3 Major Risks of Investing in “Strong” Real Estate Markets Like Kansas City

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Kansas City Real Estate Market

When searching the country for strong real estate markets, we look for a combination of job growth, population growth and affordability. When you find a market that has all three of these factors, you’ll likely be able to find good investment opportunities…BUT it’s important for you to understand this: even strong real estate markets have bad investments.

Here’s a real example from Kansas City last year:

3 Signs Kansas City Looks Like a Strong Real Estate Market [July 2015]:

1. Kansas City has job growth.

The gross regional product grew 2.9% in 2014, higher than the U.S. GDP of 2.2%. The area has added an average of 10,100 jobs year-over-year since job growth turned positive in July 2010, and employment is predicted to continue to increase 1.5% this year and next.

This economic growth has been led by the healthcare sector, finance, insurance, the automobile industry, IT, and manufacturing. Additionally, K.C.’s location dead-center of the U.S. makes it one of the strongest distribution centers in the country. The city is ranked #1 for rail freight volume and boasts the 2nd largest rail centers in the U.S. behind Chicago.

2. Kansas City has population growth.

The population has been growing 10.85% since 2000 and currently boasts a population of 2.34 million.

3. Kansas City is affordable.

K.C. remains one of the most affordable cities in the U.S. The median home price is $156,600, and average monthly rents are $793 with a median household income of $56,743.

Job and population growth combined with affordability and quality of life makes Kansas City a great place to not only to live, but also to invest.

Real estate investors can buy fully renovated homes in middle class neighborhoods for less than $80,000. These homes can rent for more than 1% of purchase price AND have the potential for price appreciation as they cost far less than the cost to build them today.

If Kansas City is a good market for real estate investing, what are the risks?

Even if a metro area has the economic growth we seek, no two neighborhoods are the same. There may be job growth in the north side and job losses to the south. Out of area investors may not know the difference.

Some people hear me tout the virtues of emerging markets, and they run off to buy the first real estate deal they can find. Somehow they think if a market is strong, they can’t go wrong. This could not be further from the truth.

Here are 3 ways investors can get hurt in markets like Kansas City:

1. Everything looks better on the internet

Ever tried on-line dating? I haven’t, but have heard stories from my friends who have. Apparently, it’s common to not recognize your date once you finally meet because he or she looks nothing like their on-line photo. OR because you made up how you thought or hoped he or she would appear. That’s why it’s always best to meet for coffee first so you don’t spend too much on dinner if you end up disappointed. ?

It’s the same for real estate, except it can be a much more expensive mistake than just buying dinner. Don’t trust photos. You have to see the property to truly understand what you’re getting. And if you can’t see it because you live too far away, then send someone who can, like an independent 3rd party appraiser or inspector.

Never blindly trust the seller. Never. Even if it’s your own mother. Always get the property inspected before closing.

2. Bad neighborhoods can look good.

The first time I went to Kansas City, I was your typical naive out-of-state investor. I had been warned about high crime in certain areas – places where tenants will steal your toilet to make a few bucks. But even when I was in the heart of the ‘hood, I couldn’t tell it was a high-crime area. The homes were large and had character. It was only a mile or so from the nicest part of town. I didn’t see graffiti or gangsters types. It looked like a great area!

Many out-of-area investors have bought property in these neighborhoods because they can be so deceiving. The homes look nice and the returns look even better… on paper!

I’ve seen this same phenomenon in other markets like Atlanta, Cleveland, Indianapolis and Charlotte. An area that was once very high end near downtown turned into a ghetto over time when families moved to the suburbs. Riff-raff moved in and the neighborhood became unsafe. But you can’t tell until the lights go out, and most people visit during the day.

Low-income, high crime areas are not for the faint of heart, and certainly not good for the out-of-town investor. You will likely find yourself feeding a money pit. Tenants who feel unsafe will leave, so turn-over can be high. And unfortunately when a home is vacant in a high-crime area, everything inside it will get stripped. It can cost thousands of dollars to replace, only to find it all stolen again.

Do not trust a pro-forma. Get insight from property managers and talk to local police and firefighters to better understand the crime rates before buying. Find out if it’s safe to visit at night. Talk to neighbors and see if they feel safe. If considering buying sight unseen, send a professional over to check for you (not the person selling to you, but rather an inspector or appraiser.)

3. Revitalization can take years

While some dilapidated areas near downtown may be part of a city’s master plan to revitalize, don’t expect it to happen overnight.

Huge profits can be made if you own property in areas that are being improved, but you have to be able to hold the asset in the meantime. C- area are not recommended for the new investor. Stick with B neighborhoods. Here’s a quick summary of A,B, and C areas when it comes to real estate.

  • “A” neighborhoods are higher end. (Doctors and lawyers)
  • “B” neighborhoods are middle class. (Nurses and teachers)
  • “C” neighborhoods are lower-middle class. (Fast-food employees)
  • “C-“ neighborhoods. (Maybe they don’t work at all – welfare)
  • “D” neighborhoods. Well… maybe they work but more on the street level…

Kansas City can be a fantastic place to invest in property that cash flows today and has the potential for price appreciation in the future.  But if you are not an expert on that market, or any market for that matter, make sure you work with someone who is.

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