Consequently if it needs an upgrade then it's not generating 1%.

I’m not going to get into a semantic discussion about what constitutes distressed. As far as I’m concerned it’s a seller that’s forced to sell. However, let’s look at this from another angle:

Given that alternative real returns are dismal, why sell such a high yielding investment if not distressed?

MarkTorgerson

 The 1% rule is a great rule of thumb. I use it all the time for doing a quick analysis in my head. For those saying the math doesn't work....simply run it through. A $150,000 property at 80% financing at 3.5% for 25 years is roughly $600/month. Take the monthly revenue of $1,500 (1% of $150,000) deduct taxes, maintenance, insurance, .. etc and it still cash flows VERY well.

I think this depends on an individual's definition of "very well".  80% financing on a $150k property is $120k mortgage and $30k equity.  Monthly revenue of $1,500 deducting expenses leaves $750 per month; deducting $600/month in financing leaves $150 per month or $1800 per year.  This is a cash-on-cash return of 6% ($1800/$30k) which, in my opinion only, is very bad considering the amount of leverage used.  Also, any "hiccup" during the year can easily wipe out a large portion of the $1800.

Although a 6% yield isn't common, it isn't terribly difficult to achieve.  One wouldn't need to use such large amounts of leverage to get it either.

Darr

Every dollar of leverage reduces your ROE.

Actually, every dollar of leverage increases returns on equity.

ThomasBeyer

Properties that cost $60,000 and rent for $1200 or 2% exist where in the US with no or little value depreciation risk ? Propertirs that cost $100,000 and rent for $1000/month or 1% exist where in Canada ?

I can't speak for others and I can't speak for Canada.  However, looking at my investments in the city of Phoenix, AZ they range from 1.5% to 2.1% "rule". 

The 1.5% (worst) is from a detached 3 bed 2 bath home I purchased for $55k and rents for $850 per month and the 2.1% (best) is from a 2 bed 2 bath condo I purchased for $35k and rents for $750 per month.

On average, for better or worse, with regards to the "1% rule", I'm executing at a 1.7% to 1.8% rule.

I'm currently negotiating with the owner of a 16 unit multi-unit in Phoenix, AZ that has 3 vacant units and currently brings in $76k in gross rents ("pro forma" with the all units rented is around $96k).  Separately metered.  The price we're dancing around is $450k.  That's a 1.7% rule.  He is offering 80% VTB with terrible terms, but we'll see how that turns out over the next few days. 

To say that a 1% rule is difficult to find is kind of true, but most people who say it aren't really looking hard enough or in the right places.

Again, I may be biased, but I don't believe that the 1% rule works.  Either way, I don't use it because I actually enjoy making money.

Leverage increases your debt service and thus reduces your net income.  In a low yielding /low cap rate environment leverage becomes a real large drag on your ROE.

Hi Thomas,

We still see them in small multi family 2 - 4 units in the core of Hamilton.  If you look hard enough you will find a very select few on the Mountain in Hamilton as well.

Regards,

Mark - Are you including the cost of the deferred maintenance in your total purchase price when calculating your 1% return?

Rickson9

I'm currently negotiating with the owner of a 16 unit multi-unit in Phoenix, AZ that has 3 vacant units and currently brings in $76k in gross rents ("pro forma" with the all units rented is around $96k).  Separately metered.  The price we're dancing around is $450k.  That's a 1.7% rule.  He is offering 80% VTB with terrible terms, but we'll see how that turns out over the next few days. 

 

I thought you had a strict "cash-only" policy for your investments?

Regards,

Michael

I posted about a month back a property (detached single-fam bungalow) we purchase for $140,000 and rent for $1600/mth....in Hamilton, ON.

It's not 1.5% but a decent 1.15%

As MarkL already mentioned...they're out there but tough to find....isnt that why we're suppose to be the experts for our JV's?

Thomas

To stimulate the conversation, let’s change gears because we are not addressing the issue of deferred maintenance costs in the calculations.

This clip below is well worth your viewing time however, 6 minutes and 29 sec into the video addressed the heart of the income producing asset valuation issues. Junk bonds are priced to yield a nominal 4.95% which in my opinion are far more risky than just about every fixed income product out there.

A muli-family building has very low if any credit risk. As previously mentioned, the only thing separating a sovereign bond from a high quality building is liquidity once inflation is equalized.

Let’s use a brand new building in a good downtown location as a baseline measure from which we can increase the cap rate from there based on age and condition. Consequently, what should be the liquidity yield premium be over government bonds?  1%, 2% ..Any takers?

http://video.cnbc.com/gallery/?video=3000109364

Also worth viewing:

http://business.financialpost.com/2012/08/09/apartment-valuations-soar/

Yes 1-2% at most and that's why CAP rates for quality, well maintained, in demand locations in big cities command a sub 4% CAP rate.

I would agree with 1% to 2% at most.

@Michael I would be looking to use the VTB similar to a medium term bridge loan. Instead of using cash, I want some time to sell some over priced less-than-liquid Toronto RE. I would start with 3%, 30 yr am, 2 yr term with balloon at the end of the term. That would give me enough time. At the end of the term everything would be lien free OR I could try owning the property with 20% down and see how it feels like. I haven't decided...

Hi Warren,
as a mortgage professional in the Hamilton area, I can tell you that has not been the case for some time, the pace at which the property values increased outpaced the increase in monthly rental amounts, and at least in Hamilton, you can not really use the 1 % rule as a benchmark to approximate monthly rental amounts any longer.
regards

Phil Romano, AMP
Mortgage Agent
Verico House of Mortgage Experts
905-516-1150
philromano@vhme.ca
www.philrom.com

Darr

To stimulate the conversation, let’s change gears because we are not addressing the issue of deferred maintenance costs in the calculations.

A muli-family building has very low if any credit risk. As previously mentioned, the only thing separating a sovereign bond from a high quality building is liquidity once inflation is equalized.

Personally, I conservatively calculate the required deferred maintenance and factor it into my purchase price. (Essentially capitalizing it). I also typically do the work right away, as I dislike renovations on a continuous basis. Granted, I'm also buying single units, so the practicality is a bit different compared to completely catching up a 30 plex on maintenance in 30 days.

Rickson9

@Michael I would be looking to use the VTB similar to a medium term bridge loan. Instead of using cash, I want some time to sell some over priced less-than-liquid Toronto RE. I would start with 3%, 30 yr am, 2 yr term with balloon at the end of the term. That would give me enough time. At the end of the term everything would be lien free OR I could try owning the property with 20% down and see how it feels like. I haven't decided...

 

That certainly makes sense, 2 years is a long time in a swiftly changing market. I've often felt your investing style would be uniquely suited to leverage, as your downside protection is significant based on your purchase valuations. Out of curiosity, what type of Toronto real estate is illiquid? The view of the Toronto market from the west looks like just about anything should be salable...

Regards,

Michael

bizaro86

That certainly makes sense, 2 years is a long time in a swiftly changing market. I've often felt your investing style would be uniquely suited to leverage, as your downside protection is significant based on your purchase valuations. Out of curiosity, what type of Toronto real estate is illiquid? The view of the Toronto market from the west looks like just about anything should be salable...

In this case I guess I should have clarified my usage of the term "illiquid".  I was comparing it to my short-term investments/stocks which I can basically turn into cash next week.  I was thinking 1 year initially, but thought 2 years might give me a buffer since I want to try and sell the property myself using comfree.  I move very slowly in general. 

I got to know an local area well and asked a few realtors what they would sell a specific property for.  They all told me around $350k.  I then went to an owner of the exact same property/layout in the neighbourhood who used comfree.  We went through the property and talked a bit.  Basically, he listed it for $390k and eventually sold it after a month at $385k.  He had no upgrades, nothing. 

It is in the agent's best interest to price low and sell fast.  I wasn't sure I could sell as fast (hence the 2 year window), but I will definitely use comfree instead of an agent.

Anyway, it's a moot point as I did some more DD and the 16 unit property is in an area that I really don't want to be in.  That kind of sucks.

KevinMatwichuk

Yes. I'm with Rickson. I only buy properties that meet the 1.5 to 2% rule as well. Yes they are in the US (Georgia, Arizona, and Florida). My cash on cash return is between 9% and 15%. The oldest house I own is 1998. Beside the great returns I enjoy almost zero vacancy on my portfolio and best of all no mortgage payments which is a great feeling! I do own a portfolio in Alberta as well but the performance is lacking in comparison to my US properties. Buying houses in the US at 1/3 of reconstruction price with high Cashflow is a win-win situation in my books! Congrats Rickson for investing when most others were scared. The big problem with US housing in going to be the housing shortage which is going to occur in the future. The population there is growing rapidly and there are virtually no new construction.

Great foresight on buying in those distressed areas Kev.  Do you mind me asking which city in Florida that you decided to buy?  I was in Miami last week looking at condos, but they didn't make sense.  Thanks!