Is It Safe to Invest During a Recession?
Originally posted on Commercial Property Executive
Just like the whole world, the real estate market is going through difficult times due to the COVID-19 pandemic. While many investors think twice before deciding where to put money during a recession, some of them would say that a downturn is perhaps the most fruitful time to invest. The main questions are: “Should you wait for a recession to invest? Is there such thing as recession-proof real estate investing?”
“Everyone is timid and unsure, so the buyer pool for assets is low. Therefore, since the prices are depressed, it makes for a great opportunity for investors,” Graceada Partners’ Principal & Co-Founder Ryan Swehla told Commercial Property Executive. In the interview below, he weighs in on what to consider for smart investing during a recession.
What smart moves can investors make during a recession?
Swehla: Smart investing during a recession is buying assets that are well below their historical average or well below their fundamental value. For example, we’re acquiring a 148-unit complex right now. Before the 2020 recession, the asset was priced about $1 million higher than what we’re purchasing it for. We’re purchasing it for $158,000 per unit and the historical market comparables are in the $180,000 to $200,000-plus range per unit. Not to mention replacement cost is easily $300,000 per unit. We’re able to clear away uncertainty and anxiety, and focus on what the fundamental value of this asset is.
Is there such thing as a best or worst asset type to invest in during a crisis?
Swehla: I wouldn’t say as much asset type as I would say class. Generally, during times of uncertainty, it’s best to move to “core.” For example, better-located assets, such as Class A or Class B assets, because you have a built-in margin of safety. You’re buying a more desirable asset which translates to a more leasable asset and one that is less likely to be affected, but that presumes you’re buying it at a value.
You should be looking at all asset types during a recession. Assuming you’re buying a well-located, desirable asset, you should look at it all during a recession. One may find a better value in retail or office assets, particularly during this current pandemic. If you buy those asset types at a value, then you’re likely to achieve greater returns.
How much has the coronavirus outbreak impacted real estate values?
Swehla: The impact has been mixed, depending on product type and geography. Retail was the most impacted, followed by office, then multifamily. Industrial has been the least impacted. That’s broadly recognized.
What’s less recognized is the difference in geography. There are some areas that come out ahead—those that are less dense have opportunities for on-site parking and more space at a reasonable rate. Then there are less desirable geographical areas—those that are most dense and rely heavily on public transportation. Even within product subtypes there are winners and losers. The grocery-anchored shopping center fared far better than the enclosed mall. The suburban or low-rise office building fared far better than the high-rise.
Using a multifamily example, the high-rise apartments or condos haven’t fared as poorly. This is because if you go in at a lower-cost basis, you’re always going to do better. The important thing to recognize is real estate value impact varies dramatically during this crisis.
What can investors do to mitigate their losses and risks?
Swehla: Avoid selling. You really only recognize your loss upon sale. Be on the leading edge of recognizing the new market reality. Oftentimes, new owners aren’t prepared to handle the pain, and lose out on opportunities they would have taken much earlier. Recognize pain early when it comes to working with clients or when issues with tenants arise. Also, when it comes to negotiating new leases in this climate.
What is the greatest challenge when investing during a recession?
Swehla: Zeroing in on whether things are fundamentally mispriced. There may be anxiety around prices and whether real estate will return after a recession, particularly one with origins in a pandemic. One side says there is a fundamental shift in demand for dense urban environments and a permanent change in asset pricing, whereas another says that these assets are only temporarily down and they will return to a normal. Depending on what you believe will shape your conviction on whether an asset is mispriced.
What is your strategy when it comes to investing in commercial real estate assets during a crisis?
Swehla: Honestly, moving to core and focusing on cost-basis or fundamental value is key. Investing in Class A and B assets allows you to hedge your bets and allow yourself to be at a crossroads of stability and potential for considerable profitability.
Considering past downturns and the current crisis, are there any real estate investments you consider to be recession-proof?
Swehla: I don’t believe there is any asset that’s recession-proof. I would say there are some that are recession-resistant, ones that are in line with long-term positive trends. For example, industrial is in line with long-term. My broad-brush answer is industrial, medical and government. These types of investments are less prone to recession. The other factor would be location. The best way to make your portfolio recession-resistant is to have high-quality assets in well-located places, at a low-cost basis.
What are the top three do’s and don’ts an investor should take into account during these trying times?
Swehla: Do’s:
Focus on fundamental or historical value because in a recession we’re looking for assets that are temporarily mispriced.
Focus on moving to core—buying better-located, more desirable assets.
Pay special attention to out-of-favor asset types as these are likely to be the most mispriced during a recession.
Don’ts:
Don’t succumb to market fear or anxiety.
Don’t use broad-brush strokes. Focus on micromarkets andmicro trends.
Don’t sell unless you absolutely have to. This is the time when you’re likely to have the smallest buying pool and downward pressure on pricing.