Think no one is buying a home? In fact, the numbers are astounding. Investors bought one of every four homes sold in America last year. Moreover, investment-home sales surged from 64.5 percent to 1.23 million last year, up from 749,000 in 2010, according to the National Association of Realtors (NAR).
Investing in real estate is no longer the province of a few handymen who like to buy and fix up foreclosures; it’s a multi-billion dollar business that has quietly transformed the real estate economy. Investors buy when prices are at the bottom and others are afraid to take the ride. They create the demand that puts the brakes on price free-falls in a market beset by foreclosures. They rehabilitate and renovate seriously damaged foreclosures, risking their own money and spending far more than government programs to return properties to the housing stock and revitalize communities. Without real estate investors, the economic and social cost of the five-year housing crisis would be much greater than it already is.
Like many new businesses that explode suddenly onto the market, real estate investing has accumulated its own set of myths and lore. Not everything you read or hear about real estate investing is true. Here are a few of the more common notions that may not square with the facts.
Myth 1: Real estate investors are basically flippers who buy and sell properties as fast as they can. With apologies to some of the popular reality shows, flipping is out of style for the simple reason that home prices are generally flat or still falling in most markets. The goal of real estate investing is to buy low and sell high. Even if you find a bargain at a rock-bottom price, it won’t do you much good unless you can sell it for more than you paid.
However, in recent months a number of housing markets have stabilized, and prices are appreciating in a handful. As a result, flipping—which was much more popular during the housing boom—is slowly becoming more popular again. The NAR study found that only 5 percent of homes purchased by investment buyers last year have already been resold, but that was up from 2 percent in 2010. The typical investment buyer plans to hold the property for a median of five years, down from 10 years for buyers in 2010.
Myth 2: Real estate investors must be rich because they buy homes with cash. Actually, according to the NAR study, 49 percent of investment buyers paid cash in 2011. Some took out mortgages if they planned to live in the house as they fixed it up to sell. Others took out second mortgages or home equity loans on their homes. Even most of those paying cash use borrowed money. Investors raise money from other “passive” investors, from investment firms that specialize in real estate, and from lending institutions. If the investment doesn’t pay off, investors are still on the hook to pay back their loans. The reason many investors pay in cash is that the owner, usually a bank, knows it won’t encounter problems getting financing and often will give a 5 percent discount to a cash buyer.
Myth 3: By turning homes into rentals, investors change the nature of neighborhoods. A study by New Vista, a San Diego asset management firm, found that over the past three years, the percentage of REO homes sold to owner-occupant buyers has decreased in 18 of the nation’s counties hit hardest by foreclosures. There is no doubt that investors are turning single-family homes into rentals, especially in high-foreclosure markets like Las Vegas, Phoenix, and South Florida. Their impact has been huge. From 2005 to 2010, single-family rentals grew at 21 percent versus just a 4 percent increase in total housing units. Some 3.6 million homes have been converted from ownership to rentals in the past five years—and more are on the way.
The reason is easy to understand, and it is an example of simple economics at work. Right now, demand for rentals is greater than demand for homes to buy. This year, the national median rent will increase will come in somewhere between 2.5 to 4 percent, while most experts expect home prices to break even at best. Rather than selling, or flipping, the properties they buy, more and more investors are pursuing a “buy and hold” strategy.
Rather than sell, investors rent the property out, hoping to realize a return for their investment as they wait for a better market to sell. When they do sell, will that property remain a rental unit? Probably not, because when an investor decides to sell rather than rent, it’s because he can do better selling it than continuing to rent it. That would occur only if prices have risen in response to demand because more homebuyers want to move into the neighborhood. The fact is, as homebuyers return to the neighborhood, prices will rise and encourage investor landlords to sell out.
Come back nest week for more facts and fictions about real estate investing, including why you should be thinking about becoming a real estate investor.
Steve Cook is Executive Vice President of Reecon Advisors and covers government and industry news for the Reecon Advisory Report.
Cook is a member of the National Press Club, the Public Relations Society of America and the National Association of Real Estate Editors, where he served as second vice president. Twice he has been named one of the 100 most influential people in real estate. He is a graduate of the University of Chicago, where he was editor of the student newspaper. In addition to serving as managing editor of the Report, Cook provides public relations consulting services to real estate and financial services companies, and trade associations, including some of the leading companies in online residential real estate.