“Good” Assets

Recent market conditions haven’t been kind to the buyers. A strong sellers market in all segments (condos have recently joined the fun) means that there isn’t really an underperforming segment that buyers can run to for bargains. I am getting a lot of questions from buyers on how to find good value in the current market. First of all, this phenomenon isn’t unique to real estate markets. Bitcoin (some have called this the new gold), have been on a tear lately, I think it’s over 1 trillion now in market cap, that’s trillion with a “t”. Ten year treasury yields have recovered somewhat but are only trading at 1.3%. I mean how many people would jump at the chance to give away their money to someone for ten years for a 1.3% cash flow per year? Let’s not get started on the stock market, S&P is now almost 4000 with a hefty PE ratio! So in reality, it is not a good situation for buyers of most assets.

Well, we are licensed real estate agents, so we will stick to real estate. However, we can reference some quotes from the greatest long term investment firm in the world in seeking our holy grail. Last year I read a book whereby someone took notes at every one of Berkshire Hathaway’s AGM’s. In one of the less talked about quotes, I believe it was Munger who mentioned that they look at the strength of the swimmers rather than the condition of the lake that they swim in. The idea is that good swimmers over long period of time, will swim well in any conditions. Berkshire attempts to find the great swimmers rather than try to predict the conditions that they will swim in. In addition, what Berkshire tries to find are not sexy next generation inventions but everyday products that are have an easy to project future demand. As Buffett puts it, he is looking for an easily projectable business with a moat. A moat confers monopolistic power because it is hard for competitors to copy the business itself.

Ok, enough about the oracle of Omaha. My answer to these buyers is that we should in all times focus on “good” assets and have a long holding time horizon. Well, what is a “good” asset? In my humble opinion and based on Buffett’s tenets above, “good” assets are assets that have three qualities.

1. A solid base of demand that isn’t overly fickle and tend to expand over time. For example, there is a recent perception in the REIT space that industrials are now the sexy choice because Amazon and other ECommerce giants need warehouse space near urban centers. Malls have become the abandoned step child that no one loves because brick and mortar is apparently left for dead. This trend to me is quite volatile and hard to predict. However residential apartments is an area that is fairly easy to project demand in the future, people always need a place to live. As the population increases this demand theoretically should expand whereas whether we are in a shift from malls to warehouses requires far more brain power for me to figure out.
2. An easy to project expansion of cash flow. The idea here is to make sure that the cash flow of the property has potential to increase over time. This time period should be long but the trend should be a slow expansion of funds generated from the asset. Assets that traditionally have shown some quality to generate decent cash flows are favored here. For example, while the rental market is a tad more difficult right now, a basement suite should be in demand when things return to normal. This adds to the cash flow of the property. Add in inflationary pressures over the long term, it’s an easy to project expansion of cash flow.
3. A limited supply. Speaking of this last point, one of the things that surely makes bitcoin appealing is that there are only 21 million of it. Points 1. and 2. are great. But they don’t exactly confer monopolistic power. I mean if all you are holding is a commodity that can be copied and expanded upon then when the margins are high competitors will come in and duplicate it. What you really want are good assets that are limited so that the supply cannot be diluted. As time goes by and these assets gain power, their limited supply will pinch the market in their favor so their values can have a melt up effect due to the lack of supply. I cannot stress this point enough. If you are going to buy an asset you have got to make sure you have a projection on the future supply of the asset.

In this market whereby everything is fairly expensive, it is important to pay “good” money for “good” assets rather than simply spraying the cash around to anything that will sell. As to what in our opinion constitutes “good” assets in today’s market that fits these criteria. Please feel free to reach out to any of our experienced exponential agents and we are happy to show you what are our top picks and our rational steps to arrive at these picks. Now of course, we are not gods or hold a crystal ball. But if I have learned anything from Daniel Kahneman’s Thinking Fast and Slow, it is this, the way to maximize our chances of success is through a highly rational thought process. So let’s go out there and hunt these “good” assets.