Robert Leonard  01:14

For those people who may not have heard our episode together on Millennial Investing, please walk us through your background and how you got to where you are today.

Neal Bawa  01:22

Sure, I am a recovering technologist. I got into real estate by mistake. My boss asked me to help build a campus in 2003 for our technology company, and so I got into real estate in reverse. Most people do a single-family rental. I started off with a $6 million campus as my first foray into real estate, and then sort of fell in love with it. And I’ve done everything from owning two dozen single-family homes myself, which I still own, to buying about $250 million worth of multifamily assets. I’ve also done large new construction projects, including one in Provo, Utah; over $100 million dollars worth of multifamily.

Robert Leonard  01:59

Wow! With doing these types of big deals, why did you decide to continue with some of those smaller single-family properties?

Neal Bawa  02:06

Those are from the first half of my career. I haven’t bought any single-family properties since 2014. I was done at that point. I haven’t sold a bunch of them because they made sense. They were cash flowing. I’ve refinanced them. They’re still a part of my portfolio because they’re not doing any damage.

Robert Leonard  02:24

Do you have a third party property manager that handles all that for you, so it’s completely passive?

Neal Bawa  02:28

I have a third party property manager. She is my wife. Yes, and she loves it. They’re like her babies, and she doesn’t want to give them away, so I don’t bring in a third party property manager per se. I do suggest to everyone that you should have a third party property manager. My wife’s quite exceptional at it.

Robert Leonard  02:45

Neal, you’ve influenced a lot of the way that I invest in real estate. I’m even working on a book right now on how to invest in real estate long-distance using data and technology as its core. How has being a technologist impacted the way that you approach real estate investing?

Neal Bawa  03:01

It’s not really about technology, Robert. I think what has influenced me is being a data scientist. When I look at data, when I look at analytics, there’re patterns that appear to me. A lot of people that know me think that I’m tricky, and that’s why they gave me the nickname, The Mad Scientist of Multifamily, because I look at a bunch of numbers, and start to see correlations. When I see those patterns, and I see repeatable patterns over and over again, if they suggest good things, I do more of them. If they suggest bad things, then I make sure that those things don’t happen. Everything that I do in real estate is informed by these patterns and metrics. I’m very much into the numbers. 

I’m always building dashboards. Once I have a dashboard, I improve a dashboard. I often see people with what they call a dashboard, but it’s terrible. Because, if you look at it, it’s like this crazy Excel spreadsheet with 63 numbers in it. And I say, “I want you to think about this word ‘dashboard’.” What is a dashboard? A dashboard is something that’s in the front of a car. By its very nature, we should have maybe one-fifth of a second to look at it. Because if we look at it for two seconds, we’re going to hit somebody. Right? Isn’t the whole point of a dashboard to be able to understand the information quickly?

What we do at Grocapitus is we build these extremely elaborate, but very easy-to-understand dashboards that tell us about the health of our business. Every metric that we care about for our properties is in there. When we are buying properties, and we get an incoming property, we have an elaborate dashboard of metrics around the health of that area. So job growth, population growth, income growth, home price growth, crime reduction, and poverty levels; all of these are benchmarks that we care about a great deal. Today, I’m very glad we care about those because people have been buying properties in areas that are just absolutely horrific. And I know that, in the next 90 days, they will face a tremendous amount of adversity with those properties.

Robert Leonard  04:51

You very quickly went through some of those main metrics that you look at. I know that’s part of your 5-step system for market analysis. I want to dive into that. I know you have some metrics at the more macro level, so at the city level; and then you have some at the neighborhood level. Let’s run through those, starting at the macro level or the city level. What, specifically, are you looking for?

Neal Bawa  05:13

I’m going to walk you through all of those.

My first metric is population growth. At the moment, I’m looking at the population growth, between the year 2000 and the year 2017, of around 21.5%. Given that it’s 2020, a lot of people ask me, “Why 2017?” Well, firstly, cities don’t change as often. Yes, you can go out and buy data for 2020, but I assure you, you’ll end up with the same set of cities. Secondly, the 2000 to 2017 information is very easily available on Google. You can go to Google, type in for something, like Chattanooga population. Google will give you a beautiful graph, and it’ll have the 2000 and the 2017 numbers. If the difference between those two numbers is over 21.5%, you’re good. And what happens next year, is that number goes up. So population growth is the first out of the five metrics.

Robert Leonard  06:05

Why is population growth important? And why 21.5%?

Neal Bawa  06:09

The honest answer is that when I did statistical analysis, I ran a bunch of scenarios. And what I found was, at a certain point above a certain percentage of growth, population growth was supporting a lot more rent growth. Population growth drives up rent growth. We buy apartment properties because we’re interested in rent growth. That’s what we want. We want a high level of rent growth. To get that, you need competition. You need people fighting over real estate. People fight over real estate when there are a lot more people.

For example, a place like Detroit, which has been losing population for the last 30 or 40 years, is going to have a lot less competition for those units, and a lot more units available. Because it used to have a population that was almost 2 million people 40-50 years ago, it’s built a lot of those units already.

You want to go into an area where there’s a lot of population growth because there’s a lot of competition for your units. You want as many tenants for your units as possible. So I think it makes an enormous difference.

Why 21.5%? The honest answer is I am a statistical analysis guy. I’ve done the math, and what I found is, today, above that level, you’ll see a high level of competition with people fighting over your unit. Below that, that competition is slowly going to start falling away. Now, I’m not saying don’t go into a city if it’s at 20% instead of 21.5%. That’s not the point. My point is that if you’re looking at two cities, and one of them is over 21.5%, and the other one is at 17%, you know which one to pick.

Robert Leonard  07:38

So how about the second metric? What’s the second one that you looked at?

Neal Bawa  07:42

The second metric is income. I want the income levels to be increasing in that Metro by about 32%. You can get this information at city-data.com. For any city in the US, type in the name of the city. Scroll down about 12 inches, it’ll show you median household income, and you’ll notice here two numbers already. In this case, for the second metric, the number is about 32%. You want to the income growth between 2000-2017, between those two benchmark years, to be at least 32% or higher.

Once again, the Excel spreadsheet that I give you tells you: What should the number be next year? What should it be the year after? You can keep using this system. The whole point is that I want to make sure that people are not paying for the system, it is meant to be free, completely free. No one should ever charge anything for it. So bottom line, because I’m giving it away for free, the system tells you how to use it next year and the year after and the year after. But in 2020, about a 32% increase in income. Why an increase in income? I think that one’s pretty common sense, right? You want to increase rents. If their income remains the same, how can you increase rents on people that are not making more money?

Robert Leonard  08:50

Yeah, I mean, if their income isn’t going up, you can’t increase the rents. Otherwise, you’re not gonna be able to afford it.

Neal Bawa  08:55

You can try increasing rents. Two things will happen. One is you’ll either end up with a lot of vacancies. Or second, they’ll end up staying and won’t have money, and you’ll end up with a lot of delinquents. Both of those are really bad scenarios. In fact, delinquency is even worse than vacancy because the unit’s not available for you to rerent, and you’re not getting paid for it. So that’s a really, really bad scenario.

09:15

Number three is home price growth. Even though I’m an apartment guy, and I buy large apartment complexes, I find that this system still works because I want home price growth in a city that I’m buying apartments in. Do you know what home price growth is doing, Robert? What it’s doing is it’s preventing people from buying homes as the prices go up.

Every single time you have home prices going up, there are some people at the margins that just had enough money to buy a home, and now they’re outbid because the home price went up. Those people are actually the best tenants because they wanted a home. They were gathering money, had downpayment, and it’s just that the prices went up a little bit too far for them, and now they can’t do it. And guess what? They’re gonna go into the best apartment unit they can find.

As I buy apartment properties and rehab my units, those are the tenants that I want. I can’t get enough of those tenants if the home price in the city doesn’t keep going up. I constantly need the prices to be inching up a little bit so that there’s always these people at the margin falling out and becoming long-term tenants because they can’t afford to buy the home prices because of the price increase.

In this case, we’re looking for about 42% of [home price growth] increase, once again in that 2002-2017 timeframe. Where do I find the numbers? Same website, city-data.com. Type in the name of your city, scroll down about 12 or 13 inches, and right there, you’ll notice median house or condo value. You’ll see two numbers. There’s going to be a 2000 number, and there’s going to be 2017 number. Your goal is not to get five thumbs up. Your goal is to get as many thumbs up as possible for cities that work for you.

What I highly recommend you don’t do is, if you live in Seattle, don’t start plugging in cities that are two hours away from Orlando because you’re not going to fly out there often enough. You’re not going to check enough properties out. You’re just going to buy the first one that comes to mind. So what I’d much rather do is, instead of five stars on a city that’s 3,000 miles away, I’d like to get four thumbs up on a city that is 200 miles away. Because you’re going to manage it better. You’re going to spend more time flying out there. You’re going to check out more properties before you buy one. The system is not a magic bullet. You have to use it with a lot of common sense. And so that is the third metric.

Robert Leonard  11:24

I like your rationale behind that third metric. I’ve heard you explain that to me a couple of times, but the first time I heard you say that, I remember thinking that you had that metric because you wanted the value of your properties, or even the apartments you’re buying, to increase in value to take advantage of appreciation. But it’s not necessarily that. You’re really looking for those tenants that are just priced out.

Neal Bawa  11:46

I want tenant competition, and I want the best quality of tenants. And the best quality tenants come in markets where there’s consistent creation of new high-quality tenants. So it works really well.

Metric number four is about crime. Once again, at city-data.com, on the same page where you were checking out all the other numbers, there’s a blue table. Ignore the entire table, except the bottom line in blue color. It’s the only line in the table that’s blue, and it’s called the city data crime index. What you want to get is the latest year available, which is 2018; not 2017.

For crime, you want that number to be lower than 500. If the city that you’re investing in has crime levels lower than 500, then you’re less likely to have delinquency and all kinds of other issues that come with high crime. Also, you might want to look at it from the left to the right,  and see if the crime is decreasing. You want to see a smooth reduction in crime. What I found is nothing is as correlated to an increase in home prices as a smooth reduction in crime. So, if you’re in a city where that crime is reducing, and it’s below 500 for the most recent year, then you have a much greater chance of home price appreciation or apartment appreciation.

Robert Leonard  12:58

What does that 500 number represent?

Neal Bawa  13:01

It’s an index. It represents nothing in particular, but it’s an index. What I found is, below 500, cities tend to have capital rates compress, which pulls up prices. Obviously, that’s great for you as a real estate investor. But if the crime is higher than that, then it tends not to have as much of a positive effect on home pricing. You want a positive effect on home pricing.

Robert Leonard  13:23

And how about your fifth metric?

Neal Bawa  13:24

The fifth metric is my favorite, and it’s jobs. Jobs matter only in the short term. I don’t have a metric that looks at jobs for the last 17, 10 nor 5 years. I only look at jobs for the last 12 months. That information is on a separate website. Perhaps we can give the link to your podcast listeners. It’s www.deptofnumbers.com/employment/metros. It is a government website that basically gives you immediate last 12-months job numbers. This is a page that has pretty much every major city in the US listed. Even some smaller ones are listed.

The column at the far right shows you the 12-month change in jobs. Obviously, because of the coronavirus, this coming month, pretty much every city in the United States is going to be negative. But in normal times, most cities are positive. What you want to do is to sort by that column, and go to a city that has high job growth in the last 12 months because there’s a lot of competition. Where there’s a lot of job growth, there’s a lot of competition for units because people that were living with mom and dad are now moving out. They’re establishing households. The more households you get, the more competition there is for your rental units. 

The bottom line is 2% job growth is decent; 3% job growth, you’re really really happy; 4% job growth, you’re basically buying champagne bottles; 5% job growth, you’re dancing naked in the street with your champagne bottle. That’s how good job growth is. So try and stay above 3%. If you’re in a major Metro, 2.5%, that’s pretty good. Try and stay above 3%. At 4%, you’re going to be able to raise the rent, practically, at a crazy level.

Robert Leonard  15:02

When we talked about all these metrics, you mentioned that job growth is your favorite. Do you look at them on a weighted basis, if you will? Because you mentioned that you don’t have to have all five stars. What if you have two or three cities that might have three or four stars? Now, you’re comparing the two. One has the population growing, but the job growth is actually declining; whereas you have another city where job growth is growing like crazy, but the population isn’t as great. How do you weigh those types of metrics?

Neal Bawa  15:29

I haven’t released a version of the system that weighs those metrics. For those of you that are good with Excel, you can weigh my metrics by giving 15% weightage each to the first four metrics, and 40% weightage to the jobs.

Robert Leonard  15:51

Wow! I’ve done that actual weighting myself in Excel. I’ve used your spreadsheet, but I did not use that specific spread. I didn’t know that the job growth was that important or that heavily weighted.

Neal Bawa  16:03

Job growth means money. It is the most direct way that people get money in their hands, so it makes an incredible difference. I think that there’s nothing like it. You’ll see it this month. We had a super powerful economy in February. And today, we don’t have much of an economy left, right? We are in a complete, orderly, sustained shutdown of the US economy, and we’ll start it back up sometime in May. It’s crazy, but it shows how important jobs are.

Robert Leonard  16:31

Yeah, absolutely! I’ll be sure to put links to all the different resources that Neal mentioned, and of course, his website, in the show notes. So, everybody listening today, you don’t have to memorize it or write it down right now. You can go to the show notes. Everything will be there. 

I also wanted to mention that I put together an entirely free resource or platform that allows you to use these metrics that Neal is talking about. It allows you to filter them. I follow Neal’s strategy very closely. I got kind of sick of going through every single city to try and find a good one because it doesn’t allow you to filter through the city. I had to go through a lot to find a good one, so what I decided is there had to be a better way. What I did was create a mechanism or platform that allows you to filter based on these metrics, and it has all the same data. If you’re interested in that, as well, you can find that in the show notes. And of course, it’s 100% free.

Robert Leonard  17:19

Now, let’s talk about the neighborhood level. You said you have another five metrics for that. What specifically Are you looking for there?

Neal Bawa  17:27

The first thing that I’m looking for, at the neighborhood level, is the poverty level to be under 20%. 15% is preferable if you can get it, but it’s hard. If you look at my own investments, you basically benchmark this against the number. I often come in around 14%-16.5%, so I’d love to be at 15%, but that’s not a hard stop. Don’t go over 20% though, because that level of poverty is so high that people don’t care as much about their overall credit scores. You can see a lot of delinquency if you’re going over that 20% poverty level.

Now, if you’re slightly lazy and you don’t mind spending a little bit of money, you can also go to neighborhoodscout.com, and pay for a report on that micro-neighborhood. It’s an area smaller than a zip code. The site shows you a micro-neighborhood, and gives you the poverty level information that you’re looking for. That’s the first metric at a neighborhood level.

Now, the second metric is median household income. Once again, NeighborhoodScout will give you this information. You want the median household income to be between $41,500 and $71,500. Why would you not want it to be higher? Well, nothing wrong with it being higher. It can be $100,000. But the problem is, if it’s $100,000, you’re not going to cash flow in that area because you moved into a B+ area. Your cash flow is not going to be there. Now, if it’s your money, and not investor money, by all means, go beyond that $70,000 level. But if it’s money that you intend to raise from investors, they’ll be looking for cash flow. $41,000 to $71,000 is roughly the sweet spot where you get that cash flow.

Below that $41,000 level, again, you’ll have a problem, because the income levels in that area are so low that you’re going to have a lot of delinquency, a lot of churns. The folks that live there are not going to care about their credit as much, so you might find the rent’s working in that area. I warn people of this. I’ve seen people buy properties where the household income is about $27,000, and rents are at $800 or $900. The people that live there cannot afford those rents. So, you might get the rent for six months, and then after that, the person becomes delinquent. Now you’ll have to spend three months evicting him and then repainting the unit. You’re not going to make money that way.

So, the bottom line is staying as close to that $40,000 level as possible. You can go to $35,000, $36,000, but if you go to $30,000, then you might as well not use the system because you’re not really listening to the system itself.

The next one is median contract rent. The easiest way to get that information is neighborhoodscout.com. Pay for the report. Usually, it’s $39/month for 10 reports, by the way. Once again, you want to be in a sweet spot there. That sweet spot is just a tad over $700 to just a bit over $1,000. If you’re buying Class B+, you can move that up maybe $100 on the upper end to $1,100. But once again, why is that the sweet spot? Because you want that Class B or Class C tenant. You don’t want to end up with that B+ tenant because, once again, you’re going to pay so much for the property, that you won’t get cash flow. If it’s your money, by all means, go above that $1,000 to $1,100 level.

Now, keep in mind that rents are much higher in some of the big cities in the US. I don’t have a guideline for you on what that number should be in downtown San Francisco or Manhattan or near downtown Portland it will be much higher. You’re going to have to work on that on this particular metric, but the vast majority of the US is $700 to $1,000. And the metric works just fine.

Robert Leonard  21:04

I was going to ask that same question about the income. Have you found the $41,000~$71,000 to be pretty transferable across the US? Or does that change again? Because I live up here in the Northeast, and I feel like that might skew a little higher up the range. My own property in Texas might skew a little lower. So, have you found it to be pretty universal? Or does it need to be adjusted, depending on where you are?

Neal Bawa  21:27

I think it’s universal because it’s a really big range. It’s $41,000 to $71,000. If you’re in the Northeast or Northwest, you’re probably going to end up skewing closer to the top of that range, and that’s fine. These are benchmarks. I could issue a benchmark by state or just give a general guideline. You’ve got to understand that that number has to be a little bit higher if you’re in the Northeast or in the Northwest. It has to be much higher if you’re in California. It has to be much higher if you’re in New York. Don’t use $38,000 in New York because the apartments are very expensive in New York. So you’ve got to make some changes to this. This is a set of guidelines more than a set of rules.

Robert Leonard  22:13

How about the last few metrics for the neighborhoods?

Neal Bawa  22:17

There are two more. Unemployment rate. You want it to be no more than 2.5% percent higher than the city’s unemployment rate. The city’s unemployment rate is really easy. So let’s say your city is Wichita, Kansas. Go to Google, type in, “Wichita, Kansas unemployment rate.” Google will give you a very nice big number that says, Wichita is at 4%. So, if Wichita’s at 4%, make sure that the neighborhood you’re investing in is not higher than 6.5%. So you can go up to 2.5% higher than your city’s level, but not more than that. Why? Because when a recession starts, and by the way, a recession just started this month. When a recession starts, if that gap is 2.5% now, it’s going to go to 7% or 8%. It becomes very painful at that point because high unemployment means high delinquency. So 2.5%, 3% at the most, higher than the city’s unemployment level, and you’re good.

Of course, don’t use unemployment metrics with this system in the next two or three months. Because, obviously, we’re seeing something that’s highly unusual. Maybe starting June again, you should be able to apply it, when all of these people get hired back. We’re seeing some very positive trends that they will get hired back sometime in early May.

Okay, ethnic mix. This is an interesting one because it’s a very subjective metric. Metrics are supposed to be objective, but this one’s subjective. There’s a place on the City-Data website where you can look at the ethnic mix of the people that are living in that neighborhood. The bottom line is you want to go into a neighborhood where there are Caucasians, African Americans, Hispanics, and Asians. When a lot of different ethnicities like that area, marketing is much simpler. It’s not a racist comment. You want that environment where people of different ethnicities like that area, because now you can market to whites, to African Americans, to Latinos, to Chinese, and to Indians. That fills up your property a lot quicker. If all you have is one single ethnicity, then your property, is much, much harder to mark.

Robert Leonard  24:08

Have you found these sources very reliable for the neighborhood data? Because I think about these, and I wonder, “How can they get such accurate data for these small neighborhoods?”

Neal Bawa  24:18

That’s because of tax filings. For example, data that is tied to the ethnic mix usually comes from the tax filing. There’s a blank that asks about ethnicity. They check that, and each year you file taxes, they know that you still live in that area because you file taxes using an address in that area. How accurate are they? At least 90%. I mean, they’re not perfectly accurate. And, by the way, this system is not a substitute for physically checking out the neighborhood. It’s going to save you a humongous amount of time because you’re not going to go to a bunch of properties that you shouldn’t be buying, but if you think that everything works, and the system says thumbs up for everything, then you need to have boots on the ground.

Robert Leonard  25:00

So now, for an investor that’s listening to the show today, do they have to go through all of these different metrics that we’ve talked about? Even the neighborhood ones? Or is it possible to just find a good city, and that’s good enough? Why might that not be good enough?

Neal Bawa  25:15

Because every good city has really bad neighborhoods. I mean, Phoenix is a phenomenal city to invest in, but a mile from downtown, which is a great area to invest in, is the Phoenix city jail. And I can tell you, I wouldn’t be caught in that area after 5 p.m. You couldn’t possibly get me to go to that area, because I might find a piece of metal lodged in my shoulder after 5 p.m. Every good place has nasty areas. Unfortunately, what’s on sale on the web is often the crap that nobody else has bought, right? Why is it on sale on the web? Why can’t they just sell it to a local broker? That’s because local people don’t like that area.

Robert Leonard  25:49

I know you have a saying where you buy for bad times and not for good times. We’re currently experiencing one of those bad times as of this recording, and we’re recording this on March 23, 2020. Of course, that’s the COVID-19, also known as coronavirus. How do you specifically buy for bad times?

Neal Bawa  26:08

The first thing that you do is use these 10 metrics, right? So use these metrics, and you’re buying in a significantly better place. So that, by itself, is a huge advantage. I want to tell you that if you buy a good property, it doesn’t mean that you don’t have to manage the heck out of it in a good time. So I want to make sure, Robert, that your listeners don’t think that this is a magic bullet. Now, we can just relax; and the answer is no, in a bad time, you have to manage the heck out of that property as well. The point I’m trying to make is you’re not done with your job simply by selecting a better product. You then have a new job, which is to asset-manage the heck out of your properties. We’ve taken hundreds of action items already towards our properties. Hundreds of them, even though this crisis is only 3-4 weeks old, and that’s because we want to now aggressively asset-manage.

Robert Leonard  27:03

I’d say the situation we’re experiencing right now is a true black swan event, which is just an unpredictable event that is beyond what is normally expected, and it usually has severe consequences. How should real estate investors have been preparing themselves for this type of situation? Given that it’s nearly unprecedented? Is it possible to even prepare for something like this?

Neal Bawa  27:25

No, I think this is a true black swan. No one could have, or should have, prepared for it. These kinds of black swans are so rare and so unusual that if you prepare for every black swan like this, you’re not going to have an economy. So, no one should blame themselves, thinking, “I should have thought of this.” Now, if you didn’t start doing things in the last 30 days, then yeah, blame yourself because you saw it coming.

We built a website, coronavirusrealestate.com, and if you go there, you will see us tracking numbers. You’ll notice that we are tracking numbers not just for the US. You’ll go, “Wow these people, Neal’s team, spent a huge amount of time and effort tracking these numbers.” There’s this big Excel spreadsheet on the website where you’ll notice that it’s got numbers for every single day. Not just for the US, but for France, Spain, Germany, and Italy. What were they doing? The answer is we were waiting to understand, to mathematically figure out, when would the US experience what would be known as the “boom.”

The way that these viruses work is that you get cases, then clusters, and then boom. Obviously, the boom in the United States took place in the last 4 or 5 days where we’ve had our cases basically go up 8x in the last 10 days. We were waiting for the boom because other countries were ahead of us. We could actually predict when the boom would happen, saying, “On this day, we predict this will happen.” “On this day, we predict that we will have most of the country in lockdown.” What’s funny is I made these some of these videos early in March, and I predicted that the whole country would be in lockdown by March 25th. You could not imagine the amount of flack I caught for this, Robert.

I’ve never really done anything that was even slightly political, and this wasn’t political either. I was simply using a spreadsheet that’s on coronavirusrealestate.com. You can see that spreadsheet is very nice. It’s got lots of colors. Every country is in a different color. What it shows is the exponential curve that this virus takes. Based on that, I predicted when the United States would have to either go into lockdown or end up killing 5 million people. And because I don’t think we’re going to kill 5 million people, I felt like there was a 100% chance of going into lockdown. But I got flamed.

This virus is the most dangerous event since World War II. It’s more dangerous than 2008. It’s more dangerous than 2001. It’s more dangerous than the oil crisis. We have never before faced an opponent, and probably will never face an opponent again, that can simultaneously fight us in 192 countries, and get more powerful every single day. If this is the earth of the Avengers, this thing it’s Thanos.

Robert Leonard  29:56

We talked about how people couldn’t prepare for this or know that it was coming, and they shouldn’t beat themselves up about it. I agree with that. But how about having adequate reserves? So are those the types of things that people should be doing? Should they have enough reserves set aside so that when things go wrong, not necessarily the coronavirus, but just vacancies or things like that pop up, that they’re able to cover it?

Neal Bawa  30:16

You hit the nail on the head. Today, we are sending out 12 updates for 12 of our properties, and I can tell you that we are leading with the fact that we have a lot of reserves. We’re leading with that fact. Here’re words that I wrote earlier today for our investor updates. We said, “Dear investor, please understand that, for most of our properties, we have so much money in reserve that we don’t get any rent at all for 6 months, and we still pay our mortgage without getting a loan deferment or defeasance; which now, at this point, banks have offered loan deferment on all of our value-add properties. They’ve already said ‘if you need that money, that option is there for you,’ because that’s now a federally mandated requirement. But even if you don’t take that, you have the ability to run on properties for 6+ months without getting rent.”

That puts my investors into a very good situation, that they’re not worried about their properties. They’re not worried about their investment. It shows the strength of real estate. It shows a comparison between real estate and the stock market. Because if you’d invest in the stock market, your stocks are now down 35% to 40% since last month. Whereas, in real estate, nothing’s really changed on properties that have already been purchased and are already occupied. Why would anything change? We’re just going to hold through however long this process is. We probably won’t distribute cash to you for Q2, and Q3, and maybe not even for Q4. That’s a very tiny, tiny thing compared to losing 30% or 40% of your principal. We’re just talking about losing a portion of cash flow for a portion of one year. That’s an extremely small amount of pain compared to losing 40% of your principal.

Robert Leonard  31:57

I don’t have a portfolio with hundreds of units in it. I don’t have large apartment buildings, but for my small portfolio, I do the same thing. I keep a large reserve balance. I personally don’t take any cash out of the business, I always just keep the money there, and then eventually, one day, it’ll come out. But I just keep the reserves. We have nine months of reserves in there, so if we end up not getting any rent, over the next six months, we’ll be fine. Even after nine months, we’ll be okay. I didn’t know that this event was coming. Nobody knows. But setting yourself up by running a strong healthy business is going to help you weather things like this.

Neal Bawa  32:30

Also, I think that you need to have both offensive and defensive tactics. Our investors know that we’re assessing our community’s health regularly. In fact, we’re doing a daily today. We’re providing special resident services. We’re telling them exactly where they can get information, and what they should be doing in case they’re infected. We’re evaluating those address tenants to see how that affects our communities. These are all offensive tactics. We’re doing a lot. We’re spending a lot more money on leasing. We’re doing online leasing initiatives. We’re showing our unit virtually. And then we’re dealing with the delinquencies on an aggressive basis.

Then there’re defensive tactics, right? We’re limiting the interactions in our community. Parks are shut down. The clubhouse is shut down. The coffee, the doughnuts, and the cookies are no longer laid out. Our leasing office is closed. People are working from home. Our maintenance staff is only doing emergencies.  If they were going to come and change out the battery in your smoke sensor or alarm, they’re now leaving it outside the door so that they are not infected. And then for properties that we don’t have to do unit turns, we’ve stopped doing unit turns. We’re preserving that capital so we can use it later. Also, we’ve talked with our lenders already. We’ve said, “Hey, we might need deferment. And they respond, “Okay, if you need deferment, here’re all the forums.” Once you do that, you stop hyperventilating, and say, “You know what? I’ve done 50 or 60 different things and I’m not in such a bad position. Now I’m just going to sit and watch to see what happens.”

Robert Leonard  33:53

I’ve been getting asked by a lot of listeners of the show if they should continue buying rental properties right now, given the current economic environment that we’re in. If someone is relatively new to investing, meaning they’ve done 0-3 deals, would you recommend they look into acquiring rental properties right now?

Neal Bawa  34:14

No, I would suggest that you don’t acquire anything for the next eight weeks. Eight weeks is a very small amount of time. Mid-May, you should start searching because, in June, you’re going to find better deals than you can find today.

Robert Leonard  34:25

Why that specific timeline?

Neal Bawa  34:27

So, two things will happen: in 2-3 months, the apartment owners and the single-family owners that were poorly capitalized, that were already on the edge, are going to start falling off. For some of them, their banks will let them know, “You better sell the property.” So the guy that doesn’t want to default in his name, so he’s going to put his property up for sale. I may be wrong. It may not be 2 months, maybe 3 months. So I’d say mid-June is more likely than mid-May. But at that point, you will see a lot of properties come to market. They’ll be coming to market for prices that are substantially lower than the prices that you’ve seen in the marketplace in February. So, it doesn’t make sense to buy anything today because you can buy them cheaper in three months.

Robert Leonard  35:08

You’ve mentioned deferring your mortgage. And I’ve heard some programs are potentially coming out where homeowners are going to be able to do that. Whether you’re a landlord or just a primary residence owner, you could defer that. Do you recommend that people take advantage of that? Because I’ve heard some people say, “Well, I have reserves, and I can use that money to cover this.” But then I’ve also heard some people say that you should take advantage of that opportunity even if you have your reserves. You don’t need to deplete your reserves if you have the opportunity to defer your mortgage without any hit to yourself. Where do you fall on that?

Neal Bawa  35:37

I would defer. My job in a recession is not to maximize investor revenue. If you’re somebody that wants to invest with me, please understand my philosophy. In a good economy where there’s GDP growth, no recession, my job is to make you money. In a bad economy, my job is to preserve your capital or principal. And so, I will take any option that I can get. I mean, what’s the downside? What does mortgage forbearance really mean? They take this month’s mortgage and add it to the end. So maybe 3-10 years from now, when my loan is ending, they add it over there. So now, my loan is a few months longer. If it buys me insurance today and allows me to maintain cash flow, I’ll take it.

Robert Leonard  36:19

In the grand scheme of things, a lot of people probably aren’t even gonna hold that mortgage to the end anyway.

Neal Bawa  36:25

Honestly, as long as I can get through this without any damage to our properties, we’re all gonna make more money than we projected. Why? Because look at the interest rates. They are ridiculous. They’re completely obscene. Now, for the moment, believe it or not, apartment interest rates are going up because there’s a lot of panic in that marketplace. But in 4 months, that panic will settle and go back to being normal. When that happens, we’ll still have the low-interest rates because once the Fed cuts interest rates, it usually takes them a year or more to pull them back. It usually takes them 2 years, but even if we have a year, by then, we’ll have a healthy growing economy in Q4, where the interest rates are still really, really low. So if the buyer really wants to buy this asset, and if I have the ability to refinance, I’m going to pursue that in Q4 or Q5.

Robert Leonard  37:12

Now, how about the people that don’t have to pay rent? I’ve read that the government has allowed people to not have to pay rent and not be evicted. How do you propose that small property owners, not people who own apartment buildings, but people that own small multifamilies or even single-families? How do you propose that they handle those types of situations?

Neal Bawa  37:30

Oh, you have a number of options. Let’s say, you’ve got 6 months left on your lease, and your rent is $1,000 each, but the tenant says no, no, no, for whatever reason. “I can’t get the money” or “I need it for food.” The number one option you can say is “Look, I know you can’t pay rent this month. How about I have two options for you. I want to basically give you this entire month off if the government is not giving you money. I’m going to write a new lease. You get this month for free as long as next month onwards, your rent is $1,200. That way, the $6,000 that you owe me is now going to be distributed over the next five months, and you can get this month for free.” That’s one option.

The second option is you say, “If you pay me half of your rent, I will allow you to use your $1,000 deposit. I’m going to allow you to use $500 of that as the other half of the rent. I’ll modify my lease to help you so that you can do that. And then next month, you can again, pay me $500, and we’ll use the other half of your deposit. Now you have no deposit left because you used it, but at least you save $500 in each of the last two months.” Those are two strategies that are very powerful.

Robert Leonard  38:39

So what is a common piece of real estate investing advice you often hear experts giving that you don’t necessarily believe to be true, and how would you change that into good advice?

Neal Bawa  38:50

I hear people saying all the time, we need a lot of housing in this country. We have a huge shortage of apartments. We have this. We have that. While technically that advice is right, everybody forgets to say one little piece of it: We only need all this extra housing, as long as we have job growth, as long as we are not in a recession. In a recession, 3-6 million households end up bunking with mom and dad, living out of their car, or going to a mobile home park. All of those households disappear. The bottom line is I don’t like to say that we have a huge shortage of apartments in this market. I’ve only seen that happen in good time. So I’m a little concerned about that one.

Robert Leonard  39:30

I really enjoyed all the information we’ve covered today on the show. But hearing all of this information and learning it is only one piece of the equation. The other part of the equation is actually taking action on what you learned today in this episode, and actually putting it into use.

So Neal, what is the number one thing you’d like the listeners of the show today to go take action on?

Neal Bawa  39:52

You’re about to see the best opportunity to buy real estate in the last nine years. But the problem is, unlike last time, you’re not going to get years. You’re going to get Q3 and part of Q4, and then the seller(?) is going to be in charge again. But for about 4.5 months, the seller is going to be in charge. So, make sure that you figured out your cities and your neighborhoods, you’ve done all of that, you’ve contacted brokers, and you’re ready to go by June when your opportunity comes. That’s why I gave you the system, not so that you can learn some of these concepts. Learning is not useful. The practice is all that matters.

Robert Leonard  40:28

Yeah, I’ve been giving that advice, as well, to people. Use this time to learn. Use this as an opportunity to really dive in and learn the material that you need to know so that you’re ready and able to take advantage of all the opportunities that are coming.

Neal Bawa  40:40

While there’s blood in the water, be a shark.

Robert Leonard  40:43

Exactly. Absolutely. Neal, thanks again for joining me on the show. Where can the audience go to learn more about you, and connect with you further?

Neal Bawa  40:49

The best place is multifamilyu.com, where we have more than 50 webinars. We’re actually going to do a series on Coronavirus that’s specific to each vertical. We’ll talk about senior housing, student housing, impact on self-storage, and impact on apartments. We’re going to deep-dive into each of these areas to get more detail from the experts, so come to multifamilyu.com. Everything there is free. My email address is neal@multifamilyu.com.

Robert Leonard  41:18

Awesome! I’ll be sure to put links to all those resources that Neal just mentioned in the show notes. I’ll also put everything that we talked about throughout the episode in the show notes, as well. I’ll also add some books that are related to the different topics that we discussed, so you guys could go read up on that further. Neal, thanks again for joining me!

Neal Bawa  41:34

Thanks so much, Robert! Thanks for having me on the show.

Robert Leonard  41:37

Alright, guys! That’s all I had for this week’s episode of Real Estate Investing. I’ll see you again next week!

Outro  41:44

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