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TREA BlogTREA Blog  One of the most critical aspects of insuring a profitable deal is the degree to which you understand the supply and demand issues within the area in which you are planning to invest.
Often new investors will have difficulty knowing whether or not a particular property is actually a good deal because they are not aware of the local market activity and they do not know their market well enough to make accurate assumptions about the deal.
But how does one go about the process of “knowing your market?"
There are several key factors that make up what you might call essential market data.
The number one factor in my opinion is supply and demand.
Supply and demand issues help you determine whether or not a deal that looks good on paper is truly a viable investment.
You may find a property at a great price, in an area that is ideal for section 8 rental. So you decide that you're going to buy this property, qualify it for the section 8 program and rent it to a Section 8 tenant. On the surface it appears you are making a correct assumption about the best choice of strategy but if you fail to check the supply and demand conditions you could be making a critical mistake.
Let's say you've done everything correctly. You bought it at the right price, you verified the amount of rental income you can expect, and you know that this property should generate positive cash flow based on the projected income and expenses. Further, you did a good job with the rehab, kept everything on budget and finished right on schedule. You put the house on the market right on the date you anticipated and everything is going according to plan.
After your property has been available for rent for four weeks with no takers, you start to wonder what is wrong. You know your rent is appropriate for the area, you know the condition of your property is very good but you're not getting calls from prospective tenants. What's the problem?
So you grab your computer and go to the housing authority website for available properties and you are shocked to discover that there are 300 other vacant properties in the same zip code that are the same size and rental rate as your property. Unfortunately there are only 100 tenants looking for housing in that neighborhood.
You have done everything correctly up to this point but you find yourself holding the property, making the monthly payments while it sits vacant because the supply of similar properties is greater than the demand from local tenants.
You executed your deal perfectly except for this one small detail. But unfortunately a deal is not a deal unless you are able to get your exit strategy to work. So you wind up stuck, making the payments out of your own pocket, losing money on a deal that should have been very profitable all because you forgot to check the supply and demand as part of your due diligence.
In many markets around the country, supply has outstripped demand significantly. This is forcing investors in those markets to slash their prices in order to get out of the property.
The South Florida condo market is one example of an area where supply has overtaken demand. From 2000 to 2005 investor buyers came in from all over the country to buy condos in Florida. The perception was that market appreciation was happening so rapidly in South Florida that virtually anyone could come in and buy a condominium at near full price and then expect to sell the condo at a profit once construction was completed. For a few years this strategy worked simply because there was more demand in the market than supply.
But as time went on more and more condos were built and were being pre-sold to increasing numbers of investors as well as retirees. Then 4 hurricanes in one year put a real damper on demand from retirees.
Today there is such an over supply of condominiums in South Florida relative to the demand, that most folks who have purchased condominiums in the last year or two cannot expect to sell them immediately for any profit at all but will be lucky to take a small loss on the sale. What was a profitable strategy only four years ago has become a very un-profitable strategy simply because of a change in the supply-demand ratio.
In most metropolitan areas demand is driven by job growth which brings in new workers who need housing. The technology boom of the late 1990's created significant job growth in the city of Atlanta, GA. By the early 2000's young up-and-coming technology workers were driving a retail housing boom inside the city of Atlanta.
This made it relatively easy for investors working the older inner-city neighborhoods. Because of the strong demand from young buyers, property appreciation was strong. This made it easier for investors to profit by selling rehabbed properties to affluent owner-occupants who wanted to avoid a long commute from the suburbs.
But today, several years after the collapse of the technology boom there is less demand for inner-city housing and therefore values have begun to drop as much as 15 to 20% in many inner-city neighborhoods as a result.
Wholesalers in Atlanta have suffered significant losses due to the combination of inflated purchase prices and sagging demand, which have made it difficult to generate decent profit spreads for the past couple of years.
So how do we go about checking the supply and demand situation in a neighborhood or marketplace in which we are interested in investing?
There are several relatively inexpensive ways to accomplish the task of assessing supply and demand for a given area.
First you can drive the streets of the neighborhood where your subject property is located and look for the number of for rent or for sale signs in the area. If you see a lot of these signs in the neighborhood it is reasonable to assume that there could be too much supply relative to the present demand.
Real estate agents who have access to MLS market data can pull information for a given area and find out how many houses are on the market in that neighborhood, what the listing prices are and in some cases how many days the properties have been on the market. A high number of days on the market is a good indicator that either properties are overpriced or there is too much supply relative to the demand in the neighborhood.
MLS data can also show the number of properties listed for sale relative to the total number of properties that exist in the neighborhood. This can give you a very specific ratio of the amount of supply relative to the total number of properties in the neighborhood.
If the number of properties for sale or rent exceeds 10% of the total number of properties in the neighborhood you should proceed with caution and adjust your profit projections accordingly. In other words leave yourself plenty of "wiggle room".
Simply checking the classified ads in a given area can be an indicator of supply and demand issues. If you see ads that say things like "first month's rent free", or a builder advertising new properties with ads that say "free refrigerator" or "builder pays closing costs” these could be signs of sagging demand or over supply.
It's not very hard to discover issues with supply and demand if you take the time to look at what is going on with sales or rentals in a given area.
A "hot" market, a.k.a. “a sellers market", is a market in which demand significantly exceeds supply. A “buyers" market is one in which supply exceeds demand. Understanding this one key factor can be the difference between a big profit or a big mistake.
Also it is important to note that at any given time there will be both buyers markets and sellers markets in various areas. There is no such thing as a blanket buyers market or sellers market across the entire country.
Any large metropolitan area will have places with too much supply and places with high demand. The trick is to know which one your market is experiencing at the present time.
Investors who are capable of identifying pockets of strong demand or sagging demand will put themselves in a position to make offers that will be profitable because the assumptions about exit strategy will be valid and workable.
Donna Robinson is a real estate market analyst, investor, and licensed agent in the state of Georgia. She is also the TREA Training Director. This is an example of the kind of professional advice and support you receive when you join The Real Estate Arena.
1 Comments
So, Donna, I have some questions. I want to know about how building in an area can give you a sign of what is to come...if there is a lot of building activity in an area does that mean it's hot? Or does it mean that a rehab will not resell as well next to new construction? I know there are exceptions to every rule, but I am trying to assess situations that I am seeing around here.
Or for instance if there is some type of City project nearby, how can we access that information and will that usually effect housing demand around that area? Such as a community center or new condos which seem to be part of a revitalization project in an area...is that a sign of an up and coming area?
I am sure there is some way to check city websites and find out if there is some kind of project funding that is being directed to certain areas...I just haven't found out if there is a common sense way before I start digging and researching.
Also, I have found several homes that are flagged by city inspectors or fire marshalls. There will be contact info on the sign that directs you to the city permit office or something...but I want to know if I should just call the real estate assessor's office to find out the owner and then contact the owner to find out if they want to sell? Or if in the tax records can I just directly contact the owner of record by mail? Oh, and is it basically the same with empty lots? I mean if you can't use the pivot technique to find out the info through a neighbor or something.
Thanks.
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