The real estate market may be very healthy compared to what it was five years ago, but that doesn’t mean we’re in some sort of eternal bliss. There will be rough patches ahead — and likely a couple more crashes in your lifetime — but how can you as an investor safeguard yourself against them?
4 Ways to Protect Yourself
“Historically, economic activity rises and falls in marked business cycles,” senior market strategist Susan Green explains. “Periods of recession appear and recede approximately every 5-10 years.” Thus, it’s reasonable to expect that we’ll encounter some economic issues in the next few years. They may not be as dramatic as what happened in 2008, but reverberations will likely be felt in the real estate market.
Luckily, there are a few ways you can protect yourself.
1. Buy properties that rent below the median.
You have to think one step ahead of the market. While it’s a good rule of thumb to have the best property on the street, you don’t want to be stuck charging a rent that’s higher than the median in the area. This may be fine during times when the market is healthy, but you’ll get swallowed up when the market falters.
People still need a place to live in a down market, but they’re naturally going to gravitate towards what they can afford. By purchasing properties that rent below the median, you can maintain steady occupancy rates, regardless of what’s happening in the larger economy.
2. Be the best property owner possible.
It pays to be a good person. When you’re a likeable owner who works with people, deals with maintenance issues in a swift manner, and charges affordable rent, people are more likely to stick with you when the market turns.
On the contrary, if you’re a jerk and tenants are just renting from you because you were the only option at the time, they’re going to bolt the moment they can. Focus on building a strong reputation now so that you’re better equipped to survive a potential crash.
3. Be realistic with cash flow numbers.
When purchasing a new property, it doesn’t do anyone any favors to plug in vague numbers to determine monthly cash flow. Be conservative and honest.
“You should sit down at the computer, open a spreadsheet, and factor in all your expenses,” real estate investor Jason Hanson says. “What is insurance going to cost? Is there an HOA fee on the house? Are you getting a home warranty? You want to know down to the penny what your cash flow will be on a property.”
When the market does eventually take a downturn and rental rates decrease, you’ll at least know that you have some play in your numbers. On the other hand, if you were liberal with your computations, you’ll find yourself underwater in very little time.
4. Pay down mortgages when possible.
There’s always the question of whether it makes more sense to pay down on an existing mortgage or put that money into a new piece of real estate. While there are schools of thought that apply to both, consider paying down rental property mortgages when you can. This gives you some leverage if the market crashes and you have difficulty making payments.
Never Put All of Your Eggs in the Same Basket
At the end of the day, financial diversification is your friend. Real estate may be one of the more stable and appreciation-friendly investments you can make, but don’t put everything you have into real estate. Spread yourself out a bit and diversify as much as possible. This mitigates your risk and provides more tolerance in a down market.