The Polarization of Distressed Investing
At the beginning of 2020, when Covid19 first arrived in the US, experts were quick to predict a broad economic slowdown with distressed opportunities at every turn. But as we close the first quarter of 2021, the stock markets are at all-time highs and real estate prices across the US have soared from increased demand. Meanwhile, there are millions of families struggling with the economic effects of retail and school closures, and underemployment. How is a conscientious real estate investor supposed to think about these two seemingly disparate pictures?
First of all, the Covid19 crisis was and is real, but its effects were concentrated on lower-income families and blue-collar workers. They were never active investors and many struggled even before the pandemic. Their decrease in spending power was overshadowed by the increase in spending and leverage from middle or upper-middle income households. As work-from home routines highlighted housing needs and families migrated out of urban centers, demand for single family homes soared, driving up prices. Brokers all across the country have described their markets as “on fire,” despite the pandemic.
Next, cheap leverage has further fueled the buying frenzy. Money is everywhere looking for deals. Rates are so low that investors are seeking out yield in every sector. Coupled with over a hundred billion dollars of funds waiting on the sidelines for distressed opportunities, real estate pricing has found a surprising amount of support for a pandemic. Even sectors like retail and hospitality are seeing bidding wars for distressed assets, as investors pile in to play the recovery.
Finally, given where valuations are, investors have to be optimistic about recovery. To justify lofty prices, investors have to tell themselves the story of a rapid recovery and stable future outlook. Real estate investors have to envision ever-increasing demand and low rates holding. While the dynamics of the current housing market differ from 2008, it can be argued the many families have shifted spending into housing and have pulled forward future demand.
These mixed dynamics require that current real estate investors be extra discerning in acquisition and have meticulous control over any value-added processes. This could mean seeking out more off-market deals, working with experienced and trusted contractors, or building or buying in niche markets that are “below the radar.” Specifically, it means to know, really know, the local market. Real estate is more of a local game than ever with big money chasing larger deals across the country. But at the micro-level, defaults and walk-aways are starting to tick up, from opportunistic owners who bit off more than they can chew.
In chaotic and frothy times like these, discipline, experience, and local expertise count more than ever. This is the time when smart money shines, when a sniper approach will win out over a million shotguns. Cycles may come and go, but smart and steady will always win the race.