The gaffe of the week goes to John McCain, when in an interview with Politico.com he was unable to remember how many houses he has.
Folks of all political stripes who read this blog will probably be willing to give Senator McCain a little slack on this one. We're real estate investors and we buy and sell properties. We might not have married a $100 million heiress like Senator McCain (or made $4 million off a lucrative book deal like Senator Obama, for that matter) but we can understand how LLC's and partnership purchases might turn a seemingly simple question into one that can be a little more tricky.
So my concern is not that Senator McCain was unable to rattle off the right answer. My concern was his startled, confused reaction. His rambling, mumbling response: "I think -- I'll have my staff get to you -- um -- its condominiums where -- I'll have them get to you." In today's complex world the ability to think on your feet and stay on message is an important prerequisite to being the President of the United States of America. The fact that Senator McCain was so visibly unhinged by this question will worry some voters.
I don't' think that the average American begrudges Senator McCain family their $100 million fortune; Americans don't resent wealth - we aspire to it. But folks who are struggling to make ends meet want to feel that the President understands their challenges, and those who have invested in the ownership society want a leader who will get the economy back on the rails. When Senator McCain facetiously quipped last week that $5 million per year is the cutoff for being wealthy, a lot of folks felt left out of the joke.
I feel that we facing an immediate future of complex economic challenges - one in which prudent real estate investors will be comparatively well positioned. But in the end the returns that we realize will be linked closely to the fortunes of our fragile economy, which in turn will be heavily impacted by gas prices and - ultimately - oil.
Oil is an international fungible commodity, and therefore oil prices - the single more important driver in our economy - will be largely outside of our control. The biggest factor in what will happen with oil prices lies in direction of international stability, or lack thereof. Neither party talks much about this particular elephant in the room - the reason being that both parties realize, rightly, that there isn't much that we can do about it. Our recent adventure to send our Armed Forces to the Middle East to spread freedom and democracy isn't entirely to blame, but it has been an exacerbating factor that has undoubtably made things worse and weakened our influence, both politically and militarily.
In the future there will be a link between what we do overseas and our economic fate here at home - and it's a new relationship that will be strikingly different from what we've seen in the past. As retired Army Colonel and Niebuhr scholar Andrew Bacevich writes in his excellent book The Limits of Power, our economy can no longer be sustained by expansion abroad enforced by our military. As a former military officer myself this is a new way of thinking. I now tend to put less of a premium on "experience" as traditionally defined; I want a leader who can see the new patterns as the world continuously rewrites the rules.
So while I can forgive Senator McCain the fact that he doesn't know how many houses he has, I am more concerned about the prospect that having spent decades as a fabulously wealthy United States Senator has dulled his ability to identify the shifting currents of the new world economy.
Ethics in investing is a topic that I’m interested in. This is one that I’ve written about before, both in the press and here in this blog . It’s one that I don’t think gets enough airplay – but the lessons of ethics and investing are the subplot to many of the other ideas and strategies that I write about on this blog.
Here are five discrete thoughts that have emerged from experiences that I’ve written about recently.
Honest investors are fearless investors: I have a lot of philosophical reasons for being honest, but I also have a practical one: I’m not clever enough to keep a web of deceptions straight in my head. That’s too much work. And as I tried to show in yesterday’s post, a deception which one commits doesn’t disappear. Ever. It sticks around; you can’t un-ring a bell. But honest men have no fear of such things.
Ethics is goodbusiness: Honesty, truly, is its own reward. Honesty is the foundation of relationships, and relationships are the foundation of business. Honest business people can at times feel that they’re at a disadvantage (how can you break even if you never screw anyone but others screw?) but it’s my observation that the world doesn’t work like this. The short term gain that one may achieve through some slimy deception or half truth rarely translates into a long term gain.
Regardless of who you support in this election - Senator Clinton, Senator McCain or Senator Obama - this is a speech that you should watch in its entirety. I have never before heard a politician speak this directly, or with such subtlety and complexity, about this important issue facing our nation.
The problem with the speech is that it will be blasted into a dozen Fox-news sized ten second snippets, and a truly honest discourse on race in America is not a topic that can be reduced into sound-bites.
If you're a supporter of Senator Obama's then listen critically. If you're not then listen with an open mind. Either way - listen.
Plumbing, Foundation. Roof. HVAC. These are the big ticket items when you're doing a physical inspection on a potential investment property.
Most investors are part timers. Most of us are somewhat good with our hands and know something about houses (we all live in houses, don't we?) So three of those items might not scare us too much when they arise. We've all replaced a faucet or two. We all do maintenance on our own AC systems. Most of us have had a roof replaced.
But sloping floors and crooked door frames will send us running for the hills. But consider this: all foundations are not created the same - so all foundation problems are not created equal.
You get below-market-value purchases by pursuing properties that have scared off other investors...[READ MORE]
Here are some ideas to give your clients who investors wondering what they should do next. Hold 'em? Fold 'em? Walk away? Run? Or double down, maybe...
Well lots has been written on how our current soft market is hitting homeowners. But it’s not so easy to find anyone addressing the issue that looms largest in the minds of most real estate investors: what should I do now?
There is no single right answer to that questions – it all depends on your local market, your appetite for risk, your view of the future, and the length of your runway - how long you have before retirement. But in my opinion there are five basic courses of action for investors in 2008:
1: Rebalance equity in the same market. This is the path that I’ll be following this year. Investors who have been in the market and were well positioned during the run-up will be sitting on a pile of equity that probably isn't going to perform too well in 2008. So it’s time to re-leverage: sell and invest back into properties that will give you the right cap rate. Although it’s not a lot of fun selling in a soft market, when you’re both buying and selling at the same time then it’s a wash. Price your property right and it will sell – and at the same time look to buy a property at the same sort of discount.
2: Lift and shift. If you’re in a market like Florida, Las Vegas, Las Angeles or the San Francisco Bay Area then you might be concluding that your market has run it's course and the future might look a bit less rosy. Some might be tempted to try to hold on until the market turns around returns to the peaks that it enjoyed during the peak of the roller coaster ride, but a better idea might be to cash out now, take that equity and re-invest in a region that is less overvalued. Investors like Jeff Brown in San Diego are pushing this type of strategy, moving investors from CA to TX.
3: Bargain hunt (speculative version). Fifteen years from now they’ll be asking “what did you do during the market downturn?” Well unless you have your crystal ball up and working you don’t know now what the best answer to this question will be just yet, but investors with a speculative attitude are watching out for the bounce. Again, this is a speculative view. Not that there’s anything wrong with that (as they say on Seinfeld) – as long as you're aware of the risks you're shouldering. There’s nothing as dangerous as someone who thinks they’re an investor but in reality they’re acting like a speculator.
4: Bargain hunt (value version). Regardless of your view of what’s going to happen next, in many markets the current correction is creating some great value deals – properties that you can pluck straight form MLS that will generate a positive month-to-month cashlfow with only a 10% down payment. You won’t be seeing many of these in, say, Las Vegas. But you will in Fort Worth, Tulsa, and Kansas City. You’re not looking for the dip with this strategy – you’re just poking around in a relatively favorable market for positive cashflow investments. If the market bounces then great. If it doesn’t then you’re in good shape to weather the storm.
5: Ride it out (do nothing). Good traders acknowledge that sometimes their best trade was one that they didn’t do. Strategies 1 and 2 require you to have underperforming equity redy to re-deploy. Strategy 3 is for speculative high-rollers, and Strategy 4 only works if you’re currently living in the right kind of market. So what if you fall into the “none of the above” camp? Well...patience can be a virtue in investing, and I’m not in the “now is always the best time to buy” camp of real estate investors. Waitingn for the market to show it's hand might be the right thing to do.
A reader who goes by the handle “Max” made a comment the other day that got me thinking. There’s a concept in pop business theory called the PeterPrinciple which states that managers tend to get promoted to their point of incompetence – taking on bigger and bigger responsibilities until they eventually get to the point where they’re over their head. And this, ironically, is the point where they tend to stick.
In discussing the concept of leverage, where an investor builds a profitable portfolio of investment properties over the year by occasionally executing a 1031 exchange, the Peter Principle might be relevant. As Max points out, you don’t want to get in over your head.
There’s something to this. There’s an implicit assumption that over the course of your investment career your ability to manage the complexities of larger properties and a greater number of tenants will increase. Additionally, you will also put yourself in a position to make judicious use of property management services. But at some point an investor needs to know how to say “enough”. Smart investors need to recognize when they’ve gotten to that point.
But often they don’t. And if you can find one who has gotten beyond his comfort level then you may be in a position to negotiate a great purchase. There’s a phenomenon I’ve noted which I call the “two-fer” sale – keep your eyes open for these. From time to time I’ll notice two similar properties which hit the market simultaneously. Sometimes they’re FSBO’s, and you’ll notice them if there are two identical FSBO signs on the same block. In my experience, this is a sure sign of an investor who paid for some expensive Rich Dad type motivational seminar, and in a wave of enthusiasm and empowerment hit the streets and bought the first two houses he could get a mortgage for. Essentially, this investor hit the Peter Principle very early in the game. He wants out.
Two-fer’s can be a great opportunity. If you can find a reluctant landlord who’s struggling with the negative cashflow drain of two vacant properties, you negotiate a great bargain by saying you’ll take both of the properties off his hands: I’ll take ‘em both for $XXX,XXX. And that should be a really low combined price. But the reason that this tactic works is that you’re making the seller’s problem disappear in its entirety. This can make the seller shift into “cut my losses” mode in one fell swoop.
This is a tactic that works. This is how I bought the two properties (FSBOs) a few years ago that I’ve recently vowed to sell as my New Year’s resolution. And on the buy side I’m looking at a couple of similar opportunities as we speak.
So the Peter Principle is a sword that cuts both ways – so make sure you’re on the right side of this trade.
As investors we’re not out there spinning the roulette wheel; we’re looking at the underlying fundamentals and taking measured risks. That said, investors do need to take a view of the future in order to make decisions in real time – and BusinessWeek’s recent cover story gives the housing market a timely and even-handed overview.
You’ll see some of the boilerplate that you’ve read before, but pay attention to a reference to an influential paper written by Harvard economist Gregory Mankiw which back in 1989 predicted a precipitous decline in housing prices. The premise was that a shrinkingbody of first-time buyers along with a glut of downsizing baby boomers will collectively pull lots of demand out of the market, leading to an excess of supply and a sticky plunge in prices.
Regardless of whether or not you pay any attention to the experts’ predictions it’s important to have a view on what’s next; you can’t invest without having an opinion about the future. Personally, as prices slide and interest rates drop I’m actively pursuing multi-family opportunities. I don’t know that prices won’t continue to drop, but locally I’m also seeing strong demand for rentals and, in some cases, higher rental rates. According to the National Housing Council , rental rates are up 3.36% in Houston. Combine that with the fact that housing prices have slipped by 2.38% over the last year and you have a market in which an already competitive rent-to-value ratio has gotten even better. That, for me, is an acceptable risk.
Rental rates in some major markets are up even more: 8.87% in Dallas (accompanied by a big 6.18% slide in property values). Notably, some higher value markets like San Diego and Miami are showing strong double digit increases in market rents, but even with a little help you’re unlikely to find buying opportunities that will yield breakeven cashflow in those areas.
I’ll talk a bit more about the Center for Housing Policy’s recent press release on housing affordability in a post tomorrow.
We're so accustomed to having our intelligence insulted by politicians that we rarely complain about the dumbed down worldview that we’re spoon-fed by both sides of the political aisle. The partisan mudslinging that we’re subjected to these days makes it hard to imagine a world in which candidates might campaign by voicing nuanced, well articulated views on the complex issues facing our country. That’s too much to ask for, but at least we get to watch the primaries, which offer up the entertaining spectacle of Democrats savaging fellow Democrats and Republicans bashing Republicans as they fight for their respective nominations.
But there are a couple of issues that I think we should all hold our candidates to a higher standard. One of these is immigration reform.
Even the language of immigration reform is fraught with semantic landmines. Do you talk about “illegal aliens” or “undocumented workers”? Do you open the discussion with allusions to Ellis Island or by invoking 9-11. Is this about security or fairness. Economics or the American way?
But it's safe to say that we're all interested in the state of our economy and national security – these are two tides that lift all boats. And as real estate investors – we’re more interested than most in how the housing market weathers the current storm, not to mention how we operate as landlords and as consumers of labor intensive services like roofing, landscaping and construction.
The reality of the situation is that it is difficult to take a complex issue like immigration reform and turn it into an effective sound bite, so it’s rare that we see a candidate discuss immigration with any subtlety or insight. But when I hear anyone address immigration I’m listening for a couple of key things…
Does the candidate acknowledge the complexity of the issue, and our society’s complicity in creating it? George W. Bush has lately become fond of invoking our society’s dependence on foreign oil. This is a step in the right direction (although the solutions proposed are all wrong – that’s another post) but as a society we’ve yet to confront the fact that we’re also addicted to imported labor – especially when it comes to difficult, physically intensive, cheap, dangerous work. When I walk into a construction site, a rehab project, a house that’s being cleaned for showing, or a landscaping job I without fail see a group of workers made up almost exclusively of immigrants. Always. Granted, this fact is exacerbated by the fact that I’m in Houston, but many readers will find this to be a familiar observation.
I live in a suburb where the residents, generally speaking, are more inclined to lean towards the Tom Tancredo school of immigration reform than the Hillary Clinton view. But if you walk this neighborhood on any weekday you’ll see the streets dotted with landscaping and housekeeping crews made up of employees who are in the country illegally. It's interesting that the "Assault on America" philosophy of immigration reform is so successfully sold to those socially conservative families who every week enjoy a beautifully manicured lawn for $35 a pop - courtesy of the invaders.
Does the candidate appeal primarily to fear? In recent years folks who live in my neighborhood here in Houston have been subjected to some of the foulest, ugliest campaigning I can remember as Hubert Vo (D) and Talmadge Heflin (R) squared off for a seat in the Texas State House of Representatives. They both took the low road on numerous occasions on various issues; one of them was immigration. This ad to the right (actual scan of a flier which landed in my mailbox) won the prize for the crassest. According to Heflin, his opponent was so uninterested in the general public safety that if he won then Osama himself would eventually stroll into a local Texas Department of Motor Vehicles and get a drivers’ license.
Heflin lost the election in a very tight race, and I like to think that there were at least a few voters, like me, who were pushed into the opponent’s camp because they were angry about having their intelligence insulted.
Does the candidate talk about people? Immigration is a human issue. Immigration is about people. I think most of us would agree on how we should treat an illegal alien who slips into the country to sell drugs. But how do we treat an undocumented worker who has spent the past twenty years toiling in a Tyson chicken processing plant, paying social security, contributing to his community, and raising his kids who were born here and are now in high school?
If we were to wave a magic wand and magically deport all 12 million people residing in our country illegally, every restaurant in Houston, San Antonio, Los Angeles, Las Vegas, Miami, and San Diego would immediately close. Our crops would rot on the vine. Poultry and meat would disappear from our supermarkets. Hotels would shut down. Residential level construction work will grind to a halt.
Some of these industries would eventally recover – but at a great increase in cost to the consumer.
So ask youself: is the candidate presenting the issue to me in all its complexity?
An economic indicator that I consider occasionally is one from the Global Insight quarterly study on housing prices in America. Here’s an interesting tidbit from the most recent report: of the 330 markets surveyed, Houston is the most undervalued.
The study uses many factors in determining the theoretical price equilibrium level for each regional market, including taxes, income, population density, and a somewhat ambiguous “desirability factor”. So, as with most all economic studies there is an element of art mixed in with the science. Nonetheless I think this study is an insightful data point when thinking about the relative valuation of varioius markets.
The fact that Houston is scored as the single most undervalued market is interesting when viewed in light of the underlying economic factors and the stark difference between the market’s reactions now with the past. When we think about real estate bubbles most of us immediately focus on California, Las Vegas, Florida, and other markets that have grabbed newspaper headlines with their flying prices over the past several years. But we forget that the poster child for real estate market corrections was Houston in the mid-to-late 80's.
Texans hip to irrational exuberance long before Greenspan poopularized the term. When the Gulf States kicked off the Arab oil embargo in reaction to the West's support for Israel in the Yom Kippur war, the resulting rise in oil prices fueled oil investments. This, in turn, pushed property values to unsustainable heights. Everyone wanted their own Southfork Ranch.
Fast forward to current day. Two rounds of war in the Gulf, rocketing demand and decreasing supply have again sent oil prices into the stratosphere; and this time around the increases have more fundamental sustainability than before. Cash is flowing into operational oil centers like Texas and Oklahoma. But, the property market hasn’t responded. Yet.
The graph below shows the Department of Energy refiner acquisition cost of imported oil.
Will property values in Houston and other oil centers go up? In the short term, perhaps not. Economic storm clouds and a jittery credit market will help to continue to keep a lid on the prices ... READ MORE ...
In A Brief History of Time, Stephen Hawking refers to a publisher’s rule of thumb that states that every formula that a writer includes in a publications will cut his readership in half. Well real estate investing is based on relatively simple principles - especially next to the stuff that Hawking researches- but there are some RE investing concepts that can be communicated a bit more effectively aided by a few equations and numerical examples. So bear with me - with this post I'm going to crawl through some numbers and risk turning off a few readers...
I mentioned in a recent column that when real estate investment starts “getting good” – when it starts generating some cash and putting some dollars in your pocket on a monthly basis – then that’s when it's time to sell. This might sound counter-intuitive, but let me give some examples that show why it is true.
Based on simple price appreciation, the stock market beats real estate hands down. Over the past twenty years or so the S&P 500 has gone up at an average rate of almost 10 percent per annum. The NASDAQ has appreciated at over over 11 percent per anum. Over the same period the average single family home in America has appreciated at around 5.6 percent. So why do we get so excited about real estate? Because it allows investors to prudently use leverage to increase her returns. And why should we consider selling a property just when it starts kicking off cash? Well, that's because this is a good sign that your leverage is running out of steam.
Consider a simple example. An investor puts 20% down on a $100,000 property. The investor starts out with $20,000 equity on a $100,000 house, giving him 5-to-1 leverage. Meaning: if the house appreciates by 5% that's $5,000 - a 25% return on the initial $20,000 investment. This is a basic concept you’re probably familiar with.
As time passes by two things will probably (hopefully) happen: a) the property will go up in value (a good thing) and b) your loan balance will decrease (also a good thing). But there’s an unintended by-product: a decrease in your leverage.
The diagram assumes an 8% fixed rate mortgage and an annual appreciation rate of 4.5%. Note that this isn’t a bad investment – in 15 years the initial $20,000 produces over $120,000 in equity. That’s an annualized rate of return of about 14%, which is considerably better than you'd expect out of the stock market over the same duration. But consider what happens to leverage (right axis). By year 5 around $4,000 will be paid off of the loan. And assuming that 4.5% appreciation rate, the property will have increased in value by around $24,000. That adds a total of $28,000 to the equity in the property – so now there is $48,000 tied up in the house.
Five years later: $124,000 property ÷ $48,000 equity = 2.6 to 1 leverage
But, there is another strategy that will allow investors to considerably increase their returns over the long run wil acceptable risk. Read more to find out how...
Disclaimer: ActiveRain Corp. does not necessarily endorse the real estate agents, loan officers and brokers listed on this site. These real estate profiles, blogs and blog entries are provided here as a courtesy to our visitors to help them make an informed decision when buying or selling a house. ActiveRain Corp. takes no responsibility for the content in these profiles, that are written by the members of this community.
The gaffe of the week goes to John McCain, when in an interview with Politico.com he was unable to remember how many houses he has.
But often they don’t. And if you can find one who has gotten beyond his comfort level then you may be in a position to negotiate a great purchase. There’s a phenomenon I’ve noted which I call the “two-fer” sale – keep your eyes open for these. From time to time I’ll notice two similar properties which hit the market simultaneously. Sometimes they’re FSBO’s, and you’ll notice them if there are two identical FSBO signs on the same block. In my experience, this is a sure sign of an investor who paid for some expensive Rich Dad type motivational seminar, and in a wave of enthusiasm and empowerment hit the streets and bought the first two houses he could get a mortgage for. Essentially, this investor hit the Peter Principle very early in the game. He wants out.
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