One of the main causes of the last big recession in 2008 was subprime mortgages. In this case, mortgages were being handed out to borrowers with far-less-than-perfect credit, income that didn’t warrant a loan of the size they were approved for (in some cases, no income at all) and a job history that was spotty (or no job at all). Sounds like the perfect cocktail for a foreclosure fiesta, right? It was. Since then, subprime loans have all but disappeared. Or have they?
Fast forward to 2018: The subprime mortgage has made a return. This time, it’s called a nonprime loan. There are lenders working in the newly created space offering loans to borrowers “with less-than-perfect credit.” The interest in these loans has been huge. Considering that millennials, reportedly the largest segment of homebuyers, have much higher levels of student debt than past generations, this could be helpful for many. With regulation, these programs could be beneficial to many Americans wanting to have the dream of homeownership. However, when greed comes into play, this tool could be dangerous.
How do you prepare? Last time, most Americans were blindsided by the crash. Your 401(k) dropped, the stock market crashed, home values plummeted, jobs were at a bare minimum and the unemployment rate skyrocketed. But, if you prepare in advance for the worst, you may come out the other end of the next recession in the black.
One way to prepare yourself for the inevitable dip in the market is investing in real estate. Many Americans don’t ever consider real estate as an investment strategy. We’re programmed to think of stocks, mutual funds, bonds, life insurance and other traditional investment strategies. Real estate often doesn’t come into play. But didn’t we just talk about home values plummeting during the last crash? You might wonder, “How will real estate investing protect me if a recession occurs?”
The strategy is referred to as buy-and-hold real estate investing. In simple terms, you own rental properties and collect the cash flow generated by your renters. In most cases, if done properly, a rental property will more than pay for maintenance expenses, vacancy costs, the mortgage payment, taxes and any property management fees. On top of covering those, you collect a bit of cash every month. Here’s how it works for diversifying your investments, specifically during a recession:
• Rental demand increases in a recession. Everyone needs a place to live. If the market crashes, loans are harder to attain. Therefore, rental demand increases. According to Business Insider, renting households increased between 2006 and 2014 in 50 of the largest metro areas in the United States. Las Vegas, a metro area hit hardest during the last recession, saw renters go from 39.5% to 49.4%.
• Single-family properties and duplexes have greater appeal. If people are losing their homes because of foreclosures, they are more likely to move into single-family home rentals versus larger apartment complexes. An additional strategy that can help investors obtain single-family rentals and be the source for those seeking alternative housing is turnkey investing, in which much of the legwork is removed from the investor’s responsibility. (Full disclosure: My company provides turnkey investing opportunities.)
• Rent amounts rarely go down in a recession. Although many commodities and their pricing are relative to the stock market, the rental market isn’t necessarily one of them. If individuals aren’t buying houses, or there isn’t the opportunity to, they need to live somewhere. In comes the principle of supply and demand. If there is more demand for rentals, rent amounts will remain stable or increase in some cases.
• Real estate is a tangible asset that will always have worth. Land is scarce — they’re not making any more of it. What we have on earth is what we have. Therefore it is a desirable asset. Even in a crash, the land and structure will still have value, even if that value is less than prior to the crash. If you needed to liquidate your assets for personal reasons, you could. However. it’s important to note that it isn’t wise to sell rental properties during a recession. After all, home values are down. This is why buy-and-hold real estate investing is a sound strategy. You want to hold on to these investments for many years. If invested in wisely, your rental property will weather a recession.
• While other investments may be suffering, your real estate may be soaring. This strategy is all about diversifying. Most Americans have some form of a 401(k) or IRA, which helps them invest in various mutual funds, stocks and more. During a stock market crash, it’s a given that those will almost always suffer the brute of the dip. A way to protect yourself is to diversify into other investments that may not be as affected by the stock market — in this case, real estate. For the many reasons we’ve discussed, it has a great chance of weathering a recession more so than other traditional investments.
Buy-and-hold real estate investments are a great alternative to traditional investments and can truly help protect you in a market crash. It’s important to note that more Americans than ever are opting to rent versus own their homes. Millennials are leading the trend, but adults over age 55 aren’t far behind. Single-family rental households in the U.S. are increasing by the millions. Crash or no crash, investing in single-family rentals is a smart decision.