Mr. MoneyMow recently reached out to me, and several other FIRE bloggers, to get our take on how the pandemic has affected our investment strategy (if at all).
In short; my strategy hasn’t been affected by the arrival of a pandemic. Looking back though, I originally outlined my plan in one of my first posts to invest in a real estate project with a developer of smaller apartment buildings (12-24 units). Fast forward about 6 months from that post; I ended up buying a retail property instead.
At that point in time, I didn’t really consider if this investment would be “Pandemic-safe” (I don’t think anybody did at that time). Luckily though, it has proven to be fairly pandemic-resilient, in that we’ve not had any “complaints” from our two tenants in regards to paying their rent. So, I thought it could be interesting to look at some of the traits that separate a good property investment from a mediocre one.
Properties as investment vehicles
People and companies need a roof over their heads. Properties (and land) is an expensive (limited) commodity, and thus people and companies often opt to rent said roof, rather than own it (and the land on which it is built).
Enter: The property investor. Property types include:
- (Land investing and New Construction)
- (Vacation homes)
Each type has its own strengths and weaknesses. Retail, Office, Logistic and Industrial (and sometimes even residential) can all technically be grouped in the Commercial category.
There’s a rule of thumb though, which can be applied to all categories: Location, Location & Location.
For any property type, location is key. However (as always) there will be exceptions to the rule. The denser an area is populated, the more expensive the land will be. When you’re looking for your own home, my advice to you would be to NEVER compromise on your location. You can renovate your house from A-Z (even tear it down and build a new one), but you cannot change its location.
In the case of Commercial real estate, the right location for a property will be wherever there’s a good ratio between the rent and the property prices. This typically means that the best deals are made in the LESS densely populated areas. Office, Logistics and Industrial properties are typically placed in less dense areas (as they often require a lot of space).
Retail properties however, you don’t want the area to be deserted, as stores obviously need people to sell their goods to. In recent years, we’re seeing more and more areas of Mixed-use real estate. So you’ll have some retail stores (retail park) next to an industrial area close to a big number of residential properties. It makes sense; The people live in their houses/apartments and they want a short commute to work and stores close by to do their shopping. This is where Malls come in. PROTIP: What did the pandemic teach us about MALLS?! NOT GOOD, EH?! So, Malls are a pretty good business – when they are open for business!…
Residential real estate
If you’re looking to invest in residential real estate, here are my top tips for what to look for:
- Location, location, location
- Shops and transportation nearby
- Growing population in the area/city
- Fair rent for the area (not too high)
- Good property price to (potential) rental income ratio
- Limited amount of upkeep required on the building/land plot
- Quality materials used in the building(s)
- Parking facilities is a plus (but not a must, as they require more land)
But Nick, you invested in a Retail Property?!
Yes, I did. To better understand why I opted for that, let’s first take a quick look at WHY I like Real Estate investing so much:
There you have it, folks: IT TICKS ALL THE BOXES! 😛
Anyway, Residential Real estate (at least in Denmark) is typically mainly all about Equity build up. The cash flow from the properties are rarely that great (there are exceptions, as always of course), and you’ll often have a tenant turnaround a lot higher than in Retail properties (leases are typically 10-15 years fixed). You also have the added risk of idle units, or tenants that neglect or mistreat their lease. This is worst case obviously. There are tenants that have lived in the same apartment for 20 years and always looks after the property, and treats it well.
On the other hand, you get to provide a person with stability and a (nice) roof over their head. You can also opt to buy “beautiful” (architectural) buildings that brightens up the neighborhood. I like the idea of beautiful buildings, and really like the early 1900’s brick buildings that we have a lot of in Denmark. Back when buildings were built mainly by hand, and masonry was a life-acquired skill. Today most buildings are built by machines, and all look pretty much the same. Charmless. Soulless.
*Cough* Much like the typical Retail Property, Nick?!
Retail real estate
Ah yes, the aesthetics of a typical Retail property leaves much to be wanted, I will be the first to admit that! (mine included). Also, a retail property is typically not built to last 100 years, like residential properties (some last 2-300 years).
However, unlike residential, retail properties typically have long-lasting leases between 10-15 years. My property has 2 tenants, but it’s common to have only 1 single tenant per property. So you sign an agreement with your tenant for 10-15 years on a so-called Net-lease (which means they pay all the upkeep, insurance and taxes etc.), so unless something major happens (like a pandemic?!), you are good for 10-15 years. The rent is even adjusted according to the inflation every year (agreed upon in the contract, somewhere between 1-3% per year). Residential properties have rent control – Retail properties do not. You can basically charge as high a rent as your tenant is willing to accept.
On the other hand, if your single tenant goes belly up (hello, COVID-19!) you’re stuck with the bill! This is legally the only way they can get out of the lease ahead of time; bankruptcy. So, much like in residential real estate, the more tenants you have the better your risk coverage becomes. It can be a bit of a head-ache to find a new (quality) tenant for a retail property though, so this (as I see it) is the main downside of single-tenant retail property investments. If you follow my top tips below, finding a new tenant (or selling the property to another investor) shouldn’t be a major issue.
If you’re looking to invest in retail real estate, here are my top tips for what to look for:
- Location, Location, Location!
- (Lots) of residential real estate near by – or at least many people passing by daily
- Growing population in the area/city
- Look for properties with “necessity based tenants”; Grocery stores, pharmacies, funeral business (yes!), DIY (it seems in a pandemic people turn to do-it-yourself projects at home!) or even government (they seldom rent in Denmark though).
- Strong tenant(s) with long-lasting business – preferably in the area, so they know they can attract customers.
- Good property price to rental income ratio
- Limited amount of upkeep required on the building/land plot (newer buildings are a plus here)
- Great accessibility by car (and public transport) and parking close to the entrance.
- Preferably located near other types of shops to attract people – even if it’s a competing store (it’s not always bad)
- Multi-purpose building/location – the more usage scenarios the better, in case you need to look for new tenants at one point
- Store front/sign should be visible from the “main” road
- Tenant should preferably have an online business as well
- It can’t hurt if you (already) know/buy the products that your tenant is selling.
- 70% of the property should be financed via a “Real Kredit” mortgage (eg. not bank loan) and maximum 10% bank loan on top, which should be able to be paid off in less than 10 years, using the free cash flow from the rental income alone.
Most retail projects run for 20 years (20 year mortgages), where as residential typically run for 30 years. Within those 20 years you should be able to pay off all the debt (and then some) via the rental income alone. If not, it’s not a good deal!
You’ll often see Retail projects with active debt management though, meaning that the owners will prefer to keep (some) debt in the property, and instead use the rental income to payout a dividend (cash flow) to the investors (my project does this). This is Leverage, and this is how you get R.I.C.H 😛 (you can obviously do the same with residential too, but not many projects that I’ve seen offer this for some reason. If you do it yourself, how you structure the finances is of course entirely up to you).
Office, Logistic & Industrial real estate
Unfortunately, I do not have a whole lot of experience, dealing in these types of real estate.
Of the 3 the one that I find most interesting is Logistic, as e-commerce is ever expanding, so will the need for good logistic properties as well. However, they are rarely sold on the open market, and when they do they are way too expensive for my wallet.
Office real estate is in my opinion a fairly low-yielding asset type, and it doesn’t seem to be worth the risk if you ask me. I work in a big office area, and there’s always empty offices advertised for lease. But I guess if you’re able to find a good property (good location) that combines Office, Logistic and Industrial in one, it could be a good opportunity for diversification. – If you can afford it 😉
Whether your heart is set on residential or commercial real estate, location (and knowledge of the area) is always the key to a good deal. You can opt to do it yourself, or invest via a developer/project, like I have. Either way, to me owning real estate makes a lot of sense, because of the inherent traits of property investing:
High yield, Equity build up, Leverage, Hard asset (physical land/building) and Tax advantages (often you invest in properties via a company structure, which gives you certain tax advantages).
Property investing can of course also be high risk, because you typically have to sink in a GOOD amount of money into it, and you never know if the next pandemic(-like) disaster is going to change the rules of the game completely (maybe DIY and grocery stores will also be closed next time?!).
In my opinion however, properties belong in any decent diversified investment portfolio. How much of your portfolio you allocate towards properties is entirely up to you – but do consider putting a bit of bricks in there. It’s a long very illiquid investment, but it typically pays off in the long run 😉
I aim at a property portfolio of at least 5+ properties (eventually). I do want a mix of residential and retail/commercial use properties, as I believe it’s important to also diversify within an asset class. Retail real estate is to be considered high(er) risk, and thus also comes with a higher reward. Residential real estate is more “slow and steady”, and I do lean towards ultimately having more residential than retail in my portfolio (somewhere between 60/40 and 70/30 in residential would be my goal), as a lot of the value here is in the building it self (not so much the cash flow from the rent). Historically, good quality A-location buildings rarely depreciates in value (over time). But for now I’ve chosen to favor CASH FLOW, and there’s nothing like a good retail property to deliver just that…
Are you invested in properties, or are you planning to in the future? Hit me up in the comment section below!