Don’t Let a House “Flip” Become a Flop

The S&P 500 is hovering at record highs, which is making valuation-conscious investors nervous. Now’s the time to consider alternative investments. The Federal Reserve’s interest rate cut on Wednesday should fuel the housing sector, which in turn is a tailwind for the phenomenon of house “flipping.”

Flipping is a tactic whereby an investor buys a property with the goal of reselling within a relatively short amount of time for a profit. The gain is made through the price appreciation that occurs from a healthy housing market and/or renovations.

Do it right, and flipping could make you a lot of money. Do it wrong, and you could lose your shirt. Below, I’ll examine the common pitfalls of house flipping and how to avoid them.

A reflection of the boom in flipping is the recent spike in new condo construction. House flippers often choose condos because they’re generally cheaper, easier and faster to flip than single-family homes.

The following advice could help you exponentially boost profits from house flipping and also prevent costly headaches.

Do The Math

Make sure you have sufficient capital to get through the expensive process. Acquiring the property is the first cost. Sure, there are plenty of low or no money down deals available, but the key is to find a reputable borrower who won’t gouge you.

Every dollar you spend on interest increases the amount you’ll need to make on the sale to turn a profit. Before taking out a mortgage, do your homework to find the most advantageous offer. If you can, you’re better off paying cash for the property.

Marketing come-ons from vendors that claim to be house-flipping experts are proliferating. But you should ignore those emails inviting you to join house-flipping seminars. These self-proclaimed flipping gurus just want to pick your pocket. They promise to help you through the deal, but typically they get a high percentage of the eventual profit, charge onerous fees, and push most of the risk onto your shoulders.

Also factor in recurring ancillary costs such as taxes, utilities and landscaping. The cost of one-time improvements and renovations must be considered as well. Your sale price should exceed all of these combined costs. It’s not uncommon for house flippers to lose money because they overlooked a large expense such as, say, mandated federal flood insurance.

Don’t forget about the capital gains taxes you’ll incur when you sell. The IRS considers flipping houses to be a business, not an investment. Normally, if you buy a piece of real estate to sell at later date, the profit is taxed under capital gains rules.

The word “flip” connotes fast action, but it’s actually a months-long marathon. Remain patient. You must pinpoint the right property, in the right location, at the right price.

There’s also a morass of paperwork to slog through, involving mortgage applications, official permits, inspectors, contractors, lawyers, you name it. When it’s time to sell, you’ll need to market the property and schedule open houses.

You can greatly enhance your profit from house flipping by applying do-it-yourself (DIY) skills.

If you’re handy with tools, apply sweat equity. If you can hang dry wall, fix leaky roofs, install a kitchen, repair gutters, lay tile, and replace bathroom fixtures, you’ve got a leg up on other house flippers. You’ll be able to substantially and cheaply increase the value of the house.

Renovation Wive’s Tales

You also need to know which renovations to make and which don’t add value to your home. You obviously want to do a quality job, but if your chief aim is to boost the value of your home for eventual resale, keep everything in perspective.

It’s easy to spend six figures on a new space-age kitchen, but unless you live in a neighborhood of million-dollar mansions, you’ll never recoup your cost.

Many homeowners (wrongly) think that using top-of-the-line materials is a guaranteed way to boost their home value. File that factoid under “renovation wive’s tales.” Your home improvement project must match the economic realities of the neighborhood.

Before you go down the flipping route, think it all through. If you already have a full-time job, flipping a house could impinge on your ability to earn a living. Can you spare the time? And more to the point, would it be worth it?

Let’s say you make a profit of 10% on a house that altogether cost you $100,000. Was that $10,000 worth several hectic months of your time? You be the judge. If you decide to go for it, you need to commit. House flipping isn’t a hobby; it’s a difficult and costly endeavor that can either reap a windfall or end in tears.

“Hammering” The Broader Market

Speaking of the DIY boom, if you’re looking for a straightforward stock investment related to the housing sector, consider Stanley Black & Decker (NYSE: SWK).

Stanley Black & Decker, based in New Britain, Connecticut, is a household name that’s been thriving on the continuing economic expansion. The company’s strategic moves, such as expanding into emerging markets, have put the stock on a long-term growth trajectory. SWK is a “defensive growth” play that should withstand the economic headwinds that are expected in 2020.

Over the past 12 months, SWK has hammered the broader market, rising 31.7% compared to 12.3% for the S&P 500 (see stock price appreciation chart):

Stanley Black & Decker manufactures tools and accessories, engineered fastening systems, security solutions, and more. The company’s Construction & Do-It-Yourself segment manufactures hand tools, including measuring and leveling tools, planes, hammers, knives and blades, saws, and chisels.

The Security segment provides a range of mechanical and electronic security products and systems, including locks, hinges and doors.

The Industrial segment consists of industrial and automotive repair tools, including wrenches, sockets, electronic diagnostic tools, tool boxes, and tools for plumbing, heating and air conditioning.

In 2016, Stanley Black & Decker bought the tools business of consumer products maker Newell Brands in a deal valued at $1.95 billion. The acquisition added Newell Brands’ well-known brands such as Irwin and Lenox to Stanley Black & Decker’s already formidable line-up of household names.

With a market cap of $23.3 billion and a dividend yield of 2.76%, SWK is a “Dividend Aristocrat” that has benefited from the long-running economic expansion. The housing sector has cooled lately but remains in solid shape, especially in the wake of Wednesday’s quarter-point rate cut by the Fed.

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Stanley Black & Decker is expanding its footprint in developing countries, where many countries have launched ambitious infrastructure projects.

SWK on October 24 reported third-quarter 2019 operating results that beat expectations on the top line.

Earnings per share (EPS) came in at $2.13, surpassing the consensus estimate of $2.02. This quarterly report compares to EPS of $2.08 in the same quarter a year ago and represents an earnings surprise of 5.45%. In the first and second quarters of 2019, the company posted an earnings beat of 29.09% and 4.31%, respectively.

Over the last four quarters, the company has surpassed consensus EPS estimates three times. Net revenue for Q3 2019 came in at $3.6 billion, up 4% compared to the previous year. The company modestly cut guidance for fiscal 2019, citing a $200 million cost reduction plan that should enhance profitability for 2020 and beyond.

SWK stands out as reasonably priced, in a stock market where bargains are getting harder to find. The stock’s forward price-to-earnings ratio (FPE) is 17, in line with the S&P 500’s FPE. Yet the average analyst expectation is for SWK to post year-over-year earnings growth next year of 7.4%, which I actually think is on the conservative side.

If you’re interested in finding another “alternative” real estate investment, in addition to house flipping, there’s an under-the-radar opportunity right now that most investors don’t know about. Last year an obscure loophole allowed a handful of regular Americans to take back over $6.6 billion of the mortgage payments they made. Click here for details.

Questions about alternative investments? Drop me a line: mailbag@investingdaily.com

John Persinos is the managing editor of Investing Daily.