How to Perform a Basic Real Estate Market Analysis
You’re looking for homes to invest in but you’re not quite sure if they’re as good as you think so it’s time to perform a basic real estate market analysis on the home. The answer you’re looking for is whether these potential investments can stand up to the scrutiny of your analysis.
There are many factors to consider when analyzing a property. You might go as granular with details like the economic, employment, and educational health of the area. Learning what these are and whether they align with your own personal and financial goals is going to be important in evaluating investments. Before we really dig deep into this, learning some basic formulas to determine if a property is worth investing in will be valuable.
You’ll learn the following formulas:
Get data to run a basic real estate market analysis
A market analysis should be objective and unbiased, meaning it should be focused on the facts. You may get some subjective opinions from professionals, but balancing it out with real data will allow you to make better decisions on what types of investments are worth your time. Your analysis can pull data from the following sources:
- Local Facebook groups and media
- Local real estate organizations and agents
- U.S. Census Bureau
- U.S. Department of Labor
- The Federal Housing Finance Agency
- FHFA House Price Index
- Local county registers of deeds and tax assessors offices
- Online listing services like, Redfin, Zillow, Trulia and Craigslist
Breaking down the formula
Before running the analysis, there are some terminologies you should be familiar with first. From there, you can adequately analyze your potential investment property.
Days on market (DOM)
This speaks to the average number of days a property is listed before it is sold.
If you haven’t already, you should look at what the rental costs are for comparable homes. Usually, a good guideline is charging rent between 0.8%-1.1% of a home’s value. For lower priced homes, say in the $100,000s, you will want to go towards the lower end, while in more affluent cities, you can go towards the higher end of that percentage.
Beyond comparable properties, you need to also consider the following before determining how much rent your investment property can generate:
- Costs for repairs, maintenance, taxes, insurance and other fees (Such as property management if you’re outsourcing)
- Account for extra amenities that will justify higher rent. Recreational areas, add-on amenities, washer and dryer, etc.
- Understand local economic conditions. For example, if your investment property gets an influx of tourists in the summer and you find that rentals increase their price during that time, you may want to consider doing the same
Additionally, you’ll want to research local laws that regulate rent. Several states and cities have rent control laws, so it’ll be important to know this for when you do your analysis.
This allows you to compare annual cash income (projected or actual) against the cash you’ve invested. This analysis doesn’t look at total return but rather only cash.
To get your COC Return, you’ll need to divide annual pre-tax cash flow by cash invested.
For example, imagine you bought a home for $300,000 with a $270,000 mortgage and sell after 1 year for $330,000:
First-year cash expenses
- Down payment: $30,000
- Closing costs, insurance and maintenance: $3,000
- Loan payments: $3,000, including $500 to principal
Total Expense: $36,500
First year cash inflow
- Sale price minus mortgage payment: $63,000
Total inflow: $63,000
Cash flow: $26,500 ($63,000 – $36,500)
Cash-on-cash return: 72.6% ($26,500 / $$36,500)
If you are looking to put less cash down, then you might benefit from learning about our Investor kit.
Price-to-rent ratio compares the median house price and the median rent to determine the potential profitability of an investment home.
Divide the purchase price by the total annual rent for an individual home. Generally, the rule of thumb is that the investment is profitable if the ratio is less than 15.
For a single property, you will want to divide the annual rent by the total property costs. This will include the purchase price, closing and any renovation costs. Multiply it by 100 to get a percentage. Use this information to compare homes.
Similar to gross rental yield, cap rate uses net income to determine your rate of return.
Divide your net operating income (Including management fees, upkeep, and property taxes) by the property asset value to get a percentage value.
A low cap rate will mean there is higher potential for return with lower risk. You can determine this by comparing other properties to one another. Generally, there isn’t a rule for what the cap rate should be, but rather how it compares to other investments.
High property taxes doesn’t mean bad investments. You’ll have to do a real analysis of the situation to determine whether an investment is viable. Some communities with high property taxes can meen high-quality and in-demand neighborhoods that will attract long-term tenants. A good analysis will enable you to balance risks with rewards.
If you do now know the estimated property tax figures, you can ask your agent or go to the local tax assessment office.
It’s important to understand whether taxes will increase in the future. This will allow you to forecast and determine if you can set competitive rental prices with any possible future increases.
Is your head hurting yet? If it isn’t I recommend that you apply what you’ve learned so far to see if any of your potential investments can withstand the scrutiny of your analysis. Stay tuned, we will have more information on deeper analysis soon.