For years, hot-shot speculators made huge profits flipping condos in Florida and Vegas before they were even constructed. All the while, the naysayers in the ivory towers of Wall Street and academia warned of a “housing bubble” that was sure to burst as all bubbles do.
When Fed chairman Alan Greenspan said that national real estate market was “frothy,” the writing was really on the wall, and anyone with half a brain could see that we were in for a cooling of the housing market, at best. And yet still, speculators continued to profit, and the real estate bull market marched on.
But the bulls aren’t marching now. Greenspan handed his matador’s cape to the new Fed chairman, Ben Bernanke, who continued the policy of interest rate hikes designed to deflate housing. No longer accelerating at a break-neck pace, home prices have flattened like a pancake in many markets, and new the condo speculators who got in late are in for a world of hurt. Clearly, the housing boom is over in many parts of the Country. But contrary to the media hype, this is great news for flippers!
It should be made clear that there is a difference between flipping and speculating. While speculators may be a sub-set of flippers, they are, at best, the amateurs of the real estate investing family. Flippers who have consistent success are more conservative and have a fundamental approach to real estate investing. While it may not be as exciting as speculating, the rewards of more conservative flipping are nearly as generous, and they are paired with far less risk.
The biggest difference between flipping and speculating is that flipping works in any market, whereas speculating only works in certain places at certain times. Las Vegas from 2002 to 2004 was a great time and place to be a speculator, but if you were still in the market in 2006, chances are you got burned by more than the hot desert sun.
Basically, speculating often works on the greater fool thesis – that you can always find a greater fool than yourself to take a property off your hands in the expectation that he will be able to find yet a greater fool. Eventually, someone is left holding the bag and that’s when the party is over.
Flipping, by contrast, relies on fundamentals. The idea is not to catch a shooting star in a rapidly appreciating market. Rather, the plan is to find undervalued properties, rehab them, present them in an attractive manner, and sell them for a reasonable profit.
Not only is a rising market not a requirement of flipping success, it may even be a mild detriment! After all, it is a bit harder to find bargain properties in booming areas. Sure, it can still be done, but the point is that even falling markets are prime for flipping since the holding period is often too short for the value of the property to decline beyond the deep discount at which it is purchased. Assuming that you add value through rehabbing, you almost can’t lose!
While speculators often rely on the “greater fool” strategy, flippers tend to have one of two exit plans: 1) Quickly flip the title to another investor, or 2) Rehab and sell the property at the retail level. While the lion’s share of the profits go to the retailer, a quick wholesale deal can free up your cash (and energy) for the next deal. But what if neither strategy works? What if the market really crashes and the buyers disappear? Is all lost? Of course not!
For complex economic reasons, the rental property market does not always correlate with the housing market. In fact, they are often countercyclical. Although most flippers aren’t terribly interested in being landlords, generating rental income from a botched deal is a solid backup plan. Better yet, you can usually refinance the property after rehabbing it to get all of your money out.
From that point forward, the bulk of your rental income will be pure profit, and when the market improves, you can make the sale. Even better, you can offer your tenants a lease with an option to buy, which is attractive to many young families looking for their first home.
The media portrays real estate flippers as the investment world’s answer to Wild West gunslingers, but in reality, nothing could be further from the truth. Compare the worst case rental income scenario of real estate flipping with the worst case Enron scenario of stock market investing. There really is no comparison!
If you take a fundamental approach to real estate rehabbing and flipping, your risk is limited and your profits are virtually limitless. It really is the best of all worlds.