Interest rates are at an all time low. Certificates of Deposit (CD) and savings accounts earn a meager 1.5 percent or less. Under such circumstances, investors would normally invest in stocks or bonds for higher returns. However, weak economic conditions in the U.S. and abroad, are taking a toll on stocks. In fact, many experts are warning investors to steer clear of paper assets and move into tangible assets such as housing.
Stay Away From Paper Assets
Mark B. Fisher, CEO of MBF Asset Management, believes there will be a great global “reset” away from paper assets such as stocks and bonds, to things that people need. Fisher thinks governments are “printing money, printing money, printing money,” which will ultimately lead to the devaluation of currencies and paper assets. Obviously no one can "print real estate" and investors for real estate deals know that!
While public stocks trade at 15 times earnings, private equity firms pay no more than 6 or 7 times earnings, leading Fisher to believe that such overpricing of stocks will correct sometime soon and take the Dow Jones Industrial Average down to as low as 7,000. Investing in real estate thus makes sense as an alternative.
Nassim Taleb, author of The Black Swan, believes the global economy is vastly more fragile today than this time last year. With debt-ridden governments around the world issuing more debt, supply will exceed demand. Taleb foresees a “very bad day” when government bonds will just have no takers. In response, governments will have to increase interest rates, perhaps dramatically.
Other market watchers predict runaway inflation in the years ahead, where governments start printing money to reduce the value of their debts. It is not difficult to find investors concerned about such things who are open to alternatives such as investing in real estate.
Making the Case for Real Estate
Investors must rebalance their portfolios to survive these uncertain economic times. Counter-intuitive as it may sound to some people, investors should definitely consider real estate.
Home prices have corrected very significantly over the past four years (see chart above) and are now down to levels last seen in 2003. The irrational exuberance that had clearly gripped the real estate market has now been corrected for. At current levels, home prices have gained roughly 4 percent each year since 2000. Home prices have fallen to levels where rental income is nearly the same in many cases as mortgage payments, making homes attractive to an increasing number of buyers.
Foreclosures are at record levels and banks are saddled with properties they want to get rid off. For banks, real estate is a non-productive asset which they’d rather convert to cash. Personal bankruptcies are also on the rise, and homes are being sold at bargain-basement prices in liquidation proceedings. This is as good a buyer’s market as it gets and it is becoming increasingly easy to find investors interested in it.
Mortgage interest rates are at an all-time low and do not have any room to go lower. This is an excellent time to lock-in a low-interest-rate loan, a fact not lost on end-user buyers who have come back into the market. Again, it is not hard to find investors who wish to take advantage of that fact.
If inflation takes hold, as it very likely will in the years ahead, homes will continue to hold value as tangible assets particularly in regions that have historically been in high demand, most particularly in California. Home prices may drop marginally in the months to come, but are unlikely to fall too much below current levels. Just as a riding tide lifts all boats, so a falling tide takes them all down. California is a historically vibrant region that people love for the weather, the opportunity for a wide variety of other factors. There are some great bargains in California right now, especially in Southern California, and Realtors who want to find investors for them are doing so now. These bargains are driven by acquisition price vs. resale value. When that spread is high enough the profits are “built-in”.
The economy may stay down for a few more years, and home prices may not move much, however like any other asset that is purchased far below its resale value, homes acquired at big discounts for immediate resale, or to hold and rent, have a real place in any investor’s portfolio. If an investor does not care to participate directly in the market himself then working with a highly experienced team to “do the dirty work”, leaving him free to focus on his own business and other interests, may be a viable solution.
The U.S. continues to be the destination of choice for the world’s best and brightest, and will be an economic super-power for the foreseeable future. Very likely, the U.S. will be the first to innovate its way out of the current global slump and return to growth, and very likely California will lead the U.S. as that happens.
Rest assured, the sun will shine again from sea to shining sea and we will find investors back in in droves as normalcy slowly returns. Demand for housing will then inexorably move prices back up. Meanwhile buying well below current market value, either to hold and rent or fix and sell, is a good strategy in today’s uncertain economy. Real estate investors understand that it belongs in the portfolio of any intelligent investor, particularly Southern California real estate.
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