Real estate investing comes down to simple Economics 101 concepts: supply and demand. Whether you’re planning to buy and flip a property or hold a long-term rental, there must be a healthy demand for the finished product. Beyond the basic economic and housing market trends (price and rent appreciation, population growth, etc.), there are other factors to consider when evaluating entering a particular market and some of those include:
1. Building Permit Issuance. When assessing supply factors in a market, it’s not only important to consider existing inventory but potential competition from new development. Since builders and investors are often competing for a limited number of renters, an oversupply of new properties can drive up the vacancy rate and eventually push rental rates down.
Take the Myrtle Beach, South Carolina, market as an example, where more than 3,100 new homes were built in 2015. That figure is up 94 percent from just two years earlier and also represents nearly 5 percent of the entire market, which is the highest of the top 150 metro areas in the nation.
Much of that development occurred to meet the rapid population growth over the previous couple years, but if growth slows even slightly, it can lead to an oversupply as the current building pace assumes high growth will continue.
2. Economic Diversity. Strong employment rates at the local level are an obvious positive economic indicator, but so is diversity in employment across a wide range of sectors. Economies with one driving industry or factor can look attractive in a time of prosperity, but may come with a lot of inherent risk over time.
Consider the boom and bust of steel towns in Pennsylvania, the automotive industry in Detroit or the scars left on the Las Vegas real estate market when tourism dropped during the last financial crisis. Diverse economies weather downturns better and thus provide more attractive, and less risky, investment opportunities as demand is generally more consistent.
3. Net Migration Trends. Keep an eye on any market that seems to have a decreasing population — whether the decrease is steady or exponential.
The Rust Belt, once dominated by an industrial-powered economy, is now experiencing population loss and economic decline. For markets in this region, consider whether population loss is threatening or tolerable. It may seem counterintuitive, but markets like Cincinnati and Cleveland, Ohio, offer large and diverse economies that can withstand small population decreases. Rural cities like Topeka, Kansas, on the other hand, may create more cause for concern when it comes to investing.
Conversely, markets with strong net migration tend to experience lower vacancy rates, resulting in rent increases as demand outpaces supply.
Housing Market Indicators
In addition to the economic indicators listed above, there are also more specific housing market indicators to analyze once investors hone in on a market.
4. Days on Market. High demand and low vacancy in a market doesn’t always equate to your ability to get tenants into a home. Days on market, or DOM, is the number of days an average rental listing is on the market prior to getting leased.
The longer a property remains unleased, the more it impacts your bottom line. Hot markets have average DOM of less than a few weeks, and underperforming markets have an average DOM of more than a month. While that might not seem like a big difference, each week that property sits empty impacts your revenue by nearly 2 percent, so every day matters.
5. Rental Saturation. Understanding the percentage of the single-family housing stock currently being used as rentals (i.e., rental saturation rate) is a key component to understanding the long-term demand prospects, as many markets fall into either being a “buyer’s” or a “renter’s” market. Markets with higher rental saturation rates typically satisfy new housing demand with rental properties rather than home sales. Of particular importance is identifying markets that are experiencing rental saturation growth as it signals a shift in the market that could lead to increased rental rates and decreased vacancies.
6. Overall Age of Housing Stock. This factor is critical for those who want to engage in value-add investing or property improvement. Los Angeles, for example, is a market with a mature housing stock age that can present opportunities for investors who are willing to renovate. Since 72 percent of all single-family homes in the city were built before 1970, there is a lot of room for investors to enter the market, purchase an old or outdated property for a reasonable price, fix it up and capitalize on the renovation by charging higher rent or increasing the sale price.
Notable Older Housing Markets: Los Angeles; Syracuse, New York; Stamford, Connecticut
Next Steps for Investors
The above listed factors should never be the sole determinants when entering a new market, but they should be used in combination with each other or along with more traditional metrics (such as price appreciation) to enhance your confidence in new opportunities. Your investment strategy and objectives should be taken into account when determining which of these factors should bear more weight in your analysis.
The most important indicating factor for entering a new market is stability. It’s critical to look at a market’s activity over time and make sure the perfect balance is struck — low historical volatility with a current upswing that has solid fundamentals behind it. An example of this is Dallas. It’s been a major market for a long time, but has experienced a significant upswing in the last few years due to strong job and population growth while becoming more economically diverse at the same time. There are a host of other markets that have these characteristics, and that is where your curiosity and diligence as an investor in exploring these markets and the opportunities therein come into play.
The views and opinions expressed in this article are those of the author and do not necessarily reflect the official policy or position of Investability Real Estate Inc., Altisource or any other Altisource business entity. The foregoing content is not intended to constitute, and in fact does not constitute, financial, investment, tax or legal advice by the author, Investability, Altisource or any other business entity. All investment decisions carry inherent risk, and no Altisource entity shall have any liability with respect to any investment decision made based on the foregoing content.
Corrected on Dec. 9, 2016: A previous version of this story incorrectly stated the location of Stamford, Connecticut.