What Is The Best Market To Wholesale Apartment Buildings?
Apartment buildings, being income producing and essentially businesses run by a property management staff, have always been able to be traded without you necessarily being local to the property.
This being the case, what is the best market to choose as the market you are going to focus on to do deals?
To be simplistic about it, the answer is the market where it will be easiest for you to get a property under contract at a price where you can add on your assignment fee and still have your resell price attractive enough that a new buyer (preferably multiple new buyers) will come in and eagerly take the property from you.
As usual with real estate, the easiest way to understand it is through the lens of supply and demand.
At the time of writing this (early 2014), money has been piling into commercial real estate in Tier 1 markets like New York City, Los Angeles, San Francisco, Chicago, and now Tier 2 cities like Houston, Las Vegas, Indianapolis, for 2-3 years now. When bond yields are so low, commercial real estate’s traditionally pedestrian return start looking pretty attractive.
First it was US hedge funds that figured this out, then it was international sovereign wealth and pension funds, and the buying began in earnest. That trend is probably hitting it’s peak right about now as the Federal Reserve tapers it’s bond buying each month and bond yields start rising again.
Nevertheless, so much money flowing into real estate markets around the US, buying up everything from the highest quality income property on down has created a lot of demand for property and pushed prices upwards.
If you are looking to wholesale apartment buildings then, what do you do? Which market do you choose?
If you are in a market where a lot of institutional capital has piled in you will see there are not many properties available on sites like Loopnet, what is available will have a high cost per unit, even with high vacancy and repairs needed. With a bit of investigation you’ll find market cap rates in the 5-6% range, maybe even lower. The brokers you talk to will be arrogant, and probably brush you off unless you are willing to pay 80-90% of their Pro Forma valuation (brokers are “Masters Of The Universe” when the money is flowing).
Needless to say there is not much opportunity here. Demand for apartment properties is high, the supply becomes low, driving up prices the investor has to pay just to get into a property, vacancies or not, even in Class C properties.
Your only chance of uncovering deals not already covered by brokers is to go direct to the seller; either by direct mail, by dealing directly with banks to buy REO, or by showing up at the property and asking to speak with the owner (an under appreciated source of deals). These approaches require more work, and most people don’t do them, but they get to the pockets of supply in markets that are not yet being serviced.
The reward for those willing to take on the extra time and effort involved in digging out these sellers, is a quick resale into a booming market where prices are being driven upwards.
The thing to realize about “momentum” markets like these, are that after a certain point in the business cycle, usually soon after entering the Expansion phase, properties are no longer being valued by the income they produce, it is the land value that is driving prices, and people are buying properties based on what they think they will be able to resell them for in the future more than how much income they think the property will throw off.
Yes, you can tie up properties and resell them to greater fools, but it gets tougher and tougher to play that game as a market heats up.
Alternatively, there are other markets that are not touched by institutional money distorting demand. It is ironic that while all the opportunists are in the coastal markets chasing the big bucks, markets that are real opportunities, that is, markets the contain real value, go under appreciated.
Going inland from the coast you find markets where the land value is less of a factor in the value of income property and apartment buildings are more consistently valued based on the income the produce. These are markets found in the South, like Tennessee, Georgia, Kentucky, and those in Mid West states, like Illinois, Indiana, Missouri, Iowa. These are the “cashflow” markets; no wild fluctuations in appreciation, but steady consistent demand for housing that produces steady consistent cashflow income properties.
While all the attention is on the booming momentum markets (where you have to work hard to find deals), the cashflow markets are getting considerably less attention from investors. These are solid markets, with growing populations and diversified economies, there is nothing inherently wrong with them. They are just not getting the attention of institutional investors, or the media.
From the supply and demand standpoint, there are many properties available for sale, and relatively few buyers. Low demand, low prices.
The opportunity for apartment entrepreneurs is that a little bit of research reveals these are all healthy, growing markets with solid housing demand. They are just neglected and not getting the attention they deserve. In this environment of low demand, the Apartment Entrepreneur can go in and negotiate low prices on properties with value plays, then resell to local and out of state multi-family operators who have been beaten up in hotter markets and are looking for places to deploy their capital.
The prices are lower in cashflow markets, but there are an abundance of deals and lots of opportunity for Apartment Entrepreneurs.