by Trevor Calton
When I was working in my first job as an analyst in commercial real estate, the president of the company (who was also a Finance professor) told me his Four Rules of Investing. I like to think of them as ‘tips’ because every strategy is different, but they make a lot of sense and have stuck with me ever since.
Rule #1 - Bigger is Better than Smaller
With larger deals, you get economies of scale. It doesn’t take much more time, energy, and resources -- for example, the number of people (manager, landscaper, maintenance crew) -- to manage 25 units as it does to manage 50 units.
You build wealth faster. As the market goes up and your income increases, your wealth will build exponentially faster with larger investments.
Vacancies have a lower impact. The more units you have, the less of an effect that each vacancy has on your bottom line.
Operating costs are lower. For example, for bigger properties, a property manager might only charge 3-4% per month, while they’ll charge up to 10% per month for smaller properties.
Financing is cheaper. Lenders and investors prefer to deploy capital in larger amounts, and the more they invest, typically the less return on investment they require. For example, most lenders will charge a lower interest rate for loans over $1 million, and an even lower rate for loans over $10 million
Rule #2 - Sooner is Better than Later
Time increases risk. The longer it takes to execute a strategy and generate a return on investment, the more things can go wrong. Investors can back out, pandemics can shut down the economy, markets can cycle downward into recession, banks can stop lending. There are an infinite number of things that can happen to disrupt an investment, so the sooner you can execute, the better.
As they say “time is of the essence,” and “a bird in the hand is better than two in the bush.” So move quickly.
Rule #3 - Certain is Better than Uncertain
Uncertainty is literally the definition of risk. The more variables that come into play over which you have no control, the more things can go wrong. Invest in properties where you can have more certainty.
Not sure about that development going in next to the property you want to buy? That’s a risk. Are you uncertain about whether or not the submarket’s largest employer is going to stay? That’s a risk.
Create certainty and reduce risk by gathering information, analyzing data, and doing your due diligence.
Rule #4 - Use Other People’s Money
One of the greatest advantages of investing in real estate is the ability to use leverage. Banks will put up the majority of the capital needed to invest in a property, and usually at a lower cost than the return generated by the investment. Take advantage of positive leverage to increase your returns.
Also, people with money to invest are always looking for opportunities for passive income. If you are the one finding the deals, doing the due diligence, managing the investment, and executing the strategy, you can usually find other people to invest with you. And if they are passive, they’ll require a lower return on investment than if they were running the deal.
Using other people’s money will help you do more deals and will spread the risk around so you don’t have all of your eggs in one basket.
Do you want to use other people's money? Contact Evergreen Capital Advisors today for a free portfolio analysis and loan quote.
Trevor T. Calton, MBA is the President of Evergreen Capital Advisors and founder of Real Estate Finance Academy. A longtime industry veteran and former Professor of Real Estate Finance, he has analyzed, acquired, or sold more than $5 billion of commercial real estate assets, financed over 500 commercial investment properties, and overseen the asset management of over 6000 units of multifamily housing.