Are Residential Home Values at their Price Bottom?
January 27, 2010
Mortgage resets do not close the high volume to be adjusted until 2012. Some suggest the “bottom” for residential real estate is still a decade away. At the same time, rental vacancy is currently at a high and may worsen some before beginning to recover.
Understanding the dynamic of existing vacancy, prospective continuing fall of single family housing values, ongoing employment weakness, the existing larger shadow inventory of housing are important factors in pricing and revenue models for residential investors. Additionally, considering likely significant interest rate increases must be part of the investment calculation.
An investor need not understand each of these items implicitly. Instead, investment decisions need to adjust for these items by making conservative rate forecasts for their lending costs, making conservative cash down payments to protect against weakening values effecting Loan to Value (LTV) ratios, providing strong operating reserves protecting against leasing weakness, and seeking purchase terms that account for potential negative equity losses even if after a purchase.
As a fundamental step, investors should couple the above with purchases that are significantly below replacement cost and offering strong fundamental market position like high traffic, great features and amenities, and room for alternative revenue streams.
The first point should be to protect your return on investment assumptions after accounting for higher than expected rates and reserve demands. As important, Investor must protect their assets. The investor should protect against loan covenant demands and build in cushion against market shifts that can negatively impact Debt Service Coverage Ratio (DSCR) or LTV.
Investors who take this approach to the projects can expect to meet their cash flow goals, be positioned well for asset gains as the market recovers coupling with replacement value price drivers provide upward momentum for their asset. In this manner, their investment will be bouyed by the conservative cash flow support in place.
Blake Ratcliff
The Real Estate Guy
