Recession Investing
A changing economy requires a change in investment strategy. Consider the typical strategy: buy and sell during periods of inflation and go into hiding during recessions. Although a common strategy, this strategy may not be the best. The cycle of recession and inflation is a fact of life in a free economy...one follows the other as night follows day. So, if you are a successful investor who has reached all of your investment goals, then perhaps moving to Hawaii is a pleasant way to spend a recession. If not, then waiting for the recession to pass may seriously damage your investment program.
EFFECTS OF RECESSION
What are the characteristics of a recession? We are seeing the characteristics now as the economy slows down. Real estate is not valued on anticipated rent or construction cost increases. Loans are hard to find. Cash is king. Unemployment rises as businesses reduce their work force in preparation for a reduction in demand for their goods or services. Salary increases are smaller. Tenants cannot pay rent increases easily. Businesses will not expand to fill vacant space. Buildings that cannot give an investor a decent return based upon current conditions will not sell. It is a buyer's market.
WHY WAIT?
Many property owners with break-even or positive cash flows will choose to wait out the recession, but the relationship between time and the value of money strongly indicates a different approach. If an investor has $200,000 net equity in a building and the recession lasts two years, the investor may lose two years' of equity growth. This is a real loss of value. He may have to retire two years later or may have to live on a reduced income at retirement. If the investor sold his property and took a reduction in price leaving only $185,000 in net cash equity, he would be free to look for bargains that will make up the $15,000 loss plus produce profits far greater than his current property will generate. Holding a property may be the least profitable path to wealth building during a recession.
You must have cash or its equivalent to take advantage of a recession. From a tax perspective, if you sell, then offset capital gains with suspended losses. Otherwise, be prepared to use 1031 exchange techniques to preserve your remaining equity. By using the 1031 exchange, you can reduce your sale price below street value and still preserve the bulk of your equity for reinvestment.
RECESSION STRATEGIES
Recession investing requires that you solve someone else's problem by reducing their liability or giving them cash. Many strategies that would not work during an inflation period are very effective during recessions. Using equity and third party notes as a down payment, employing creative seller financing, consolidating or diversifying through exchanging, equity participation, lease options, etc. are only a few of the many ways investors can take advantage of the difficulties recessions create for other owners. The underlying principle to all recession strategies is not to invest on the basis of anticipated growth. Buy a positive cash flow. Pay less than a property is presently worth. Arrange transferable financing that increases value. Buy in areas that have a strong, diversified economy that will grow once the recession changes to inflation. Buy a property that will survive the recession, no matter how long it lasts, and that will be in position to take maximum advantage of the coming inflation.
CYCLES
This article was originally written and distributed by the founders of Equity Advantage during the early 1980's. As is often said, the best way to anticipate the future is to have vast knowledge of the past. When we emerge from our current recession we at Equity Advantage will once again return this information to its proper filing place. Until then, we will employ the proven strategies of the past.
