Episode 16: How to Buy Real Estate in a Frothy Economic Environment

Just a brief episode this week on The Nick Huber Show, but I want to talk about how the market is changing – about how I’m looking at risk, debt, and my acquisition strategy. One of the things that I took away from that conference that I went to was a question that I had for a lot of very successful investors there: “How are you doing business in this market?” I asked this because the ability to buy real estate today, there’s a drastic difference in the economic environment that we’re operating in now than there was a year ago. For example, when I buy a self storage facility these days, the market is trading them at 100 basis points more, making them way more expensive than the cap rate they were at 6-12 months ago. The appetite for self-storage is off the charts, the public REITs are dominating, their returns are phenomenal, investor appetite has never been stronger, everybody wants to own storage, and they’re getting more expensive as a result.

So, what I’m saying is that on my end, how the hell can I compete when 19 out of the 20 offers we send get rejected? People are bidding more than us, but I still think we have the competitive advantage due to the amount that we can drive revenue, cut costs, etc. so, I’m trying to stay disciplined. I’m trying to figure out how to find a way to do business in any market, much like all of these wealthy entrepreneurs have done.

How am I going to flip the script in this market?

For starters, we’re going to reduce debt and raise more equity. That might not be what you want to hear, and this is a double-edged sword because what I do to yield are already compressed. The 10%-12% cash on cash deals that we were showing you a year or even six months ago don’t even exist right now, or at the very least are really hard to find. This is the economic environment. Yields are lower. Cash on cash will be 6%-8% and if you’re not okay with that, that’s fine, but self-storage might not be for you right now because we can’t deploy capital in any other way. 

It is what it is. 

What we did was that we decided to raise more equity and use less leverage. Less leverage did two things:

  1.  It increased our debt yield meaning for every dollar of debt, we had a higher yield of net operating income to cover it. That covered our risk.
  2. Less debt means more equity. I’m raising more cash, and it means that my returns are less juicy for my LP. So instead of debt financing 75%-80%, I’m debt financing 60%. The only good thing is that we get better debt terms from our bank because our bankers are more confident in our projects. When we have less debt and less risk, they’ll offer us interest for only two years instead of one year.

That’s what we have decided to do to reduce the risk for us. 

So, back to the original question: how can we find a way to do business in this environment? We reduce risk.

It’s a way to deploy capital for LPs that view this as a wise investment in this market. We still like the tailwinds behind self-storage. We’re still deploying capital. We are still operating very efficiently in letting our business work its magic over time, but it’s still tough, right? But here we are. I’m in a situation where I can either stop doing business and not buy real estate, sitting on the sidelines, or I can find a way to protect myself from the downside. I can hedge my risk, find partners that still like my asset class enough to invest, and do deals. But it’s not easy nor ideal, but I’m doing what I can to do business in any environment.

Three Key Takeaways

  1. If you’re going to buy real estate today, it’s expensive. This can be discouraging, but you’ve got to find a way to do business in any market.
  2. With that being said, what we’re doing to flip the script is reducing risk by raising more equity and using less leverage.
  3. Yields are lower, and if that’s not something you’re okay with, maybe buying self storage isn’t right for you right now, and that’s fine. But if it is, there are ways to adapt and still work in the current economic climate. So, is real estate a good investment still? Yes, if you’re willing to adapt and overcome.

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About Me

I started the Sweaty Startup in December of 2018 because I believe the Shark Tank and Tech Crunch culture is ruining the real spirit of low-risk entrepreneurship.