August Thrive Pulse

JP: Hi this is JP and Adrian. And here we are for another edition of The Thrive Pulse, where you will find out today: is it a good time? Are we alive or not? Is it a good time to invest in multifamily real estate? Since our last episode, guys, we’re going to give you a score.

Just to remind you, the way this works is we have AI and Adrian in my brain working together. I think it’s AL Adrian. It could be. We’re like a ChatGPT, but we’re doing really great in the process. We’re three versions behind, but we’re doing great. Now we’re going to sit here. We’re going to tell you not only what the AI is telling us about: is it a good time to invest?

We’re going to give you a score.

It’s going to be between -10, which is run away. Do not invest in anything with real estate. It stinks. It’s a stinker. Run for the hills. Plus ten is take all your money, put in real estate, put your crypto aside, cash it in. You want to be in commercial real estate, and zero is neutral. So you’re going to get a score from us at the end of this wild conversation, which we will keep brief and hopefully poignant. Our AI is based on ten factors that we think are the most important factors when looking to invest in commercial real estate.

So Adrian, before we just go right down the list of the ten items, you added some interesting comments. You said you think that while there isn’t massive changes right now here we’re getting a little closer to the next cycle than we were before. And you can feel some of the energetic when you talk to the brokers when you’re feeling when you’re feeling it out you feel like a little more of the banks are like tell more about like what you’re feeling.

Adrian: So I think you know some of the reference that we were talking about in 2023 when the downturn really started maybe middle of 22 that’s debate Who cares. The bottom line was time was against us because it was the start of a downturn, we’re much closer to coming out of the downturn than when it started. So time is not our enemy; time is our friend. And that’s the real important piece for investors to start to pay attention to.

JP: Yeah, because if you buy something at the top, it’s a long way down. If you buy something now, prices vary probably maybe five, ten, but you’ve seen the worst of it. So when we know for a when the rebound really starts, it’s hard to keep up. It’s hard to keep up. Everyone is bidding on every asset, and you feel like things are going to pass you by. So, in reality, now is the time to start sharpening pencils and looking at deals that you actually really do like because there’s less competition and there’s less desperation of very big investors outbidding you for the properties you like. Right.

Adrian: And I think that it feels like to be an agent. I kind of agree with you. I I I you know right now I think depending on the market on multifamily or the values are probably down 25 to 40, which is a big number. And I even will say I still think the banks have a little more pressure of the pimple. And so I still think there’s another five to 15. Maybe, maybe we don’t know, but I think maybe. I think I think the hardest part on how to value that is we’ve seen such few transactions. It’s hard. to get a kind of price sheet, if you will, on well this location, this vintage, it’s valued here. We don’t know because things haven’t traded. Everyone has been hoping, pray mode.

Lenders have felt it’s not in their best interest to foreclose. We know what that’s like. At the same time, we’re starting to see lenders come out and lend, right? We’re starting to see the foreclosures. I saw something like 600 million in assets were foreclosed on just recently. There has to be some confidence from lenders. If they’re going to foreclose and take on that task, they have to know that they can exit a property, and to exit a property, you need liquidity. You need buyers. We’re starting to see that. They’re starting to see it, and they’re willing to lend. Adrian, one thing I want to point out to you too: I think the word ‘rescue capital’ will be the most popular word for the next 24 months.

If you look, we just bought our first property in Dallas as rescue capital, and we just accepted rescue capital on the other end of it as a seller, which, by the way, is not as much fun.

JP: No, and definitely not as much fun. We were able to do on our deal to get that group to commit to could not have happened six months ago. The market’s definitely, I agree with you. This is, I think that is a really good indication. Complicated. It was a fund—very complicated and they never wavered. They stayed true and they got it done, and they got approved by their investment committee. So that’s a great sign because we know how difficult that raise was, and for them to commit, it’s a positive. There’s no doubt.

Adrian: I think the biggest really simple factor to look at over the next probably three to six months that’s going to decide whether or not, and kind of where pricing will go on multifamily, is going to be simply interest rates. We have, when does Jerome Powell leave office once this term expires? I think it’s March or early next year. Yeah. So early next year when Jerome Powell’s term ends. I think who in the next person comes in, and there’s the all the political pressure. Will they succumb to the political pressure and lower interest rates, even though probably Jerome Powell saying we fundamentally shouldn’t be lowering rates? Or are these the new rates? And then prices will just around these new rates. You know, I’m of the belief I’m not an inflationist.

We have a ton of inflation right now. Inflation— not from me, it’s for our favorite economist, Peter Lineman—yeah, he said people get confused with prices increasing versus inflation. Right? Inflation is an escalation of prices that continuously happen. Prices are more expensive, but they’re expensive and they’re fixed so to speak. It’s not a weekly increase. So there’s that distinction, but CPI came out a little lower than expected. While some tariffs are starting to show the increase in price, it wasn’t near as bad as everyone thought. And that’s why Powell could price in a rate cut. Now they’re saying the people that bet on rate cuts, now they’re saying, it’s not going to be a 25 basis point cut in September, it’s going to be a 50 basis point.

I don’t know, I really don’t care. If the FED starts to cut, it’s going to send a signal for the market to stabilize.

JP: Correct. I agree. And that’s what we need. It’s psychological. I agree. I say at that point where then you’re towards the bottom of the trough to rescue capital, rescue capital, rescue capital. Banks bleed out what they need to bleed out. All the 20 and any vintage that was bought between 2018 and 2023 will get bled out or solve which it needs to solve itself anyways. The only way, the only rescue that makes it less bloody is interest rates going down a little bit, which might create some refinances or it’s going to create rescue capital opportunities, which is great as an investor buyer, not as fun.

Adrian: So, as an investor who owns things from the 2020s you don’t know this 2023 y’all definitely don’t know this But I sent our structure to three different brokers Because they were fascinated at how we put that deal together And they said I have five deals right now that I could put this in front of an owner and they would love it So that the sellers are starting to get more realistic that their hope and praying didn’t work And their problem is not going to be solved unless they get creative and sell or bring in some rescue capital to right size the the loan and the value of the property So who knows but we might be looking at deals in Arizona in Texas And it’s all because we were able to get creative and put one deal together.

JP: Yeah, no, I agree. So really, when you go through our metrics of what we look at: Adrian, interest rates, cap rates, rent changes, vacancy, employment, construction risk, you know, those are all great, but there haven’t been any huge changes. But you made a mention, the one that might be the one to look at this month is absorption. You said that we are finally seeing all these excessive units that were built that were pressing rents to go down, that we’re starting to see the absorption that we expected to see, particularly in cities like Dallas and Austin. It’s the highest absorption on record since they’ve been tracking it. There’s no one who can say why. But absorption is happening. And why is absorption important? Supply and demand.

When you have too much supply, prices go down. When you have more demand than supply, prices go up. It’s not real difficult. As absorption happens and occupancies go up, what follows? We can raise rents, values go up, and we’re off and running to the next cycle. We have a lot more absorption to go, but the worst thing would be a bunch of empty buildings, right?

Adrian: Right. So you’re saying we have capital ready to deploy; we’re getting absorption, which is tightening things. up Banks are getting more realistic sellers getting more realistic. Is that why you’re feeling a little more? I’m just Adrian’s feeling cautiously optimistic. I am, I am. And it’s hard because we’re we’re managing a lot of problems. Because we’re like a lot of people, we had vintages from 2019.

We bought them and they were doing great, and they’re not doing so great. And so our occupancy is steady. Our bad debt is our normal. We’re not seeing more evictions or skips than we are seeing. One thing in a couple of buildings I did notice that in the workforce housing, which has more Hispanic tenants, we’ve had one or two buildings now that have had ICE at the property; which is the one was one. But it’s interesting. It’s apparently it affects neighborhoods because people get very scared. It doesn’t affect your building. It really could, we could see our occupancy drop 10 (points/percent) overnight. Yeah. And here’s what’s positive: we filled it right back up. Right. And so those are real clear signs. You and I have talked many times of median price of homes.

It was 550. Now it’s 500. Right. It’s no change. People still cannot afford those type of homes, the majority down payments, all of that. And if you throw in borrowing at 6.5%, they qualify for even less, which means for what. we do we’re going to have rent by necessity tenants. And that in and of itself gives us the confidence on why we want to buy those types of Because they stay full.

JP: Right, that makes sense. And you said something, you mentioned something earlier. You said you spoke to one of our brokers in Dallas that we talked to a lot with Trusted Source. Very interesting. And you were saying that he was saying that in the vintage, nobody wants to touch the 80s right now; it’s like the darling stepchild, really the stepchild because A, it’s old.

B, insurance companies have been picking on them. And 80s is old, I mean come on, not as old as you. Well actually, yeah. not quite as old as you but you know what I’m saying old. And the point is it’s like you have a building that’s 50 years old. A lot of people don’t want to touch it. That creates a vacuum and maybe creates an opportunity for us because institutional capital is out of ’80s product. So now you don’t have any institutional or quasi-institutional. Right? So then you’re gonna find kind of, which I love, more niche groups like us that are willing to kind of write a 20 to 30 million equity check for a good deal. And my sense is there’s already a narrowing of the, like the prices are getting better and they’re getting cheaper, but maybe not cheap enough yet.

The spreads may be coming. We’re already seeing the nicer stuff close; call it between a five and a five and a half cap. Yeah, a lot of these deals are pushing six, six and a quarter cap. Can’t wait to feel seven. I wanna feel 7%.

Adrian: Right Seven feels good. But when you look at the price per door, that’s where it gets interesting. It does, because that is actually close to 40% less than what the buyers originally paid. Yeah, well below replacement costs. We’ve seen a few deals that basically erase seven years of appreciation gone. Deals that we bought seven, eight years ago are the same price as some of the stuff we’re seeing today. That’s a big, big wipeout of And I don’t typically the up cycle creates a higher low and a higher high from the last cycle.

I don’t know if we at the end of this next cycle that’s coming will supersede the last one because it was I mean prices were out of control. But we don’t even need that if we can buy them at the right basis. Eight cap. You know also realize the cap rate is a little distorted because expenses are high, debt services high, and rents are low, right? So it’s going to look much more extreme. If we can start and we have seen like some of the deals in we’re starting to see 20, 25 rent increases. If we can start seeing that in some of these submarkets. people are going to underwrite to loss-to-lease because it’s a portion, a small percentage, that they are ready for renewals or a new tenant that comes in.

But you have all the other units that still have not moved or had to discuss an increase in. As that starts to transpire, we’re going to start seeing values go up. And I don’t think we’re that far off. That’s why absorption is so important, because we need the newer stuff absorbed so that the old stuff benefits and can increase. You have to rise again.

JP: That makes sense. You know, Adrian, I would say right now I know you and I are ready for a three-year vacation from the last three years. But I feel like if you’re an investor that has been around for 10 or 15 years, hopefully you’ve captured enough of the ups during the last party that it was great. You’re probably going to write off— I know I am, personally.

I know you are too. Like, we’re definitely taking some L’s after a lot of W’s. We’re personally taking a lot of L’s right now. And hopefully, when it all settles out, when this is all over, we took more W’s than L’s over that 12-year period. But it sucks when there’s just more L’s as far as losses are concerned. But at the same time, I kind of feel like if you got to play the last cycle long enough, you’re probably net-net up. I mean, your number is not as extraordinary as it was, but it’s still a good number. If you got in in 2019, 2020, 2021, I’m sorry, you’re probably, it’s probably not feeling very good. You’re probably like, I hate real estate. I’m going to be a crypto bro and call it a day.

And the other investor in between is a new investor who’s really just coming into money now saying, where do hard assets go into it? I’ll tell you though, as I keep watching this concern over the dollar and inflation, and the dollar being worth less, I think it just really reinforces that hard assets and where real estate really kind of fits into that. I also, Adrian, how can we not talk about the big bonus beautiful big gift that investors got about four weeks ago from President Trump. The 100% bonus depreciation is big. And most people don’t have any or enough write-offs that are still accepted and easy to identify. This is a pretty big deal when we buy apartments that you can write off a 100% of your investment year one, right?

That’s, I mean, forever. Forever, not just one year. That’s pretty good. It’s really good. That’s really awesome. So I want to clarify that, and we can have Tom. I think we should actually have Tom write on this. That’d be a good idea. So if you invest a hundred thousand, Adrian, if I got this right, you’re not getting you’re getting not a hundred thousand write off but let’s just say you’re in a 40% tax bracket. You’re getting 40, 000 because you’re in the 40% tax bracket. So I don’t think it’s the full 100. I think it’s 100 minus your tax bracket. Is that right? I’m pretty sure. Well, we’ll get the right answer, but we saw depreciation go from 80% to 60% and now back to a 100%. So whatever the number is, it’s much better now.

That’s important. That’s a huge gift. And I think that, and so for you out there who, A, if you’ve been there a time long, hang in there, you’re doing fine. If you got in 2019, 2020, I know you’re bummed. And if you’re, if you’re newer to this the point is I think this new tax break really propels I mean Tom Wheelwright always says ask the government what’s priorities just look at his tax code. And the government is the US government has clearly said that capital gains and bonus depreciation on real estate is something they favor. It is incredible. It’s an incredible gift for you investors. Again, I think we’ll do a separate podcast on it. I think it’s worth it. And but I think the point is I think you’re feeling us getting closer to some purchases.

I think you’re going to see I’m going to bet Adrian I’m going to here’s my forecast three to five new properties from Thrive where we come in as rescue capital. In the next year, I feel pretty confident with that. I think that feels really good. And just a word of caution for for those out there, investors: the stock market is en fuego. It is it doesn’t make sense. And yet, two years in a row, north of 20 in the S&P. This year, if you were to guesstimate, looks like it’s going to be on track for another good year. Careful! What goes up comes down. Really, I mean, these are they’re called cycles. It’s called don’t mistake brains for a bull market. Bitcoin, another great example. And we, some of our accounts are at all-time highs.

No investment that you can find is foolproof. or always goes up. So, nothing wrong with taking profit. And there’s nothing wrong with getting out of a great winner, even if it keeps going in the right direction. Because when it reverses, we had positive uh returns on all our deals, and now they’re not positive, right? They’re still occupied, they’re still surviving, but the market sentiment of what their market is willing to pay is your price. And when things are going down, they don’t want to pay par.

Adrian: Yeah, for sure, pennies on the dollar. So, just food for thought. I wanted to say another good way of thinking it: if we were playing baseball and your batting average is 300, that’s 30 You’re considered a We’re not going to hit a thousand, right?
The more investments you do, the more chance one is going to be a stinker. Key is cutting the stinkers when you can. Don’t hope and pray because you miss everything else that’s going on and have your winners outweigh the losers.

JP: I’m with you. Okay, so the big score, drum roll— it hasn’t changed all that much. So after paying all these together, we actually, the AI says, ” Adrian, we’re at a plus one out of ten,” which means we’re we’re starting to move slightly at a neutral. We do one last one, so we’re still at one. According to the AI, do you want to override the AI?

Adrian: I do. Okay, let’s hear it. The AL overrides AI. Okay, um, I think we’re at one, and a, okay. Look at you!
I do, I’m you’re cautiously optimistic, man. You’re doing it! We bought a deal; we got our our difficult project funded. Um, we’re starting to uh see a lot more transactions hit the It’s starting to loosen up a little bit. So, I’m going to be a little more optimistic. Point five; that’s something you heard it here, folks. 1.5.

JP: Don’t spend all your money, but don’t hide it yet. Things are thawing out in the world of commercial real estate. Thank you for listening to Thrive Pulse, dropping in with Adrian and JP, and we will see you next month. Thank you! Bye-bye.

Adrian:
Thank you.