Markets Are Tough: Should We Brace for a Bubble or Continue to Invest?
The national S&P CoreLogic Case-Shiller Index, which tracks home prices, reached a post-recession high of 184.8 in September, an index level last seen in July 2006. Since 2012, the average home price across the nation has increased 37.9%. Commercial real estate cap rates have continued to fall year over year.
All of these statistics are important, but how do most investors feel this invisible sway of the market cycles? They see the deal flow drying up. Many real estate investors couldn’t tell you prices have climbed 37.9%, but almost all of them can tell you it’s harder to find a deal today than it was 1, 2, or 3 years ago. If deals are harder and harder to find and prices are at pre-recession levels, does this mean we are in a bubble again? Does that mean a crash is coming? Should everyone stop buying and start hoarding cash?
Are We in a Bubble?
First let’s address the “are we in a bubble” question.
If you type into Google “are we in a real-estate bubble,” your results will be filled with a third of articles that say “smooth sailing ahead,” “fundamentals are good,” and “we are on pace to see amazing years of growth for the foreseeable future.” The second third will say we’ve had several great years since the recession, but we are coming off our recovery and will see things stabilize going forward. And finally, the last third will tell you the world is going to collapse and the financial system as a whole will implode.
The world is complex. Sure, there are statistics and fundamentals to be tracked and monitored, but when shifted, framed, and paired the right way, those statistics can be made to say anything. Go back to 2007 and read articles on the same exact subject and guess what? You will see a third saying sunny skies, a third calling for a level out, and a third predicting a a crash. So why the major variation in perditions from the same data? Emotion, emotion is the x-factor that determines what becomes of the fundamentals.
You may be thinking, “Actually, history always repeats itself, and a large grouping of people’s emotions are, in fact, more predictable because they average out and end up doing typically the same thing as they did in the past.”
Recently, I listened to an economist who shared that belief. In his interview, he was discussing the future of the real estate market. He was rattling off current statistics and fundamentals that mirror events like the great depression of the 1920s and the hyperinflation of German Marks back in the ’20s. While listening, I couldn’t help but to think, “Yes, fundamentals and data are important and should be monitored, but it is how the whole system interprets them and reacts according to that interpretation.”
I am a firm believer that tracking fundamentals is important so you can position yourself for several outcomes, but much comes down to human emotion. Still, to say that human reactions will occur the same way as they did in the 1920s seems to me a stretch. How astronomically different is the landscape for emotions to form and spread today than it was 100 years ago or even 10 years ago? I am not saying that economist is wrong; I am simply saying I don’t know, and I don’t think anyone really knows. I can’t tell exactly what will happen in the market. I also think anyone who says they are sure one way or the other is a fool.
So What Do We Do About It?
Deals are harder and harder to find, and prices continue to climb. What should we as investors do? The good news it there is several options. You can quit, wait it out, get more creative, change your strategy, change your market, or be patient and stay disciplined. So let’s dig into those options.
Quit or wait it out.
Well, I guess these are the easiest to execute and pretty self-explanatory.
Get more creative.
My favorite option! In today’s market, I hear so many investors say, “There are no good deals to buy,” and I liken it to when someone stands in front of the open refrigerator and says, “There is nothing to eat,” even though 99 percent of the time there is plenty to eat in the fridge — you just have to get in there and cook. You’re not going to open your fridge to a fully prepared home-cooked meal, and you’re not going to open Zillow and buy a home-run deal. When the easy trail like Zillow has been beaten down, you have to change course.
Change your strategy.
If you are a smaller company that can pivot on a dime, you have an advantage to adjust to market conditions like the large companies cannot. For example, as supply for good deals continues to decrease, demand goes up. Flippers begin to squeeze margins tighter and tighter just to keep the deals going. If you are getting deals, oftentimes in these conditions it makes more sense to simply wholesale than flip when all things are considered. You may consider many other variations of adjustments depending on your skills, market, and size.
Change your market.
Some markets are crazy expensive. Maybe for years, you were buying cash flowing rental in your local market and now you can’t hit your same targets. There is likely a market nearby you could adjust to continue making sense of your same investing strategy.
Stay disciplined and patient.
What I do in my own business is combine this and the previous action of getting creative. I believe staying disciplined is vital to long-term success. Know your underwriting metrics and stick to them throughout the cycles. Think of it as a graph going up and down through the cycles, but your underwriting metrics are the constant linear horizontal line running through that wavy graph.
The reason I write this article is to help investors realize there is success and good deals to be had in any market; they just become harder to find. The question then only becomes is it worth your time to find them?