now some select sub-sectors in some markets could see operational distress going forward, especially if we get into a real recession with real job losses. But at the beginning of 2023, the distress is being caused by the financial markets, not operations. And as an investor evaluating potential acquisitions, that’s a key thing to look into.
Why is the property distressed? Is it because the market here is terrible or is it because the owner made a mistake, put the wrong kind of debt on there and now they’ve got to get out of this and it’s an opportunity for you as a new investor to get started by picking up a killer property in a killer location that otherwise would not have traded if the debt markets hadn’t shifted? So if you can’t tell, this stuff is getting me excited because I feel like we’re going to see opportunities we haven’t seen in 10 years. When I look back at 2012, 2013 and 2014, my only regret is I didn’t buy more. I didn’t have the capability. My mom wrote my first check as a syndicator and then it took a long time to get everybody else to join in. So I’m looking at this now as this is coming up, probably starting mid 2023 is going to be the time to scoop up deals that otherwise were unobtainable for the last five, six, seven years.
And for those listening who the last three years have been frustrating because you can’t get in the market because there’s no deals out there, the deals are coming. And then also, not to be morbid, but you’re going to have a lot less competition. I already know of sponsors who are closing up shop because their deals have imploded and the equity is gone and they’re out of the business. The beauty of starting out now is you don’t have that baggage. You can come in at a fresh bottom, low point in the cycle, take advantage of these opportunities, not have 27 people bidding against you and build the foundation of a great business. Wealth is made in the downturns. In five to seven years from now, anyone who accumulates properties the next two or three years is probably going to be sitting pretty.

Matt:
Love it. It’s a great time to get started. It’s a great time to be a new investor in this market and it’s a great time to be established as well if you made the right decisions coming into this place.

Andrew:
So looking forward, Matt, I’m curious as to what you’re seeing this year. To me, I think the Feds, they’re going to at least pause, right? And I think just doing that will open up the market a little bit because right now when the Fed’s raising rates 75 basis points every other month, no one knows how to underwrite. What’s my exit cap going to be? What’s my interest rate going to be? So at least when it pauses, everyone can kind of take a breath and say, okay, what are the rules now? How do I underwrite? I think that’s going to loosen up the market. Two, we already talked about. There’s going to be motivated sellers, people who can’t make their mortgage payments, unfortunately. So that’s going to bring some deals to the table. And by the way, those deals aren’t going to go to the highest bidder, they’re going to go to the buyer or the investor who can offer the most surety of clothes.
So again, that’s something else we’re looking for is not paying the highest price but being the most savvy buyer, that’s going to get deals going forward. And that’s another thing that’s been really tough lately. So we talked about competition’s going to drop, there’s going to be more motivated sellers because people can’t make the payments. We’re unfortunately already seeing that. And then my guess is going to be we will probably see pricing off anywhere from 15 to 30% from the peak, and I would call the peak maybe January of 2022.
So I’ll give you a perfect example. We put in an offer on a property this week that when we first started talking to the seller at the beginning of 2022, they wanted 220 a unit and at the beginning of 2023, we’re now talking 165 a unit. The property is still running really well and it’s in a great market. However, the pricing expectations have come down and could they come down a little bit more? Yes they could. Can any of us perfectly time the bottom? No we can’t. So the key is to go buy properties that are in great locations and cashflow well so that five to seven years from now we look like stinking geniuses. So that’s kind of my thought and my plan for 2023. Matt, you disagree or what would you add to that?

Matt:
Well, I’m not sure if I want to look like a stinking genius. I mean, that’s just not-

Andrew:
Maybe a regular genius.

Matt:
Yeah, just a regular. Can I be a good smelling genius? You can be the stinking genius. Is that okay? Your [inaudible 00:16:02].

Andrew:
All right, fine.

Matt:
Yeah. Okay good. So I agree. I don’t know if I agree with the 30% and that’s only because I think that a lot of properties out there that are legacy holds that have been out there forever, a lot of multi-families been held for generations by people. So I think that those that bought properties in the last say three to five years are going to be in a position to need to sell because of debt that’s graduating or debt that’s gone up or because they just can’t refinance anymore or whatever it may be. But I don’t think that it’s going to be blood in the streets like it was in 2007, 2008. I don’t correlate the two things. I think what you’re going to have is sellers are going to need to get more realistic with their numbers.
And I think that for the longest time, Andrew, it’s been this seller’s market. That’s it. And when you go to buy a multifamily property, it’s like you’re going to prom. You’ve got to get your best suit on, you got to do your hair and everything. You’ve got to wave your hands in the air to get the attention and everything like that, and it’s you and 17 of your best friends bidding on a multifamily property. Some buyers may get a little skittish and go away, but I think that the buyer conversation between buyer and seller is going to become more give and take. We’re looking at a property right now. Believe it or not, we’re actually looking to buy a multi-family property right now, Andrew. We’re looking at a deal and for the first time that I’ve ever seen it in the last five years anyway, there’s no concept called money hard day one. I’ll explain what that is.

Andrew:
Oh, beautiful thing that’s going away.

Matt:
It is, it’s going away and that never should have been a thing. Again, you had said before, you get two things in real estate when you’re making an offer, you get price or you get terms. Money hard day one is a term that gets negotiated in the purchase of real estate. What it means is if I’m buying a property and it’s a million dollar 10 unit multi-family property or something like that, I may lay down, say 50K is my earnest money deposit and they’re going to go get a mortgage beyond that or whatever. So I’m going to have to bring more to closing, but that earnest money deposit is something that goes along with a contract that shows I’m serious and here’s my money and if I do something wrong that’s outside of this contract, the seller may have the right under certain terms to claim that money. Likely through a court action, but they may have the right to claim that money.
And this happens in small real estate transactions and buying a three bedroom, two bath, you might write a check for $5,000 as your earnest money deposit or something like that. Bigger multi-family properties have bigger numbers that go for earnest money deposit. What money hard day one means is that a certain percent of that money, and sometimes in more aggressive markets all of it, is nonrefundable the day you sign the contract. Here’s the problem with that, Andrew. You don’t know what you’re getting yourself into. And that’s why there’s a concept called due diligence. Like Andrew’s got a 10 unit apartment building or a 30 unit or a 300 unit for sale, the buyer needs to have time to get their head around this thing to make sure that what I’m buying is what this seller told me it is, meaning seller says, yeah, my roofs are in good shape, all my sewer lines are in good shape, all my tenants are paying their rent and there’s only this much vacancy or whatever it is.
All the factors that the seller states, the buyer should have a period of time to go and validate those things. It’s called due diligence and the buyer should have the right to confirm. What money hard day one means is that, say it’s a $50,000 deposit, 10k of that or more is, oh, you found that my sewer lines were crushed or that my roof was leaking or that my vacancies was higher than I said it was. So sorry, I get to keep that money hard. And it was there in more aggressive seller markets to hold that seller and buyer to closing and to make the transaction happen. But as we’re normaling out the playing field, it was never a fair thing to begin with. Do you agree Andrew? It never should have been in the contract to begin with, but it’s been the way the game was played so we had to do it begrudgingly. But now I believe it’s going to go away personally.

Andrew:
It’s starting to, and for everybody listening, rejoice that the risk of hard money should hopefully not be something that you have to worry about anymore. And I love all of what you said, Matt. And something else I would add for those who are starting to evaluate properties, and this is again, not something we had to worry about as much in the previous 10 years, but look at your debt service coverage ratio. And Matt, I’m going to push back on you just a little because I think this, unless rates change dramatically, I think this is one of the things that’s going to lead to probably a temporary decline in prices is that when the cost of debt goes from let’s say three and a half to six or six and a half percent, the income coming off that property is no longer there to make the mortgage payment.
And so the lender’s going to say, well at 3%, at three and a half percent, I could have given you a million dollar loan, but at six and a half percent I can only give you 550,000. Sorry. It is what it is. And so then as a buyer, you go to the seller and say, well look, my lenders only going to give me 550. I’m only going to offer you 700 instead of a million. So I think that is going to be a piece of what’s going to lead to some decline in select properties in markets. Again, people who have had generational properties with low leverage, they’re not going to accept that. They’re just going to hold on. But there’s going to be some motivated people that have to sell.
And speaking of generational properties, Matt, I want everyone listening, keep in mind, this is a long game. It’s been a really, really popular business model, especially with syndicators for the last five years to do the whole two to three year buy it, do a quick fix up, flip it out and sell it in a short period of time, two to three years. That business model isn’t dead, but I’d say it’s going into hibernation for the short term. That is not going to be anywhere near as easy as it was in a rapidly rising market. When we’re looking at properties now, we’re looking at five, seven, 10 year hold times. And I would add on top of that, if you’re buying for your own portfolio and you’re going to hold for 15 or 20 years, what’s happening today, you’re not even going to remember it when you get 15 to 20 years down the road.
That property is going to be worth a whole lot more than it is today and you’re going to be glad that you bought it, especially if you buy the right property in the right location, good demographics, some of the things we’ve talked about in previous episodes. And then Matt, just to clarify, you’re talking about hard money. You’re referring to the non-refundable deposits, right? So the minute you put that into escrow, even if you find out that the seller is lying to you, the roof’s bad and half the place is vacant, they get to keep your deposit.

Matt:
They can try to, yeah. And remember, it’s a court action. The check actually doesn’t get written to them. It goes to a third party escrow and that escrow company can’t release it without both parties permissions and if both parties don’t get permission, then it’s got to go through court action. So it’s not as simple as it sounds, but yes, in the contract it will say that that money becomes the property of the seller if for any reason the buyer decides that they don’t want to do the deal. But just I think that things sway back towards the middle and I think that that’s what I believe the pendulum is going to swing towards. And you’re right about properties being debt yield restricted where you used to be able to borrow 80% loan to value for a multifamily. You did, even 75, 80% loan to value if you wanted to.
Now the best you’re going to get because rates are higher is 55, 60, 65% loan to value. That means you’ve got to raise more equity to go into your deal and that means you can borrow less, which is maybe a little conservative way to look at it, but if your equity investors are looking for a six or 7% rate of return on a deal that’s selling at a 4.5% capitalization rate, guess what? You can’t give them that rate of return. It’s just that the money, just the numbers aren’t there to pay a rate of return on properties. We’ve looked at deals that are producing like one to 2% cash on cash return for us and me and the investors have to split that, right? We have to carve that up from there. There’s just not enough yield to pay investors a reasonable rate of return. So I think that, as I said before, that everybody’s got to get more reasonable, buyers, sellers and our investors.

Andrew:
All right. So Matt, you mentioned you’re out making offers, you’re in the thick of it, you’re not on the sidelines. What are you doing that the rest of us and that everybody listening can duplicate or learn from or do to prepare to either start from scratch or start scaling in 2023?

Matt:
Well, the worst thing that somebody could do right now, Andrew, is sit on their hands and wait for things to change, right?

Andrew:
Yeah, agreed.

Matt:
I have young kids as you do and I read them the Oh, the Places You’ll Go! sometimes. And that book talks about a place called the waiting place where you’re waiting on a phone to ring, waiting on a train to come, waiting on this, waiting on that. Life continues to pass you by if you wait. Those that want to make things happen are going to get ahead of the curve and get out there and maintain relationships with brokers. Don’t just wait for prices to drop before you start calling brokers. What you can do now is to initiate, build or even just maintain broker relationships. Call brokers up. Hey, I’m Joe, I’m Jane, I’m looking to buy and I’m waiting on the right deal and this is what I’m looking for. Whatever it is.
Obviously don’t tell me you’re waiting on the market to crash before you buy a deal. They’re not going to want to hear that. But you can use the time now to build and deepen relationships with brokers and also with investors. Stay in communication with your investors. Your investors are going to forget about you if you don’t communicate with them on a regular basis. Even if you don’t have a deal, that’s okay. Call them, check in, call them and wish them a happy holidays. Send them a holiday card, send them a newsletter as we do. Stay in regular communication with people so they know that you’re there and that when a good deal comes up from that broker that you’ve maintained or built a relationship with, you’ve got an investor pool that’s there to hop in. The last thing you want to do is to have to rebuild your business.
When the great deal that Andrew and I are talking about shows up in three or four months, you don’t have to rebuild or restart your airplane engine to get it off the ground again. You want to be rip roaring and ready to go with investors lined up with debt that you’ve been maintaining relationship with and position and with brokers that are willing to give you the first look at those great deals when they show up.

Andrew:
Yeah. And I mean, that’s a whole other episode that we could spend diving into that. And for everyone listening, I want to reiterate what Matt said about not sit around and waiting. Waiting and sitting on the fence does nothing for you but hurt your crotch. I mean, now is the time to streamline your systems, build your team, add investors, and that’s what we are doing in our business. It’s slow right now. So we’re going back through, we’re cleaning up simple things like cleaning up our file systems so our team spends less time going, wait, wait, where’d that document go? We’re getting ready to hire another person, add to the team. Like wait, you’re hiring in a downturn? Yes, now is the time to find the best people and get them trained so when the deals come, you’re ready to jump on them like Matt said. And we’re still out there looking at a lot of deals and we’re talking with new lenders, we’re looking at new markets and we’re evaluating new… Well, not new but creative or different ways to buy properties, right?
BRRRR is coming back. When I started this in 2012 or 2011, we’d buy properties all cash, we’d get them running great and then we’d refinance it and give investors 100% of their money back. The last five years, we’re lucky to give investors 25% of their money back at refinance because we had to pay so much in the beginning. In this market, one way to eliminate interest rate risk is to go find a 10 unit for 500,000, raise 700,000, buy it all cash, fix it up, and then two or three years from now when the debt markets are hopefully improved, refinance it, give your investors all their money back and now you’ve got an asset that you can just sit there in cash flow with basically no risk. Those kind of opportunities are coming back.
We’re also looking at seller financing. That’s coming back. Assumptions are coming back, longer term holds. There’s no such thing as a bad market, just bad strategies. So think beyond the quick three year I’m going to buy this, fix it and sell it. Look at alternate ways to buy, alternate ways to finance and longer hold times and that can make for great deals to be found. And that’s kind of the quick version of what we’re doing in 2023.

Matt:
I love that. We’re hiring too and we are cautiously making bids on deals that makes sense to us. And I’m kind of having to straight face offer somebody 80% of what they’re asking and it is what it is. And I find that properties are still in the market. There’s one that the guy was asking 125,000 a unit on and he laughed at us when we offered them 115, and then they came back to us, they said, “Hey, is that 115 number still good?” And we looked at it and guess what? Rates had gone up a little bit since then. So we’re now talking to a manager at 105. And so there are still deals to be made, there are still conversations to be had in that. And one more thing that we’re doing on top of everything Andrew said, we’re doing a lot of that as well and I love the BRRRR is back stuff. That’s awesome.
The one thing we’re doing as well, and I know we’re talking multi-family today Andrew, but guess what? There are actually other real estate properties you can buy. They’re, believe it or not, Andrew, not multi-family apartment buildings.

Andrew:
That’s blasphemy.

Matt:
There are other kinds of real estate. So we’re looking at diversification for us and our investors in other asset classes such as Flex Industrial. Believe it or not, we’re looking at hotels. And not like swanky, boujee, boutique hotels. I’m talking about a courtyard Marriott like I’m standing in right now. Those kinds of things. We’re looking at that. We’re looking at unanchored retail. Not that we want to lead multi-family. Multi-family is where my heart and soul is, but I also want to be able to offer things to our investors that make fiscal sense. And while I’m waiting a bit for multi-family to start making more fiscal sense, we’re going to keep making bids, but we’re also going to be looking at other asset classes to diversify a bit so that our investors can diversify so that we can diversify too.

Andrew:
Yeah, that makes a lot of sense and I see a lot of operators doing that. And especially if you can kind of dovetail things together. A lot of times self storage right next to a multi-family, there’s a lot of cross pollination there that can work really well. And we’ve actually acquired apartment complexes that had some self-storage onsite and that’s a whole other revenue stream. And so if you’ve got that self-storage skill or tool in your tool belt, there’s ways to bring those two things together and like you said Matt, diversify a bit.

Matt:
Absolutely. Absolutely. And not that multi-family is not the core in that, but it doesn’t have to be the end, it doesn’t have to be the everything.

Andrew:
All right Matt, well that was a fun market discussion. I always love diving into that, especially with you. So I want to throw out a couple of my goals for 2023 and then I’d love to hear what yours are and then maybe we can see if we can help out some listeners and talk about some of theirs. So I know what I’m looking to do in 2023 is hopefully make four to eight significant acquisitions. That’s market dependent, they have to be great deals. But assuming the market shifts like we talked about, we’re looking to pick up hopefully four to eight.
We’re also looking to add a team member or two because if we add that many deals, we’re going to need more bandwidth to do a good job asset managing them. And then we’re looking to actually expand markets. Right now we’re in Georgia in North Florida and whenever people ask me where do you invest? I say Georgia, North Florida in the Carolinas, but we currently don’t own anything in the Carolinas. We’ve sold everything we had in Texas a couple years ago. We’re going to refocus that energy on the Carolinas and try to expand into markets and put some of the principles that we talked about into play and execute on those. So curious, Matt, are you similar or what are you up to?

Matt:
Yeah. Well, just as you said, we’re hiring. We’re going to hire two key folks this year. We’re going to be hiring a marketing director whose job is to get us eyeballs and get us attention and do super creative stuff and whatnot on online socials and things like that. Also, we are lucky enough to own a few multi-family properties in North Carolina so we want to expand there as you do as well. So come on and be my neighbor, it’s great. The water’s fine, come on in. We also want to hire an asset manager in North Carolina that can be regionally focused in the state that can go to the properties we have on a regular basis and make sure business plans being upheld in that. It’s great to have acquisition and capital goals and marketing goals, but above all else we want to take what we have performing and keep it performing and tighten up.
And as the market changes and things like that, it becomes more important to make sure the boats you have are floating properly. And so we are installing KPI programs and performance metrics and things like that into what we own already, which is already thousands of units of multi-family. But we’re going to keep that running well and it’s important whether you own thousands of units of multi-family or you own one property, it is very important to keep what you have running well. Too many times people focus on acquisitions goals and you and I just talked about that too, so we’re just in the same boat. But you should also talk about setting goals about performance of what you currently have. And so we’re going to be setting performance metrics and goals for our current portfolio just to keep it running healthy because that’s really what matters the most is what you already own, not what you’re going to buy but what you own already.

Andrew:
You know what? Man, that’s my mantra. I actually forgot to mention that. So that’s what we’re doing while things are slow. We are getting better at implementing EOS, we’re becoming better asset managers, we’re putting those systems in place, we’re doing additional training for everybody involved and as you said, making sure that the boats you already have are in really, really good shape.

Matt:
EOS, traction, quick plug. You and I are both raving fans of that book and it’s important for small and large sized businesses as well. And we’ll throw one more thing out about goals up by the way Andrew. If someone just happens to be listening to this episode and it’s not January and it’s like, oh okay, it’s not New Years so I don’t have to set goals, guess what? There’s actually not a rule. There’s not a law that says that you can only set goals on January 1st. You’re actually allowed to set a goal anytime. You can set a goal on December 31st, December 1st, or on your birthday, whatever it is. Anytime is a good time to make a goal or to set a hurdle for yourself. Go pick up Brandon Turner’s 90-day intention journal and use tools like that to help you meet that goal over a 90-day program whenever you decide you want to plant that flag and make it. You don’t have to say, oh, I can’t set a goal today because it’s not New Years yet. You don’t have to do that.

Andrew:
I thought once you hit February 2nd and it was Groundhog Day, you were doomed to just repeat that year for the rest of the year and then you couldn’t set any new goals.

Matt:
Right. If you haven’t taken [inaudible 00:36:06] on your goals by February 2nd by Groundhog’s Day, then you’ve got to be like Bill Murray and live that day over and over again. That’s the rule, right? So Andrew, listen, talking about mine and your goals, we need to help people achieve what they’re looking to manifest for their goals as well. So lots of folks have pumped in tons of questions on multifamily on the awesome Bigger Pockets forum. Quick plug by the way, quick tip, put questions in the Bigger Pockets forum because you never know where those questions are going to go, including right here on the Bigger Pockets podcast. So there are awesome questions here on the Bigger Pockets forums that I’d like to take a minute and go through with you. Are you down? Are you ready?

Andrew:
Oh, I love answering questions. Let’s do it.

Matt:
All right, let’s speed round some of these. Ready? Let’s go.

Andrew:
I’m going to pull a couple of questions and if you haven’t gone in there and posted questions yourself, please go do that. Let’s see, we’re going to start with this one right here. Question is, how do I confidently assess property class from out of state and how do I align my business strategy to the property class? Quick definition, when somebody is talking about property class, they’re often referring to A, B, C, and D. A is kind of the nice new shiny stuff. B is kind of more your working class people who can either rent or buy but are choosing to rent. C tends to be someone who might be a renter for life. They can’t afford to do anything but rent. They’re employed, they have good jobs, but they’re kind of in that workforce housing. And then D is often kind of referred to as if you’re going to be collecting rent in person, you might want to pack heat to do that. So it tends to be kind of the higher crime, much rougher, much older properties.
So that’s what they’re asking about when they talk about class. How do you assess that from out of state and how do you align your business strategy with it? Well, the first thing is go read David Greene’s long distance real estate investing. It is geared towards single family investment businesses. However, the same principles apply to multi-family in terms of how to operate a long distance real estate business. Building teams, selecting markets, doing due diligence, all of those kind of things. Now, when I am looking at a new market or even a sub market that I haven’t owned in, there’s a long checklist of things that I go through to do this very thing, to figure out, well, what class property is it and what’s the class of the neighborhood?
So one of the main things that I check is the median income, right? Higher median income is going to lend itself to more A and B class properties. Lower median income is going to be more C or possibly D. And you might ask, well Andrew, what’s the cutoff? That’s going to vary depending on what state you’re in. Some parts of California, $120,000 a year is poverty level. In Georgia, that’s an A class neighborhood. So you need to look at all the areas around your property, get a sense of what the spectrum is, and if you’re on the high end of the spectrum, you’re probably A, B. If you’re on the low end of the spectrum, you’re probably C and D. Also, look at year of construction. If it’s built in 2000 or newer, it’s probably B or A. If it’s built 1980 to 2000, that’s probably a solid B. If it’s 1960 to 1980, you’re probably looking at a C class property and if it’s older than that, it could be C or D depending on the neighborhood.
Look at relative rent levels. We talked about earlier, if you’re looking at a suburb of Atlanta, for example, and the median income ranges from 40,000 to 75,000, you’re going to see a similar pattern with rent. If you look at all of the apartments in that market, you’ll see, well, some two bedrooms are renting for 800 and other two bedrooms are renting for 1600 or 1800. Well, odds are the ones at the bottom of that spectrum that are renting for 800, that’s probably your class C property. And then if you look the property up, oh, it’s built in 1975, oh, okay, that’s another data point, probably a C class property. Then you’re going to look at the amenities. If it doesn’t have a pool, if it doesn’t have a playground, if it doesn’t have a dog park, that’s probably C or B because most A class properties are going to have fitness centers and grilling stations and pools and are going to be highly amenitized. So the more amenities, the more likely it’s class A. The less amenities, you’re getting down the spectrum, B, C, possibly D.
I would also evaluate the neighbors. So if you look at your property and then you jump into Google Street View and you take the yellow man and drive around and you see brand new retail or a nice new Sprouts or Whole Foods or Kroger, you’re probably in a B or an A neighborhood. If you see old kind of rundown strip mall centers with a cigar shop and a tattoo parlor and eyebrow threading and all this fun stuff, that’s probably class C. So again, that’s another data point. When you’re trying to figure out is this class A? Is this class B? Is this Class C? One of the frustrating things about it, especially as a new investor, is you can’t turn to page 365 of a book and figure out, oh, here’s what it is. It’s a spectrum. It’s a little bit vague. And so what I’m trying to do is give you the data points that we use to figure that out.
And then finally talk to other property managers and lenders and other people who know that market and they can give you a tremendous amount of insight. The best thing of course is to hop on a plane or get in the car and go drive to that market yourself. It’s amazing what you can gain with the internet in long distance these days. It is so different than it was 10 years ago, but nothing beats being there in person. So if you’re going to invest in a market, make sure you at least get out there once so you have a real good feel of it. So that’s kind of the short version of what I would do. Matt, have you got anything else that you would add on top of that?

Matt:
Andrew, every time that you answer a question before me, I find myself saying, I agree with Andrew because everything you said was so thorough, right? I really agree. I mean, honestly. And I love the end, I’m like, do I have a cigar shop or a tattoo parlor near any of my properties? I may, but what I’ll say on top of all that is that you the listener need to decide which angle of attack you want to get yourself into. There is more money to be made ever, but you’re going to have thick skin to do it is to buy underperforming really, really poorly run D class property where Andrew said you might have to wear a sidearm to go collect rent and turn that into a C or a B class property. Not everyone has the skin for that. Not everyone wants to take the risk, enormous, enormous 10 pounds of risk that it would take to take down a property like that.
So if you do not have the chops and the business plan and the team to do a D to a B or a D to a C conversion, then that’s not the right business plan for you. Everything Andrew said is correct in identifying property classes and determining neighborhoods, but you as the investor then need to figure out which business plan works for you. Do you want to set it and forget it? Maybe make a lot less cash flow, but that could be class A or class B for you. Maybe there’s small little tweaks in the business plan you can do over the years to make the property make more and more money and hold it for a really long period of time. So maybe higher class properties are the right fit for you. It really just has to do with what risk factors you’re willing to take on and the team that you can bring to the table.

Andrew:
Philip Hernandez, welcome to the Bigger Pockets podcast. How are you doing, sir?

Philip:
I’m doing well. I am super stoked to be here. Yeah, thank you so much, Andrew.

Andrew:
You are part of the inaugural group of the Bigger Pockets mentee program.

Philip:
Yes, sir.

Andrew:
And you’re here with a few questions that hopefully we can help out with today. Is that correct?

Philip:
Yeah, that’s right. Yeah, no, super stoked and thank you guys so much for your time. So as I’ve been reaching out to brokers and developing relationships with different brokers in markets that I have a good sense of how things should look, I have had a couple times those same brokers send me deals in smaller cities in MSAs, like tertiary markets with less than 50,000 people. And I don’t have any presence there. I don’t have any connections, I don’t really know anybody there. But when I run the numbers, it works. The deal works. But I’m also like, okay, I have no idea what I don’t know. So what would a deal have to look like for you to invest in a tertiary market where you don’t necessarily have a presence and how would you mitigate the risk of taking an opportunity like that? And yeah, let’s assume everything looks good about it, people are moving there, there’s diverse jobs, the property’s in decent condition. Yeah.

Andrew:
First off, tell me about this market because I want to know where it is. So we could do a whole podcast on this. I’ll try to just hit bullet point, real high level. Number one, I have passed on many opportunities like that because of the challenges of small markets. So keep that in mind. One good asset in property management is where the money is really made and that is one of the biggest challenges that you have in those small markets. Some of these challenges are why those properties look so good on paper because the prices are lower because of the challenges that are inherent with those types of properties in those markets. So not only are you going to have more trouble getting good management, you’re also going to have trouble getting contractors and vendors and staff and all of those kind of things.
But your question wasn’t hey Andrew, what are the problems I’m going to have? It was, how do I fix that? Right? So number one, like I said, in many cases I just pass even if it looks great on paper because sometimes the juice just isn’t worth the squeeze. Second of all, if I am considering doing it, I might say, well who can I partner with that solves these problems? Is there somebody else I can partner with that already has a presence in this market that knows the market, can just move this property into their current portfolio and manage it better than anybody else out there? If you can do that, that can turn a weakness into a tactical advantage. I have seen people do that very thing, go into markets that are fragmented and that they don’t have a presence in, find someone who is just local and knows that market inside and out, partner with them and all of a sudden they’ve got an advantage that just no one else has.
And then another question that I would ask is, how is the current owner managing it? And if they’re doing it well try to copy what they’re doing. If they’re not doing it well go look at all the other properties in town, find the ones that are the most well run, and either try to hire those people, maybe it’s the same management company, or contact the owners and say, hey, can I partner with you? Maybe there’s an opportunity there. That would probably be the biggest thing I would recommend is find some local connection, partner or advantage to help mitigate those risks and then that return might actually have a higher chance of actually coming true.

Matt:
So yet again, everything that Andrew said I agree with. And to expand on that, when my company DeRosa invests in a market… And this is why I wouldn’t do the deal you’re talking about Philip. So the short answer is no, I wouldn’t do that deal because we invest in markets first, and that’s for everything Andrew said. Labor, access to… Everything from the contractor that’s going to turn units over and upgrade them for me to the workforce that’s going to live in the property, access to jobs, those kinds of things, to the property manager themselves. You don’t want them commuting an hour to your property from where they personally live to your property. You want them to live in a reasonable sized metro, that there’s middle income housing for them to live in, that they can come to your property to work for your property as well.
So for those reasons, I wouldn’t do the deal. And above all else, when we invest in markets, it’s market first. And the reason for that is so that I can buy not one, not two, three properties, three multi-families in a market that we can expand. I mean, our goal is to get to at least a thousand units in every market. And that doesn’t have to be your goal, but you should never look at a deal and say, I want to do that one deal in this market. If you can’t see yourself doing at least another 10 deals in that market, if there’s just not the inventory to do 10 more deals, or if you’re not sure if you believe in the market that much to invest 10 more times in the market, I wouldn’t do the deal.
And what investing 10 times in that market does for you is it accesses everything that Andrew talked about. You get the best access to labor, you can really sway the market that way. You can really control the market a bit and direct what rents and amenities should look like, what really awesome housing should look like in that market if you’re a large owner. If you’re not willing to do that, then you’re going to be on the peripheral and you’re never going to be able to really control it or negotiate great labor contracts with folks to do the work for you or to really access full exposure to what that market can yield for you if you’re only willing to go in a little bit.
So everything you said does not get me excited about the deal that you have. It’s just, hey, this deal looks good on paper, it’s a market I know nothing about. That’s just what I heard. This deal looks good on paper, it’s a market I know nothing about, I don’t know anybody there, it’s kind of out in the middle of nowhere kind of thing. I’m saying that, you didn’t say that. But if it’s close to a big market, then maybe look at the big market and look at this tertiary as kind of part of a bigger picture you want to paint for yourself. So that’s my short answer. Cold water on you is no, I probably would not do that deal.

Philip:
No, that’s all good. Any shiny objects that I can take off of my radar will I think help my journey in the long run.

Matt:
It feels like a shiny object to me.

Andrew:
And I’d like to quickly reiterate two things. Number one like I said in being most of those I pass on. And then number two, I really like what Matt said for everybody listening, if you’re going to do that, if it’s a one-off deal, probably pass. But if you can do five, six, seven, 10 and grow it, you can turn that into an advantage. So Philip, we appreciate you coming on real quick and then also just asking questions in front of a quarter million people audience, takes some [inaudible 00:50:53] so we appreciate that. Other than storming your classroom, if people want to get in touch with you, how do they do that?

Philip:
So on Instagram, it’s the_educated_investor, and then I have a website, www.educatedinvest.com. Thanks for that shout out Andrew. Appreciate that.

Andrew:
I like it. Good stuff, man. Well, you’re going to do well. I think we’re going to be hearing a lot more from you here in the near future.

Philip:
Awesome. Thank you.

Matt:
Andrew. We’ve got another question lined up here. I’ve got Danny. Danny Zapata. Danny, welcome to the Bigger Pockets podcast man. How are you today?

Daniel:
I’m doing excellent. Thank you for having me on.

Matt:
You are quite welcome. What is on your mind? How can Andrew and I brighten your day a bit? What is your real estate question you want to bring for Andrew and I to answer and for the masses to hear our thoughts on?

Daniel:
Yeah, I had a thought around raising money. So I’ve had some success raising some friends and family private money. I wanted to get your thoughts on what are the pros and cons. I guess going to the next steps, I either go and I kind of tap out all of my friends and family or do I go and broaden into more less familiar folks. So I wanted to get your thoughts around how do you expand that.

Matt:
Danny’s passing a hat around at Thanksgiving dinner, right? Okay, pass the Turkey and then also pass your checkbook.

Andrew:
Go partner [inaudible 00:52:16] Philip.

Matt:
At the end of the day, Danny, most investors, I know I did and I believe Andrew, you’d be able to say the same, started with friends and family as their investors. And the reason why you do that is because people that are friends and family like and trust you because you’re you. You’re Danny and you’re awesome and they know that, not because you’re Danny, the awesome real estate investor, but because you’re their son and they love you or you’re their brother or they trust you because you’re you, not because you’ve developed this phenomenal real estate track record, whether you have or not. So most real estate investors should and do start with friends and family as their investor base and I highly… And if it gives you the heebie-jeebies talking to friends and family, I’m talking to listeners, not you Danny, but if it gives folks the heebie-jeebies talking to their family members… And in my book Raising Private Capital, I talk a bit about how to overcome personal objections you may have internally and objections that friends and family may have with you as well.
Bottom line, treat them like investors, whether they’re your friends and family or not. Don’t give them special treatment or oh, it’s okay, we don’t need to put this in writing. I’ll just take your check. No, give them every rights and benefit, including full documentation that you would anybody else. Everyone needs to expand beyond friends and family. If you’re going to grow Danny, you need to go beyond that. The way that I did it was to go to friends and family and then start asking them for referrals. Like, hey, who else do you know Uncle Charlie? Who else do you know person I went to high school with that may want to invest with me or may want to consider doing what I do as a passive investment vehicle? That’s how I grew. And then once you’ve done that, then you can expand to tier three, which is social media, picking up the big megaphone, talking into it about what you’re up to and attracting more and more folks.
But it sounds like Danny, you’ve achieved a certain level of success with friends and family capital. Awesome. I would go next level and start asking those folks that are happy for referrals to other folks that they think may be happy too working with you.

Andrew:
Well, that was fantastic. I can’t really add a whole lot to that. Matt, you should write a book about money raising or something and Danny, when he does, you should go order it and read it. Maybe another tip is raise money from pessimists because they don’t expect it back. But beyond that, I did the same thing. My first check as a syndicator was from my mom, and so shout out to mom for believing in her son. And Matt laid it out beautifully. You do that first, maybe skip the uncle if he’s going to bug the heck out of you at Thanksgiving or make life miserable if it doesn’t go perfectly. But other than that, friends and family are the place to start, and then ask for referrals.
And then even beyond referrals, it’s really tough for LP investors to jump in to be the first guy to jump into the pool with you. But if you’ve already got eight or 10 people at your party, then you don’t have to go tell everybody else that it’s your family. You can just say, hey, I’ve already got these eight investors, we’re 70% of the way there. It’s going to be much easier to get people you don’t know or that don’t know you as well to come in for that last 30%. So exactly what Matt said, start with friends and family, then go to referrals, then use that as a base to reach out to people that you don’t already have that relationship with.

Daniel:
I guess I shouldn’t also tout that my mom’s my biggest investor, right?

Andrew:
Hey, you know what? That’s a great thing.

Matt:
That’s a good thing. You shouldn’t discount that, man. I go telling people all the time, and by the way, my mama was one of my first investors as well, by the way. And I tell people that because it is a testament to your belief in your business, Danny. All joking aside, my mother has invested in my business. You should tell people that. I got my mama’s money. Not just somebody else’s mama’s money, I got my own mother’s money in my business and that’s how much I believe in what I do, that I’m willing to put my mother’s livelihood, my mother’s future wellbeing, her wealth goals into what I do. I tell people that all the time because it’s something that I… Not to get emotional about it, but I’m proud of that. I’m proud that I can take a bit of ownership of my mother’s financial future through what I do.

Andrew:
Matt, that’s beautiful. I tell our investors this. I tell them, I say, look, I can’t screw this up because I would have to get a new family and new friends because they’re all in this and I’d have to go out… Yeah, I can’t afford to do that.

Matt:
Yeah, I’m control alt deleting at that point, right?

Andrew:
Yeah.

Matt:
Danny, your thoughts, man. I hope this has been of value. Any final thoughts before we let you go?

Daniel:
No, that was awesome. Thank you for your insights there and I’m glad I was able to make you a little emotional during the podcast.

Matt:
Danny, been awesome having you here, man. Listen, you’ve delivered a lot of value today in your questions and your thoughts. Please tell those listening how they can get ahold of you if they’d like to hear more about what you’re up to.

Daniel:
Sure. I think the easiest way to get ahold of me is on Bigger Pockets. So Daniel Zapata is my legal name on Bigger Pockets. Also, I have somewhat of a Twitter presence, DZapata, my first initial and last name on Twitter.

Matt:
And that’s Z-A-P-A-T-A. I will not ask what your illegal name is. That’s your legal name only. So if you guys want to reach out to Danny and find out what his illegal name is, you can do that now. Good being with us today, Danny. Thank you.

Daniel:
Thank you.

Andrew:
All right. Take care, man.

Matt:
All right, Andrew. If people are living under a rock and they have no idea how to get ahold of the Andrew Kushman, how would they reach out to you to find out more about you as a person, a real estate investor, a visitor of Antarctica, all those kinds of things? How would they find out more about that?

Andrew:
Best way, connect with me on Bigger Pockets. You can also connect on LinkedIn or just Google Vantage Point Acquisitions. Our website is VPACQ.com, and there’s a contact us form on there that comes to my inbox.

Matt:
And folks can find me on our website from my company DeRosa Group, that is D-E-R-O-S-A group, derosagroup.com. They can get ahold of me and anybody on my team there to hear all kinds of cool stuff about what I’m up to derosagroup.com or follow me on Instagram at theMattFaircloth.

Andrew:
All right.

Matt:
All right, folks. This is Matt Faircloth here with my host Antarctica Andrew, and ask him more what that means. Signing off.

Mindy:
Welcome to the BiggerPockets Money Podcast, Finance Friday edition, where we interview Chris and talk about fi when you own your own business.

Chris:
I found out that the real problem there is in sticky garbage cans. It’s that, old ladies and grandmas don’t want to climb ladders. So, that’s pretty much what we do is, ladder related home maintenance for grandmas living in these communities where we do their home maintenance so that they ultimately have the opportunity to maintain their independence in the place that they love the most. And, graduated college, came back home to grow it. We’ve, as you’ve described, hired employees and doubled every year largely since I came back home. So, that put me on the, kick-started me to interpersonal development and find it all about podcasts, and real estate and investing, so here I am today.

Mindy:
Hello, my name is Mindy Jensen, and with me as always is my way too corporate for a startup, co-host Scott Trench.

Scott:
Thanks Mindy. Unlike our guest today, I never had to climb the corporate ladder.

Mindy:
No, you quit the worst company to work for ever.

Scott:
Get it? Because, he’s got a ladder bus.

Mindy:
Oh no, I missed it. Oh, that’s because puns are terrible, Scott. Scott and I are here to make financial independence less scary, less just for somebody else, to introduce you to every money story, because we truly believe financial freedom is attainable for everyone, no matter when or where you are starting.

Scott:
That’s right. Whether you want to retire early and travel the world, go on to make big time investments in assets like real estate or start your own ladder business, Mindy, we’ll help you reach your financial goals and get money out of the way so you can launch yourself towards those dreams.

Mindy:
Scott, I apologize for missing your amazing pun. You’re so great at these amazing puns. I am excited to talk to Chris today. He has started a really cool business right out of high school. I think that he shows an enormous amount of initiative, and he continued to go to school while running the successful business and now is looking towards his financial future to determine when he’s done running this business what he wants to do. He wants to set himself up for financial freedom, but he’s not that interested in the early retirement part of fire, which I think is great, because I don’t think you should focus on the retire early part. I think you should focus on getting enjoyment out of your life, but I did enjoy talking to him, Scott.

Scott:
I thought it was really interesting. I think that, look, Chris has a services business, and a challenge in the services business for somebody who starts off as a self-employed entrepreneur just themselves, which is what Chris started as, is that when you begin to expand, you inevitably erode your profits. Because, if I’m billing out, if I do a service for a $100 an hour, and then all of a sudden I hire somebody for $20 an hour to do that same service, unless I’m getting more hours in, I’m eroding my margin, I’m losing at least 20 of those dollars. And so, that’s the challenge that Chris is facing right now, and I think it’s just a really good framework and lesson and thought to think through. If you have a services based business and you want to expand it, you have to take this period of sacrifice and there has to be a clear path to making more than you were in the first place. Because, running a services business is much harder than being an individual service provider.

Mindy:
It is. I think we gave him a lot of things to think about, and I think he has a good business head on his shoulders and now it’s just balancing the very different goals of growing your business and showing a lot of income to qualify for a new house purchase.

Scott:
Absolutely. Well, should we bring them in?

Mindy:
Well, we can’t yet, Scott, because we have to satisfy our attorneys. They make me say the contents of this podcast are informational in nature and are not legal or tax advice, and neither Scott, nor I, nor BiggerPockets is engaged in the provision of legal tax or any other advice. You should seek your own advice from professional advisors, including lawyers and accountants regarding the legal, tax and financial implications of any financial decision you contemplate. All right, before we bring in Chris, let’s take a quick break. And we are back. Chris is a 26-year-old entrepreneur who started his business right out of high school as a way to graduate from college debt free. Who knew it would turn into such a successful actual company that employs eight people providing handyman and home services throughout the year. Now, he’d like to think about his retirement plans so he’s financially ready when he’s actually ready to give up his handy manning. Chris, welcome to the BiggerPockets Money Podcast. I’m so excited to talk to you today.

Chris:
Thanks so much for the opportunity, Mindy and Scott.

Mindy:
Before we jump into your conversation, let’s look at your money snapshot. I see self-employment income that varies, of course, because it’s self-employment income, but $75,000 approximately for the year with additional income from a house hack of 4,350 per month. We have monthly expenses that total around $2,100. So, we’ve got 1,200 for rent or your portion of the house hack, $66 for utilities, 250 for gasoline, 250 for groceries, 50 for restaurants, 50 for household, gym membership is $10, clothing $20, car about a 100, gifts 15, mostly for Christmas, entertainment $20 a month, travel about 25, and internet Wi-Fi $85. Those seem good. I just want to caution you that those are your actual expenses, but you seem to have a good handle on them. Your investments, I’m sorry, your debts, let’s look at your debts, oh, nothing but the mortgage.
That’s a great position to be in at 26 years old. And, investments, you don’t have a 401(k). You can bet I’m going to talk about that later. You do have a Roth IRA with approximately $44,000 in it at 26, that’s awesome. A SEP IRA with an additional 39, that’s also awesome. Personal brokerage of 106, which makes me eat my words about that 401(k), but we’re still going to talk about it anyway. So, 106 in a personal brokerage that’s fantastic. $1,500 in cash reserves, I would normally want to have a conversation about this, but you do have a business where you can take business draws if you need to, so I’m not going to harp on that too much. So, Chris, I would like to know your biggest money pain point, your goals and a brief history of your money story?

Chris:
So, I think really my money story started out of high school. I didn’t have the greatest choices for college, fortunately in hindsight, really the best decision I ever made was going to community college. It wasn’t where I wanted to be, but it helped me get to where I wanted to go, which was ultimately transferring to UC, Santa Barbara, that was my dream school. And I was a caretaker and a paperboy at the time, kind of alluded to at the precipice from high school to community college, and I needed more money. And I was working as a caregiver for a grandma, and I got that job from a friend who went door to door cleaning garbage cans. So, at that time I was trending towards almost graduating and transferring to UC, Santa Barbara, and I realized, I need to make more money than I can make us a paperboy or a caretaker.
I thought back to my friend and I said, well, I’m above nothing. I’m going to go clean garbage cans. So, I started doing that in a local retirement community, it’s what called a 55 plus active living retirement community. I found out that the real problem there is in sticky garbage cans, it’s that old ladies and grandmas don’t want to climb ladders. So, that’s pretty much what we do is ladder related home maintenance for grandmas living in these communities, where we do their home maintenance so that they ultimately have the opportunity to maintain their independence in the place that they love the most. And graduated college, came back home to grow it. We’ve, as you described, hired employees and doubled every year largely since I came back home. So, that put me on the, kick-started me to interpersonal development and find it all about podcasts, and real estate and investing, so here I am today.

Scott:
What’s the revenue and profit from this business, and how much do you take in salary?

Chris:
So, interesting. Historically it’s been structured as a sole proprietorship. So, I think my net income last year was really good because I was the epitome of being self-employed. I was doing almost all the work. Our payroll was very little, so last year I made about 103 in net income. This year, effectively we’ve grown a bit, but our expenses are outpacing our growth. So, I’m going to take home a little bit less this year, probably closer to 54, 55, something like that. But, top line, last year we did 164 and we grew a little bit this year.

Scott:
And you do not take a salary then? Is it all distributions?

Chris:
Currently, right now I do not take a salary, I just take distributions, exactly right. I think over time we’re going to be implementing a different business structure and I’m going to have to pay myself a reasonable salary, but I’ll let my CPH choose that.

Scott:
Awesome. And can you walk through the employees? So, these are not full-time employees. They sound like hourly contracted guys.

Chris:
So, we have several really part-time employees. Most of our staff are current college students. We have one full-time operations manager, so he’s on a salary. I think there’s one other full-time person, one close to being full-time, but you’re right, about five or so are pretty part-time.

Scott:
Awesome. And then, can you walk us through anything about seasonality in the business?

Chris:
Absolutely. We do four core services, gutter cleaning, window cleaning, solar panel cleaning, and Christmas lights. So, we do really well during this time of the year, November and December. We do a lot of gutter cleaning and Christmas lights. Grandma’s have a high willingness to pay for those services during that time of the year, and during spring and summer it’s more about window cleaning, but it is a clearly seasonal business. We have a couple lulls, shoulder seasons between those two.

Scott:
Awesome. What do you bill at, and what do you pay your staff?

Chris:
So, I know the operations manager. He’s salaried exempt in the State of California, so he makes two times a minimum wage. The other staff, they’re all being paid living wage, it just depends on the role, but somewhere typically around $20 blended across all forms of compensation.

Scott:
Well, you’re paying these guys 20 bucks on an hourly basis. I presume you’re billing the client more than $20, otherwise you wouldn’t be in business. So, I’m wondering how much that spread is.

Chris:
Absolutely. We don’t typically really bill by the hour in that case, we bill by the project. Typically our revenue per man hour is north of a $100. It really depends on the service, but about that.

Scott:
Awesome. So, you got a profitable unit economics, very profitable on a services based business here, and the challenge is filling up as many man hours as possible on that. So, Chris, what’s driven growth over the last couple of years, and what are the plans going forward for your business?

Chris:
So, I’d say what’s driven growth is, obviously the first several years it was me doing the work. I maybe played the role of the ideal grandkid where I was actually there to help them. So, we had a lot of great referrals and word of mouth in these communities. They gossip like teenage girls. These communities are largely 65 to 85-year-old retirees, and they oftentimes socialize and talk to their neighbors and friends. So, I’d say that’s what really allowed me to get the foothold in these communities is, we take every opportunity to advertise in these communities, newspapers, publications, store hangers, signs, et cetera, but nothing really beats word of mouth. And I’d say that’s what allowed us to initially succeed. And ultimately we use those other forms of print media as I already explained, to expand out to the other 55 plus communities in the area. There’s about 20 of them, and we’ve so far serviced about half of them.

Scott:
Awesome.

Mindy:
I was telling Scott before we started this show, I’m so excited about this idea because I live in a neighborhood where there’s probably 30 or 40% of the people who live here are still original homeowners from the ’70s, so they’re in their 70s and 80s and 90s, and this would be an ideal neighborhood for you to come in if you lived here. But, how much did it cost you to start this business? It was probably very low startup. You need a ladder, that’s not that expensive.

Chris:
Exactly right. Initially really to start, I got a pressure washer to clean garbage cans, and then over time I found out, oh, they need this thing done and that thing done. And it’s very asset light, it’s equipment light, so it’s really a business pretty well positioned for an 18-year-old to get into. That also makes it a very competitive space that there’s a low barrier to entry. But, absolutely, it costed very little to get into this business. I literally think it was a $200 pressure washer that I just put in the back of my car and started going door to door.

Mindy:
And you use their water, their electricity?

Chris:
Exactly, pretty much. So, there’s really no cogs to put a business word to it besides obviously the cost of service as we were talking about.

Mindy:
Have you thought of franchising this idea?

Chris:
Absolutely. I initially pursued the idea of franchising the last couple of years. Early in COVID I called, I’d say played the role of a college student doing a marketing project or a class project for an entrepreneurship class and talked to a bunch of franchisees in the space. So, that gave me good insight as to maybe the expectation of the size of a franchise to really justify going that route. I don’t think there’s enough territories for the markets that we really target with type of business. Ultimately the most opportunity are in places like Florida or Arizona where they have a really high density of these types of communities. So, ultimately long term, three, five years, our plan is to expand out to those other places, Florida and Arizona to offer the same services. Because, if we can target and convert a 75-year-old lady that lives in Sacramento area, 55 plus community, we can do the same in Florida and Arizona and really go the corporate route ultimately.

Scott:
How many total billable hours did you bill last year?

Chris:
I could look up our KPIs. We probably did about 500 appointments. Each appointment is going to last somewhere between two to four hours. So, I’d probably say, how many billable hours? If we’re doing, we did about 164 last year in revenue. We do about a 100 or so plus or minus per man hour. So, what would that be? 1,500, something like that.

Scott:
So, here’s a question just to be frank with you and, well, a statement and a question. This business has to scale for you to continue operating the way that you’re operating, because the work year is 2,000 hours. So, that simple math says you could just do all of those hours yourself, you don’t need any employees, and you would’ve made $164,000 last year instead of 54,000. And so, that I think is something to noodle on conceptually and say, is there a path to getting this thing there? Because, on paper at least you don’t need any of those employees and the time is there. You have another 500 hours on top of that as bonus to actually schedule, and coordinate, and market and all that stuff to get that time. So, what’s your reaction to that observation?

Chris:
I would argue that half of our staff, four of the employees are really part-time, and they’re what I call a canvasser. So, they’re really stirring up leads and marketing for us, distributing the door hangers, the banded sign. So, I need them to get some proportion of the leads that we already generate. And this year was a big step in my business, because I recognize exactly what you’re talking about. This type of business is really profitable when you do it all yourself, what also happens, you get burned out. That’s what happened last year with me. I was overworked. I was working way too much, spending too little time with friends and family, and this is the messy middle in terms of the size of this business.
We need to get to 750, a million dollars to really get back to the level of profitability that we were prior, where I can take as much home as I was when I was doing all the work on the ladder. But, I think it’s a natural progression with this type of business is, the cost structure changes as you start to hire employees. We need to continue to grow to justify that change in that cost structure instead of just reverting back to what I had done the first six or so years and doing it all myself.

Scott:
How long will it take you to get to that point, 750 to a million where this business brings in more than if you just did it yourself?

Chris:
Sure. So, I think, I’m confident there are five or so businesses in the Sacramento area that do the same exact services like us that do a million dollars plus, so I know it’s a possibility, and so much so that there’s franchises in this space, so that really is what validates the opportunity. So, I think realistically, to get to the size that I had stated, 750, a million dollars, that’s going to take us locally here probably three, five more years. It’s tough to continue the pace of doubling what we’ve done historically, but I think we could get to 360, 400 this coming year. And if we have two or so years of slower growth, we could get to that 750 or so mark.

Scott:
I think that’s too vague, would be my observation. I believe you. This is a good business model. You’re clearly solving a problem. Your customers clearly like you, you’re getting word of mouth referrals, things are good. You’ve got something here. But, I think that this is a major problem we’ve uncovered in your personal financial situation, which is the purpose of what we’re trying to do here, where you could be making way more money by just going back to what you’re doing two years ago, and your outcome is five years away and we’re way too vague about how we’re going to move forward in the near term. I think that some suggestions I’d have for you are, let’s boil this down to a process perspective. I like the approach in a general sense. You don’t want to just be getting on a ladder and dealing with all these maintenance issues, hanging on Christmas lights for the next five years. We don’t want to do that.
But, the business side of it has to make sense in order to justify spending the next three years building your business, which is maybe even harder than that. So, let’s boil this down to a process. I think you should document, what are the steps to getting a lead in my business? We have door knock, door hangers, we have word of mouth, we have all this. Do I have a system to track all of that and understand the ROI? What if I’m paying these guys to hang door knockers, and that was a complete sinkhole for me. I got one deal out of it last year and I spent 20 grand. Do you know that in your business?

Chris:
Absolutely. You bring up a valid point. And I think one thing, one challenge historically is we’re very print marketing based because demographically we serve 75-year-old ladies. And what do they respond best to? You could argue physical print media instead of Facebook ad. I think the digital media strategies that we’ve yet to really undertake are probably easiest to grasp, like cost of customer acquisition ultimately is what you’re getting at. We’ve done a poor job of tracking that historically. We are using a CRM. I have an office manager. She’s asking that on every call that she receives is, ultimately where did you find out about us, so that we can do an analysis on, what are the most cost effective marketing channels so we can pull the right levers.

Scott:
Great. And then, what’s the process once you do get a lead? How many of them convert into appointments? What’s your process for setting an appointment, quoting the job if you have that, completing the job and then getting feedback?

Chris:
So, I’d say historically our close rate was about 40% blended over all of our services. Well, this year it’s gone down a bit as our prices have changed because the cost structure has dramatically changed to the business as I described. So, how it currently works is, most commonly we get 75% or so of our calls from these 55 plus communities. Typically, they see us from some print media, a door hangar, a sign. They see us at an in-person event perhaps, but some community-centric form of advertising. They see our number, they call our office manager, they say, I need gutter cleaning, how much do you charge? She gets a few questions asked. She prepares a quote that same day, very likely in the next hour or so after they had called. We send that quote via the CRM that we recently paid for and utilized. And from there they receive the quote, receive follow-ups, et cetera. And once it’s approved we contact them to book the service, so that’s the customer journey from prospect to book deployment.

Scott:
So, is this all automated? Are you a part of any of that?

Chris:
And as explained, this year’s been a dramatic change of me stepping operations and not doing all the cleaning, all the hanging Christmas lights, et cetera, and same with answering phones. Historically I was answering every phone call until I hired my office manager. And these maybe overhead costs are to explain some of the change in profitability, but I would much rather be where I’m at right now and make less money and not be burdened with doing everything in my business than reverting back to where I was.

Mindy:
So, I have a couple of customer acquisition ideas for you. You said that there’s what, 20, 55 plus communities and you’re in about half of them?

Chris:
Correct.

Mindy:
So, have you considered having an age appropriate brand ambassador in each one of these neighborhoods? You go and you clean Gladys’ garbage cans for free, and she’s so delighted that you did this, that she tells all of her friends and then all of a sudden you’re in that neighborhood now too. Are there services that your clients are asking for that you don’t currently offer, or have you pulled your clients to see if there’s anything else that you can help with? Because, you already have a client, getting that client to spend more money with you is going to be easier than finding a whole brand new client. You already have them, they already appreciate your services. Ask if there’s anything else that they would like around the house. Maybe you can help move heavy stuff, or rearrange furniture, or get rid of stuff or something like that.
And have you ever done a, like we are going to be in your neighborhood. We’re going to bring eight guys into your neighborhood this Saturday and we’ll take, we’ll clean anybody’s garbage cans for 10 bucks, or a 100 bucks, I don’t know how much it costs to clean a garbage can. But, some ideas where you’re already there, how much time does it take to clean yet another can? And that could be another way to introduce your services to people. Obviously you can’t hang up Christmas lights in a 5,000 house community in one weekend, but introducing people especially on some of those slower weekends.

Chris:
Absolutely. I particularly love the idea, that brand ambassador. I haven’t thought about that particular phrasing. We definitely do get great referrals on these communities. We could probably do a better job of catalyzing and asking for the referral, so that’s super valid. And ultimately lots of the people in these communities, they’re widows, they’re widowers, they’re vulnerable. They really rely on people that they can trust and they most trust who they’re referred to, so I think that’s a very valid point. Other services, we’ve definitely thought about adding on different types of services. I think one of the reasons we’ve really niched down on what we do is because they’re the things around the house that are the most physically demanding that we most frequently get asked about.
So, we do some small things like moving, or yard work, or changing a smoke alarm battery, air filter, name your other task that an 80 year old woman might struggle with. But, I also don’t want to get too spread out and going inch wide in a mile deep, or an inch deep and a mile wide, I want to do the opposite. So, in terms of other services, I think one hesitation is that it’s just operationally complex. This is already a very operationally intensive type business. I’m confident we can do what we currently do great, but lesser so if we continue to expand our set of services.

Mindy:
Sure, and that’s a great point. But, if you ask all of your customers, hey, is there anything else you would want us to do, or are having trouble finding somebody to do? And everybody asks for the same service, that shows you that there’s a demand. So, I love polling customers and asking, what are you looking for? If everybody wants 19 different things, well then, oh, we’ll look into that. But, if everybody wants the exact same thing, that’s something really valid. Now, you just mentioned something I think is very interesting, changing out smoke detector batteries. Those are always way up on the ceiling and they’re very difficult, and lights too. I don’t know if these neighborhoods have big high ceilings. I think they’re more like manufactured homes, aren’t they, some of them?

Chris:
Manufactured isn’t right. They’re stick built single family residences, but it’s a normal suburb just full of elderly folks largely. But, absolutely, we have done all these little things around the home. They’re not revenue drivers for the business. What’s really most profitable are the four main things that we do, the gutter cleaning, the Christmas lights, the window cleaning, the solar panel cleaning.

Mindy:
So, these non-revenue drivers are super helpful for these little old ladies who can’t get up on that ladder themselves. So, you go in on a Saturday, we’ve got eight guys for 20 bucks, we’ll come in and we’ll get all the cobwebs and change your batteries, and change your lights, and do all this stuff for 50 or whatever. And then, you go and you bang out all these houses and they’re so pleased that you were there. They call you back to do their gutters, and to do their, hey, by the way we offer all these services too. If you ever need anything, please give us a call. It’s not a revenue driver, it’s a lead gen. But, anyway, just something to think about. Another thing is with the referrals, like you said, you can get 10% off of your service and 10% for me, if you use my name, just tell them that Gladys Smith sent you.

Scott:
Well, is there anything else you’d like us to cover from the business perspective?

Chris:
I think one topic that I was thinking about is obviously insurance, and as it relates is I could start to offer that as a benefit over time. I think the thing that you’re probably going to point out is, we need to continue to grow to really justify doing that, but that’s something that I’ve entertained, but I think we’ve pretty well covered the business front.

Scott:
I agree. I don’t think you’re ready to offer health insurance as a benefit to your employees yet.

Mindy:
That’s really expensive.

Chris:
But, would love to do it over time.

Scott:
You could join a PEO if you need to, for you and your one full-time employee.

Mindy:
Well, let’s talk about this house hack. Give me the numbers. What did you purchase it for? What is it rent for? All the things.

Chris:
Absolutely. So, over the last several years I’ve really tried to prioritize getting my financial life in order. So, over the last couple of years I was obviously increasing my net income. Trying to show to a lender that even in the State of California I can buy a home, you can trust me. And last year was really the first year in which I met the threshold that they look at in terms of debt income and supporting the mortgage more or less. And during that time I had contacted a friend because I was under the impression that he was house hacking based on a Facebook post that I had seen. And I hit him up about a year ago, maybe a little more than that. And he was describing that, yes, he was house hacking currently. He was in contract to buy his second property with a friend, and that friend happened to drop out and he was put in a tough spot and he needed some help.
So, I was in the perfect position. It fell in my lap and we bought the home together, my first home. I currently live here. We bought it for 740 purchase price at the end of August, 2022. So, 740 purchase price, we put 10% down. Our rate was 6.125. We went with the preferred in-house lender because they give us some credit. Over time, we’ll very likely be five, hoping that rates eventually dip below five. And, so far I rent, I live in the master. The other five rooms are rented. So, how we qualify and count income varies, but it cash flows in a sense greater than the pity payment, which I think is a little over $4,900.

Scott:
Awesome. If you did not live in the property, how much total rent would you collect?

Chris:
I think it’s 5, 550. It’s a little over 5,500.

Scott:
And your mortgage is 4,900?

Chris:
Correct, hair over.

Scott:
Awesome. And how much do you think it will rent for in a year or two?

Chris:
Each of the rooms, we probably increase each of the rooms by 25, 50 bucks. I don’t think dramatically, but some marginal amount greater than it is today.

Scott:
So, we’re probably close to break even when we factor in CapEx, vacancy, turnover and maintenance on it. But, we’ve got an asset that we can hold here probably without bleeding on a monthly basis for the long term in a good spot.

Chris:
I would hope so. And really my plan here is to do the same thing over the next couple of years, is to qualify for primary residence, live in it for 12, 18 months. I don’t have a kid or any dependents, a wife that can tell me otherwise. So, I’m at a stage where that seems like a worthy sacrifice to make, and ultimately that’s one big reason I wanted to go on this call was just to make sure that I’m positioning myself to do so and ultimately achieve my goals of reaching some semblance of financial independence so long-term I can take the entrepreneurial risks that I desire.

Scott:
Awesome. Whose name is the mortgage on?

Chris:
So, we’re both on title, so it’s my buddy and I.

Scott:
Great. So, your question is, how soon can you purchase your next house hack?

Chris:
I think that’s one major concern is obviously that’s something to figure out with my CPA, is how we report income, et cetera, and meet the DTI requirements. But, that is definitely a point of maybe contention or conversation that I need to navigate, because as someone that bought a home with someone else, from a lending perspective, I’m liable for the whole mortgage. But, renting rooms doesn’t count income wise from what I’m familiar with. So, I think that puts me in a tough position DTI wise, but that is definitely some challenge to circumnavigate if I want to follow through on the goals that I just explained.

Scott:
That’s new to me that renting the room would not help you count on a DTI perspective.

Chris:
Perhaps you’re right. I trust your expertise more than my own. I know that-

Scott:
I’m not a 100% confident, I’m just surprised to hear it. So, I should know that probably, but I don’t. So, are you pretty confident, or has a lender told you that?

Chris:
From what I understand about living in a single family residence, they’re not going to count renting rooms as income, like income for their purposes. But, if I lived in a multiplex and I rented other units or, they would count some proportion of it, I’ve heard 75%. It probably depends on the lender, and the time, and that might change, but that’s what I’m familiar with, with the income reporting.

Mindy:
Oh, I’m not sure. I know you face challenges just by being self-employed. Even though you’ve been self-employed for a long time, lenders are very squidgy about that. I don’t know that you can’t count any of this rent towards your debt to income, and I would definitely speak to more than one lender. I have a lender based in California, but they’re licensed at all 50 states, and they can do self-employment after one year. You’ve got multiple years and you have shown a profit and you’re growing. I don’t think they would have an issue with your source of income. I think that we are looking at a problem with the amount of income based on the rent, so that’s where you would need to have the rental income counted in order to qualify. What would this whole property rent out for if you rented it out completely? If you moved out, and all the people moved out and you rented it as one property instead of by the room?

Chris:
I would need to look at comps to really verify this. We haven’t really considered going other than rent by the room, because we knew we could make more money doing it that way. I’m pretty confident somewhere in the realm of 3,000, probably a hair more would be my intuition, but you guys probably have a better pulse on that.

Mindy:
So, then rent by the room is definitely the way to go. Now, once you don’t live there, rent by the room is just, it’s still a rental, so I would think you could qualify that. And then, having a year of rental history, even though you’re living there, you still have a year of rental history to show the lender, look, I’ve been renting these rooms for 5,550 consistently over the course of this whole year.

Scott:
I think that’s right. This is something, we’re getting into really a place where the tactics really matter in terms of your timing for when that will hit. My guess, and you got to talk to a lender and your CPA about this, but my guess is, you want to report the income from this property on your tax return as much as you can, that makes sense. So, you don’t want to play games to reduce the income liability because, well, that way save you a little bit on taxes. You’re probably going to have a loss on the property for the first couple of years given what you just shared with us, a taxable loss once we factor in depreciation, so there won’t be much of a tax benefit, there’ll be some. But, more important to you it will be the income qualifications. And if you can show two years of tax returns with this rent income hitting there in a way that will qualify for the lender, you’re going to be in good shape.
So, if you can get that rent on your tax return in year 2022, which it sounds like you will, that’ll probably be in pretty good shape. And what that does is, it has a multiplier effect on your ability to borrow once you are able to report that income. Because, not only does the current rent from your property help you with this debt to income challenge, but as a landlord with experience, you’ll also be able to count the potential income on your next property as helping you with your debt to income.
So, if you buy a duplex, for example, next and it’s empty, but it would rent for three grand, 75% of that will help you qualify for your next conventional mortgage, which it won’t right now. So, somehow some way we got to figure out a solution to this problem. I would talk to a couple of lenders and I would not just listen to your CPA on this. Your CPA is going to give you great tax advice, but sometimes the consequence of getting great tax advice can be there’s less income to borrow against. And so, you want to make sure that you’ll also run that by your lender and get good advice from a lender who knows what they’re talking about in this area.

Chris:
Absolutely. More research is needed for your point.

Scott:
Is that a helpful starting point? We’re not quite answering your question, but is that a helpful starting point to think about how you get the two years of tax returns or at least one year of tax returns on there with the highest number possible for rent collections?

Chris:
Absolutely. I know I need to talk to lenders because probably different firms are going to have different lending criteria and such, and I know my situation is probably peculiar relative to a lot of the situations they deal with. But, absolutely, I agree. I need to talk to multiple lenders and ultimately brokers probably have the best source of the plethora of options that I can explore.

Scott:
It may be as simple as this as well. It may be that you live in the property this year and then you move out and you rent a place, half your buddy’s bedroom or something like that. I think you said there was some arrangement like that, that you had worked out. And so, you use that situation, you say, I have a true rental right now. It’s fully booked, and I’ve got the income on my tax return last year, I’ve been doing this. So, now you may be three months, we’re recording this in December 2022, you may be three months away from being able to qualify, because you have the cash for a down payment or you could access it from the brokerage side. So, that might be a really powerful booster there if you can create that situation. Because, it may be, I got the rent on my tax return for 2022, but I can’t be living in the property while I’m actively looking for the next one and using rent from roommates essentially to qualify.
But, I have a true rental. I don’t know, I’m getting really way in the weeds here, but I have a true rental because I’m actually renting another place right now and that is operating as a standalone rental property, or I have half of it, or whatever it is that you’ve worked out. So, that’d be the path I’d go down exploring this, and I wouldn’t be surprised if you’re not too far away from at least having a substantially brighter outlook on the debt to income side.

Mindy:
Oh, I was going to say, I wouldn’t be afraid to ask lenders, do you have any creative solutions? Do you have any suggestions for me? I’m willing to do a lot of things. I’m not married to anyone’s solution. I’m looking for ways to expand my rental portfolio, to expand my home ownership, to get into a property sooner, to do a lot of different things.

Chris:
Absolutely. I need to have these conversations with lenders, brokers, et cetera. I think the last resort option is ultimately to probably circumnavigate the 100% liability that I face with having two people on the title and me being really a 100% liable from the mortgage at the end of the day from a lending perspective is, either sell out to my buddy or vice versa and get one or the other off the title to circumnavigate these DTI challenges.

Scott:
Or just don’t repeat the problem the next property.

Chris:
I would agree.

Scott:
So, I think from a bird’s eye view, from my standpoint, you just got this place, it seems like it’s going reasonably well. You need to set yourself, start thinking about the next property purchase, but I think it boils down to make sure that you file your taxes. Probably the earlier the better with that. You think through if there’s new ramifications. If you do have any options in that, you probably don’t. But, if you do have any options, you want to report in such a way that your lender will be aligned with that.
And then, you want to ask, well, does that rental income, if it doesn’t count from roommates for my next loan, does it count the day after I move out of the property towards my DTI or what? And, I think that, at this point I wouldn’t fiddle too much with the structure you’ve got with your friend, that’s done. The property’s purchased and you’re going to have to transact the property in order to change things that has all to do on sale ramification ramifications potentially and would potentially give either one of you trouble if you couldn’t qualify for the mortgage on an individual basis.

Chris:
I absolutely agree. It’s a last resort, but it is a resort if needed.

Scott:
So, Chris, we’ve talked about your business, we’ve talked about your house hack. What else can we help you with today?

Chris:
I’d say, as a 26-year-old, 20 something, I’m relatively healthy, but the responsibility of insurance was recently bestowed upon me as a 26-year-old, so that is something that I’d love some advice on. I’ve heard some harsh criticisms of perhaps, like medical sharing programs, but I know I recently signed up for a Kaiser bronze high deductible plan so that I can start contributing to an HSA, but if you guys have high level thoughts, I’d love to hear them.

Mindy:
I have a lot of thoughts. First off, you’re healthy, that’s great. We have posed this question several times. We have made comments a lot on this podcast, and somebody reached out to the Facebook group and said, Mindy, you always say that unless you have a chronic condition, you should have a high deductible plan. He said, except in some very specific cases, even if you have a chronic condition, you should have a high deductible plan. And he was talking about the difference between the high deductible plan versus a regular plan. I’m talking about the difference between the high deductible plan with the HSA versus the health sharing plan. Because, the health sharing plan isn’t health insurance, and the health sharing companies haven’t negotiated with the healthcare providers to provide any healthcare.
And you can’t deny somebody who is in an emergency state. You can’t deny them health services, but you don’t have to take their health sharing money. So, essentially the way it works, and I’m really paraphrasing, but you go in with a broken leg, you go to the hospital, the hospital treats you, then they send you a bill for, let’s call it $20,000, because I don’t know, and that sounds good. Then your health sharing company sends them $2,000 and says, hey, would you take this for it? The healthcare provider can say, no, it’s $20,000. And then, either they negotiate back and forth, or ultimately you’re responsible for this until it gets paid. And traditionally they will take the negotiate with the health sharing provider back and forth, but they don’t have to. And things are not great in the insurance industry right now. So, having a high deductible plan, you’re footing the bill for the first, what is it, 3,500 or something like that, and then healthcare kicks in.
And the insurance company that you have that plan with has negotiated with this provider, provided you a network and make sure that you are, and you mentioned Kaiser, and there’s people who don’t like Kaiser. I think Kaiser’s fine. You go to a Kaiser doctor. If you don’t go to a Kaiser doctor, then you’re on the hook for it. So, just make sure you go to a Kaiser doctor. Step number one when you have health insurance is, read the rules of the health insurance. The book’s only about this thick, so it’s great reading, light reading, but it’s super important to understand what you’ve signed up for. And my favorite, Brandon, the mad scientist, has written an article called the HSA is the ultimate retirement account in 2022. He’s updated it several times. It is a fantastic account, especially if you can cash flow your expenses.
I have a medication that I take every night and I can cash flow that because it’s $5 or something for a month’s supply. And then, I save my receipts and in several years I will cash those in and collect some money for that. And the same with my copays, and the same with minor surgery if I need it, anything that I can cash flow, I just save the receipts and then down the road I can cash those in after my HSA has grown so much. You don’t need to take your expenses in the same year that you incur them. So, you can allow your account to grow and then take out the money when it’s less of a hit. If you’ve only got a $100 in the account and you take out $50 for the expenses, then you only have $50 to grow.
But, if you can cash flow these expenses right now and then allow this to grow, it can be a great way to pay for expenses down the road. It can be a great way to just recoup some of your expenses down the road, or you can even wait until you’re actually retired and then you can start withdrawing this money without the expenses attached to it. It’s a really great plan if you qualify, if it’s available to you, and I’ve used it every year that we have had it available at BiggerPockets.

Scott:
So, the only thing I’ll add to Mindy’s great points here is that, there’s no good solution. Healthcare in this country is very expensive and you’re going to go from not paying for it, presumably because of the, you turn 26 Obamacare protections and all that stuff where you were on your parents’ plan most likely, are going to go away and you got to start paying for this. So, it’s expensive and it’s just terrible, and it’s something that we got to fix in this country and we have not. And so, the answer is, the bronze tier plan with the high deductible and the HSA qualifier probably sounds like the least bad option at the highest level for this. That health share ministries can be one option that can be worth exploring. However, there’s a lot of issues that some people have with those types of plans.
One of which, at least at 26, would’ve been for me is, if you don’t live in accordance with those values and those sometimes Christian organizations, certain things won’t be covered. So, just something to think about there. So, I think that for most people, for your situation, this sounds like a great option. I don’t know the details about it, but the bronze tier is clearly not the gold tier. You’re a healthy guy. Get something that’s as affordable as you can, max out that HSA if you’re interested, if that’s something you want to do and take it from there. So, not great, not a fun answer, but that’s the truth I think.

Chris:
An answer nonetheless, thank you.

Scott:
Well, Chris, this has been great. Thank you very much for coming on the BP Money Show. We really enjoyed talking to you and hopefully this was helpful.

Chris:
Thank you guys for the opportunity, and I know it’s helpful for me, hopefully it’s applicable to someone else out there too.

Scott:
Absolutely. I think a lot of people will learn from this.

Mindy:
Chris, this was a lot of fun. I’m super excited for your old lady ladder job. I think that’s a really great opportunity and a really great service that you’re providing because like you said, older women and ladders don’t mix.

Chris:
Not a great combo.

Mindy:
Not a great combo. Well, this has been a lot of fun and we really appreciate your time. We’ll talk to you soon. All right, Scott, that was Chris. I thought you had some good advice for him for his business. I am excited to see the possibilities for his business, and I do think that he will be able to grow it. I think he’s got, like I said in the beginning, I think he’s got a really great business head on his shoulders, and now he’s just in that weird little, I want to grow, I’m not quite sure how to grow or let me try a few different things period of service-based growth that you have to get through before you find what works and grow from there.

Scott:
I love that he’s experimenting with it. I think that the plan for achieving that growth needs to be more aggressive and more specific. And, I think that’s the big homework I’d have if I’m Chris. And, Mindy, I thought you had some really good advice as well and some great tips.

Mindy:
Oh, thank you, Scott, I try. I think that there’s a lot of value in a brand ambassador who is the same age or similar age as other people that he’s trying to target and they all speak the same language. He can give her a free garbage can cleaning or whatever, and then connect with her, she’ll connect with other people. Just having somebody that you trust, like he said, that’s going to pay off in spades.

Scott:
Absolutely. Should we get out of here?

Mindy:
We should, Scott. That wraps up this episode of the BiggerPockets Money Podcast. He is Scott Trench, and I am Mindy Jensen saying, park your truck rubber duck.

Scott:
If you enjoyed today’s episode, please give us a five-star review on Spotify or Apple. And if you’re looking for even more money content, feel free to visit our YouTube channel at youtube.com/biggerpocketsmoney.

Mindy:
BiggerPockets Money was created by Mindy Jensen and Scott Trench, produced by Kalin Bennett, editing by Exodus Media, Copywriting by Nate Weintraub. Lastly, a big thank you to the BiggerPockets team for making this show possible.

Ashley:
This is Real Estate Rookie episode 250.

Jamil:
Right now, the lenders are all tricking us into thinking that 5% is going to be a blessing. So when we hit 7%, 8% where we’re at right now, and they finally start creeping down towards five, five and a half, do you know what kind of pressure cooker is going to exist in this market? So all the real smart investors, they are buying cheap and they’re holding. They’re buying cheap and they’re holding, they’re just waiting for this 12 to 18-month cycle to do its thing. And then as soon as the rates go back somewhere around 5%, it is going to be bananas.

Ashley:
My name is Ashley Kehr and I am here in person with my co-host, Tony Robinson.

Tony:
And welcome to the Real Estate Rookie podcast, where every week, twice a week, we give you the inspiration, motivation, and stories you need to hear to kickstart your investing journey. And I want to start today’s episode by shouting out someone from the rookie audience who goes by the username, KissTheNewbie, which I like name. But anyway, KissTheNewbie gave us a five-star review on Apple Podcast and this person said, “I’ve been researching the wrong way for way too long. YouTube and Google are not always as helpful as it seems. The information is mostly brief and summed up. Listening to other points of view and scenarios helps a lot. The episodes in particular dug into some questions I have been looking for.” So KissTheNewbie, we appreciate the five-star review. And if you haven’t yet, please leave us an honest rating or review on Apple Podcast, Spotify, or whatever it is you’re listening. All right, cool. Well, Ashley Kehr, what’s going on? We’re here in person.

Ashley:
Yeah, we are in Phoenix, Arizona for a meetup tonight.

Tony:
Yeah, it’s actually my first time in Phoenix, and so far so good. I got some Chick-fil-A last night. Actually, you know what? Last night I landed, and I tried to get some food, and it was like a mission trying to find somewhere there was open at 10:30, which I feel like is crazy for a city as big as Phoenix. So Phoenix, help me out, stay open just a little bit later for the food spots.

Ashley:
Someone DoorDash Tony tonight some food.

Tony:
But we did get this place called Insomnia Cookies. We were walking by, and this place was open. And have you heard of Insomnia Cookies before?

Ashley:
No.

Tony:
They’re open until midnight, and it’s a cookies spot that’s open until midnight, but they felt like it was really cool cookie… Anyway, Insomnia Cookies in Phoenix. I appreciate you for being open at 11 o’clock when we were looking for food.

Ashley:
And it was good?

Tony:
It was great.

Ashley:
Yeah? And then this morning we were late because you had to get Chick-fil-A.

Tony:
I had to get Chick-fil-A on the way in. Yeah, so the food escapades have been probably the biggest thing today.

Ashley:
Yeah, yeah. So besides the food, we’re super excited. We are recording a live podcast tonight, so if any of you who are listening to this now are actually there, thank you so much for coming.

Tony:
We appreciate you guys.

Ashley:
And if you guys want us to come to your city next, send a DM to the Bigger Pockets Instagram account or you can send it to Tony or I, or when you leave a podcast review, let us know where you would like us to come. So today on our Rookie Reply, we have four questions. We talk about real estate agents and lenders, as to how to build that relationship or to even break off that relationship. And then we’re talking about closing, going to the closing table, but you’re wholesaling the property, and Tony gives two different examples of how you can actually handle that.

Tony:
Other things we talk about are building long-term relationships with your lenders and your agents, and how to tow that line the right way. And then some other questions we talk about are the differences in expenses on your primary residence versus your investment properties, or some sneaky little things you might not be thinking about. And then the last one is, what is a dual agent, and should you be using one? So we’re excited to get into today’s questions. Guys, you guys, this is the first time ever that we’ve really done something like this. So we just want to say we’re super excited to be here, and welcome to the Real Estate Rookie podcast. We got some special guests for you guys. Pace and Jamil, if you guys can come out?

Ashley:
Bring them out.

Tony:
Yeah. Clap it up for Pace and Jamil. So guys, first, thanks for inviting us to your home state. This is actually my first time in Phoenix, Scottsdale, anywhere. Other than layovers at the airport, this is the first time I’ve ever been here. So I appreciate you guys inviting us out, man.

Jamil:
We’re happy that you’re here.

Tony:
Yeah.

Jamil:
First and foremost, isn’t it cool that Bigger Pockets came all the way to Phoenix, Arizona?

Pace:
Yes!

Jamil:
To film a live podcast? Y’all are incredible.

Ashley:
I do have to say one thing, coming from Buffalo, I’m very disappointed in the weather. I did not pack appropriately.

Jamil:
Did you bring a jacket?

Ashley:
This right here is my jacket.

Jamil:
Oh, you thought you were coming to summer, hot?

Ashley:
I thought like 90 degree dry heat, nice weather-

Jamil:
No, no, no, no, no, no. The desert gets cold in the winter.

Tony:
So both of you guys are super experienced investors and I just want to tap into that knowledge a little bit. I know one of the questions I get asked super often about I invest in short-term rentals. That’s what we do. That’s all of our portfolio right now. And a lot of questions come up around, Tony, with where the economy is going, with where everything’s headed, do you think short-term rentals are still a good investment? And I know what the risks are that short-term rentals present. The economy softens, and people travel less, people spend less on vacations. So we know what we’re doing in our business, trying to mitigate those risks. But you guys have unique strategies as well, wholesaling everything with creative finance. What are some of the risks that you guys see with those strategies going into next year, and how do we mitigate those?

Jamil:
So risks with respect to wholesaling, or risks with respect to Airbnb?

Ashley:
I would say-

Jamil:
Or short-term rentals?

Ashley:
Specific to the Phoenix market.

Tony:
Yeah. With wholesaling, and with creative finance.

Jamil:
Okay. So right now I think that the greatest risk that people have in the wholesaling space, I’ll let Pace speak to creative financing, for would-be wholesalers or people embarking on a wholesaler journey, or doing it right now, if you have not made adjustments to your numbers, you’re spinning your tires. You’re literally wasting your time. The market has shifted and buyers are baking in the depreciation, they’re baking in where they’re expecting the market to land. Because the fact is that we know where it’s going here in Phoenix, we overshot and so we saw about a 20% uptick, and we’re going to hit that 20, we’re going to come down about 20%. So all the buyers that I’m working with right now, their volume has picked up dramatically. The last 30 days, the number of deals that we’ve turned is as much as we had in the peak.

Tony:
That’s so crazy. I would think the opposite would be true almost, right? As the economy’s starting to shift, that things would slow down, but you’re saying-

Jamil:
No, because we’re buying deals so cheap right now that… And let’s just think about what’s happening, okay? As soon as the market started to shift, interest rates went up. What did builders start doing? Stop building, okay? We were already short on inventory. You also have all these people that have all this cheap debt at 2% and 3%, and they’re looking at the market thinking, “When am I ever going to get a loan like this?” So what are they going to do with their property? They’re going to hold it, which is going to remove that inventory from the market. You’ve got builders depressing building, you’ve got inventory shortages already.
We’re already walking in with inventory shortages, and right now the lenders are all tricking us into thinking that 5% is going to be a blessing. So when we hit 7%, 8% where we’re at right now, and they finally start creeping down towards five, five and a half, do you know what kind of pressure cooker is going to exist in this market? It’s going to be insane. So all the real smart investors, they are buying cheap and they’re holding. They’re buying cheap and they’re holding, they’re just waiting for this 12 to 18 month cycle to do its thing. And then as soon as the rates go back somewhere around 5%, it is going to be bananas. That’s my thought process.

Tony:
All right, so what about you from… Yeah, first clap it up for Jamil. That was a great answer.

Pace:
As far as creative finance is concerned, creative finance is so diverse, in the sense that I look at real estate as a pile of logs in a fireplace. Creative finance is the gasoline you pour on top of it. It doesn’t matter what you guys want to do on acquisition or in disposition, creative finance amplifies everything you do. So if you’re acquiring deals, I can buy sub two seller finance, lease options. I can buy on innovation agreements, MOR B method, all sorts of things. I can dispo 10 different other ways that don’t exist in traditional real estate. So right now, everything is amplified. So last week I closed my biggest seller finance deal, 264 units.

Ashley:
Congrats.

Pace:
And yesterday I put in my largest offer, I think we’ll go under contract tonight, $52 million, 600 units, seller finance deal. And then today we closed another big deal, 192 units in North Carolina. So in two weeks I bought 500 units, and I have literally not a dollar out of my pocket. Follow me on YouTube. So I’m being overwhelmed right now. We did really well the last five, six years with creative finance. But right now people are, I’ve got agents texting me and going, “My seller’s willing to let this house go.” I mean, in what other market do you see sellers just saying, “Get rid of this house. I just can’t take care of the payments anymore.” So in Arizona, Phoenix specifically, we are just going for houses that are 90 days on the market or longer and saying, “Hey, if I can get your commissions paid, can I just take over the payments?”
I could buy two houses every single week if I wanted to. Now what is amazing about that, the amplification process, is not only can I hold those, and we do Airbnb as well, but the way we’re mitigating a lot of that is we’re diverting to sober living right now, a lot of sober living, because it’s government money coming in rather than tourist money. But the other way I’m amplifying what I’m doing is I don’t just buy and hold, creative finance deals. What happened to buyers? The buyers got priced out of the market because of the interest rate. So I can assign my sub two and seller finance deals to an end user, or I can wrap them and sell them at a higher interest rate or whatever. A little bit more strategic, but it is like rocket fuel right now. Everything for us is rocket fuel. Who’s the sub two student in here? Okay, so we have people who are being overwhelmed with creative finance. It’s the perfect storm for us.

Ashley:
So that’s how you’re mitigating and taking advantage of the market right now. But for a new investor, what are some of those risks that you’re seeing, that that’s the reason they should be using creative financing and doing seller financing and subject two? So what risk in the market, being that [inaudible 00:10:37]?

Pace:
Okay, so I’ll give you on our cash stuff. So this year we had a couple of houses we thought the ARV was about 500,000. And we’ve got people offering now those houses are fixed up, ready, on the market, I can’t sell them for 390. That’s happening. That’s been happening this whole year. So the risk is I got to refinance some of these deals. I got to bur into some deals that I didn’t want to bur into. Instead of me stroking a check for those, I’m going to hold onto them and I’m going to wait until the market comes back.

Jamil:
But the smartest thing that he’s doing is, because he’s got the capacity… See a lot of fix and flippers, they have to sell. Pace has money, so he can refinance these and hold them, but continue holding right now is the key. If you are in a bad fix and flip that you can’t disposition, hold that sucker.

Pace:
Yeah. So if I’m new, one of my risks is being in that situation, I would not want to be in that situation without a good partner. So if I’m brand new and I’m looking to do my first deal, I would look for somebody that’s done 10, 15, 20 deals, and partner up with them. So when the market does its little thing, you can go, what are we doing partner? And the partner goes, oh, this is no big deal. We’re going to refinance and hold it.

Ashley:
Okay. What’s the best way to find a real estate investing partner?

Jamil:
So for me, I found my partners in places I would never be, never hang out at. I needed people in my life that weren’t like me, that didn’t listen to the same music as I did, that don’t like the same things that I do, that don’t have the same skills and qualities that I have. I wanted people that were very much opposite. In fact, one of my previous business partners and still a very good friend is in the audience here, Patrick. And Patrick and I couldn’t be more different from each other.

Ashley:
Because of your strengths and weakness.

Jamil:
Because we have different strengths and different weaknesses. And I’m always looking for people that can compliment my shortcomings, which we all have them. Every one of us have strengths, things that we’re phenomenally good at, and there’s things that we just couldn’t care to do. And so what a lot of us do is we make business partnerships with our friends and we have these incredible campfire conversations with people, and we share our dreams and our aspirations, and then all of a sudden we find that there’s an alignment between what they want in life and what we want in life. And we say, “Should we do it together?” But we’re both the same person, and then what ends up happening is disastrous. So find places where you don’t necessarily hang out, business situations where you wouldn’t normally go, and go and find your counterparts that have the strengths that you don’t have.

Ashley:
What’s an example of, where are places you have found your partners?

Pace:
COO Alliance, Chief Operating Officer Alliance. Because visionary, visionary, visionary, visionary. We should not be operating, managing, onboarding, doing any of the SOPs. Zero. Do you know that Jamil and I are not partners in any business whatsoever?

Ashley:
Actually I did know that. Yeah.

Pace:
Is that surprising?

Jamil:
We 100% compete on everything.

Pace:
We compete on everything.

Jamil:
In fact, get the hell out of here.

Pace:
So we collaborate, but he’s right. I mean the best man at my wedding, I don’t talk to anymore. My very best friend I brought into my business because that’s who was in my circumference, and I was like-

Ashley:
It’s easy, it’s comfortable.

Pace:
Oh yeah. And the funny thing is you see eye to eye on all your ideas, but when it comes down to rubber hitting the pavement, a visionary is not going to do any of the actual nitty gritty.

Tony:
Can you, just for folks that aren’t familiar with that phrase, define what visionary is?

Pace:
In my opinion, the best book you can ever read in business is called Rocket Fuel. And it talks about all the greatest business partners in the world all had a visionary and an integrator. And so Jamil and I combined have about 1000 employees. And the reason being is because we have integrator partners that actually manage the office. The only time I go to my office is when there’s a Christmas party. And so because of that, because we have integrators doing all the things, hiring, onboarding, managing the books, paying the payroll, looking out for the problems, it allows us to go out and raise capital, find the deals, recruit opportunities, and recruit people.

Tony:
How did you guys find your COOs, your integrators?

Pace:
COO Alliance.

Tony:
Oh, so that’s a real thing.

Pace:
That’s a real thing. The funny thing is all of us visionaries all go to these really fun and charismatic, beautiful meetups and masterminds. The integrators don’t go to anywhere where we go, so they go to something called the COO Alliance. It’s where all the cool people that are actually going to run the business, they go to those masterminds.

Jamil:
That’s a phenomenal resource. For me, it was a little different. We were looking for a C-suite that could handle our franchise growth. And so we actually ended up getting a very high level individual that was in the franchise department at IHOP that ended up coming and helping us with structuring our franchise, and creating the growth that we’ve had over there. And it’s been an incredible, incredible run with him.

Ashley:
Awesome you guys. Thank you so much for sharing. I think Pace actually had somebody write this question specifically for him. What is a good way to invest in multi-family for the first time safely?

Pace:
Okay. Two easy ways. Either A, become an LP on somebody else’s deal, like the 264 unit deal I closed last week, I had zero partners so I didn’t raise money, seller financed. But the one I closed today, we brought on LPs, or limited partners. So that’s the easiest way. The second easiest way to get into multifamily is through something called the fund of funds. Very few people actually know what that is, and if you knew what it was, you’d write it down. Fund of funds. And you’d go research it, and you’d go, that was worth a million dollars right there. Fund of funds is the easiest way to get into multi-family investing.

Ashley:
Can you elaborate more?

Pace:
Do you want me to?

Ashley:
Yes, go ahead. We’ll give you more time.

Pace:
Okay. So let’s say Cara has a multi-family deal and she has to raise $20 million for a $100 million purchase, hypothetically. And Cara goes, “I can only raise $10 million on my own. I need somebody else to help me raise some money.” So she goes and finds 10 other people to do what we call a fund of funds.

Ashley:
So basically other syndicators who are used to raising money, they build their own fund that’s going to invest in her fund.

Pace:
Right, it’s a fund underneath your funds. So it’s a fund of funds. And so instead of having to find the deal, operate the deal, manage the deal, raise all the capital, I could go leverage Cara’s credibility, and just literally the first fund of funds I ever did was five years ago, I raised 100 grand for somebody’s deal that needed 20 million and I got all the credibility and experience of actually going through the deal as if it was mine.

Ashley:
Super interesting. I was at a multi-family meetup in Philadelphia a couple weeks ago, and that’s what they were pitching at the meetup, is that’s how they were pivoting their strategy. They were building a fund to invest into other deals.

Pace:
Would you rather raise $20 million all by yourself or find 20 people to raise a million dollars each?

Ashley:
Oh yeah. And you have less people to have responsibility to. Okay, so we have our last question here that we have time for. Where do you like to find data? So where are you going to find information on properties?

Pace:
The data deli.

Jamil:
Data deli is obviously the number one choice, but if I’m looking for market information to try to understand where are buyers buying at right now, where are deals selling at right now? There’s a software called Privy that has been a game changer for Pace, myself, our entire community. I mean this algorithm runs comps, it’ll identify what deals are on the market right now that are an actual value. And it also shows you what percentage of ARV fix and flippers are buying at in this specific pocket. It’ll tell you what percentage of ARV buy and hold buyers are buying at, and it’ll even tell you if this buyer is buying on market deals or off market deals only. And so it really just gives you all of the information that you could possibly want to understand, whether or not… If you guys want to know more about it, go to runprivy.com. Runprivy.com, runprivy.com.

Pace:
For me, I go to these two websites every morning. Same two websites. Landwatch.com.

Ashley:
I do love that one.

Pace:
It’s so good. Hey, do you know how many owner finance listings are on there right now?

Ashley:
Yeah, there’s even a button to push to see all of them, too.

Pace:
There are currently 12,644 listings on landwatch.com, all on owner financed. Just owner financed. And then for multi-family or commercial is, I love crexi.com. I used to love LoopNet but I feel like they just haven’t innovated, and Crexi just has kicked their butt. And then also Dave Meyer.

Ashley:
Well thank you guys so much for coming on to the Q&A.

Pace:
Thank you guys.

Ashley:
And thank you so much for having Tony and I.

Jamil:
Love you all.

Pace:
Give it up for these guys!

Jamil:
Let’s go!

Pace:
You guys are the best!

Tony:
Guys, pop it up one more time for Pace and Jamil.

Ashley:
Yes. Okay. So our first question today is from Dimitri Andre. And his question is, “I’m curious how the wholesaling process works. Does the seller know that the initial person they go under contract with is not the end of buyer? Do they show up at closing and find someone else, and feel like something shady happened in the process?”

Tony:
Yeah, so this is a great question, Dimitri. And I think it depends on the wholesaler, depending on who you talk to, every person kind of handles it in a different route. So I’ll give you the two options that I’m familiar with, and let you make the determination of what makes the most sense for you. So option one is you be very clear with the seller upfront to say, “Hey, my job is to help you find an end buyer for this property. And when we get to the closing table, there will be another party that’s actually going to be purchasing this property for you. I’m just here to help play the middle man, and connect you with that person. In exchange for me doing the service for you, I will collect a small assignment fee.” And typically when you do that process you’re at the closing table, it’s a single closing, and you just get cut a check for being that person in the middle. So that’s one way to do it. You’re just open and honest with that person at the outset.
The other way to do it is to say, “Yeah, I’m going to buy this property from you. And then when you go to the closing table, instead of it being one closing, it’s a double closing. So say at 10:05 AM you buy the property from the seller, that closing closes, and then at 10:10 AM you turn around and have a second closing where you’re selling that property to another buyer. Now there are benefits and cons to each one of those approaches. If you do a single close, you don’t have to come out with any cash out of your pocket because you’re not actually purchasing the property, you’re just getting a fee for connecting the seller with the end buyer. If you do the double closing, typically you will have to come up with the funds to actually purchase the property. Even if it’s just for that hour timeframe in between those two closings, you have to actually pay that person up front, and you immediately get repaid shortly thereafter, when you get that second closing. So those are the two options I’m familiar with on the wholesaling side.

Ashley:
And Tony, have you ever shown up to a closing table with the seller? Because I don’t think that I’ve ever actually been in a room with the seller.

Tony:
I was going to… The very first real estate investment that I purchased, this was one of those properties in Shreveport, Louisiana, that one I actually… Just because I was so excited, I literally flew to Louisiana, sat at the closing table, and the sellers were there. I shook their hands. Outside of that, I haven’t seen any in person. Usually, Dimitri, when you close on a property, you’re either going to a notary’s office or they’re sending a mobile notary to you.

Ashley:
And even if you’re going to, so when you use a mortgage on the properties, it’s more likely you have to be in person. So when you’re doing a cash deal, which a lot of times a wholesale deal is, you can sign ahead of time, like Tony said, with a notary at mayor, maybe at your attorney’s office, something like that. So you don’t even see the seller. But if you’re doing, I did a closing at the city hall so that we could file it, and the sellers were there but they were at a completely different table buying the property that they were closing on, once I signed that I was buying their other property. But we didn’t even see each other really at that point. So I don’t think that’s something really to worry about. I think the big, as long as that property does close, the people aren’t going to care who is actually the end buyer on it.

Tony:
Yeah, and again, it’s up to you. You’ve seen wholesalers do it both ways. So you think about what makes you more comfortable, and what you feel might help you to get the deal closed and go with it.

Ashley:
This next question is from Elisa Serrano. “I’d love some advice about business relationship etiquette. I’ve been reaching out and starting to create relationships with real estate agents and lenders. I’m 100% the type of person to compare several different options to get the best choice for me. Although I know it is part of their job, I’m struggling with taking up their time, knowing I’ll have to go with one agent lender and I might not use them. What’s a professional, respectful way to say thank you so much for your time, however I’m going to go with someone else, but I’d still like to keep this connection with you in hopes we can work together in the future. And at what point do you say this? Do you wait until the very end to see what they can do and tell them, or try to save their time?
“I just don’t want to burn bridges and make anyone feel like they have wasted their time. Having worked in sales commission before, I know that there is a tasteful and not tasteful way of going about this. And this is my first deal, beginning of my real estate journey, so I don’t want to make any bad impressions. Any advice is very welcome.” So the first thing I think of after reading this is it is great to get to know who you’re going to be working with, and maintaining those relationships. It is going to be somebody that’s helping you build your team, build your rental portfolio. So you do want to know more about them and what they’re willing to offer you. I definitely think on the real estate agent side, there is some etiquette as to if that person is bringing you the deal. If they bring you the deal, they take you to the showing, then I think it’s proper etiquette to go with that person to purchase the deal.
As far as mortgage lenders, whenever I have a deal I am reaching out to any of the mortgage lenders I’ve worked with, any that I have wanted to work with, and I ask them what options they have. And I don’t waste a lot of their time because I ask them right away, “If I close today, what would the terms be? What can you offer me?” And then I also look at who actually responded to me in a timely manner, because I want a mortgage officer who’s going to be able to close on the property quickly and timely. So what are your thoughts on that, Tony? As far as getting to know agents and lenders, as to how to not waste their time, but get to know them and make sure they’re the right person for your team?

Tony:
I mean, I think Elisa here said it the exact correct way. She said, “What’s a professional/respectful way to say thank you so much for your time, however, I’m going to go with someone else, but I still like to keep this connection open,” that is a perfect way to say it, right? I think as you said, most people in this industry understand that a lot of their customers are going to be shopping around looking for the best person for them. So I think they do understand that.
I think your point though about the agent is super important to point out, because it’s like, if this agent brought you the deal, it would be shady for you to then go out and bring in another agent to close on that same property. However, I do think it’s fine to work with multiple agents at once, and if one agent brings you this deal, another agent brings you this deal, I think that’s fine. And I have different agents in the markets that we work in, and different ones are sending me different deals, and I think that’s fine. But to Ashley’s point, it’s like if one agent brings you that deal, you should close that deal with that person.

Ashley:
And also too, if you happen to be scanning Zillow and you find a deal, and now it’s your turn to pick which agent you’re going to ask to take you to the showing, start thinking about what are those agents’ strong suits? Maybe you want to do creative financing, does your agent have experience helping you structure that if you need help with things like that? So look at the deal and think about, what will I need help with through this deal? Is it maybe just getting to see a showing? That’s it, you don’t need any help with anything else, no market research analysis, then it’s probably the first agent that can get you into the property, and then that’s the agent to go with because you can do everything else on your own. So think about that, too, as you’re deciding which agent to use for a deal, as to what value they’re bringing, and what you need from them.

Tony:
And on the lender side, I think it’s very reasonable when you start that conversation to say, “Hey, you are lender one that I’m talking to, but I just want to be super clear that I’m also working on getting pre-approval from this other lender.” And when you get those initial term sheets back, I think that’s when you can make a more educated decision around which lender you actually want to move the process with. Because a lot of lenders, just by giving you that initial pre-qualification, they can give you a ballpark on what your final terms might look like. And I think that should probably be enough information for you. I probably wouldn’t get to the point where you have two closing disclosures out with the same lender, because at that point they’ve done a lot of work to get you to that point. But I think that initial pre-qualification is totally fine to be shopping around.

Ashley:
Yeah, I actually had one of my business partners on a deal, him and his wife did actually burn a bridge with a lender, where they waited until the morning of closing on their line of credit on a property to call the bank and say they could no longer go through with it, because they’d found out this business they were purchasing wanted to use that house as collateral for their SBA loan to purchase the business, so they could no longer get this line of credit. And they completely burned that bridge with that bank. That loan officer, he actually retired this year, but I’m pretty sure it’s a very small bank, that they would not be able to go there and get a loan. Okay, let’s move on to our next one.

Tony:
Let’s take the next one.

Ashley:
This question is from Bill Ackeridge. “Hello fellow rookies. I don’t own any properties yet besides my primary residence. I’m wanting to know if there are any additional costs of ownership for rental properties that I wouldn’t necessarily experience at a primary residence. How do things like insurance on the property differ between a primary residence and an investment property? Thanks.” Ah, insurance. I love it and hate it. So I actually got my insurance license and I dreaded every single part of it. I did it just to help somebody open an insurance company.

Tony:
So if you need insurance claims, Ashley Kehr is your girl, hit her up.

Ashley:
This was, I think maybe three years ago, maybe four years ago now that I went and did that, and I can’t even tell you one thing anymore. I don’t know. So now I just send referrals. But so with the insurance we’ll address that first, and we can go over some of the other differences. But the insurance is very different because you’re not covering the contents, like the personal items of the tenant that is renting the property. So if you were doing a short-term rental, then that would be different because you do own the furnishings in the property. But as far as a long-term rental property, you are just going to be covering the structure, the building of the property, and then you want to have some liability on the property. And then if there’s any outbuildings, like a shed on the property, you want that covered too. So in my experience, it is usually cheaper to get insurance on an investment property than your primary residence, because you’re not covering all of the contents and other things inside of the property, too.

Tony:
From a short-term rental perspective, the opposite is actually true. Insurance companies I think see more risk with a short-term rental, because the number of people coming through that property on a regular basis is higher. You have people that are on vacation, sometimes they’re maybe having a good time, they’re drinking and other things. So I think the risk for short-term rentals are probably a little bit higher. So we do see our insurance rates and our STR is higher than our long-term rentals typically. But to go back to Bill’s, the initial part of his question is what are some of those other expenses? I think this is a great question for rookies, and one that a lot of people are probably thinking. And my first piece of advice, Bill, is that when you go to analyze a property, use one of the Bigger Pockets calculators because I think the calculators force you to think through all of those expenses that come along with your rental properties you don’t really think about.
So a lot of times you analyze a property yourself, you’re just going to think about the expenses that come to your mind, but the BP calculators actually force you to say, okay, put a line out in for this, put an amount in for this, put an amount in for this. So some of the other things that might come up when you own a rental property. I’ve seen, and it depends on the property, but I’ve seen some owners where they bake in the cost of utilities. If you have multi-family where things aren’t separately metered, sometimes it’s hard to account for the utilities costs. If you’re doing a house hack where you’re renting out the rooms, most people just bake in the utilities for the flat, or they’re as far as a flat rate for utilities. So utilities is one thing to me that you might want to consider, depending on what kind of rental property you’re going with.

Ashley:
And you know what’s really funny, did you ever hear the saying the shoemakers kids never have shoes because he is so busy making other people’s shoes?

Tony:
I’ve actually never heard that.

Ashley:
Okay, well my dad, he owns a mechanic shop and that was the big joke when we were growing up, is we all had these cars he gave us, but our cars never got fixed. It’d be like, “Oh, it’s leaking oil, just dump more in. I’ll get to it sometime.” And even my sister, just recently, she said she made an appointment with my dad on November 7th and it just got in four weeks later. So I think about that a lot from my rental properties. My dishwasher at my primary residence has not worked in over a year, and I just will not spend the money. It’s just not that big of a deal to me yet. Or the hassle of having somebody come in and replace it, and to find the matching piece to the rest of my set. I can’t go through the company that we usually use for appliance maintenance, things like that. But a rental property, it’s like-

Tony:
You got to do-

Ashley:
Oh, it’s done that day, get a new dishwasher in there.

Tony:
It’s so funny. So even for us, our short-term rentals, from a design standpoint, are so much nicer than our own house. And me and Sarah keeps saying, “Why do we have these nightstands from college still?” We’re in our thirties now, why do we still have these? But same, it’s just something about spending money on your own house, I don’t know.

Ashley:
Yeah, so when I read that question, that’s what I thought about is that there will be expenses that could be in both sets of houses, but you will choose to put them into your investment properties to keep them a good investment. And then other things to think of is just seasonal maintenance that may happen. So if you own your own residence and you live where there’s snow, you could snow blow it yourself, have your kids shovel it, whatever it is. But if it’s a rental property, you may have to pay for somebody to come and do that, or even cut the grass, or maintain the pool. Things like that too, that maybe you could do yourself since you’re the primary owner.

Tony:
Other things are big capital expenses. So we’re looking at a property right now, we have to replace the roof, the septic system we have to replace on a few of our properties. We have to install new HVAC systems on some other properties. So some of those bigger capital expenses that aren’t going to happen every single year, but you know they have some type of shelf life, those are things you want to set aside money for as well to replace as you own that property.

Ashley:
Hey, our fourth and final question is from Christina Haws. “I am considering buying a six-plex. I never bought multi-family before, just single family. What are your thoughts on using the same realtor who is representing the seller, so the realtor would represent both buyer and seller?” So this is called being a dual agent where the agent represents both of you, and in New York state, at least, you as the buyer, and the seller, have to sign stating that it’s full disclosure that this is a dual agent working for both. So I don’t think that I’ve ever used a dual agent before. Have you?

Tony:
I love doing that. Yeah. So for me, and it depends on where you’re at in your investing career. When I first started investing, one of the things that was super important to me was to have an agent that could educate me on the market, that could really advocate for my best interest because I wasn’t super familiar with what I was looking for. I wasn’t familiar with what some of the pitfalls were. Now typically, if I’m looking in a new market, I will go directly to the listing agent and say, “Hey, it’s just me. I’m the investor. Here’s my offer, let’s work together.”
I think the benefits of that are, A, the agent is, I think, maybe a little more incentivized to work with you, because now they’re not splitting that commission with a buyer’s agent and B, it’s going to be an easier transaction, because they don’t have to worry about this telephone game between the buyer, themselves, or the sellers agent and all these different people. So I typically do do that, and I think in California you have to sign that document as well. Some agents though won’t do that. I’ve reached out to some agents, and they’re like, “Hey, I don’t do the dual agent thing, but I have someone in my office that I can recommend to you.” But I honestly have done that. And my agent at Joshua Tree, I found that way, and multiple agents I’ve found have been just by going directly to that listing.

Ashley:
Yeah, I feel like I’ve had more trouble, and this is more on the commercial side. So recently we looked at, it was an old welding warehouse and we’re going to use it for self storage for boats and RVs, and just trying to contact the listing agent was… Look, we showed up twice and she was a no show. And I’m sure that can happen with all kinds of agents, but then we ended up just contacting an agent we had worked with before and he was like, “I’ll get you a showing.” And then he ended up taking us to go see it. But I think especially on the commercial side, if you built that kind of relationship with that broker, it’s going to go a lot easier, and you’re going to be more of a priority instead of just, “This person just reached out to me for the first time ever. I don’t really know if they’re a serious investor.”
Things like that. But as far as in this circumstance, if you think it will be easier for you, and Tony has obviously had a good experience, there’s not a lot of reasons not to. The only thing that I can think of would be if negotiations start to come up during the due diligence period, where the agent becomes the middleman and now it’s like who is the agent really representing and fighting for? Especially if you are a new investor, which Christina, it seems like you’re a pretty experienced, you’re a single family, but if you’re a new investor, I think it’s beneficial to have an agent that’s on your side, and going to be fighting for you if it does get to that circumstance where during the inspection period, things come up, and they’re on your side. Where maybe if you’re there’s a dual agent, they might lean towards more of, oh, the higher price, the higher commission. I’m on the seller’s side.

Tony:
That’s a great point. And I think the way that you can combat that, Christina, is by really sticking to your numbers. When you analyze that deal, there was some number where that deal made sense. And if you get to that negotiation phase doing your due diligence, and the seller’s agent is really playing hardball and doesn’t want to give you what you want, that’s true. You want to walk away and say, “All right, hey Mr. Seller’s agent or Mrs. Seller’s agent, great working with you, but I know what my numbers are. Unfortunately this deal doesn’t make sense so I’m going to walk away.” And at that point, either the agent is going to work with you and compromise, or they’re going to say, “Hey, wish you the best of luck,” and that’s the end of the deal. So I think for us, that’s what we’ve leaned on is to say, “Hey, we know what our drop dead number is,” and use that as our backstop.

Ashley:
And I think you have to look at what type of person you are too. Because I would say early on in my investing career, an agent probably could have persuaded me that, “Oh this is the way to do it, you should do this, you’re getting a great deal,” where now I know better. So think about if you’re easily persuaded, or I know I struggled with low ball offers when I first started out. I felt like I was offending someone if you get into the circumstance where the agent’s almost making you feel guilty for asking for those things. So think about how tough you are, and how much you can stand your ground if you are going to hold yourself up, and not give in to just being influenced by an agent, I guess.

Tony:
You talked about low ball offers, so I just want to mention this really quickly. So I submit multiple low ball offers on a regular basis.

Ashley:
Yes.

Tony:
Just because you have to try and find deals, especially for our rehab properties. I’m just trying to pull up because we just got a… I was just telling you yesterday, we have a property under contract with a pool. So this, it’s a probate property hasn’t been taken care of in the best condition. There’s a swamp cooler on the roof that pretty much caused a mat, like the roof almost-

Ashley:
What a swamp cooler?

Tony:
You haven’t heard of a swamp cooler?

Ashley:
No. I feel like this is when I tell you about a well.

Tony:
So a swamp cooler, it’s an old school HVAC system and it’s super popular in the desert. I don’t really know the inner workings of it, but it’s significantly cheaper than a traditional HVAC system. However, if they’re not maintained properly, because something about water running through the system, they can leak.

Ashley:
Okay.

Tony:
So you see a lot of properties in the desert where these swamp coolers are placed on the roof, when ideally they should have been placed off to the size somewhere. But anyways, they’re placed on the roof and if they weren’t maintained they start to drip and drip and drip.

Ashley:
Oh, and leak through.

Tony:
So we walked into one of the restrooms here and you could literally see skylight coming through the restroom because of all the damage that had happened. So anyway, I just want to pull it up, because I can’t find the property. Anyway, the property was listed for something like, I don’t know, 370 or something like that. I offered 312.5, and they accepted that offer, and now it’s under contract, we walked the property, got the inspection report, I’m probably going to ask for another 12 to $15,000 in price reduction. So anyway, my point is, sometimes just because a property is listed as a certain price, that doesn’t even necessarily mean that the sellers believe the property’s worth that price. They just want to see what they can get. And we were one of the only people that offered on that property because it didn’t need so much work. But for us, we’re not afraid of the work because we know we have the crew, as long as we can get it for the right price. So that’s a big thing.

Ashley:
And they didn’t even counter at all, they just accepted?

Tony:
They accepted it. Our very first offer they accepted. So it gives me the indication that there’s probably some wiggle room there as well, which is why we’re going to go back with what we found from the inspection report.

Ashley:
Right. And you put in that inspection contingency too.

Tony:
Totally. Yeah.

Ashley:
So that’s safety net, having that too. Okay, well thank you guys so much for joining us for this Rookie Reply. I’m Ashley at Wealth Firm Rentals and he’s Tony at Tony J. Robinson, and we will be back next week with a guest.

Dave:
Hey, everyone. Welcome to On The Market. My name’s Dave Meyer. I’ll be your host today, joined today by Kathy Fettke, James Dainard and Jamil Damji. How are all of you?

Kathy:
We are all sick, woo-hoo. It was a great party.

Dave:
Every single one of us is sick. I think we’re going to have a lot of muting of microphones.

Jamil:
I might have to take responsibility for it.

Dave:
It was Jamil’s fault apparently, but I wasn’t even at the party and I’m sick too, so I don’t know.

Jamil:
Well, that’s because we mailed it to you.

Kathy:
Oh, yeah.

Dave:
Well, thank you. I appreciate that. I really appreciate you in including me. It’s very thoughtful. Well, I actually wasn’t at the party, but I did get to do something very fun, which was I was in Madrid, Spain and I got to meet in person the entire team that edits this podcast, they all live in Madrid. I don’t even know if you guys know that.
But I went to go hang out with them and they’re extremely cool, fun people. They took me on a 10-hour tour of the inside of many bars in Madrid and I just wanted to give a shout out to Joel, Eliezer, Alexander and Anna, who are an incredibly talented team. It was a pleasure to meet them and I had a lot of fun with them. Very talented, passionate people who make this show possible. That was really cool for me and I just wanted to tell you guys about it.

Jamil:
Amazing. I had no idea that they were in Spain, but now we have to make a trip out there and go hang out.

Kathy:
Sounds like we have to.

James:
Are they sick of our voices yet?

Dave:
No. They were making fun of me the whole time. They’re like, “I feel like I have to put a frame around your face. That’s what I’m used to seeing you like. It’s weird seeing you.” No, they would love that. We should do that next time. Kathy, next time you’re in Portugal, just pop over to Madrid. It’s not far.

Kathy:
April.

Dave:
All right.

Jamil:
Did anyone say to you that you’re taller than they expected?

Dave:
No, probably said shorter knowing me.

Jamil:
I always get, “Oh, you’re thinner than I expected you to be.” I don’t know how to take that. I’m like …

Dave:
Well, they were probably already thinking you’re very thin and muscular, so even thinner.

Jamil:
I get, “You’re thinner than I thought,” and, “Your beard doesn’t look as terrible in person as it does on video.”

Dave:
What?

Kathy:
Nobody says that to you.

Dave:
Who thinks your beard looks terrible?

Jamil:
I have no idea, man. The Internet is fun.

James:
Well, let me see. I can’t even grow a beard.

Jamil:
That’s what happens when you’re one of the America’s best investors and you’re only 12, James.

Dave:
That’s like one of the BiggerPockets podcast headlines like, 150,000 units by 12 years old, featuring James Dainard.

James:
Profit and puberty.

Dave:
That could be your BP book pitch, James.

James:
I think I’m going to write that down.

Dave:
All right, well let’s get to today’s episode. As we wind down the year, we wanted to recap and sort of go back to actually one of the first shows we did, which we were picking best markets, worst markets. And so today, we’re going to talk about our predictions for the best and worst markets for 2023.
But before we do, Rocket Mortgage, one of the biggest mortgage companies in the country, just came out with their rankings of the top five markets for 2022. I want to throw these out there and see what you guys think about these before we get into our predictions for next year.
They said the number five was Charlotte, North Carolina. Did any of you pick them last year? I feel like someone might have.

Kathy:
I did.

Jamil:
Oh, you did?

Kathy:
Didn’t I?

Jamil:
Why do I feel like-

Dave:
No, Jamil. You had Austin in Denver. I remember that specifically.

Jamil:
Austin and Denver, that’s right.

Dave:
Because the final was just you against yourself.

Jamil:
Yeah. Charlotte?

Dave:
It’s Charlotte. Do you invest there, Kathy?

Kathy:
Yeah.

Dave:
How did it do this year?

Kathy:
Well, it got very expensive this year, so it became difficult to buy this year. But if you bought before this year, you did great.

Dave:
Nice. Then number four, we have at Nashville, which is sort of, I feel like perennially on everyone’s list of top markets. Then we had Raleigh, number three. Tampa, which I said, but got voted out early for number two, and Austin for number one, which I was kind of confused by. I think that’s actually what won in our competition last year. But would you guys think Austin was the best performing market this year?

James:
I mean if you look at those first two quarters in all those tech markets, they jumped so high. It’s like they had room to pull back and it was still going to be good. I mean, Scottsdale was kind of like that too. It was like Scottsdale, Austin, Seattle, LA, San Fran. They just shot up.

Dave:
Well, that’s a good question, James. You’ve been pretty honest about pullbacks in Seattle in your market, are they still up considerably over pre-pandemic levels prices in Seattle?

James:
Oh yeah. We’re substantially up from pre. I mean we’re still 5% up on this year in Seattle, but we were up 25% to 30% and there’s first two quarters. I know there was one month alone I was seeing some cities appreciate at 25% in one month. It was crazy. I had to triple check the data. I was like, wait, what happened? The median home price jumped 25% in one?

Dave:
That’s like a crypto coin.

James:
Yeah. I mean we’re still at least 30% up from 2020 or 25% to 30% in certain neighborhoods for sure. And so there’s still rapid growth. It’s just sliding back with the affordability right now.

Kathy:
Yeah, I mean that was kind of my comment last year is that this is a leveling out of a crazy manic pandemic-induced buying spree of last year. And so with so many things, when we see layoffs, when we see home prices coming down, it’s really just comparing to an abnormal year. And so if you could keep that in mind and maybe just compare numbers to 2019, people who bought in markets that really went up and are now coming back down to earth, if they bought this year, they might be feeling a little pain. But if you bought before that, you’re fine.
If you hold it, you’re fine. It’s just anytime you have to sell, if you’re forced to sell when it’s not good timing to sell, then that can be painful. But if you can hold, usually those hot markets come back and they become hot again.

Jamil:
I feel like if you bought a house in the peak time of 2022, it’s kind of like one of those nights you got really drunk at a party and things didn’t turn out the way that they should have and you want to forget it. And so that’s basically what happened.

Dave:
Is this what happened at your party last weekend, Jamil?

Jamil:
Maybe.

Kathy:
I left in time.

Jamil:
Listen, we all have the same sickness, and how that happened …

Dave:
I don’t know how to follow that up.

Jamil:
I put on a good party though, guys.

Kathy:
That was a good party.

Jamil:
Let’s be real.

James:
You know what? Everyone should go to Jamil’s meetups and parties. They’re the most fun things for real estate I’ve been to. It’s like, it is a vibe that is nothing I’ve seen at a real estate conference before or meetup.

Kathy:
I’m signing up.

Jamil:
All right, well definitely check those out.

Dave:
Okay, well let’s take a break now because, Jamil, you threw me off. Let’s take a quick break and then we’ll come back and talk about our predictions for 2023.
All right, let’s jump into our predictions, but before I ask you which markets you actually picked, can we talk quickly about what criteria you all used? We’re going to do our worst markets first and when Kailyn and I assigned you these, we didn’t really give definition what worst means. I’m curious, Kathy, what did you interpret that as? What did you think? How did you choose the market you chose?

Kathy:
I had to really give it some thought because with real estate, you can get super confused. There’s so much data coming from so many different angles and everybody’s got an opinion and that’s a hundred X every year as more and more people get into the industry. It can be very confusing. I just had to stop and say, for what? The worst market for what?
For me, my buying box, basically what I have always looked for are areas that cash flow with the hope of appreciation because there’s something going on in that area, there’s growth. And so I don’t need it to go up in price dramatically right away. I just want it to over time so that I know that I’m getting cash flow and appreciation because the double whammy is what can really make you wealthy.
For me, the worst market I chose was Detroit. Now Detroit came up on some lists as a great market for 2023. Again, it just depends on your buy box. I’m sure there’s Detroit investors listening who are like, “If you invest the way I invest, you’ll do great in Detroit,” because there is a lot going on and apparently has had some of the highest millennial growth there. There’s a lot of revitalization happening downtown. Some of the things I look for are there.
The reason I choose it as the worst for me is that they’ve had a population decline over decades. Yeah, decades. Detroit has seen a 61% decrease in his population since the ’50s. It used to be really quite like a New York kind of city, very popular city, but people are leaving and they’re going to wear my favorite market. One of my best markets is warmer climates, the Florida area. No, I didn’t tell you where in Florida, but warm climates with landlord friendly laws. This fits the buy box for me.
If I’m looking for buy and hold, cash flow, appreciation and growth, I want to be in an area where there’s job growth, population growth, infrastructure growth, rent growth, all those things. We’re not seeing it. But the biggest reason that I wouldn’t invest in Detroit is that they have this law, and it is a tough law, and I know it well.
In May of 2017, the city of Detroit announced its intention to implement a citywide effort to enforce tougher rental ordinance rules on landlords. Landlord rules really matter. Basically, you can get massively fined depending on which way you look at it. For renters, this is great, it means that landlords have to take care of their properties and fix things. But if you’re not aware of that, you can get really stuck.
We’re trying to sell three Detroit properties in our former fund. My last single family rental fund, we’re down to three Detroit properties that we’re having a really tough time selling. We can’t get the tenants out because landlord laws are really not in our favor there. The city comes in and inspects and tells us all these things we have to fix. Those fixes are costing a lot, $40,000 to $50,000. These are properties we only owned five years and we fixed them five years ago. They’re older. If you’re buying an older property in Detroit, you just have to know that the city inspectors may charge you.
For me, this is not a best market for me, it’s a worst market for me. I do think if you go in and you can get a great deal and you completely renovate it and you’ve got the budget for it and the reserves, you could get great cash flow. I just don’t think that you’re ever really going to see that market appreciate the way I like it to do in other markets.

Dave:
All right. Detroit is our first worst city. I know the former CEO and founder of BiggerPockets, Josh Dorkin, would definitely agree with you. He made a reputation of hating on Detroit for many generations.

Kathy:
I used to love it. I used to invest there and our fund bought a bunch of properties there and they cash flowed the whole time during the fund. They were wonderful for cash flow. It’s just when you’re trying to get out or if the city comes in and tells you to do a bunch of work you weren’t expecting to do. You just have to have lots and lots and lots and lots of reserves for older properties.

Dave:
Kathy, it’s a great point. Two or three years ago, I did this data analysis to look at appreciation versus cash flow for markets and I plotted them out. Basically, what we saw was that before the pandemic, most markets were either really good appreciation or really good cash flow and there were a few that were both, but they were modest for both. The outliers for good cash flow like Detroit were also outliers for bad appreciation.
And so you saw the other thing too. An outlier for appreciation like Seattle was also an outlier for bad cash flow a lot of the time, just on average. Since the pandemic started, all that got thrown out of the window and everyone has just seen both. But I do think as we go into 2023, we’re going to start going back to that normal sort of bifurcation in the market where some markets are really good for cash flow but don’t appreciate really and vice versa. Some will continue to appreciate but aren’t going to be places where you can easily find rental properties that meet the 1% rule, for example.
And so, it sounds like you agree. Detroit might be good for cash flow, but appreciation probably not going anywhere.

Kathy:
Yeah, I think it’s really important to look at how performance was before 2020. I know a lot of these cities have really redefined themselves in the last decade, but if you take say 2015 to 2019 and really look at the cap rates and what was happening in those markets appreciation-wise, those were good solid years for real estate. That will be a better metric for where we’re headed in 2023, I think.

Dave:
All right, well there we got one. James, how did you approach this and what city did you pick?

James:
I picked kind of a different city. I spent a lot of time researching all these markets and I’m like, you know what? I’m going back to the market that I had the biggest regret of not buying in 2009. And so I picked San Diego, California. The reason I picked San Diego is, A, and this has nothing to do with what we’re going through now because it’s a different thing, but I remember in 2009, the sky-rise condos went down to under 400 grand. These things were like you’d be up killer views, brand new, and you could buy them for under half million dollars and they were trading for over a million before the mortgage industry exploded.
But the reason I picked San Diego is I do think, A, I think San Diego is the best city on the West Coast. It is where you want to live for sure, but the problem is the income is just not there and what people can afford in the job market. It’s a really good place to move to if you have money, but if not, you’re going to struggle with a lot of the pricing around there.
And so what we’ve seen with the interest rates rising is the rates, we’ve already seen it go from a medium home price down over 10%. There’s been a drop from about 950 down 850. We’ve seen something very interesting to watch for and these are the markets I’m most cautious in right now are the ones that’s hockey stick up in that first two quarters at a crazy rate. San Diego definitely hits that. In March, they were up 30% and they were one of the top three appreciating markets for that month. It has retracted back 20% from March and it’s continuing to slide right now.
I think a lot of the reason that they have retracted back is the math just doesn’t quite make sense. Also, rents have dropped 5% since March as well. I do think the rents are falling because more the remote work. Why wouldn’t you want a remote work in San Diego if you could? That’s where I would want a remote work. And so as the workforce is going back to where they’re supposed to be working, all these things are starting to bring it back.
During the pandemic, living in a quality place was a big concern for most people and San Diego’s one of the best you can be in. And so I think people are just starting to leave a little bit and it’s starting to let things down. But to put it in perspective, you have to save … In San Diego, the average home buyer needs to save up $160,000 to buy a house. With the income that they’re making, they need to save a minimum of $13,000 per year to it. It is going to take them almost 8 to 12 years to save up for that 20% deposit. That doesn’t even keep track with the pricing going up during that time. With a median home price of $905,000, the household income should be $166,000 to afford that comfortably.
The problem is the median household income there is $70,000 and a lot of the actual jobs that are in San Diego are big … There’s not as much, and I picked San Diego because there’s not as much big business as there is in Austin, Seattle, San Francisco where there’s these big anchor tech companies that yes, they might be going through a downturn right now and laying off some people but they’re going to come back and these are companies that are not going away whereas they have a much more limited pool. Military is a big deal.
Now I do think if we are going into more conflict that the military could grow and that there is going to be, that could expand in San Diego because it’s the biggest military base there is, but it still doesn’t get you to the income for affordability. With rates being as high as they are, it’s just going to pull everything back because just people are not making enough money to buy. We’re seeing that right now.
If the rates continue to go up, which I do believe they will for at least the first two quarters, you’re going to see homes dropping price. 43% of all homes in San Diegos have cut their price this year. That is a substantial amount. That means people are either overpricing or even if they are pricing right, they’re just not selling for people can’t afford them.
The major pool of that they can’t afford that, those big companies are slowing down, like Qualcomm is a huge business there. That is one of their anchor employers. Qualcomm has froze their hiring right now. They have not announced layoffs yet as far as I could tell, but that’s usually the first step. You freeze your hiring and then there’s layoffs coming.
They have not predicted the layoffs but they are expecting the company internally is expecting that their shipments are going to decline in the double digit percentage for next year. They’re predicting that they are going to do less business as a company which is going to start laying off the people that are going to absorb a lot of these more expensive properties. And so all those things that when you get in a mix, I just see this stuff coming down. It’s way too expensive, we’re missing like $70,000 on the median home price to get people to really be able to afford. Then there’s other things that are just indicating that it’s way better to rent versus to buy. The cost to rent ratio is 30.38. In a healthy market, it’s like you want to be below 21.
It is so far out of whack right now that I think that San Diego could fall an additional 10% from where it’s at right now. That doesn’t mean that I wouldn’t buy in San Diego, it’s actually on my cities to slate to buy in. I just think that there’s going to be more opportunities. I don’t want to have the same regret I had in 2009 because I do think quality of living and people want to live there in general and that’s always going to drive growth.
They are also on a long-term basis predicting that San Diego’s economy is going to grow, I think they said 31% in the next 10 years or 20 years. And so they’re predicting growth. But in the short term for 2023, I think it’s going to retract back and I think all these expensive West Coast markets are going to continue to retract back. The thing you have to be careful about with the investors is when you’re playing in expensive markets, the retraction can really hurt. And so that’s why I put this as the worst market that I would invest in.

Dave:
Everyone loves leverage when you’re going up, and then when it goes down it hurts a lot.

James:
I mean it definitely hurts. Like what we were talking about before I got on the show, I finally sold a house that it took 150 days to sell and luckily I’m breaking even. I don’t even know how I’m breaking even. But we just sold the house for 450 grand, less than a house that we sold right around the corner when we bought that deal in the beginning of the year. And so you have to watch out for these slides and the slides are okay, you just have to prepare for them correctly.
But I do think San Diego’s going to have some issues. It’s just too expensive for what people make there. I do think people are always going to want to live there. Well, in addition to besides that expense, you have that California expense, the extra 13% income tax. There’s too many expenses going on that are eating up liquidity and that’s why I do think that it’s prone for a pretty big drop from here. I think another 10% is coming back.

Dave:
San Diego might be on your best markets for 2024 list?

James:
Yes. I actually think all those markets like Seattle. It’s Seattle, right? It’s a very similar … I like Seattle better than San Diego because there’s more jobs there. I like Austin better than San Diego because there’s more jobs and infrastructure there. But I do think all these cities that are having these massive retractions are great buying opportunities, especially after this second quarter. But you have to buy carefully. You can’t buy traditionally. If you’re buying traditionally, you’re going to get … I think you’re going to get burnt.
But as the markets keep free fall … I mean those are the markets that are going to have the most opportunity. The ones that are falling backwards are the ones that everyone just jumps out of. That’s where I really want to jump in. I probably will buy something in San Diego. I want to buy some short term rental stuff right down by the beach and PB. I know the condo market gets hammered and those are things that I’m looking for, is if I can buy it substantially below what it was worth, if I’m buying them 30%, 40% below that previous median home price, there’s runway for growth and equity gains in over a five-year period.
But like what Kathy said, it comes down to what is your strategy? My strategy isn’t high cash flow. I don’t like dealing with these small houses that can get you 10% to 15% returns because I don’t like those maintenance expenses. They can jeopardize my cash flow position. I like high growth markets because that’s where you make those big equity gains. Those equity gains have completely changed me as an investor and how I’ve been able to passively invest just based on those gains.

Dave:
All right. Well said. Actually when I was trying to think through this for best markets, I was thinking of doing a contrarian opinion and saying something like Austin, because I think it is going to go down 20% or 30%, but it has one of the best long-term growth potentials of any city in the country. And so maybe it is a great time to buy in Austin if to your point, James, you’re buying under market value and finding good value.
All right. Jamil, what about you? How’d you approach this?

Jamil:
Well, I loved everything that James and Kathy said. I agree that you have to look at it from the perspective of your investment strategy. We all know that I am a trader. I look at the real estate market in terms of how can I benefit, how can I get involved and where are my buyers? Where are my clients? Where are they looking to invest? Where are they running away from?
And so for the worst market of 2023, I’ve chosen Ventura County. Realtor.com predicts that it will drop in sales price by about 30%, 29.3%, 29.1% specifically is what their prediction is. That’s a significant amount of money. When you look at fix and flip, when you look at wholesale, when you look at opportunities for us to trade in property, if you’ve got declining market to that degree with all of the things that James was talking about, you’ve got the regular Southern California issues like the state tax, the migration in Ventura County is not, it’s flat, if anything.
And so how I look at a market like that, as I say, are my clients or are my buyers for fix and flip or are my wholesale buyers looking for opportunities in Ventura County right now? They’re not. For me, where we are not going to be investing marketing, where we are not going to be investing resources for boots on the ground to try to find some opportunities or to pick up opportunities for trade will be some of these higher value markets in southern California. But I do also agree that looking forward to 2024, as you had mentioned and as James had mentioned, there’s going to be a tremendous value, but you have to wait.
It’s a bad market for 2023, but coming off the tail end of that, if you can start buying in Q4 of 2023 and get them significantly below market, because at that point there’s going to be desperation, exhaustion. Sellers are going to be just, they’ll have had it. I feel if you can time your purchases right, you can make the worst market at 2023 your best market at 2024. And so I’ll be re-entering Ventura and some of those markets in Southern California towards the tail end of ’23.
But for now the worst market, Ventura County.

Dave:
It makes sense. Kathy, what’s your read on this California hate over here with getting James and Jamil? But really we’re seeing a lot of population leaving California and it’s very expensive. I feel like people have been saying California’s going to nose dive for decades and it never happens. As a resident and a native, what do you think the future holds for California in the next few years?

Kathy:
I am a native of many generations. My grandmother was one of the first people to swim … She swam across the Golden Gate Bridge. She was an Olympic athlete and would swim around Alcatraz. I really have my roots in California, and this is a conversation that has been had probably for a century. It’s just always the case when you have highly desirable world class areas, it will never be cheap and there will never be a lack of people who can afford it. It’s just that they’re volatile. These are volatile markets.
But San Diego, I mean it truly is one of the best places in the world to live or to have a second home. There are more people that would buy there or own there than work there. Obviously if you are trying to do a buy and hold, again, it just depends on strategy. But it’s almost like if you can do a long term flip, meaning maybe you buy something, you rent it out for a year or two where it’s kind of covering its cost. It probably won’t, it will probably still be negative but then do the flip later so you kind of got in low …

Jamil:
If you can never get the tenant out.

Kathy:
Right, there is that.

Dave:
Valid point.

Kathy:
But it always has bounced back, and you will make a lot of money if you hold. That’s why so many Californians are loaded and are bringing their money to other places because they made their money in housing in many cases.
If you live in California, so what I think of California, I would love to leave California. But I love the weather. I love everything about it except the politics and the prices. But it would be hard for me to go anywhere else and I think a lot of people feel that way who live there.

Dave:
All right, well yeah. I wouldn’t bet against the California market long term. It always bounces back. Oh, and one thing I do want to say when you were talking about that, that could be a very good opportunity for a live-in flip for people who want to do that. You get to live in California and then flip it down the road. If you live in it for two out of five years, you pay no tax. Good opportunity.
For mine, I wanted to pick a city that we don’t talk about a lot also on the West Coast, but was one of the hottest markets over the last couple of years. I picked Reno, Nevada. Do you guys know anything about Reno?

Kathy:
Just sold off our two subdivisions there just in time, so yes.

Dave:
Oh good. Well it went crazy over the last couple of years, so hopefully you did well there.

Kathy:
Sold right before rates went up, so that was good.

Dave:
Ah, nice.

Jamil:
Congrats.

Kathy:
Thank you.

Dave:
Because to me, Reno is one of these cities that just popped due to remote work. It’s a beautiful place. There’s no income tax. It’s right near Lake Tahoe, it’s really nice. But when you look at the economic fundamentals, it doesn’t really support all the growth that we’ve seen. Similar to what James was saying about San Diego, you just see a really not a high enough income level to support the prices. You don’t really see, unlike Seattle or Austin that has exceptional job growth and tech companies moving there, don’t see that to the same degree in Reno.
This is what to me going to be an interesting experiment because I think it grew a lot similar to Boise. I think it’s sort of a similar thing where people who wanted to live somewhere with a great quality of life decided to move there, but will have to see if the economy can support it once people are either called back to the office or salaries don’t rise at the same rates that they have been or there’s layoffs we’re starting to see.
Unfortunately for Reno, I don’t think it’s going to be doing pretty well over the next couple of years. It’s already seen the days on market go up by about 250% over the course of this year. We’re at days on market over 60, which is in any market pretty high. And price drops are over 45%. That’s my pick.

Kathy:
Well, I could tell you why we invested there, why we bought land there and built a lot of houses there because Tesla moved its battery factory there and there was just … Google was moving up there because it’s only about four hours from San Francisco, but it’s in Nevada, no state income tax. It just seemed like this is going to keep growing.
But like San Diego, it just lags. It just lags. It’s so strange why you would think for those reasons companies would move to Nevada just to avoid taxes. But it’s still a four-hour drive. If there was a speed bullet train or something, maybe it would be a different story, I don’t know. But it’s always lagging.

Dave:
The income just hasn’t grown there in the way that it would need to just support some of these prices.

James:
Don’t they run out of water? Isn’t there a huge water issue in Reno too, like it’s dry almost? I just remember I went to Lake Tahoe, they were talking about it. The water’s low and they’re trying to figure out how to get more water in.

Kathy:
I think in general, that was California.

Dave:
And Nevada.

James:
Well, it’s also crazy too when you go to Lake Tahoe, that property values because part of it is in Nevada and they call that millionaires row on that side because that’s where all the mega mansions go. I get what Kathy was doing. They want to get out of that income tax and it’s like, so you have properties that are worth millions and millions of dollars on one side and then just kitty corner, they’re worth 45% less because there’s no income tax.

Jamil:
No, that’s interesting.

Dave:
All right, well we’ve talked about the downside. Again, I think that some of these markets could be great in the future. We’re just talking about 2023, not forever. Let’s move on to markets that we do think are going to outperform or do well in the next year. Kathy, on the other side, you didn’t like Detroit. What do you like for next year?

Kathy:
Well, as you know, like I said, we always look at job growth, population growth and infrastructure growth combined with affordability. I want to be in markets that cash flow today and so you can hold these properties. They don’t have to cash flow a lot. This is a long-term play but cover their costs so that you’re really able to hold these as they appreciate.
Tampa really fits that for me. Tampa has completely redefined itself in the last decade. In fact just in 2021, there were nine companies that relocated their headquarters. There’s an article that says tech company relocations to Tampa Bay soar in 2021. 94 new companies were added to St. Pete’s pipeline. Lots of job growth and that’s really important to us.
Now with that comes population growth. In Tampa, it was 1.3% up last year. This is the important thing looking forward, it’s projected to grow 3.3% annually. The growth has just started. More than 128,000 new residents are forecast to move to the metro area. How on earth by next year, by 2024, there’s not enough housing for all those people.
We’re still buying houses in the one $150,000-$200,000 range just about 45 minutes outside of Tampa. I don’t like to be too far away from a major metro, but if it’s still driving distance and there’s still offices and jobs nearby. Just on the outskirts and out of flood zones and out of the hurricane zones, kind of more inland of Tampa, we are really finding amazing deals. I think if you could still get a house for $200,000, $300,000 in an area that’s growing like that, to me that’s a steal.
Median rent is $2,300 per month for a three-bedroom home. There’s a lot of markets where it might be a two-bedroom apartment or something. But according to Zumper, $2,300 for a three-bedroom home, that’s pretty good. Rents have increased by 16% last year, and 48% of households in Tampa rent rather than own. I think we can all agree that Florida in general is business friendly and landlord friendly. It meets all the things that I want. I’m not worried at all about buying in Tampa today.
Oh my gosh, for the properties that I own in the Tampa area, I get calls propped and texts probably every other day of people trying to buy those homes. There’s still a lot of activity.

Jamil:
That’s my fault.

Dave:
It’s Jamil, he’s calling you.

Kathy:
I know. I keep offering twice what it’s worth and no one’s taking it.

Dave:
All right. Well, I love Tampa too. That’s a very good pick. I mean I think there’s a lot of … Florida, it just seems to be this split city, split state. Some markets seem to be overheated right now, but markets like Tampa just seem to still have really strong fundamentals. We’ll have to keep an eye on that one.

Kathy:
I’ll just say one more thing and then add to it that the iBuyers are kind of backing off, so you have a little bit more opportunity to get in today and we’re finally starting to see the foreclosure sales kind of hit. There’s more opportunity there than there was, but all the same dynamics of growth that we like.

Dave:
Nice. All right. James, what about you? What do you like for next year?

James:
What I like for next year is … It’s funny when I was researching all this. There were a lot of the predicted markets that are going to perform really well in 2023. It’s all based off math equations. When I was looking at all these lists, I’m like, okay, I get it. It’s a very low price point. The median income is up. There’s low inventory, so they’re predicting growth. That totally makes sense.
But for me as an investor, I also like to buy stuff where people want to live. And so I picked Raleigh, North Carolina, which I know did really good this last year. The reason being is it is ranked on numerous lists as the best places to live in the United States. It was ranked number six recently and it has a ton of growth behind it. It had a 3.4% GDP growth in 2022 and the economics behind, it’s Riley and Durham County but there’s growth going on there. The population is increasing because people want to live in quality places but still keep their capital.
A lot of our friends, I know a substantial amount of people in the last 12 months that make good money, they have good careers and they reload out of California. The reason they did is because they were sick of giving away that 13%. They were sick of paying too much money for housing and they’re going to areas like this.
If you look at how affordable this is for the quality of living, so this is the sixth rank city of places to live that you can have a great life to live in. The median home price is $410,000, which did grow by 16% last year and that is my concern. It did have a lot of rapid growth. But the household income is $98,000. So people can afford to … They can move there, have a great life and still live comfortably.
Everybody that I’ve known, and I also go off of what are people saying. People have been reloading to Raleigh, North Carolina, Charlotte, and they love it. They love everything about it. That is a buzz, and as we go into a recession and things are costing more, people are going to look for area. They just want to enjoy life and live somewhere that they can raise their kids, and this is one of those hot places.
The other thing I liked is there is going to be an inventory problem, I believe. Since 2010 until now, they built 50% less houses than they did from 2000 to 2010. If you have growth going on there because the population is growing, just like Kathy said like it’s growing at a rapid rate, it has historically grown around 1.5%. It’s been growing near 3% the last three years. And so it has the buzz. This is where people are moving, there’s a lack of inventory and people can afford things.
Another interesting stat I saw and I was like, wow, this is pretty, it kind of blew my mind. 23% of people don’t have mortgages there. That’s how affordable it is. That totally caught me off guard. And so when you’re looking at a quality place to live, they have good income. The median home price is still very, very affordable. The schools are great. Charlotte, the big city next to it is growing rapidly. Those are all good things for long-term gains on a property, in addition to people want to live there.
The only thing that I did see that is a little concerning is the cost of rent. That’s something that I’m really looking at now in all my metrics when I’m looking at things. Is it way cheaper to live in a rental? It went from being around 16% to 17% to 19.65%. The gap is getting close on whether you could rent or buy, but that’s still below that 21-point threshold that they talk about.
There’s still a little bit more room, it still makes more sense to own than it does to rent. And so those are things that I think are really healthy for growth for 2023. People want to live there, they can afford it and it’s still cheaper or a better situation to buy. I think that it has a lot of room to grow.
Another thing I saw actually, the markets I’ve been watching are these hockey stick markets. Raleigh has jumped dramatically, but it only came down 5% instead of that 10% to 20% that we’ve seen in some of these tech markets. It didn’t quite grow at the same rate as San Diego, Seattle, Austin, it grew about half the rate. And so it’s kind of a more leveled out market, so there’s less of a hockey stick going on there.
But I’m going to really dig into this market. I like all the stuff I read on it. I know I like everything I hear about people, and I really do love markets where people want to live. Raleigh is one of them.

Dave:
Awesome. Yeah, I mean it’s anchored by very, very strong economy. Three of the largest research universities in the country, Duke, UNC, NC State are all in that area. When you have that kind of education level, you see a lot of companies moving there to take advantage of that workforce. So very, very strong economy there.
North Carolina has some weird rules about buying houses though where you have to like, what is it called? You have to pay some fee to take the house off the market. It’s putting earnest money down, but it goes hard immediately. Have you ever heard of this?

Jamil:
Option fee?

Dave:
Yeah, it’s like an option fee. Last year, they were like 20 grand before you even have an inspection. It’s crazy.

James:
Yeah, I was just talking to someone about that and they said, yeah, it’s like two earnest. There’s an earnest money and then there’s like a due diligence fee.

Jamil:
Yeah, it’s to curb wholesaling.

Dave:
Yeah. It’s crazy though because in a normal year, I talked to an agent down there because I was interested in buying in Durham. They were saying like in normal year, it’s like 500 bucks. So it’s like, all right. But last year with how competitive it got, it was like 20 or 25 grand. That was before you even got an inspector in there, before you even necessarily walk the property.
So if people were … I mean, that’s crazy. That’s why I just didn’t do it. But hopefully in this next year, it won’t be as competitive when you can do something like that.

James:
The buying conditions were so weird though. We used to write offers on homes. We write a five-day close, it’d be listed for 400 grand. We would write it up for let’s say $450,000, and we would write earnest money at $448,000 and release it to seller day after Mutual. We would write the weirdest terms we could do just to try to get that deal. They’re like, “Wait, what do you mean?” We’re like, “No, no, we’re going to give you all the money until we close for 2,000 bucks.”
We were trying everything just to lock a deal down. It was like, but I think that that will go away from what I hear from people that are buying there. It’s back down to 500 bucks. People aren’t throwing crazy numbers at it anymore.

Dave:
For sure it’s wild. But agree that it’s a very strong market. All right. Jamil, what do you got? What’s your favorite market for next year?

Jamil:
Well, again, looking at this from the perspective of a trader, so I’m looking for opportunities that are quick where my buyers can get in and do projects where they won’t get slammed and have a house sitting on the market for months and months and months where mortgage rates aren’t going to be a considerable situation. Now, looking at what we’ve seen, we are seeing across the United States in almost every market that prices are declining. However, there is a unicorn market right now that a lot of folks aren’t talking about where that’s not happening, and it is Hartford, Connecticut.
Hartford, Connecticut. Interesting, realtor.com is predicting that they will have a price appreciation in 2023 of 8.5%. Buyer demand is so strong there right now that they are still in multiple offers, situations on properties, and houses are selling 20% above list right now with mortgage rates where they are right now. That’s how strong the demand is. It’s crazy. It’s like everything that we were seeing leading up to this whole market shift, all the craziness in most of the markets across the United States, we’re seeing these multiple offer situations, it’s still happening in Hartford, Connecticut, which is crazy to me.
Beyond that, the median price over there is very low at 372, so it’s still relatively affordable. You’ve got strong migration. You’ve got New Yorkers moving there. You got people from Florida moving there. You got people from New England moving there. It’s got a lot of demand. And so people are moving there. There’s strong, strong, strong buyer demand. The mortgage rates didn’t affect it because we still have multiple offer situations.
Fix-and-flip is going to be very strong over there. Wholesaling will be very strong over there. We’re going to be doubling down our efforts as well as trying to establish more franchises in the area because I see heavy opportunity for wholesaling and fixing and flipping in this little unicorn submarket.

Dave:
This has to be the first time in BiggerPockets history anyone’s ever mentioned anywhere in Connecticut as a place to … I grew up not so far from here and just never even talk about Connecticut. But Hartford has been one, it’s a low price market. Just anecdotally, most of my friends who grew up in New York with me now moved to Connecticut, mostly to Stanford, Bridgeport, places close to the city.
But it’s a real thing. Hartford is kind of perfectly situated between Boston and New York. And so maybe you’re getting people from both of those higher price markets who just want somewhere in the northeast that’s a little bit less expensive.

Jamil:
They are. There’s jobs and industry there too because it’s the insurance capital of, I believe the world, the insurance capital of the world. Aetna’s got their headquarters there. Cigna’s got their headquarters there. We know that there’s strong opportunity in healthcare. There always will be. That’s one of the industries that we understand will always have a lot of demand and a lot of opportunity.
I think it’s one of these markets that we will look at in five years and say, who knew? Jamil did.

Dave:
Yeah. Connecticut has underrated pizza. I don’t know if anyone knows that, but has better pizza than people give a credit for. It’s very important.

Kathy:
It’s where my husband was born.

Jamil:
Wow.

Kathy:
Yeah.

Dave:
What, in Hartford?

Kathy:
Mm-hmm.

Dave:
Wow. All right. Maybe Jamil and Rich will have to go on a tour. All right. Well for mine, I wanted to do something similar to Jamil, a little contrarian, some places that people haven’t heard of or aren’t talking about so much. For some reason, maybe not in 2023, but I’m long on the Midwest. I think similar to how the Southeast over the last couple years has seen, this big pop, the weather is great, but also it’s just more affordable than the West Coast and the Northeast.
I think the Midwest also has that going for it. Doesn’t have the weather, I’ll give you that. But the Midwest is by far the most affordable part of the country now because the Southeast has gotten so much more expensive. The city that I like in the Midwest the most is Madison, Wisconsin. Never been there, but just on paper, it has really good population growth. It estimated grew 1.5% just this year. Its unemployment rate is at about 2%, which is much lower than the national average. It’s a highly, highly educated workforce.
To James’s point, I’m just going based on affordability. People can afford to live there and it has a high scores for quality of life, and it is still growing. It is still consistently growing 8% to 10% year-over-year, and it’s been doing that for the last several years and it’s shown no signs of slowing down over the last couple of months. I think this market is still going to keep growing over the next year. I don’t think it’s a fluke. I think it’s an affordable market, high quality of life and affordable, which as James said, sort of some of the key indicators for long-term performance for buy and hold markets.
I tried to do something a little bit weird and a little bit different, but I think Madison’s going to be a winner.

James:
Brutal winters.

Dave:
Yes, definitely. Brutal winters.

Kathy:
I know what he said, quality of life. I was like, it depends on how much you love cold.

Dave:
It gets rated high for quality of life, people like it there. But I guess those are all like James said, it’s a math equation. They’re like, what was your score on air quality and what was … It’s those things. You probably need to look into a little bit of the methodology.

Jamil:
When you live in perpetual summer like me here in Phoenix, I don’t mind seasons.

James:
I’ve had too many seasons. I don’t want them anymore.

Dave:
I went to school in upstate New York and it is absolutely brutal. I did not like it. It’s not for me.

Kathy:
Why do you think Rich moved from East Coast to West Coast?

Dave:
Yeah, exactly. But I just think generally, I think the Midwest has gotten hit hard and there’s other cities in the Midwest also I think are Chicago I believe will rebound over the next couple of years. I mean, I think it’s doing fine right now, but we’ll start growing again just because it’s so much more affordable than other big cities. There’s still really good jobs in these markets.

James:
Cool city too. I love Chicago.

Dave:
Last time I was there, Jane’s family lives there, and I was there over the summer. Man, that city is basically holding down inflation for the entire country. We were going out and we went and bought beers and they’re like $3 for a beer. We’d go get a sandwich, it’d be like $5.50. And I was like, this place is holding it down. There’s stable prices in Chicago since 1990. They’re just doing us all a favor.

Kathy:
Chicago’s a lot of fun.

James:
I ate lunch yesterday when I was prepping, doing some work and eating, I got a sandwich and a soda and it was $33. I was like, it’s ridiculous. What is going on? Yeah. I mean, now Chicago might jump up my list if it’s really that cheap.

Dave:
Honestly, it is. It’s so cheap there, I mean, relatively speaking. Was your sandwich good at least?

James:
It was good. It was prime rib dip. It was pretty good.

Jamil:
Oh, he failed to mention it was a prime rib sandwich. It makes sense.

James:
Yeah. It’s a wagyu beef.

Jamil:
Yeah, when you have wagyu between bread, it is going to be 33 bucks.

James:
But that was a $20 meal before the pandemic. That was like a $19.94 with a $3 tip on there.

Dave:
All right, well thank you guys. It’s been a lot of fun. Let’s just sum this up. Kathy’s picks were worst performing market for next year will be Detroit, but best will be Tampa. James had San Diego as the worst performing market, and his best was …

James:
Raleigh.

Dave:
Raleigh. There we go. Jamil picking Hartford for his best one, bringing a new state onto the map. He had Ventura County, California as his worst performing. For me, I think Reno’s going to take a hit, but Madison, Wisconsin is my dark horse for next year.
All right, well thank you all everyone. We would love to hear on the forums, we just put on the BiggerPockets forums a question to ask you what all you think the best and worst performing markets of 2023 are going to be. So if you want to interact with us or talk to other listeners about market potential for next year, make sure to visit the BiggerPockets forums. Just go to biggerpockets.com/forums and you’ll find it there.
Jamil, James, Kathy, thank you so much for being here. We appreciate you. We appreciate you all for listening, and we’ll see you next time for On The Market.
On The Market is created by me, Dave Meyer and Kailyn Bennett. Produced by Kailyn Bennett, editing by Joel Esparza and Onyx Media. Research by Pooja Jindal, and a big thanks to the entire BiggerPockets team.
The content on the show, On The Market, are opinions only. All listeners should independently verify data points, opinions, and investment strategies.