058: How You and Your Assets Stay Bulletproof in the Recession
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We can’t believe it but we’re already halfway through the year! You can say these have been the roaring 20s, but, not in the way we wanted them to be.
There have been so many ups and downs this year, we say this every year but man time is really flying! 🤩🤩. And to add to that, we’ve had some pretty monumental stuff happen to us these past few years. They might not be “turning 21” big, but in our adult years, I’d argue they’re just as cool.
It’s weird how the definition of “cool” changes the older you get. Not that we’re disclosing anyone’s age! When we think of monumental changes happening in our lives, we think of falling into apartment investing, starting this podcast, the Cashflow Multipliers, and our incredible passive investors!
We’ve even leveled up in the types of apartments we invest in. When we were starting out, we heavily invested in workforce housing– Class C apartments. We’ve slowly been working our way up to transition into some pretty nice Class A/ Class B apartments since! 🏨
Hey, don’t get us wrong, we’re not ones to discriminate against class. We were raised better than that as two girls who witnessed firsthand our parents working long hours to make it in this country.
We always seem to have big heart eyes around Class A/ Class B apartments. The shift we’re seeing in Class C apartments has not been ideal. In my opinion, low-income workforce housing is getting beat up today by feeling the brunt force of the rising inflation.
This inflation isn’t leaving anything unscathed, including affecting the prices of energy, food, and shelter. As of June 15, 2022, the Fed lifted interest rates by 75 percentage points. 😲😲
This left us asking a lot of questions, so the first thing Team Kitti Sisters did was go back to the drawing board and look at our real estate schedule to see what our debt maturities were and examine how bulletproof we actually are.
Plus for any new properties, we’re looking to buy, we must factor in the discussion about capital stacking and having the right debt with the right terms. In times like this, we go back to the fundamentals of apartment syndication to make sure we’re on track factoring in rent growth, inflation, and supply and demand.
Supply and demand are where things get tricky. We are far behind in supply. Which affects our rent trade-outs (in a good way). 📈
Now, for some of you new to the apartment investing world, rent trade-outs are the price difference in rent a new occupant of a unit is paying, versus the rent the unit’s previous occupant was paying. In Dallas, we’re at a 20% rent trade-out and in Houston, we’re between a 10-13% rent trade-out.
So what do rent-trade-outs have to do with supply? Well, there are too many people who want to move in and not enough supply to meet that growing demand. And we don’t see that changing any time soon.
As if one recession wasn’t enough for this generation, it looks like the government is going to push us into another one, and parts of the country are going to be heavily affected by this. The majority of our investments lie in the Sunbelt and while we don’t think we’re immune to the effects of the recession, we believe it will be way milder compared to other parts of the county. 😊😊
Big, Bad, Buyers Market
So how are we prepared for a higher interest rate that we are all clearly heading into?
In a time like this, I’m thankful we take the “floating” approach. And no, not like, going with the flow, more like we want to have the ability to exit a deal at the appropriate time whenever that may be.
Us, The Kitti Sisters? 🐯🦁 Go with the flow? Our control issues could never!
As people who have paid their fair share of yield maintenance on the fixed debt, in some cases, it costed our potential investor returns by 20-30%! We have definitely learned that debt flexibility can not be underrated!
Our prediction? We’re entering a buyer’s market. We know, we know, all you’ve been hearing the media say right now is that it’s a seller’s market, but hear us out for a sec.
For one reason or another, people are looking to get out, and when they are, we’ll be there with bells on, ready to buy. 🤓🤓
I’ll give you an example of what we mean. Back in the early days of COVID, we had a deal in Fort Worth, Texas and the seller had to get out. Spoiler alert, it was the worst time to do so. Or so we thought.
After 20 months under our ownership, we went full cycle, as in sold and we gave our passive investors 150% overall total returns. The moral of the story is? Don’t get caught sleeping or hiding scared under a rock!
Well, yes, but more importantly The Kitti Sisters, we were ready to buy and we made money for our passive investors regardless of a deadly infectious disease-causing havoc on a nation.
We’re looking at about 100 basis point expansion today in cap rate. Confused about the cap rate? Check out EP027 The No Cap on the Cap Rate where we gave you all the details of what are cap rates. Guys, cap rates don’t have to be complicated. And, depending on your level of investment, it can be a tool that will be absolutely vital to your success in any new deal.
Whenever this volatility falls out, we will see a wave of money that’s going to come flying back in and the cap rates are going to settle back down. If you want to get started with your apartment syndication journey during this unpredictable time, look to the experts. Strong sponsors and better assets will have a more solid chance to break through. 🧐🧐
Speaking to our passive investors now, it’s fair to ask, what should you expect your return to be at this time? ⏳
For anyone who has turned on the news or looked down at your phone these past couple of years, all you hear these days is how the world is going into shambles and there’s nowhere to turn. You would have thought we started this COVID nightmare all over again. We get it, times are tough but that shouldn’t be a reason to hide.
In fact earlier today I read a report from one of our assets under management in Arlington, Texas that has a 0.9% delinquency. 0.9% delinquency! That’s an amazing number, probably unimaginable based on what all the talking heads have been spewing these days.
This is why we will take our little soap box and proclaim to all who are willing to listen, that multifamily apartment investing is a safe harbor, even today.
Why? Because as long as you have a long-term horizon, multifamily apartments are phenomenal places for wealth preservation, hedge against inflation, offer massive tax advantages, and it definitely doesn’t hurt to double your money while you sleep, aka passively. 🙌🙌
Our bestie, Buffy akaWarren Buffet said it best when he said “In short, bad news is an investor’s best friend. It lets you buy a slice of America’s future at a marked-down price.”
➡️ There are three financial needle movers. Income, net worth, and taxes. Doubling your net worth by staying on the course and focusing on opportunities today, you could potentially 16x your net worth in 20 years– recession or not! But you can’t get rattled or distracted by what other people want you to hear. Decide for yourself– is financial freedom worth it to you to stay on track? 😘😘
Should We Take the Rest of 2022 Off?
On Friday, June 17 the inflation reading was reported north of 8% and it created a ripple effect throughout the economy. When the inflation reading came in, it triggered two things– the SOFR going up and the treasury.
The SOFR stands for “Secured Overnight Financing Rate Data.”
The following week after that report came out was pretty much what we anticipated, lenders adjusting their underwriting. And when lenders adjust, then buyers get a call. And then when buyers get a call, the sellers get a call. We actually did get a call from our lender.
We were told that the numbers on our deal are fundamentally solid and the deal still passes their internal stress tests even in the current market.
In today’s market, we are seeing a major shift from the seller’s market to the buyer’s market– and it’s happening quickly. Every deal that had a whisper price out there most likely won’t be able to sell at the price. If you’ve been in the multifamily apartment game for a while– like dating back to 2015– you know the seller’s market has had its fair share in the spotlight. ✨✨
The momentum has shifted from sellers quite literally being the hottest thing on the market. They were getting multiple offers and at over asking price. Talk about everybody wanting you!
⚡ Now, the shift comes to where there are less buyers, less offers, and less non-refundable earnest deposit money. And the prices are 10-20% lower. ⚡
Right now, you have a chance at coming and buying deals that otherwise you had no chance at before. Instead of putting a million hard on day one, you might only need $100K, but the thing is, no matter how much you put down, you will need a solid business plan that is bulletproof for the next 12-18 months.
Here is what we know, the Federal Government will continue to increase its rate 2, 3, 4, or even 5 times over. It’s going to go by fast. But here’s the good news on average, it’s about 2.2 years between the first rate hike and the first interest drop.
The market and interest rates are doing the same dance, they’re both moving up. Now you have to come in and buy the property you had before (75-80% LTC, loan to cost) including new deals that don’t have existing term sheets from the lender.
By the way, this is not the case for our current deal because we have negotiated an amazing spread of 320 bps. When you’re sizing these deals, you can’t underwrite a 4% interest rate right now. 😉😉
One thing we want to make clear: you have to underwrite these higher numbers because one day when you walk in, SOFR is going to be 150 to 225 bps, meaning you add on to your spread of 400.
Say you’re using a 5.5- 6% rate on day one, that leverage is going to be about 65%. What all this means is you can still hit your targeted returns. Palm and I can’t stress you must be smart and conservative in your underwriting. You have to account for the increased debt service. While your purchase will be lower, account for the additional cost– this will offset each other and help preserve your returns.
Eventually, the Loan to Cost will come back from 75% to 80%. The market is coming down a little bit, but don’t be fooled, it will come right back up. In three to five years from now, it’s going to be higher than today.
But all we’re seeing is 7s. Jackpot 7s that is. If we are able to purchase these properties at a lower price in a few short years, it’s money in our pockets once the interest rate calms down. 🤩🤩
So for the passive investors who are investing or invested in assets post-COVID– you might have a floating rate debt.So what you want to do is ask your sponsorship team, the team you’re investing with, if they have done or doing the underwrite for the next 6-12 or even 18 months at your rate cap strike price.
Number two – find out from the sponsor team if they’re going to keep the deal and determine if they need to buy a cap rate in the next 6-12 months and have that money available. The reason we’re saying this is because if you have debt from Fannie Freddie, you’re gonna get a notice in the mail in about 18 months before your rate cap is up.
If you bought a deal in 2020, you’re going to get a notice in the mail probably in the next 2-3 months that your rate cap is 10 times higher than it was before. In addition to all this, you want to make sure you’re investing in top-tier assets, like Class A / Class B. Newer stuff.
🏢 New Class-A isn’t just based on the year it was built, but more importantly, the demographic of people that location and building attract.
Look for assets with minimal to light deferred maintenance. That can be held longer if necessary.
The Bottom Line
The bottom line is multifamily apartments don’t run in a circle. Unlike the stock market which has dropped 40-50% from the beginning of the year, the value of the asset doesn’t impact the income it collects. In fact, we are hoping it continues to increase even throughout COVID and inflation.
Who here hasn’t wished to go back in time at least once in their lives? Don’t let this time ⌛️ pass you by wishing you could buy as much real estate as possible. Why? 👀 Because long-term real estate prices in the right areas will always increase.
Again, this is the first time since 2015 that it has become a buyers market. It’s our time to buy properties with less competition, institutional investors, and the “crazy money” that spiked up the property’s price without any strong underlying reasons. 🙏🙏
Do not let fear-mongering distract you from your goals. ✨ Stay focused, persistent, and ready when the time comes, because it will come. If we are bulletproof in our underwriting, have a clear and simple business plan, and buy in the right sub-market– mark our words– in 3 years you will be telling us we were right! 😜😜
There are always two sides to history, which side you will be standing on depends on your actions today‼️
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