Finding Good Properties In This Market
WHICH WAY DO WE GO?
Finding Good Properties In This Market
We have high inflation and the dollar continues to get devalued.
Interest rates remain high and the Federal Reserve raised the Fed Funds rate another 0.25-percent recently. The cost of borrowing funds for would-be homebuyers and multi-family housing remains high.
Recent bank failures have some investors questioning the future availability of funds from lenders and changing lending criteria.
What’s an investor supposed to do?
1 STICK TO THE FUNDAMENTALS
I frequently go back to what Warren Buffett said. “Rule Number 1. Never lose money. Rule Number 2. See Rule Number 1.”
In essence, we need to protect our principal.
When I looked at the stock market recently, the Dow Jones, Nasdaq and S&P 500 were all essentially at or below where they were two years ago. But the official inflation rate has averaged 6.9 percent per year over that same period. That’s a decrease in buying power of about 14-percent over two years.
We need assets. Not just cash.
We need assets that rise in value with inflation, not decrease in purchasing power. That is a primary reason why we choose to invest in real real estate.
We also choose to leverage our real estate. This allows us to do more than just keep up with inflation. The cash flow and equity in our investments have the potential to outpace inflation.
By leveraging a property when we buy it, we are able to lock in mortgage expenses. So when inflation drives up market rents, certain expenses do not go up. The mortgage payment of principal and interest remains the same. This creates a growing spread between the rents received and the total expenses.
2 CASH IS NOT KING
Some people are sitting on the sidelines, waiting for 2006 to happen again. Some are thinking “Cash is king.” While they are waiting, their cash is losing its purchasing power.
Cash is NOT king.
Cash FLOW is king.
Cash may help you purchase properties, but cash flow helps you keep the property when markets change. If property values drop then cash flow can help you ride out a recession.
It’s harder now to find properties that have good cash flow when combined with the higher cost of borrowing funds in this market. That does NOT change the fundamentals. We should continue to buy assets, but remember the fundamentals. Seek good cash flow, and use smart leverage.
Cash flow should also be sufficient to fund reserves.
3 CASH FLOW VS. APPRECIATION
As a long-term strategy, we tend to focus on appreciation during the years we are growing our nest egg. As we approach financial independence and/or consider retirement, however we choose to define it, we want to shift our assets to produce more cash flow.
High inflation during retirement causes conflict.
Sometimes the market tells us we should do something different than our preferred strategy. A rising tide may lift all boats, but a boat hit broadside by a large wave may get tipped over. So what should we do?
We may not be able to maximize our cash flow with new investments. During these times it appears better to seek appreciation to beat inflation. But remember to maintain good cash flow and fund reserves.
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Are you on a path to financial independence? Have you been emphasizing cash flow or growth in your investments? What have been your chosen investments?
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Mike is a retired aerospace engineer with a passion for real estate investing and teaching financial literacy. He lives with his wife in Daytona Beach, Florida.