The US is broken down into approximately 400 metropolitan statistical areas (MSA’s), so I always laugh when people use the blanket term “the U.S. housing market”. Within each MSA there is a sub-market, within each sub-market there is a suburb, within each suburb there is a street and depending if you are North/South/East or West of that street will dictate CAP rates, trends, rents, school districts, employment opportunities…. the list goes on! That’s the beauty of Investing in the U.S.; there is so much to choose from.
Here is my quick 4 step guide to choosing the right market, and becoming a wealth of knowledge for that particular area:
Step 1: Understand the Different Types of Markets
There are three types of markets in the US, linear, cyclical or hybrid.
- Linear markets: appreciate by a steady amount over time along with the headline inflation. Properties in these markets are bought for the cash-flow and are normally situated in the Mid-West and Texas.
- Cyclical markets: move up and down like a roller coaster and are generally found in coastal regions of the US, San Francisco is a good example.
- Hybrid markets: As the name implies, is a combination of the Linear and Cyclical, Typically these markets have historically been linear but with changes in employers and jobs (ie: the tech industry) these markets are now seeing healthy population growth. A good example would be Austin, TX, Boulder, Colorado, Charlotte, North Carolina, just to name a few.
Step 2: Market Identification
When researching a market to invest in there are several things to look out for;
- Population: Invest in areas with a population of 750,000 or more in the MSA
- JOBS: The local economy has to have at least 3 different industries for employment (ie: manufacturing, health care, tech, etc.). Don’t invest in a city that is heavily reliant upon one industry.
- (A lot of mineral rich areas in TX and the Midwest have diversified since the crash in 2008 so as to ensure the longevity of their cities).
- Look for Job growth & migration in the area; you want to see that the population is steadily growing over time (ie: people are constantly moving there for work opportunities).
- Moderate CAP Rates: To achieve strong annual returns, the economics of the metro must be very strong yet the CAP rates of cannot be below 5.0-6.0%.
- Affordable housing market and neighborhoods. Check the market rent-to-value ratio (RV ratio) of a potential investments in an area. An RV ratio is Rent against Value – the monthly rent divided into the acquisition price (presented as a %). If it is less than 1% the property/area will be too expensive to cahsflow. Conversely, if the RV ratio is over 1.5% the area could be a depressed market or a bad neighborhood. Ideally for good cashflow neighborhood 1.2-1.4% as a rule of thumb (note: this is a rule of thumb; a quick measuring tool for an area).
- Landlord Friendly Laws: Investing in states where the laws favor the landlord is better for you as the investor; it makes the property managers’ job easier if you have problem tenants when it comes to eviction.
- Thriving or emerging downtown: Since the crash in ’08 many tier 2 cities across the U.S. have had a resurgence in the ‘downtown’ area. This is due to changing renter habits; people are renting longer and they want to live closer to work and nightlife.
Step 3: Choose Two Markets: Analyze 25 Deals In Each Market
Once you have chosen two markets jump online (loopnet, showcase.com, craigslist etc) and start finding deals, and crunch the numbers in a spreadsheet analyzer. This isn’t sexy but analyzing 25 deals in a market will help you get a feel for associated costs: avg. $/door, expenses ratios, trends in surrounding suburb, average rent/suburb etc. You will be an expert in no time! This step is extremely valuable to anyone looking to vet a potential market.
Step 4: Visit the area before you invest!
Understanding the lay-of-the-land is very important particularly if you are purchasing out of state. Visiting a market will help you establish your bearings and will give you a better understanding of the types of properties you will be purchasing.
Until next time, take care, be sate and remember… Happy Investing!