Today’s REI Classroom Lesson
As Marco Santarelli explains, the market you live in isn’t always favorable for investing in. There are some particularly hot markets for real estate investors that allow for high return on investments, but you have to put in your research to determine which is best for you.
REI Classroom Summary
Each market has it’s pros and cons. It’s important to consider out-of-state markets so that you’re maximizing your profits, diversifying your portfolio, and reducing your exposure to risk. Listen in to find out more.
Listen to this REI Classroom Lesson
Real Estate Investing Classroom Show Transcripts:
Mike: Welcome back to the flipnerd.com REI Classroom, where experts from across the real estate investing industry teach you quick lessons to take your business to the next level. And now, let’s meet today’s expert host
Marco: Hi, my name is Marco Santarelli with Norada Real Estate Investments and I am your host today on the REI Classroom. We’re going to talk about why to invest out of state.
Mike: This REI Classroom real estate lesson this sponsored by FlipNerd Investor Coaching, your blueprint to investing success.
Marco: The simple fact is that the best real estate opportunities are not always found in your neighborhood or your local market. You may have heard that saying “All real estate is local.” Well, the truth is that the United States is made up of over 400 markets and some of the markets are going to be more favorable than others as they transition through their individual market cycles. So that means that any given time there are going to be markets that offer you a better opportunity in terms of cash flow and/or appreciation potential.
Well, there are many advantages to investing in markets that make more sense, and the first one would be lower prices. Now, don’t get me wrong. I don’t mean lower prices, mean or suggest cheaper is better. Every market has its own price range of high and low price properties. The median cost of a three-bedroom house in San Diego, just south of me here, is a lot different than the median price in, let’s say, Kansas City in Missouri. So with limited investment capital on your end, you will be able to purchase more income generating properties in lower price markets than you could if you’re in one of these expensive markets that we find along the coastal markets of the United States.
Now, how can you leverage your capital? And you want to do that to increase your cash flow, your rate of return and your overall number of properties that you can purchase. And that leads to diversification. So higher and better returns. When you compare the what I call the rent to value ratio in your market, and you compare that to other markets around the country, you will quickly start to see where properties are overpriced in terms of the value, related to the rental income. And this is a very good, quick metric. So the results of doing this will often show you where you’ll have lower cash flows and lower returns because those lower rent to value ratios just don’t make sense.
So let’s take an example, San Diego California. If you have a median sales price of about $500,000, I’m just rounding these numbers off, $500,000 and a median rent of about $2,500 a month, that gives you a rent to value or RV ratio of only 0.5%. I like to see about 0.8% or above. The higher, the better. We shoot for 1% here, but you do want to be over 0.8. So, at this time, we’re just seeing very low cap rates in these markets and low rates of return.
So the second big advantage here is better cash flows. And we just touched upon this, but often, you will see your cash flow increased by investing in these markets that make more sense than a market you may be considering because it’s convenient for you or it’s just close by. Again, looking at markets from a rent to value perspective gives you a quick way to compare one market to another, and it gives you a good idea of its potential.
And then the next advantage is diversification. You normally hear the term diversification from financial planners and stockbrokers. Why? Because that’s really how they function and what they know. But you don’t hear the term used very often when it comes to real estate investing. The goal of diversification, regardless of the investment, is to reduce your investors’ overall risk.
You see, diversification in real estate is easily achieved by purchasing income-producing properties in different markets around the country. And in some cases, investors even purchase property in other countries. But by creating a real estate portfolio of income-producing properties across multiple and separate markets, you actually reduce your exposure to risk. So because real estate markets don’t move up and down in value at the same time or at the same rate, investors can reduce and limit their risk through diversification.
And finally, real estate investors should also realize that diversification tends to reduce both the upside and the downside potential of their portfolios. Now, this may sound a little counterproductive maybe, but remember, the reason investors want to diversify is to protect their real estate portfolio under a range of economic conditions because you don’t know what’s going to happen a year or two years from now with the election or with the economy.
So consider doing a simple and quick analysis in your own local or favorite market and compare it to a few other markets to see where those best opportunities are for cash flow and rate of investment or return on your investment. And you can get a quick idea by just doing a simple rent to value comparison and look at the purchase price and the affordability within that market.
So this was a very, very quick overview. We have a lot of free information on our website that goes into much greater detail about everything I just talked about. And you can find that at our website at noradarealestate.com. Thank you.
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