I think most people would agree, the current real estate expansion is getting a little “long in the tooth” and is poised for a correction/change. Real estate, like a hot air balloon, can’t go up forever. At some point it needs a break to refuel. Colorado is not immune from the macro economic challenges. Colorado’s real estate boom is starting to get tired as we are already seeing a substantial slowdown in sales volume in Denver and the front range which means change is lurking. What are the 4 locations that will fare better than others when markets fall? 4 tips for locating the best investment in a cooling real estate market
What happens when the markets fall?
As a lender in the last recession, I learned some important lessons about what happens when the markets tank and s*** hits the fan. Most lenders sell off their loans shortly after making them, so they don’t get to see what actually happens to every loan they made. As a Colorado private lender, we portfolio and service all our own loans and therefore we were forced into a front row seat in the last crisis getting to see how good or bad we were underwriting and how each loan performed under the stress of the financial meltdown. Many years later I’ve gone back and analyzed which transactions we got hurt on and which ones weathered the storm best to ensure we don’t repeat the same mistakes.
When I look at our portfolio in the great real estate correction, there were clear trends that emerged. Certain property areas got hit considerably harder than others. Why did some properties do well relative to others? What can we learn from the past losses in our portfolio?
What trends emerged?
As I studied our losses in our lending portfolio there were three stark trends that predicted losses. These trends are true for both commercial and residential areas.
- Consistency: the more consistent a neighborhood the better it fared during a downturn. I’m not saying all houses look alike, but majority of houses were all well maintained and grouped at an average price point. Neighborhoods that had problems during the last recession had outliers that were considerably lower than others. For example, you could have a neighborhood with prices ranging from 200k to 1m, if you own a property that is worth 1m you are at considerably higher risk due to the lower price points in the area. On the commercial side this was also a key indicator of success. Properties in uniform areas performed considerably better. For example, a building in an industrial park with many like properties did better than a property not in an actual industrial park but surrounded by different commercial property types of various price points, style, etc…
- Closer to core fared better: Properties closer to the city core in good areas typically fared better and came back much quicker than other areas. There is a desire in many areas for city living as traffic has gotten worse and many companies have moved jobs back to the city cores. Denver and Atlanta are good examples. The closer in areas came back much stronger than the far outlying suburban areas or exurbs.
- Supply: Areas with limited supply do considerably better in a down cycle. For example, in a neighborhood or commercial park with new construction coming online, why would someone by an existing property when they can buy a new property at a discount that a builder/developer must unload in a recession?
- Euphoria (up and coming): Towards the end of the cycle it seems like every neighborhood is the next “it” neighborhood with speculation for drastic appreciation. You are seeing this throughout the Denver metro and throughout the front range. This is typical behavior towards the “tail” of a cycle. These areas are much less solid than more established areas and therefore are at considerably greater risk during a downturn.
Based on the information above what areas fit this criterion?
In the front range:
- Boulder: I’m not referring to all of Boulder county, but the actual city of Boulder. Although Boulder is expensive, the area has strong fundamentals that will stabilize the market in a downturn. The area has a highly educated work force and companies that crave the area like Google. This combination with a lack of supply will keep Boulder more stable during the next recession
- Denver: Obviously Denver is a big place. I had someone call me the other day from out of state looking for a loan on a commercial property, he mentioned that the property was between the old and new airports. I asked if he could be more specific since there were a million people between the two airports! Although Denver is a big place, overall Denver County should fare well. When looking in Denver, each neighborhood is unique so focus on the 4 items above to narrow down the particular neighborhood. Denver, like Boulder, has a lack of supply of new properties which will stabilize prices. Furthermore, Denver has a highly educated work force and large demand for employees from various industries that call Denver home. Furthermore, Denver continues to attract people from both costs due to the lower cost of living and quality of life. Just as in the last recession, Denver should do better than many others.
Resort Markets
Most ski areas in Colorado are “land constrained” which leads to a lack of new supply. Furthermore, building costs in the mountains are very high which further limits new construction. There are two ski markets that jump to the top of my list when looking at areas that will best weather the next recession.
- Steamboat: Steamboat like other ski areas is supply constrained and with the recent purchase by Alterra (Ikon pass) demand has increased substantially. Furthermore, Steamboat is still a relative value compared to other markets like Vail or Aspen and considerably more land constrained than summit county (Breckenridge, Frisco, Silverthorne, etc…)
- Aspen: Although Aspen is the priciest market on my list, it is still a very good area to purchase on the low side of the market (under 2m). Aspen has zero supply and continued demand due to its exclusivity. During the last recession Aspen dropped a little but substantially less than other markets. It also rebounded quickly and has far surpassed the bottom in the last recession. This same story should repeat in the next cycle.
If the recent changes in the stock market are any indication of what is to come in real estate, hang on to your saddle! Real Estate goes in cycles like any other industry with high and low points. We are currently at a high point in the market and the waters are becoming choppy. Just like in the stock market now is the time to focus on “defensive” sectors that perform better than other areas in times of volatility. The same should be done for real estate. Using the 4 tips above and focusing on solid long term real estate markets will enable your real estate portfolio to weather the next storm.
I need your help!
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Written by Glen Weinberg, COO/ VP Fairview Commercial Lending. Glen has been published as an expert in hard money lending, real estate valuation, financing, and various other real estate topics in the Colorado Real Estate Journal, the CO Biz Magazine, The Denver Post, The Scotsman mortgage broker guide, Mortgage Professional America and various other national publications.
Fairview is the recognized leader in Colorado Hard Money and Colorado private lending focusing on residential investment properties and commercial properties both in Denver and throughout the state. We are the Colorado experts having closed thousands of loans throughout the state.
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