Real estate investors are always looking for ways to expand their portfolios. Each new acquisition represents new revenue potential, new asset appreciation potential, and additional benefits.
Hypothetically, if you keep adding new profitable assets to your portfolio, your portfolio should keep growing in a positive direction. For example, let’s say you start by purchasing a single-family rental property that provides you net income of $300 per month while consistently appreciating in value. Next, you buy a duplex that provides you $700 per month in net revenue while also appreciating in value. Adding more properties, assuming they’re profitable, should allow you to keep increasing your net income each month.
But is there an upper limit to these benefits? Is it possible to have too many rental properties under your name?
The short answer is yes, but there are ways to avoid these pitfalls.
The Overleveraging Problem
One of the biggest problems overextended real estate investors face is overleveraging. Financial leverage is an important financial tool, especially in the real estate world. Essentially, leverage means buying assets or making investments with borrowed money, increasing your total buying power without demanding more capital on your part. It can help you get into an industry earlier than you otherwise would and see a greater return on the investments you make. This is why so many real estate investors continue taking out loans for their new acquisitions, even if they could hypothetically pay in cash.
Still, there’s such a thing as overleveraging. If you take on too much debt, and you have too many standing loans, you open yourself up to more vulnerabilities. If there’s a sudden reversal in real estate value trends, or if you face other economic hardships, you’ll be stuck with more debt than you can ever pay off.
For this reason, it’s important to practice proactive risk management – and never take on more debt than you can reasonably afford. “Overleveraged” positions look different for every investor, since every investor will have different risk tolerance, different time horizons, and different goals to consider.
The Management Problem
One of the biggest problems real estate investors face when buying too many properties is management. Taking care of rental properties is a huge responsibility, and that responsibility multiplies with each new property in your portfolio.
You’ll need to consider:
- Time. How much time are you willing to spend on your properties? If you have a dozen different rental properties, and they all experience a problem simultaneously, you may find yourself overwhelmed and unable to handle everything.
- Money. It’s not just about time; it’s also about money. If you have a single property and it needs a major repair, you can probably swing it with no issue. But what if several of your properties have vacancies and a few of your properties need major work? Do you have enough emergency savings to cover these?
- Stress. Don’t underestimate the downsides of excessive stress. Managing more properties will inevitably increase your stress levels.
- Decision making. When making decisions for several properties at once, you may find it harder to make those decisions effectively. If you’re spread too thin, you might neglect some of your responsibilities or make more mistakes; this, in turn, can lead to worse conditions and lower tenant satisfaction.
Fortunately, there’s an easy solution to this potential problem: hiring a property management company. In exchange for a percentage of your gross revenue, your property management company will take care of most responsibilities associated with your property portfolio, including marketing, tenant screening, rent collection, repairs, and even conflict resolution.
The Scaling Problem
Some real estate investors suffer from the scaling problem – specifically, scaling too quickly. As you gain more knowledge and experience in the real estate world, you should gradually acquire new properties, expanding your influence and your exposure to the market. But if you get ahead of yourself, and acquire new properties too quickly, you might overextend yourself or make too many purchasing decisions with too little experience. Most real estate investors benefit from a steadier, more gradual approach.
The Saturation Problem
An overabundance of rental properties in an area of single-family homes could be bad for both real estate prices and rental prices. Generally, homebuyers favor neighborhoods that have owned houses, rather than rented ones; these neighborhoods are seen as stabler and more reliable. If you over invest in rental properties in a given neighborhood, or even in a given city, you could end up having a detrimental influence on real estate prices. This is especially true if investors are overinvesting in rental properties in aggregate.
The Portfolio Diversification Problem
Finally, there’s the portfolio diversification problem. Having more rental properties isn’t necessarily a problem by itself, but if you practice unwise portfolio management, it could introduce you to unnecessary risks.
- Exposure to only one type of property. Let’s say you only invest in one type of property, like a single-family home. If prices crash in this area or if rental demand decreases overall, you could lose income or see the value of your assets plummet. It’s usually better to flesh out your portfolio with different types of properties, including both residential and business properties, and including both single-family and multifamily homes.
- Exposure to only one city. Similarly, if you only buy rental properties in one city, you could be setting yourself up for disaster. If the people of this city move away en masse (for one reason or another), property values are going to plummet – leaving you with losses on all your assets. The more properties you own in this area, the harder it’s going to hit you.
- Exposure to only real estate. Additionally, while real estate is one of the best investments you can make, it’s foolish to build a portfolio entirely around real estate. If you want to financially protect yourself, it’s important to have at least some of your money in stocks, bonds, and alternative investments. This way, you’ll see more predictable, stable returns and you’ll be far less vulnerable to real estate market volatility.
The Expertise You Need
Are you interested in expanding your real estate portfolio? Do you currently have more rental properties than you can manage alone? You’re in the right place. Green Residential has the property managers and real estate experts who can help. Contact us today to learn more!