I get many questions from commercial real estate investors that revolve around the importance of timing. Typically, it’s about when to enter and exit the market. A feature of the latter group that I’d want to examine and answer is: What is the best minimum investment term for real estate investing?
Longer-Term Advantage
For the most part, statistics on the best time to invest in real estate suggest that you should hold on for at least ten years to get the best profits. There are two primary approaches to the question. The first step is to examine the American economy’s growth tendencies. Historically, the United States has grown by 8 1/2 years per decade. This indicates that commercial real estate demand grows roughly every 8 1/2 years, following the overall financial picture of the economy.
So you’re looking at the rising demand for most of the time, followed by a year and a half of falling demand—which can often be steep. The 2008-09 housing crisis is a classic example of this. Values fell precipitously for a few years before recovering for an extended period. However, in many places of the country, housing prices have continued to rise unchecked since the crash’s dark days.
You suffer for a few years, and capital abandons you for a few years, which is really difficult in a capital-intensive industry like real estate. If you can get through those two fear-filled years when money abandons you, and short-term thinking takes over, you can expect to see growth over the majority of the next ten years.
There may be little pockets of the country that did not grow, and there may be areas that did not entirely recover, but there are other segments that more than totally recovered. You’re betting on this trend of growth, which hasn’t changed.
The other component of the jigsaw you’re wagering is that supply does not dwindle. If you increase by 10% and the economy grows by 10%, everything is OK, but adding 100% to the real estate stock is not optimal. Realistically, the economy can only generate so much, and if supply vastly outpaces demand, returns will not be as high as they would be if supply grew at roughly the same rate as real economic activity. This introduces a political/social aspect similar to the battles waging between YIMBYs and NIMBYs in cities ranging from New York to the Bay Area.
As a result of urbanization and drought in the West, arable land supplies have shrunk even as demand from a growing population has increased.
Poor Debt Management Can Lead to Disaster
As long as you continue to invest in real estate, your chances of a total loss are extremely low. However, based on my experience, supported by research, most people get into difficulties with their commercial real estate ventures by taking on too much debt. Even if the underlying investment is not particularly hazardous, adding too much debt can make investors vulnerable to downturns—and if they don’t make it to the other end of the tunnel, they frequently face significant losses.
Looking back, most of the folks who were forced out of their houses during the numerous downturns, at least during my lifetime, were correct in terms of timing- they were just wrong in terms of financial structure. People I’ve met and even worked with have chosen the appropriate buildings in suitable locations, with a lot of tenant demand. Their only problem was that they couldn’t stay in business in the long run and couldn’t keep their property from going into foreclosure or being sold quickly because of changes in the economy.
In many ways, investing in commercial real estate is more like a marathon than a sprint. The more you pace yourself and think about the big picture, the more likely your portfolio will do well.
Farmland Outperforms Other Commercial Real Estates Over 10-Year Holding Periods
Farmland has the potential for higher gains over a ten-year period than other types of commercial real estate, such as retail, industrial properties, or multifamily apartment buildings, even more than multifamily, which has year-on-year gains that are roughly half a percent higher than other property types. Over a decade, the power of compound interest adds up to a significant benefit for multifamily properties.
Farmland outperforms not only in terms of average annual increases, but the distribution of their 10-year returns has historically been favorable for investors. It’s one thing to get an 8 or 9 percent return, but if it’s negative half the time, it’s quite another to get an 8 percent return with almost no negative returns over a 10-year period. Farmland performs best because it can be insured against less productive years, and everyone needs to eat more than they need a place to live, thus demand is less likely to shift.
Food demand increases during recessions because everyone stays at home and eats more! Indeed, there are multiple reasons why farmland is the best long-term real estate investment option, particularly in California’s Central Valley Oasis. These are some examples:
- The state of California is the largest food producer in the United States by a wide margin.
- Because of imperfect knowledge, fewer individuals understand the economics of farms. Therefore, there is less competition compared to, say, multifamily, which is a near-perfect market.
- Farmland values are rising as a result of increased investment by institutional investors.
- Food is a fantastic hedge since it is a direct driver of inflation (rather than being driven by inflation).
- Drought is reducing supply in California, but global population expansion is raising demand, which increases farmland values in locations with sufficient water.
- Farmland has always been a low-debt commercial real estate asset class.
Concluding Thoughts
There is money to be made in commercial real estate anytime, from days to decades. Investors can, on average, boost their profits while minimizing volatility and risk by holding for ten years or more. Working with rural properties can also lower risk while increasing returns for investors, owing to their supply/demand dynamics and countercyclical recessionary traits.
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