Real estate is a fantastic way to build personal wealth. Whether you decide to rent out a property, host vacationers, or grow your home’s equity, smart real estate investing can be life-changing. Thus many people wonder what distinguishes a good investment from a bad one.
One real estate investment strategy which has always been controversial is real estate speculation. Some have called it a “get-rich-quick” form of investing, which can provide false hope to aspiring investors. On the other hand, many engage in real estate speculation and experience a massive return on investment. So, let’s try to make sense of this.
What Is Real Estate Speculation?
Real estate speculation involves buying property with the hopes of reselling it at a higher price in the near future. This essentially means making a prediction about future prices in a particular market, or for a particular property, and purchasing real estate before the predicted spike. Growing housing markets tend to be rife with speculators buying up property for the expected growth in the value of these assets. Once real estate appreciation takes effect and the resale prices of property increase, real estate spectators will sell the property for a (hopefully) sizeable profit. This is the mechanism that most speculators hope for, anyways.
Real estate speculation can potentially be very profitable. If a real estate speculator makes the right prediction, this form of investment can reap massive returns. In order for this to be successful, however, the savvy investor needs to be knowledgeable of the trends in a particular market, and not rely on guessing. Real estate speculation has, unfortunately, conquered many unwitting investors who did not make the right prediction.
Is Real Estate Speculation the Same as Flipping Houses?
It actually depends on the real estate speculation definition that you use. Many define speculation in real estate as the simple purchase and resale of a property for the expected increase in price. This usually involves no real change to the value of a property to buyers, only its price. Flipping houses, on the other hand, refers to making the necessary upgrades and improvements to an investment property in order to increase its value. The former is built merely on prediction, while the latter involves a direct and active role in increasing property value. As far as profitable real estate goes, flipping houses is usually viewed as a better investment strategy than real estate speculation.
Why Don’t More Real Estate Investors Speculate?
It’s a Very Risky Investment
This is the most frequently cited reason why more investors don’t speculate: it’s a very, very risky business. Considering the fact that real estate speculation is built on predictions, there is always the risk that predictions don’t come to fruition, or change down the line. Thus, a real estate investor may have an investment property on their hands for years upon years before seeing any increase in its value — if ever. It’s definitely not the safest of real estate investments.
You Could Have Invested Elsewhere
One of the biggest downsides of real estate speculation is that it can take years before you see any profit from your investment. The nature of the investment means that it will be on your hands until real estate appreciation does its work — which could be a month, a year, or a decade.
With that in mind, you could invest in an income property with a more immediate source of cash flow. Investing in residential real estate, for example, would allow you to benefit from a monthly income from your tenants’ rent payments. Buying an investment property that’s profitable in the short-term can, therefore, be better for an investor’s bottom line.
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Is It Ever a Good Idea to Speculate?
This question is actually quite difficult to answer. Every real estate speculation carries higher-than-average risk, due to the nature of the investment. However, here are some examples of when speculation could be a good real estate investment strategy. Or, at least, carry less risk than it usually does:
When the Real Estate Cycle Is Favorable
Every real estate investor needs to know about the real estate cycles. Much like the economy as a whole, the demand and supply of real estate follow a reasonably predictable pattern of highs and lows. Smart investors can, therefore, figure out their position within the real estate cycle and make speculations accordingly. If the economy is in a recession or a recovery, distressed properties can be found at far below their market value. If properly evaluated, these investment properties can be sold when the economy comes back into full swing for a substantial profit. Investors should know, however, that the phases of the real estate cycle are not clear-cut intervals, and a recession may last much longer than originally anticipated. Even though this is a great way to find properties below market value, they may be held for a very long time, and thus include a high risk and opportunity cost.
Related: What Are the 4 Real Estate Cycles?
When the Housing Market Data Is Optimistic
Speculating in real estate could be a good idea if an investor has done their proper research using housing market data. The housing market varies dramatically from city to city, and a smart investor needs to know exactly what they’re getting themselves into. If you find a city where demand for real estate is growing, there is a reasonably good chance that prices can increase in the short- to medium-term. This involves increasing occupancy rates, increasing rent prices, and other factors that will point towards improvements in the real estate market.
Do You Have What It Takes to Be a Real Estate Speculator?
With all of that said: What is a real estate speculator, and what qualities should they have? Above all, speculators are investors who can handle a lot of risks that come with real estate investing.
For those engaging in speculation, it is smart to diversify investments and ensure that you’ve got a way to finance yourself if a speculation goes wrong. And while waiting for assets to appreciate, it is important that an investor has a source of consistent, reliable cash flow.