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Inflation:  the big buzz word over the past 12 months.  It’s interesting how inflation wasn’t being talked about much in April 2020 when the government printing presses starting working overtime.  The more money that gets introduced into the economy, the more the purchasing power of that money goes down pro rata. Simple money supply economics.

Servio has been transacting new real estate deals since the start of the pandemic and while the basics of real estate hasn’t changed, the way that we underwrite, and view acquisitions has changed. The world has changed in many ways and it’s currently changing further daily.

1. Inflation. The basics of this are easy to understand but the solutions aren’t talked about enough. During times of price pressures on goods and services, the best way to fight inflation is to own fixed assets such as real estate. Holding currency will erode buying power of those dollars in the future. Trading dollars for precious metals, bonds, art, and of course real estate is the best course of action.  Best real estate:  the cash flowing kind. As inflation increases, rents and selling prices increase. Fixed debt on an asset doesn’t increase in amount owed. So, you are left with a hidden benefit of gaining equity dollars as inflation continues higher. Beautiful thing.

2.  Interest rates rising. The feds continue to combat high inflation with higher interest rates which will bring inflation down in the long run. It’s going to take some time and we don’t know how long the rising rate environment will last.  So…any new real estate deal in this environment needs to keep debt at the top of mind.  It’s one of the most important aspects of a new deal, other than of course ensuring the property will exit for a profit or make positive money in the long run. 

Making sure debt is fixed, holding insurance for higher rates on floating debt, or having a quick exit strategy are all ways to combat rising rates.

The best way to combat inflation is to go into with fixed debt where you know your covered.

With floating rate deals, when underwriting, they need to be stressed to the max to see what very high interest would cause for payments, etc. One of the things we do at Servio is stress the debt payment up to 4-5% higher on floating debt to see what the impact is.  If cash flow goes negative, the next place to look is reserves. Do we have the reserves to pay the shortfall?  How many months? Etc.

It’s important not to get sucked into a wormhole of what if’s in the economy.  Rates go up and they go down. But what we can do is go into a deal with eyes wide open and have contingency plans in the case of floating rates.

Rising rates shouldn’t be viewed as a scary situation. It needs to be viewed as an opportunity. An opportunity to pick up deals at a discount and/or an opportunity to negotiate better creative purchasing situations with sellers. 

3.  Habitational real estate:  the golden ticket. The old adage of everyone needs a place to live or stay is so true more than ever.  Office and retail have changed. We are in a different world and the future for shopping and working habits is going to be different.  Apartments, condos, hotels, houses, vacation homes…these aren’t going away. In fact, demographer study data shows the millennials demand for housing is far from the peak proving more validation for demand to come. Higher demand for housing means higher rents and prices.  Servio focuses solely on apartments, apartment to condo sell offs, and adaptive reuse towards habitational projects, because we believe this is the safest and long term most beneficial place to be.

There are many places investing dollars can go.  Real estate has always been a great place and will continue to be a great place. Supply, demand and currencies are changing daily. But real estate Is always a local investment.  Local on terms of tenant base, buyer base, buying price, and operating costs.  Study the micro economics in detail and keep up with the macroeconomics. Great real estate deals are out there in this economy, just keep a keen eye on the downside at all times.

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