Emily’s Notes: Aspects of “Location”
Emily slowly recognized that her notes on investing in residential income properties were not as well organized as she would like. They were in chronological order and that meant that it was not easy to access the data she might want to review. Easy access to data is important. One can’t trust to memory alone, because it’s just too easy to forget things. She realized it would be more useful if her notes were organized by topic rather than by time. Not only would it make it easier to access specific information, it would also make revisions possible when new and more recent data appeared.
Emily had long ago recognized that it is unrealistic to expect perfection in any particular investment. A purchase may not need to have every desirable element to still be a splendid investment, but perfection, as everybody knows, is the enemy of the good. She knew that not every item is equally important. For example, she might not wish to own property too far away from her home. That would be important because it impacts management. Or she might decline buildings with mission tile roofs. Maybe the round tile belly reminded her of a guy she met on that wretched dating site. That would be less important, almost frivolous. Finally, she recognized she still hadn’t learned all there was to know about investing in apartments. She’d been doing it for ten years or so, but sometimes felt like she’d had one year’s experience repeated ten times. She was good at what she did, but there were still some aspects to investing that remained a little opaque to her. She’d had this experience before. As a single girl in a chancy world, she once had reason to sign up for a women’s self-defense class. After class one day Emily asked the teacher, “What does it mean when you say, ‘Power comes from the ground’?” He said that means that physical power comes from footwork, and he demonstrated a way for her to place her feet that would help her to accomplish a technique with maximum power. The improvement was so significant that she began to give a lot of thought on precisely what words meant in the context they were being used – not just in her self-defense class, but everywhere, and especially in investing.
Location, Location, Location
It seemed Emily had heard that worn response to “What are the most important things in real estate?” repeated endlessly. But until recently she never found someone who could explain exactly what “location” meant, and why it’s repeated three times. Assuming a non-rent control environment, what makes one apartment building location superior to another? Sometimes the special beneficial characteristics were not easily recognized. They may be important for one person or group of prospective tenants but not for another. For the Hasidim, for example, but not for seculars. It turns out, as Emily looked deeper into it, that there might be a reason why “Location” was repeated three times. Perhaps there were three types of location that were important. One might involve Demographics, but demographics is so closely allied with Land Use Restrictions that it’s hard to talk about one of them without addressing the other. Both of those would have to be listed within one general heading: Demographics and Land Use Restrictions. For convenience they might be talked about separately, but they strongly cross-influenced each other. After those would come (2) Area Amenities, and finally (3) Property Characteristics. Generally, she thought the largest influences upon value are Demographics and Land Use Restrictions.
If there are no people and no jobs, there’s no market for apartments. Even if there are jobs and people to fill them, the prosperous times may not last. Today may be a glorious time to own apartments, but tomorrow something happens and vacancies go up. There was once, for example, a huge demand for apartments to service the sudden influx of shale oil workers at the Green River formation, west ofRock Springs, Wyoming. With three or four well-paid shift-workers per apartment, the rents surely added up. But eventually the oil field approached full economic development and, except for the maintenance crews, the oil field workers got less and less hours and started to look for work elsewhere. Apartment units become vacant (everybody left town) and hard to rent (nobody came to town). Soon those newly built apartment buildings were empty. Even though the buildings were originally bought under the illusion they were permanent housing and the roustabouts would be there forever, they were, in fact, temporary housing. And now they have served their purpose. With no present tenants and no realistic prospect of future income their only remaining worth was land value minus the cost of removing the now empty apartment buildings. A reasonable Location has permanent jobs and itinerant people. As the people move on, the jobs remain and attract more people. The cycle feeds upon itself. A good investment location, it seemed to Emily, is where both population and per capita income are growing. In such locations there would be (a) lots of (b) middle class people. She discovered several websites that provided per capita income data by zip code. It was a start, but by itself that is an inadequate data point. Conceivably, there could be only one person in the entire zip code, perhaps an investor whose dividend and interest income is well over 7 figures. Think of Scotty’s Castle occupied by Carlos Slim. This would result in a very high reported per capita income, but the information would not be actionable to the apartment investor due to low population density. What is needed is both (a) high density and (b) at least middle class incomes. Density and Income levels are probably the most important Location filters to successful apartment investing.
Land Use Restrictions
Regardless of how many people move into an area, or how high their incomes, if raw land is easily available the metropolitan area will sprawl first to suburbs then to “exburbs”. This will dilute either density or per capita income (usually both) in a specific area and, Emily thought, adversely affect the value of her investment. For the investor, Land use restrictions (LURs) direct both population and income into identifiable areas. Some types of LURs are natural (i.e., waterfront), but most are created by law. It might be that the Endangered Species Act does not permit clearing land beyond the present city limits (Spotted Owls). Or maybe the hills just outside of town are part of the National Forest system and building is forbidden. Perhaps zoning restricts residential buildings to Single Family Homes, with minimum lot sizes and no multi-residential units permitted within the city (Bradbury, CA). Desirable Demographics (a dense-and-growing population of above-average incomes) and Land Use Restrictions that limit the supply of new housing are covalent. – (“The area’s all built out, Roger. They won’t give you a building permit.”) Together, they can create a very favorable investing climate because more people would be bidding for the right to occupy the same apartment. Emily thought that land use restrictions were second only to demographics in the location hierarchy.
Demographics are important, but not conclusive. It is not always enough to have a lot of well-off people. They may come but not stay, and the apartment owner finds herself in the motel business. For traditional apartment owners, there must be a reason for the prospective tenant base to root at least long enough to find employment. Reasons to stay often involve area amenities, which are different than Demographics or Land Use Restrictions. For example, a large number (density) of highly skilled people (money) may be attracted to Dallas, but that doesn’t mean they’ll rent or buy just anywhere. They are most likely to seek an ambiance they find personally pleasing. Ambiance is found where there are (a) a lot (b) of desirable things (c) close by. An apartment building within walking distance of amenities like recreation (waterfront, park), education (highly ranked school system), employment (convenient to employment centers) or even cultural (“Just look at all the biker bars, Henry! Your mother will feel right at home!”). The presence of appropriate amenities means higher rent levels, easier tenant retention, and lower vacancy factors . . . or at least so Emily hoped.
Assume a zip code is well above the city’s median income levels. Population density is high but stable due to its location in the Arts District (Historical Overlay), with its rigid land use restrictions. Well maintained historical properties rented by sculptors, painters, glass blowers, harpsichord teachers, opera singers, bluegrass bars and artisan bakeries draw people to the area. But why would a prospective tenant choose one particular apartment over another? Another way of addressing that question is to ask “What benefit does this particular apartment unit offer that makes it more desirable than the vacancy down the block”? The answers will vary with the area characteristics, of course. Using Arts District properties as an example, units with large north-facing windows might attract actively artsy people. North light is indirect, so the painter or sculptor doesn’t have to worry about sunlight arcing through the studio at different angles during the day. But just because the property is in the Arts District doesn’t mean it must have a North Light to be rentable. Even there, most folks are not artists and may not require indirect natural light. Other things might be more desirable to them, things like large rooms, a second bathroom, a fireplace, or even an open floor-plan like Chip and Joanna are so fond of. The important thing, Emily learned, was to offer one or two desirable amenities that a prospective tenant would have difficulty finding elsewhere.
Although it changes over time, at any given moment there is a maximum rent per square foot that the market will accept for a particular unit. The average rent level for Dallas apartments is probably found where the lines of average density and average income cross. One could expect a higher average level for the Arts District because the Arts District adds an amenity overlay, revealed by an above average WalkScore. Finally, the average rent level of units with particularly desirable characteristics (i.e., large apartments with a fireplace, or a second bathroom, or north-facing windows) will probably be even higher than the average Arts District rent.
If you’ve missed some of the basic articles, guidelines on successful investing are in my book “Stairway to Wealth” available at LuLu.com.
This article is for informational purposes only and is not intended as professional advice/For specific circumstances, please contact an appropriately licensed professional. Klarise Yahya is a Commercial Mortgage Broker specializing in difficult-to-place mortgages for any kind of property. If you are thinking of refinancing or purchasing real estate Klarise Yahya Commercial Mortgage Broker, BRE: 00957107 MLO: 249261 can help. For a complimentary mortgage analysis, please call her at (818) 414-7830 or email Info@KlariseYahya.com.