Investing Vs Flipping
Interesting article at Seeking Alpha by Chris Brightman titled Investing vs Flipping. The article compares Atlanta to Orange County, California.
Brightman writes, “Four years ago Dave, a long-time friend and real estate investor from Atlanta, explained that the residential real estate crisis had hit Atlanta hard. Countless thousands of homes had been foreclosed and were owned by banks across the sprawling metropolis. The best bargains, he explained, were houses in the older and less wealthy areas of the city. The big private equity firms (BlackRock, Starwood Waypoint and Colony Capital) were starting to gobble up foreclosures and bid up prices in the easy-to-value suburbs, but they were ignoring the less homogeneous urban areas, some of which then, as now, may seem unsafe, but many more are solid working-class neighborhoods.
“Dave was buying vacant single-family homes out of foreclosure in decent neighborhoods for $10,000 to $20,000, investing another $10,000 to $20,000 in renovations, and then renting the renovated properties for $800 a month. His problem was that he couldn’t sell the houses – not for any price. (Meaning he couldn’t flip a house). Credit was then, and still is, unavailable to most of the folks who live in Atlanta’s lower income neighborhoods.
“How did you know that these houses are sensible investments? Houses in Detroit are cheap too, I observed. Unlike Detroit, with an aging and shrinking population, Dave explained, Atlanta is a vibrant growing city. How do you know the price is right? Are you kidding, he asked? I’m buying houses at a small fraction of replacement and renting them at 25% of my cost. I get my money back in rent in four years! ($800/ month for 12 months is $9,600.).
“Compared to Orange County (OC), the best bargain we can find in the OC is a three-bedroom, two-bath house that sells for $500,000. Yep, for those of you unaccustomed to California real estate prices, the cheapest houses in OC fetch half a million dollars. We could rent one of these houses for $2,000 a month. ($2,000/. Month for 12 months is $24,000 or a 4.8% return. Annual rent minus taxes, insurance, and property management would bring the ROI down to about 3% before tax.)
“Today, we buy renovated “three/two” houses (three bedrooms and two bathrooms, in the parlance of the trade) for $80,000, and then rent them out for $850 a month. Our net pre-tax rental yield is 9%, and approximately 5% after tax. I have strong conviction that buying rental properties in Atlanta at a 5% real after-tax yield is a far more sensible and safer way to accumulate wealth for our retirement than buying rental properties in the OC with an after-tax yield of 1%.”
“When investing, I ignore the popular game of trying to predict short-term price changes. Instead, I pay attention to valuation, which can be simply observed as the long-term after-tax real yield-less than 1% for houses in the OC and nearly 5% for houses in Atlanta. The high prices/low yields of houses in the OC seem risky to me. Because I’m a long-term investor, Atlanta seems the better choice.”
I think the article is a powerful message to buy value. When homeowners are literally gagging on their real estate, that’s the time to invest in real estate. That’s when the values are there. Who cares about flipping houses, when you get returns that are better than the banks?
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