6 tips to consider before investing in a new real estate market
Many multifamily investors start building their portfolio close to home, and local expertise is often key to their success. But when returns in the latest hot market outpace those in your backyard or when diversifying your portfolio becomes a priority, investing in new areas can be appealing.
How do you know when it’s smart to make the leap and invest beyond your home market? Keep these expert tips in mind as you evaluate new markets.
Start with familiar cities
As a starting point, think about markets you’re already well-acquainted with, says David Diggs, Managing Director and Senior Regional Sales Manager for Commercial Term Lending at JPMorgan Chase. That might be a city where you used to live or where you frequently travel to.
“That personal connection or on-the-ground understanding is what drives you to say, ‘I’ve been there, I’ve spent time there and I feel comfortable owning and managing property there,’” he says.
It’s certainly possible for investors to find success further afield. But if you have ties to a market with strong real estate opportunities, it can shorten your learning curve and boost the odds of success.
In-depth local knowledge can help investors navigate regulations and understand neighborhood-level nuances that make certain areas popular with renters and others less so, says Jim Tenret, Managing Director and Senior Regional Sales Manager for Commercial Term Lending at JPMorgan Chase.
Look for strong multifamily market fundamentals
When evaluating a new area, make sure the market metrics support the returns you’d like to achieve. Understand the factors that drive demand for rental housing. For instance, is the population growing or shrinking? Are there strong employers attracting people to the area? Data on unemployment rates and income growth can also be useful.
As you research demand for rental housing, don’t forget to consider supply. Will it be easy to find renters, or will your properties be competing with a ton of new or vacant units? Data on new units under construction, vacancy rates and absorption rates — the share of newly completed units leased over a given period — can give you a sense of apartment supply.
Lastly, look at whether the market has barriers to entry for new multifamily construction, says Brooke Richartz, Managing Director and Senior Regional Sales Manager for Commercial Term Lending at JPMorgan Chase. Markets that do can provide a more stable income stream than those with a lot of available land and potential for new competition, she says.
Understand the local capital markets
In addition to strong fundamentals, attractive markets have a deep pool of investors and lenders supporting property prices and providing access to capital, Tenret says.
Consider data on property price trends and cap rates — the ratio of a property’s annual net operating income to its value — but be wary of simply “chasing cap rates,” says Tang Fan, Executive Director and Client Manager for Commercial Term Lending at JPMorgan Chase. Returns are higher because the risk associated with the asset is higher.
Fan encourages investors to do their due diligence so they understand the risks associated with the asset and whether the returns are sustainable. If your plan includes a value-add component, assess potential headwinds and have a plan to mitigate them if they arise. While it’s not a silver bullet, having excess liquidity on hand any time there are storms on the horizon can often be a lifesaver, he says.
Assessing the size of the investor pool and options for accessing capital can be particularly important in smaller markets. In big cities with well-developed real estate markets, multifamily owners can generally count on being able to find a buyer when it’s time to sell or get financing, but it can be more challenging in smaller cities, says Victor Calanog, former Head of Commercial Real Estate Economics at Moody’s Analytics.
Look at how regularly relevant deals are happening, understand options for accessing capital, and make sure you’re comfortable with options for exiting an investment, Calanog says.
Consider the full economic cycle
Your target market may look great when the economy is thriving. But be sure to check how it’s fared during economic downturns, especially if you’re targeting a smaller city. Think about how “recession-proof” local jobs are, says Kari Noomen, Executive Director and Client Manager for Commercial Term Lending at JPMorgan Chase. Does the market give people reason to stay in an economic downturn?
Major metropolitan areas with plenty of employers tend to have less volatility, as investors often look to those markets as safe harbors during economic downturns and early phases of recovery, Tenret says.
Smaller cities may see more booms and busts and may be slower to bounce back. That doesn’t necessarily mean you shouldn’t invest, but “you have to make sure you’re prepared for that and have the stomach for it,” Tang says.
For instance, certain markets surged during the pandemic as remote workers previously tied to big city offices moved in. Some might have solid fundamentals, but investors should be wary of “Zoomtown boomtowns,” Calanog says. In Boise, Idaho, for instance, rent prices spiked during the pandemic, and then fell.
Think about the opportunities, goods and services in the community, and why people would want to live there. Will the market remain attractive as the reason for the boom recedes?
Check local regulations
Research local legislation and rules affecting rental properties. Newcomers might not be familiar with rules around rent stabilization or ordinances that can require significant renovations to properties, and those can meaningfully impact a property’s finances, says Janella Hurrell, Vice President and Senior Client Associate for Commercial Term Lending at JPMorgan Chase.
Find local partners
If you decide to invest outside your home market, you’ll need trusted partners to help handle day-to-day operations.
To find a property manager to handle onsite operations, seek recommendations from other property owners at industry events in your target market, Richartz says. She suggests touring properties recommended companies manage to get a feel for their work.
If you don’t have local expertise — and perhaps even if you do — consider a business partnership with a real estate operator who has a proven track record in your target market. In addition to understanding the market, they’ll have relationships with brokers and key vendors and can help you identify attractive opportunities, Tenret says.
“Structuring these partnerships as joint ventures including equity co-investment, which gives both partners skin in the game, and fees tied to operating performance and realized returns, can make sure interests and incentives are aligned,” he says.
By Lauren Zumbach from Story by J.P. Morgan