Real estate assets represent a substantial amount of global wealth, which influenced by both national and local economies. Real estate assets are generally considered to be residential buildings, office buildings, commercial buildings, or land, which can be cultivated, developed, or even left to appreciate in value.
With repeatedly occurring recessions, real estate markets have been subjected to historical appreciation rates in the last years. For instance, during the COVID-19 crisis, prices in the United States house index rose by 19.17 percent in July 2021, a sharply increase as compared to 2020, which experienced a 6.92 percent growth rate. The increase in 2021 is considered the highest annual growth on record.
However, at the end of the year 2021, the United States home sales, which include single-family homes, town homes, condominiums, and coops, stood at a seasonally adjusted annual rate of 5.88 million units, down slightly by 1.5 percent from the year 2020.
When compared to stock or bond investments, which have a global efficient market, real estate often has a local, inefficient market. This means that if you are willing to acquire a real estate property, you will probably find more bargains through real estate than through stock. However, if invested carefully, real estate can rival the safety of bonds with a much higher return.
The greatest advantage real estate holds over some forms of investment, such as bonds, is the time frame for holding the investments and the rate of return during that time. Bonds, for instance, pay a fixed rate of interest over the life of the investment; therefore, the purchasing power with that interest drops with inflation over time. Rental property, on the other hand, can generate higher rents even in periods of higher inflation.
Real Estate Investment Methods
Investing capital in real estate property has been proven to be a lucrative strategy, though investors will still need to acquaint themselves with a basic knowledge of the sector.
As known, investors who are willing to invest in real estate can enter into the market by, for instance, buying or even renting a residential or a commercial property. This can be achieved by acquiring either a single family or multifamily building, usually by financing a purchase with a mortgage loan. Investors can then have great benefits, for instance, by renting the property out or waiting for the price of the property to appreciate in value. And when an investor rents out the property, he might be able to use these monthly payments to cover all or part of the monthly mortgage payment. Once the property has appreciated enough in value, the investor has a possibility of either selling it for a big payday or continuing to receive monthly rental incomes.
Even though one of the challenges facing an investor in the real estate market is that the purchased property will take a long time to increase in value, the investor can lower the odds of a bad investment by researching local neighborhoods to find those located in which home values tend to rise faster. The investor can also research by himself or work with real estate agents and other professionals, who can show historic appreciation numbers for the communities the investor is targeting.
We recommend that the investor be mindful of location. For instance, a home on a busy street might be more affordable but might not appreciate as quickly as one located on a quiet side street. An apartment in the city center or a building located next to public transportation might see a quicker jump in value than one located a mile away from the nearest commuter train station, for instance.
For the reason of the high price and mortgage complication, people are usually more interested in renting than buying. Therefore, real estate investors are seeing more opportunities to generate incomes. However, there are several factors to be considered when owning a rental property. Choosing the perfect investment property is heavily dependent on location. If an investor wants a family house, then they should look at locations near schools that have good reputations. If the investor is looking for single tenants, they might start by looking at properties in downtown areas.
Most importantly, it is important to consider catering to the demographic investor by giving him a starting point when thinking about location. A better approach to investing in the real estate sector is by avoiding to sell a house, and instead wait for its price to increase in the hope to sell it for more profits later.
The problem is that when investing for capital gains, the investor has no control over the price. Moreover, if the investor plans to sell the house in the future and gain a profit, then they will have to pay the highest tax rate.
Conversely, the best approach is to purchase a house by acquiring a mortgage loan, finding tenants to pay the expenses, and collecting rent each month. In doing so, the house becomes an asset, and if there are any capital gains in the future, as the price of the house increases, that’s an additional bonus.
Real Estate Flipping Investment
Also, investors participating in real estate investment often turn to house flipping investments. By purchasing a home for a lower price, renovate it quickly and then sell it for a higher value to make a profit. It is in the investor’s best interests, of course, to buy the right home. In this situation, investors are not interested in monthly rents when flipping homes. Instead, they need to purchase a home for the lowest possible price if the aim is to generate a high income when selling.
Investing in real estate through flipping mechanisms accounted for four percent of home sales in the first quarter of 2021 in the United States. The four percent represents 17,309 flips, although it is considered to be the lowest amount since the middle of 2011; however, this does not mean that there aren’t any profits. In fact, investors are making more than in the past. For instance, in 2020, real estate investors made about 61,684 USD per flip, as compared to the average gross profit for a flip during the first quarter of 2015, which was 72,450 USD.
For any investor operating in the market, it is advisable to purchase real estate during a recession as the price will be at its lowest.
Benefits of Investing in Real Estate
Intelligent investors know the importance of diversifying their portfolios whenever making an investment. One of the best strategies is to have investments that are not correlated with each other. Hence, a differentiated real estate investment is one of the most substantial investment. When compared with other investments, real estate is not perfectly correlated with other paper asset investments, such as stocks or bonds, and therefore, real estate investment provides a perfect diversification opportunity for any investor seeking to immunize risks while maximizing returns.
Over the last two decades, real estate investment has attracted an increasing amount of investors worldwide and has become a fast-growing asset class, with the development of securitized real estate in particular. This trend is accompanied by the introduction of real estate investment trust (REIT) legislation in the United States and other several developed countries around the world.
The majority of investors involved in real estate investment are looking for a steady flow of cash they earn in the form of rental income. With the aim to achieve a passive income, real estate is considered a major incentive for investors to buy their first rental property. Depending on the location, investors could be earning a significant amount of income to cover their expenses and generate profits on the side. For instance, urban cities or towns with colleges and universities tend to generate higher income as the demands for rental houses are always high in those areas. If chosen wisely, a real estate investor can secure a steady flow of income for a long term. Real estate is a perfect investment for even accumulation of wealth for the long term.
Owning a rental property can give investors a sense of financial sources because of the way a property increases in value over time. This means that a property’s value is most likely to increase, particularly in the long term, as land and buildings are appreciating assets.
Also, as we mentioned earlier, investors gain the benefit of increasing their earnings by renting the property out and collecting a monthly cash flow while holding the property until it can be sold for higher price. In fact, investors accomplish two essential things: they are simultaneously paying down mortgage obligations and increasing equity. This, of course, is all happening on the tenant’s monthly payment.
Like stocks and bonds, real estate generates more income when the investor’s aim is a long-term investment strategy, meaning the investor should hold it for several years as he waits for the price of the property to appreciate. At the same time, if the investor rents out his real estate, he can earn a monthly income while waiting for the property’s value to rise.
Also, real estate provides a hedge against changes in variables that matter to most investors. For quite some time, we have known about the inflation-hedging properties of real estate and the moderate inflation-hedging properties of equities and long-term bonds. As a result, when contrasted with other asset classes, real estate affords investors a better opportunity of their ability to hedge against inflation.
What are the Risks of Investing in Real Estate
Acquiring real estate through a mortgage involves traditional mortgage amortization; therefore, investors pay more interest at the beginning of the loan. It generally takes about 10 years before the investor can build meaningful equity from principal payments alone.
It is often the case that real estate value might not rise much since the investor has no control over the housing market and real estate location; although, there are guarantees that the value of an asset will increase in the long term. For instance, for the period between 2010 to 2020, the prices of real estate in the United States, increased by only 3.2 percent annually before inflation and 0.3 percent after inflation. It is also worth considering that there are certain areas in the United States where the growth rate is higher than average.
The other hidden costs of real estate, which some investors fail to factor into the equation, are acquisition costs and selling costs. When investors purchase a real estate, they pay a down payment, closing costs, and possibly upfront repairs to get the house in a living condition.
Selling a home also comes at a cost. At a minimum, sellers are responsible for paying realtor commissions of between 6 to 14 percent of the home’s value. If negotiated by the buyer, sellers could also pay closing costs, repairs, and other expenses before the sale is final.