When we think about real estate investing, we can sometimes be guilty of being somewhat too limited in our horizons. For most people, what usually comes to mind is various categories of existing or new structures, whether residential, multi-family commercial or purely commercial real estate, such as warehousing or retail/restaurant. But sophisticated investors recognize real estate investing is both more involved, and more rewarding, when various stages of development are woven into the mix.
The profits from real estate are conventionally thought of in two ways: the net rental income derived from the property’s tenants, and the price appreciation enjoyed during one’s duration of ownership. That much is well understood.
Savvy real estate investing digs a layer down, looking at the price appreciation to be derived from the raw land itself, the improvement or amelioration of that land, and an analysis of the potential uses of that land. This type of investing goes beyond the conventional approach and requires deep knowledge and the ability to crunch the numbers, and, importantly, a measure of vision
Land is More Than Dirt
For the most part, land is purchased with a developmental purpose in mind. But sometimes even raw land can be its own reward. In today’s fiercely competitive real estate markets, and especially in Ballard Global white-hot focus markets of Austin, and Miami, raw land may constitute some of the best bargains in these respective metro areas. There is often less competition for raw land, and unimproved land is customarily quite a bit cheaper. Owners of undeveloped land are quite frequently highly motivated to sell as such land is often inherited or held by absentee owners who do not have an interest in improving the land nor want to continue paying property taxes on it.
The benefits to investing in raw land can be greater than many investors understand. It is relatively inexpensive to acquire compared to any developed property. Carrying costs are minimal, as both property taxes and insurance will be much lower. There are usually negligible maintenance costs; sometimes maintenance can be as simple as keeping weeds in check and having someone visit on occasion to ensure no one is dumping refuse on the site.
Raw land can be a dormant, low-stress physical asset that quietly appreciates. While it is unlikely to have much rental potential, especially in urban or suburban areas where land usually cannot be rented for, say, grazing purposes, raw land has the potential to appreciate at a faster pace than developed properties, as it offers developers a variety of greenfield opportunities and saves the cost of renovating or replacing existing structures. This is especially important in the post-pandemic world, where priorities have shifted regarding how buildings are designed, favoring greater open spaces, outdoor access and new types of multi-purpose usage.1
Still, there are complexities to investing in raw land, which is why the choice of investment partner is critically important. In markets such as Austin and Miami, deep expert knowledge is vital, as is having an in-depth understanding of the many complexities of municipal government, public policy and, above all else, the complications around zoning and any intended efforts for rezoning.
A failure to appreciate the specific importance of zoning can lead inexperienced land investors into costly delays and negotiations that can go on for years. Most of us are aware of construction sites in our own communities that have been sitting for months or years as these complexities get ironed out. Beyond zoning, it is also important to note whether any potential land investments are located within a protected wildlife zone, flood plain, or in an area with building restrictions. Preliminary research is a vital component to investing in land, and Ballard’s prioritization of shorter-to-medium term returns leads the firm to take a highly surgical, knowledgeable and informed approach that circumvents these potential problems.
1 William Larson and others, The Price of Residential Land for Counties, ZIP codes, and Census Tracts in the United States. United States Federal Housing Finance Agency (FHFA), Working Paper 19-01, Nov. 9, 2020.
Development: Realizing the Potential of the New
Ultimately, the reason for investing in land is to see the value of that land realized. In Ballard’s core markets, most land investments are simply too valuable to be left as vacant lots. When location is king, development unlocks the full value of the land and yields multiples that can be greater than investing in either raw land or in existing structures that may need extensive modification or remodeling.
Real estate investing is about location, location, location. This is nowhere more evident than when contemplating new developments on existing land. The goal, of course, is to put the land to its highest and best use and generate the greatest financial return from it. By using a land residual technique, an appraisal method of estimating the value of land combining the net operating income (NOI) and value of the planned improvements, it is possible to estimate the potential value of a given development.
All three Ballard core markets have seen unprecedented real estate price appreciation, so much so that the actual returns on recently completed developments have greatly outpaced the initially estimated return on investment (ROI). New developments usually attract a premium, and both business demand and a massive migratory in-flow of people into metro Austin, Miami and Denver has left a marked shortage of desirable newly built properties.
In Austin, a newly built home will attract on average a $126,000 premium over the median price for the MSA. In Miami, newly built homes attract an extraordinary $310,000 premium over the median, the highest of the top twenty new construction markets studied in a report prepared by Fanny Mae and released in October 2021.1
There are other trends that benefit the returns of new development. After the limitations of the pandemic, there is an increasing body of evidence showing that Americans are yearning for bigger, better, newer homes. A new National Association of Home Builders survey reports that 60% of buyers prefer a new construction home over an existing home.2 The study also notes that the average square footage of new homes is now increasing, a trend that is likely to continue at least through 2023. Families want greater space for home offices, fitness rooms, family activities and outdoor recreation. The value of outdoor decks, patios, kitchens and pools has all been abundantly rediscovered. After years of being flat or even slightly declining, the residential swimming pool industry is on track to have grown by an astonishing 25.1% in 2021.3
This is accelerating the value to be gained by developing land in a way that best meets the residential market needs of today’s home buyers. The only downside to development of raw land is that there is not enough of it in the places where it will generate the highest return. This is a good problem to have, and one where new development must take place in lockstep with selecting and investing in the best existing properties.
1 Alexander Quintana, Most Americans Cannot Afford a New Construction Home. Knock, Oct. 28, 2021.
2 Rose Quint. Home Buyers’ Preferences Shift Towards New Construction. Eye on Housing, National Association of Home Builders, April, 2021.
3 Ibis World, U.S. Swimming Pool Industry Statistics, Mar. 24, 2021.
Investing in Well Managed Existing Properties
New construction will not itself meet the market demands in the vibrant metros of Austin, Miami or Denver. For example, a recent study noted that Colorado is only building half the 54,000 new residences needed annually to meet the influx of people from other states, with the problem being especially acute in metro Denver.1
Savvy real estate investing accommodates this reality by diversifying into equally robust existing properties as well as new urban developments that are maximizing the best city and suburban high-value locations.
All sunbelt and mountain west markets have seen an explosion of midrise and high-rise multifamily buildings and so-called “live-play-work” communities that will enjoy a renewed popularity as the hybrid part-office, part-work-from-home society evolves into the norm. These types of properties attract exactly the kinds of affluent younger professionals that are flocking to Austin, Miami and Denver.
Even commercial real estate values, especially related to warehousing, logistics and industrial uses, are also skyrocketing in all three Ballard core markets.
Real estate investors who know how to best unlock the value of these sectors understand that management of the properties is the vital ingredient to the success of the investment. Ballard’s property management partners, like those of all experienced and sophisticated real estate investors, focus on multiple critical factors that guarantee property management is a catalyst for investment success.
These factors include the quality of the property managers themselves, their processes and vendor relationships, their financial stewardship, their responsiveness to tenants and attention to detail, their focus on training and sustainability, and above all else their transparency and accountability. Effective property management is at the core of real estate investment success.
In summary, every aspect of the real estate investment continuum, whether raw land, land under development, or existing developments of all kinds, can harbor the potential for robust growth and appealing returns. But irrespective of the type of real estate investment, success depends entirely on working with the right partners who have a strong foundation of knowledge, experience, a passion for data and a commitment to strengthening the communities in which they operate.
1 Aldo Svaldi, Colorado’s affordable-housing shortfall needs a crisis response, study urges. Denver Post, Jun. 26, 2021.