Choosing the right investment market is your most important investment decision. Location determines all the long-term income characteristics necessary to achieve and maintain financial freedom.
Characteristics defined by location include:
- Total capital required: If you can use accumulated equity to expand your portfolio through a cash-out refinance (which is only possible in high-appreciation areas), you’ll need significantly less money in savings.
- Inflation protection: Rent exceeds inflation, allowing you to maintain your lifestyle indefinitely, which only happens in cities where population continues to grow significantly.
- Income continuity: How long your income lasts depends on the city’s long-term economic growth.
- Natural disaster risk: Certain areas are more susceptible to natural disasters such as hurricanes, tornadoes, earthquakes, fires and floods. Although insurance may cover rebuilding your property, it may sit vacant for months or years until the community recovers and people return.
- Operating costs: Every dollar lost in property taxes and insurance costs you a dollar less of your life.
- Rent control: Government control over rental properties can turn a promising investment into a nightmare.
Fortunately, good location data is available and the location selection process is simple.
Site Selection Process and Tools
There are two main ways to choose a good investment city. The first one is to analyze all possible cities in the United States and choose the best one. However, this approach would likely require the assessment of thousands of cities, which is impractical due to the time investment required and insufficient data for smaller cities.
The second approach is to exclude all cities that are unlikely to be good investment locations, leaving a few that deserve further investigation. This method is simple and practical.
The process begins with an initial list of candidate cities. If you want long-term, reliable income, start in a metro area with a population over 1 million. Smaller cities may be overly reliant on a single business or market segment. You can easily find this data using information from the U.S. Census Bureau.
From this initial list, remove cities that do not meet the additional requirements below. In most cases, you can use the BiggerPockets Market Finder to find this information. Elsewhere, I pointed out another tool that I find useful.
Total capital required (to achieve financial freedom)
To replace your current income, you will need to purchase multiple properties. How much money you need for your savings will depend on the rate of appreciation in the area.
In low-appreciation areas, you’ll need to finance the purchase of multiple properties entirely out of savings. However, in cities with higher appreciation rates, you can use your accumulated equity to purchase additional properties through cash-out refinancing. Therefore, you will need less money in a rapidly appreciating city than in a lower-cost area. Never buy in a city where appreciation is slow.
inflation protection
The only way to maintain purchasing power and living standards is for rents to grow faster than inflation.
Price drives rents. The higher the price, the fewer people can afford it, so they are forced to rent. This increases demand for rental properties, which drives up rents. Where prices are low, more people can afford it, so there are fewer people renting, and rents rise slowly, so you won’t have the money to pay inflated prices.
Only buy in cities where population continues to grow significantly. Never invest in any area where the population is stable or declining.
income sustainability
Financial freedom requires an income you cannot afford. Your income depends on your tenants remaining employed at similar wages throughout your lifetime.
However, all non-government jobs are short-lived. The average lifespan of a company is 10 years, and even the average lifespan of an S&P 500 company is 18 years (and falling). Therefore, every non-government job your tenants have will be gone for the foreseeable future.
The only way your tenants can continue to pay rent is to create new jobs that pay similar wages and require similar skills. To create replacement jobs, companies must choose to establish new operations in the city. The company has a lot of flexibility on where to open stores and is unlikely to establish a new presence in any high-crime city.
Low risk of natural disasters
A natural disaster can be a financial disaster for you. The problem is not your property. Insurance will cover the cost of rebuilding. The problem is the community.
As is often reported in the news, jobs, shops, roads, health services and petrol stations can all be destroyed in a disaster. As communities are destroyed, your tenants have no choice but to move to where they can live and work today. It can take years to rebuild communities, and in many cases may never recover. Meanwhile, debt service, taxes, insurance, maintenance and other expenses continue.
The relative cost of home insurance is the best indicator of high-risk locations.
My favorite tool for viewing these markets is ValuePenguin.
No rent control
Some states and metro areas have implemented various rent controls that can prevent you from increasing your rent quickly enough to keep pace with inflation, limit your ability to select reliable tenants, and make it difficult or impossible to evict bad tenants. possible. Never invest in any city with rent controls.
My favorite tool is Google search.
Low operating costs
It’s not about how much money you make, it’s about how much money you make. It has to do with how much money you net make. Every dollar lost in operating costs means a dollar less in your cost of living.
The two most important operating costs for investors are property taxes and insurance. Operating costs vary by state; only invest in states with low operating costs.
My favorite tool to use here is ValuePenguin.
final thoughts
In summary, you start with cities with a metro area population of more than 1 million, and remove any cities that don’t meet the additional criteria. The result is a short list of cities with potentially good investment locations.
Further narrow the list of cities by selecting cities with experienced investment teams. Everything you learn from podcasts, books, workshops, and websites is common sense. But you will be buying a specific property in a specific city and subject to local rules and regulations. The only source of local knowledge you need is the investment team.
Choosing the right market is your most critical decision, not the property. You can only generate the income needed for lifelong financial freedom by choosing a location that meets all of these requirements. If you invest in the wrong place, you won’t gain lifetime financial freedom no matter how many properties you buy.
Find the hottest markets in 2024!
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Notes on BiggerPockets: These are the opinions written by the author and do not necessarily represent the views of BiggerPockets.
