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Navigating Changing Markets

I am asked a lot about how we are making deals work in this environment. It’s a question people ask in any market condition. When interest rates are low, people wonder if we are overpaying for deals and ask, “How can you buy at those cap rates?” When interest rates go up, people ask, “How are you making your underwriting work with the ever-changing debt market?” When cap rates were at 10, people questioned those who bought at an 8 cap. People who bought at a 6 cap envied the people who bought at an 8 cap. 

The conclusion that I have come to is that there are people that don’t know how to be profitable in any market and therefore find a problem with every market condition. To make themselves feel like they aren’t missing out, they talk about all the “foolish” people “overpaying” for deals. I have heard many of the same people sit on the sidelines and talk about negatives in the market for years and the only foolish person was them for sitting on the sidelines. 

The bottom line is that there is no such thing as perfect market conditions. There are always market adjustments. From the beginning of time, humans have transacted and turned a profit and until the end of time, no matter the conditions, there is a profit to be made. 

The key to making a profit in any market is paying close attention to what is changing and why it is changing. If you understand why a market shift is occurring, you can find investment strategies that not only protect against the market negatives but turn those negatives into positives. 

John D. Rockefeller once said, “I always try to turn every disaster into an opportunity.” He also said, “If you want to succeed, you should strike out on new paths, rather than travel the worn paths of accepted success.” One of Rockefeller’s most famous quotes is “The way to make money is to buy when blood is running in the streets.” While this quote may not sit well with some, it is a metaphor for keeping you focused on your task, even when things are at their apparent worst. 

Rockefeller also said, “I know of nothing more despicable and pathetic than a man who devotes all the hours of the waking day to the making of money for money’s sake.” We couldn’t agree more. At Passiveinvesting.com, our goal is to help our investors achieve financial freedom so that they can pursue their next goals. Whether that is traveling, spending time with family, starting another business, or whatever you desire to do with your free time, it is why we are constantly adapting, growing,  and improving our asset classes, portfolios, and our team. 

Another Rockefeller quote is “Singleness of purpose is one of the chief essentials for success in life, no matter what may be one’s aim.” Our purpose is you. This is why over the years we have brought 

our investors a variety of investment opportunities that help them diversify across an ever-changing market. Let’s take a closer look at each asset class.

Multifamily

Multifamily is the tried-and-true asset class that has proven stable over many market landscapes. Through the housing crash in 2008 and COVID-19, this asset class keeps getting better and better. This asset class consists of one of the most basic human needs: housing. No matter what is happening in the world, people still need a place to stay. When interest rates are low, housing inventory is low and demand for apartments is high. When interest rates are high and people find it harder to afford a home, the demand for apartments is high. Check out this excerpt from a Fannie Mae article concerning the multifamily sector called 2022 Multifamily Market Outlook: Defying Gravity.

Figure 1

Demand for all classes of multifamily units soared in 2021, as illustrated in figure 1. According to data from RealPage, Inc., as of the fourth quarter of 2021, year-over-year effective rent growth for both Class A and B units rose by more than 15 percent. Class C effective rent growth also experienced an upswing in growth, climbing by more than seven percent year over year. We believe that the increase in rent growth across the board last year stemmed from a combination of factors, including a quickly rebounding economy, increased job growth, and a pent-up demand for housing, coupled with generous concessions available in the first half of the year, to spur both a run-up in rental household formations and a “move up” trend by Class B and C renters. (See figure 2)

Although the number of multifamily units offering concessions plummeted during 2021, concession rates themselves remained elevated, as seen in the charts below. As of the fourth quarter of 2021, only an estimated ten percent of all multifamily rental units were offering concessions, compared to nearly 23 percent in the fourth quarter of 2020, and well below the most recent trough of 14 percent in the third quarter of 2018. And while concession levels are below one month’s free rent on average, they remain well above recent historical trends, as seen in figure 2 below.

Figure 2

Self-Storage

This asset class is very similar to multifamily in its simplest form. You have rental units and clients that pay monthly for the use of your space. The benefit of self-storage over multifamily is that you are not restricted by eviction and landlord laws. If a client does not pay, you do not have to spend time and money to evict, you simply lock the unit down electronically. This allows you, in some cases, to have collateral against bad debt. The other benefit to self-storage is that it can be run with no onsite staff, which eliminates the labor burden. 

However, because self-storage is not a “necessity” asset class, it stabilizes a little slower than multifamily and can be affected a bit more than multifamily by market economic shifts. That said, self-storage creates slightly higher returns than our traditional multifamily offerings due to the factors mentioned above. This gives our investors another asset class that produces different returns than multifamily with a slightly different risk profile while diversifying across the real estate sector.

Marcus & Millichap stated in an article this year that improving property fundamentals amid the health crisis sustained investors’ interest in self-storage through the pandemic. The property type’s resiliency and recession resistance took center stage, enticing fresh capital into the sector. A record number of self-storage properties changed hands last year, with the competitive bidding environment applying ample downward pressure on cap rates. As multidecade high inflation persists this year, more investors may turn their attention to self-storage. Because units are generally rented on a monthly basis and operators can respond quickly to changing market conditions, the property type is considered one of the strongest inflation hedge options in commercial real estate.

Figure 3

Rehab Wallet

One sector that will always be around is the single-family home market. This is a core piece of the American dream. Owning a home is a goal that persists even with the millennial and Z generations. With that demand comes the ever-present need to rehab and flip houses. The average time spent in a single-family home has reduced greatly over the years, which obviously increases turnover. Since the new home market is lagging so far behind, the demand for rehabbed existing houses has greatly increased over the past few years. The popularity of “fix-n-flipping” has also become a part of our American culture due to some well-known TV shows. Nothing says “American” like getting your hands dirty, rehabbing a house, and taking part in the entrepreneurial spirit that will always persist in this country. 

At Rehab Wallet, we provide these hard-working entrepreneurs with the capital necessary to achieve their goals in the single-family market. One great feature of the rehab sector is that in a booming single-family market, this asset class thrives, and when the housing market shifts, these homes can be rented instead of sold, producing a nice cash flow for the owner. Our PIC Fund offers our investors an opportunity to place money in this lucrative sector. The beauty of this fund is that it is liquid, whereas our other offerings will hold capital for a projected period of time to achieve the returns. Obviously, with this feature comes slightly lower cash returns than some of our other asset classes, but it allows our investors the ability to keep their money working at all times and the flexibility to still access capital as needed.

Car Wash 

One of our latest asset classes to be offered is the express car wash. This is a new and emerging industry that has evolved into a very high cash yield and low labor burden business model. The shift from full-service car washes to flex serve and express car washes over the past few years has piqued the attention of a lot of institutional investment groups. The barrier to entry for an institutional group is their lack of ability to manage these types of assets. There are very few third-party car wash management companies in this space which keeps most institutional groups from investing. 

At Passiveinvesting.com, we have created our own third-party management company to solve this issue and to ensure that each asset is managed with the utmost efficiency. Carwash.com stated in a recent article that according to the U.S. Census Bureau’s 2019 County Business Patterns program, there were 16,976 car washes with paid employees in the U.S., which is a 6.8% increase from 2015. While California ranked first in the number of car wash locations and car wash employees in 2019, Florida added the most car washes over this five-year period, increasing the state’s number of car wash sites by over 21%.

Suffice to say, however, professional car washing is growing fast these days in most U.S. states as large investors are funding acquisitions, remodels, and new builds. Busy intersections and roadways across America are now showcasing our industry’s best new equipment, chemicals, technology, signage, and service. And, despite recent economic challenges and even a global pandemic, growth, as well as M&A activity in the car wash space, has remained steady.

In this same article, Colin May, a car wash broker made this statement “…some of the mid-sized consolidators that have been building 20- or 30-site car wash portfolios will start to be acquired by the bigger buyers now that they are reaching a larger scale and their private equity backers are ready to sell and crystalize their return. We just saw this with the acquisition of Clean Streak Ventures by Mister Car Wash [in late 2021], and I predict we’ll see many more similar deals in 2022,”

A car wash is such a low price point that it is insulated from major economic downturns. The average American has two major decisions, where they live and what they drive. Next to housing, a  person’s car is their largest investment. Since most people will be seen with their car more than with their home, they want to be sure that it is clean, dry, and shiny. 

The car wash industry is prime for investors and produces extremely high cash yields. If you love emerging asset classes, love high cash on cash returns, and are comfortable with the metrics that make car washes a great industry, then this asset class is for you.

Hospitality

This is an asset class that most were skeptical about at the onset of COVID-19. While no one can deny that the hotel industry took a hit in income through the COVID-19 shutdown, most of us were surprised at the lack of distressed hotel properties that came up for sale as a result. This proved that the hotel industry could withstand the most hostile travel environment in recent history. 

With the worst of the COVID-19 crisis behind us, hotel is primed to make a huge comeback. Pent-up vacation travel demand and the return of corporate travel will undoubtedly send this sector to record-setting revenues in 2022 and beyond. Look at what hotelmanagement.com stated about the industry in a recent article: According to the latest edition of CBRE’s Hotel Horizons, all 65 major U.S. lodging markets are expected to achieve RevPAR [revenue per available room] gains in 2021. Because they suffered more in 2020, the larger markets will see greater percentage gains in RevPAR (46.8 percent) during the year compared to the smaller markets (36.3 percent).

The magnitude of the difference in RevPAR growth becomes even more exaggerated in 2022. CBRE is forecasting a RevPAR increase of 34.3 percent for the 65 Horizons markets during the year, while the markets outside this 65-city universe will see their RevPAR levels drop by 6.2 percent. This decline is mostly attributable to the loss of the price premiums currently obtained by hotels in remote and rural locations.

Despite the strong RevPAR growth rate, by year-end 2022 the $86.65 RevPAR achieved by the major market properties will still lag their 2019 RevPAR levels by 18.8 percent. The gap will be even greater in the nation’s 25 largest hotel markets, where the RevPAR deficit is projected to be 21.4 percent. For comparative purposes, the entire U.S. lodging industry is forecast to achieve a 2022 RevPAR 18.3 percent below 2019 levels. 

This is an asset class that we are excited about. Be on the lookout for a hotel offering coming soon. 

The biggest takeaway from all of this is that we at Passiveinvesting.com, are always striving to get better at what we do. We will never stop excelling. We will never stop helping you achieve the financial goals that your future freedom and peace of mind depend on.