Supply and Demand Is the Rule for Investment

Do You Own a Home?

Investing 101
••• Jim Kimmons

In all markets, whether products or financial, supply and demand will always determine price movement. Now that I've said that, I'll modify it with the statement that government or other outside market stimulus efforts will always artificially influence markets. And, I don't think that it's better than regular old supply and demand.

Looking back at the real estate and mortgage crash that began in 2006 and decimated the markets and created a recession, supply and demand was in second place behind artificial stimulus. Blame has been thrown around for the crash, and a lot of it settled on government stimulus and easily obtainable financing without adequate safeguards.

So, to say it differently, it was too easy to buy and finance, so everybody wanted to be "in the game." Flipping was a huge business, and prices were rising so fast you could make money without any real investing expertise. So, people were flooding the market trying for short term profits, and eventually it all came home to roost.

The good news for real estate investors right now is that there is a gigantic demand for rental properties, and supply isn't keeping up. But, in a free market, things tend to adjust to balance supply and demand. Right now builders are scrambling to construct multi-family, mostly apartment, structures. Here's how a rental property investor can look at this situation:

Apartments Will Get Built and Rents May Drop

Yes, if builders are putting up apartments as fast as they can, they're going to help to increase supply. Even with continuing demand, greater supply may stop the rise in rents. In fact, history tells us that there is a good chance that there will be a delayed over-reaction, with builders putting up too many apartments and saturating the market.

It's logical when you think about it. An apartment project doesn't go from an idea to completion in a few weeks. It takes more like a year or more for this to happen. So, it's logical that when the market is approaching saturation that builders will already have many projects under construction, and those will not just stop.

If you're a single family rental home investor, should you be getting nervous about putting more properties into rental service? Not really. First, apartments aren't single family homes. The renter who wants a home will still be searching for one, even if more apartments are coming on the market. Second, with rents holding, when a single-family home rents for not that much more than an apartment, it gets the nod in many cases.

Single Family Home Values

The more builders concentrate on multi-family construction, the longer there will be low inventory of single-family homes on the market. There are other market factors keeping supply low for single family homes. The Boomer generation isn't selling and moving as in the past when they approached or entered retirement. For some, it's because they can't downsize with extended family and children continuing to live at home. The millennial generation is opting to stay with parents in far greater numbers than in the past.

A lot of other homeowners who would probably have been sellers back before 2006 are holding on right now and watching price appreciation. Many have made up their value drops in the crash and some are even ahead with more equity than before the crash. There are still many homeowners underwater, so these pressures help to keep inventories low.

If you already own rental homes, you're probably enjoying the rising values in most areas of the country. Even with mediocre demand, low inventories are keeping upward pressure on home prices. If you have long term holds, perhaps it's time to look into using a 1031 Exchange and roll into other properties if their performance has declined.  

What Happens if People Start Selling

If suddenly the holdouts start listing their homes for sale, then, of course, there would be price slippage. That is unless demand jumps as well. Investors shouldn't fear the current situation or a change, as there is a strategy for every market.