As the result of a massive settlement negotiated between states and lenders that is almost complete, major changes are in the offing that will significantly change the way lenders, especially the largest banks, service defaults and foreclosures.  For investors, especially those who invest in major foreclosure markets in states in participating, the settlement will have a significant impact on foreclosure prices and inventories.

More than 40 states will sign onto the settlement, which may be finalized this week.  At this is being written (Tuesday, February 7), several major states have yet to agree to the deal.  California is the largest hold out, along with New York and Nevada.  A major sticking point is the amount the $25 billion settlement for not going far enough to punish lenders but the odds are good that an agreement will be reached. With or without California, the deal is likely to move forward and become the largest industry settlement since a multi-state deal with tobacco companies in 1998.

In return for immunity from prosecution by the states signing the agreement (but not immunity from suits brought by individual borrowers), lenders will pay $25 billion to finance loan modification and homeowner relief efforts and they will overhaul their mortgage and foreclosure servicing procedures.

Roughly $17 billion of the total settlement would be spent on various types of loan modifications for homeowners. Rather than paying that amount in cash, lenders would receive a series of credit toward that amount based on a complex formula that would assign different levels of credit to different types of modifications. Decisions about which loans to modify would be left to bankers. But the overall impact of $17 billion in reduced loan balances would be far too small to help revive the housing market. There are currently some 11 million borrowers with an average shortfall of roughly $65,000 — or a total of $700 billion — in “negative equity,” according to the latest data from CoreLogic.

Another $5 billion would be set aside to help support state foreclosure relief programs. Another $3 billion would be applied to a program to refinance mortgages at lower rates. Borrowers would have to be at least 60 days late on their mortgages as of a date that’s yet to be determined. They would also have to be underwater, meaning they owe more on their home than it’s worth.

The program would apply largely to the relatively small universe of home loans owned outright by the five lenders, including Bank of America, JPMorgan Chase, Wells Fargo, Citibank and Ally Financial (formerly GMAC). Loans held by government-controlled Fannie Mae or Freddie Mac — some 60 percent of the 31 million home loans outstanding — would not be covered in the deal.

However, the settlement’s impact on the foreclosure processing will transcend these five banks.  In addition to the financial penalties, the draft settlement includes 40 pages of standards governing future loan servicing and foreclosures. The standards are expected to be tougher than past ones and should improve consumer experiences.  Servicers will adopt them industry-side, in hopes their liability will be reduce.  The new standards will break the post Robo-signing scandal logjam for all servicers by clearing the way for them to move forward with standardized foreclosure processing procedures that will be faster and easier to implement.

The impact on pending foreclosures would also be very small.  As many as 100,000 borrowers could be helped by the settlement, a fraction of the 2.3 million homes in the foreclosure pipeline.

“Based on the numbers alone, this is pretty modest,” said Christopher Mayer, a professor at Columbia Business School told the Washington Post. But he added that the numbers don’t account for the broader impact that the settlement could have on the housing market. Mayer said a deal probably would lead to more industry-wide loan modifications and would help jump-start foreclosures that have languished since reports of flawed and fraudulent legal filings came to light in 2010, causing banks to halt many legitimate foreclosures. “There are no silver bullets,” Mayer said, but the current deal “is an important step forward.”

In light of the size of the backlog in the foreclosure inventory, especially in judicial states (see Foreclosure Update: Happier Days on the Way for Judicial States), expect to see processing speed up.  A wave of foreclosures will he going to auction, then back to the bank and into REO status in the coming weeks, just in time for spring home buying season.

In REO-heavy markets, the wave could cause a temporary dip in prices as they expand inventory, creating special opportunities for alert investors.   The wave will last through the spring as properties now in default and pre-foreclosure work their way through the pipelines and onto the market.  Again, expect the biggest impact to be in judicial states:  New York, Illinois, Florida, New Jersey, and Ohio.   Banks will want to control the marketing of these properties to avoid disrupting prices, but in light of the fact that many of these homes have been in the pipeline for over a year, they may opt to sell them at a loss rather than suffer further damage and decay.

Perhaps the greatest impact of all is the promise of a smoother, faster-moving, more logical, less paralyzing foreclosure process that will no longer hold hostage entire local real estate markets with logjams of foreclosures stuck in the purgatory of processing.

Photo: Logan Ingalls

This Article is Copyright © 2004-2011 BiggerPockets, Inc. All Rights Reserved.

How the Robo-signing Settlement will Affect You

Cash is King

If you’ve been paying attention recently to the drivers of the real estate market, you may have noticed that there is a decided uptick in the number of ‘Cash Purchases’ taking place throughout the country.  Some estimates put the actual number of cash transactions at over 100,000 monthly across the U.S.  This development though has raised some interesting questions among industry experts as to whether or not this is a good thing.  Some actually want to place blame on cash buyers, who are overwhelmingly investors, for driving the values of real estate down.  Others see cash buyers as providing needed capital and resolve to purchase, but are not happy with the discounts given to these buyers.  In the end, I believe, there are too many different ‘problems’ in the real estate market for any one solution to fix and placing blame on cash buyers for contributing to the lingering crisis is silly.  The long-term solution to the housing crisis encompasses fixing two main problems:

1. Eliminating excess inventory
2. Allowing for prices to stabilize and increase under normal market conditions

Institutional Buyers

The federal government has been slowly and very calculatedly releasing plans to sell large tranches of REO properties.  These transactions are going to be sold to large buyers who are closing within 96 hours of accepted price point and the deals will be valued between .43 cents on the dollar and .47 cents on the dollar.  (Which dollar they are using for calculation is a whole different topic!)  Suffice it to say, the dollar value that will be attached to these properties before discounts will not be top value and will most likely reflect present day value.

If that is in fact the way the government chooses to dispose of the REO inventory they currently have, which amounts to near 50% of the total number of U.S. homes in REO status, then those homes will be sold to cash buyers at significant discounts compared to today’s pricing which is already depressed after years of stagnation.  Do not expect this to increase any home values anytime soon.  That is the main argument that many industry experts are using when they argue against such a plan.

They would rather see these homes sold very slowly and the highest price possible and would like the government to offer some sort of financing option for new buyers.  This slow approach, while possibly slowing down the slide in real estate values, will actually prolong the recovery and keep prices depressed for years to come.

What is the real ‘Fix’?

Today, investors are accounting for 1 out of every 3 transactions occurring.  Out of that 30%, nearly 3 out of every 4 are transacted with cash.  The simple fact remains that investors are ready to enter the real estate market in a big way and the cash to do so is simply sitting on the sidelines waiting to be put to work.  There is no possible way to eliminate cash buyers without prolonging the housing crisis into 2017-2020 or beyond.  There is not enough demand for securitized mortgages for private mortgage holders to get back in the market in a large scale way and the government clearly does not have the appetite to continue to underwrite U.S. housing.  Without underwriting in place – and discouraging cash buyers either directly or indirectly by not discounting – the housing crisis will absolutely drag on and easily could extend into and beyond 2017-2020.

On the other hand, discounting pricing – even at the .42-.47 cents level – attracts more cash buyers and even the institutional buyers who can purchase thousands of properties at a time.  Being pro-active on reducing the inventory and clearing up the back-log of vacant REO properties will lead to an eventual stabilization of pricing.  While it will be bad for current home values, when the REO sales are gone, they will no longer be calculating into the values of homes and pricing will be able to naturally increase as demand increases.

When I read that real estate industry experts are bemoaning the number of cash buyers and the downward pressure they put on pricing, it makes me wonder whether they really grasp the enormity of the REO problem and exactly how damaging the slowdown in processing and selling excess REO’s has been.  The faster we clear excess inventory, the quicker banks can re-establish a lending standard and the real, long-term solutions to the housing crisis can begin.

This Article is Copyright © 2004-2011 BiggerPockets, Inc. All Rights Reserved.

Are Housing Solutions Really Part of the Real Estate Problem?

When it comes to residential real estate investors, there are clearly two points of view today within the real estate industry and in Washington.  Some applaud investors for plunking down their own dollars to save decaying homes in moribund neighborhoods and reviving local real estate markets.   But investors come under fire by others  for out-competing owner occupants (especially first time buyers and minorities) for distress sales and for switching properties—and neighborhoods—from ownership to rental.

This debate is more than academic.  Many of those who make policy decisions that could help or cripple investors—federal officials, trade associations, large lenders and brokers—take their lead from what they read in the media and  hear from industry leaders.  A good example of how this schizophrenia towards investors can play out in Washington was last year’s FHA anti-flipping rule, a blatant slap at investors that was stopped only temporarily by a waiver once people came to their senses.

Dr. Alex Villacorta  of Clear Capital recently described for me how, in the most foreclosure-ravaged Florida markets, investors have been incredible marketplace saviors who bought in at the lowest ebb when no one else would.  They single handedly stopped the slide in prices and turned them around enough to encourage chary owner-occupants to gain more confidence in the market and jump in.  In market after market across the state, he has chronicled how investors have been the dry tinder that has ignited recovery. (See Can Home Values and Foreclosures Live Happily Ever After?)

On the other hand, Brian Hurley, president and chief operating officer of a mortgage servicing company called New Vista, recently put into words what many have whispered.  His study of California REO sales found that over the past three years the percentage of REO homes sold to owner occupant buyers has decreased by about 5 percent or more in 18 of the nation’s counties hit hardest by foreclosures.

Now that homeownership is more affordable, instead of making homeownership for minorities and moderate income Americans more attainable, barriers to financing and competition with investors are locking out of homeownership and changing the residential fabric of their communities from ownership to rental, he told me in an interview.

“We timed the first release of our study to raise awareness of the community impacts that current REO disposition practices are already having.  Bulk sales, drop-bid foreclosure auctions and the proposals under review by FHFA promise to move more REOs out of local real estate markets — out of the hands of owner occupants, out of the reach of local real estate professionals, and out of the capital base of these communities themselves. Before the market adopts new strategies to address an expected surge in foreclosure volumes, we wanted the owner-occupancy impact of current approaches to be well understood,” said Hurley, explaining his policy agenda.

A flash point for the concern over investors today is cash sales.  Cash sales are the hallmark of investors, the big stick that investors wield to get the best deals and beat out the family homebuyer.  The term is a very unfortunate one, conjuring up a legion of Daddy Warbucks, their pockets stuffed with greenbacks.  It’s also untrue.  Just because the investor shows up at closing with a check, not a letter from a lender, doesn’t mean he didn’t borrow through a HELOC or second trust on another property, or get funding from friends or silent investors.  Last spring In a survey of investors by Move, Inc., which I helped design, some 59.5 percent  of investors said they planned to put less than half down on their next property purchase and finance the rest.  Those planning to use more than 50 percent cash accounted for only 16 percent of investors in the survey.  Investors told us that the second most difficult challenge they face has been in finding financing.

Alarms over “cash sales” are ringing loudly this week.  Monday my friend John Campbell and his partner Guy Cecala, publisher of Inside Mortgage Finance, released the latest Campbell/Inside Mortgage Finance HousingPulse Tracking Survey which suggested that In December so many sellers preferred to sell to investors offering cash and shorter closing timelines that they had the effect of depressing prices. This was particularly true for bids on distressed properties, because mortgage servicers selling foreclosed properties or real estate owned generally prefer transactions that can settle within 30 days.

In December the overall proportion of cash buyers in the housing market surged to a record 33.2 percent, up from 29.6 percent a year earlier.  Some 74 percent of investors used all cash to buy homes last month. Investors accounted for 22.8 percent of home purchases in December 2011, up from 22.2 percent a month earlier.

Hundreds of thousands of owner-occupant buyers have lost out to investors in recent years and these lost deals reverberate.  Tens of thousands of agents and brokers have seen commissions evaporate, not to mention the many disappointed buyers who may blame an investor more than a pokey bank.   The Campbell/Inside Mortgage Finance Survey gathers comments as well as data from the approximately 2,500 real estate agents nationwide it reaches each month.  Here are some from December survey.

“Investors are very aggressive and expect to see 15 percent-20 percent off list, they will close in 30 days or less and most are cash buyers,” a California agent said. “In competitive offer situations, cash offers prevail for the most part because of the common knowledge of lender closing issues. Cash sales close in 21-30 days. FHA sales close in 45 to 60 days,” reported an agent in New Jersey.  “Investors usually offer 10 percent-20 percent below list up to a price of $250K. First time homebuyers are (offering) close to list (price) as are current homeowners. Investors want 2-4 weeks to close …Financing buyers end up with 6- 8 weeks plus to close,” reported an agent in Arizona.

These complaints, as well as views like Brian Hurley’s, are heard within the network of powerful organizations that has been called the housing lobby.  It’s quite likely that someone in Washington this election year probably will do or say something that indicates they have a less than enlightened understanding of real estate investing.  The fallout for investors could be painful and expensive.

Perhaps it’s time to enlarge and update our timeworn definition of the American Dream. Owning your own home is still a worthy goal but the world has changed and not everyone can achieve homeownership today.  Is the Dream big enough to include the notion that it is also admirable to risk your own finances and sweat equity to provide someone else a home and to improve the neighborhood where they live?  And if your risk pays off, to receive a fair return as well?

This Article is Copyright © 2004-2011 BiggerPockets, Inc. All Rights Reserved.

America’s Love/Hate Affair with Investors

In the dorky world of real estate economics, the creation of a new housing category should be a major event, on par with, say, the discovery of a new solar system or the cloning of a pig.

Strangely, single family rentals (SFR), even though they are now a multi-million property segment of the nation’s housing stock, have been the Rodney Dangerfield of housing.  They’ve receive nowhere near the respect they deserve.  Perhaps that’s because SFRs are entirely the creation of a new breed of low key Main Street real estate investors and have, until recently, escaped the attention of Washington politicians and Wall Street financiers.

In recent months, policy-makers and the media have discovered that something huge is going on in the way millions of American families are housed.  The elephant in the room was finally too big to ignore.

Part of the problem was that there simply aren’t any credible numbers that reporters need to create a context.  They knew a lot of foreclosures were being converted to rentals but had no way of knowing because almost no one was keeping score.  Even today, I am not aware of a national data provider that tracks SFRs apart from multifamily (apartments).

Two years ago, probably the first national site to take notice of the SFR boom, Calculated Risk, quoting from Census Bureau data, figured that there were 3.60 million homes originally built for owner occupancy that were being utilized as rental.  That’s about three-quarters the number of existing homes sold in the entire nation last year.

Last July, MarketWatch, a piece by Dawn Wotapka headlined “Single-family rentals are housing bust’s stars,” cited Census data from Zelman Associates that from 2005 to 2010, single-family rentals grew at 21 percent versus just a 4 percent increase in total housing units. In the hardest hit markets, such as Nevada, Arizona and Florida, single-family rental units increased 48 percent, while apartment units were virtually unchanged.

Then, in August, the Federal Housing Finance Administration, the folks who oversee Fannie Mae and Freddie Mac, asked for comments on a proposed rule listing options for disposing of the thousands of foreclosures piling up on the two GSEs books.  Most of the 4,000 comments FHFA received by December advocated doing exactly what thousands of entrepreneurs are doing—fix ‘em up and rent ‘em out.

Now private equity funds are taking notice, according a story on the Wall Street Journal last week. The fund, GI Partners in Menlo Park, CA, plans a $250 million investment in Waypoint Real Estate Group, an Oakland-based company that buys foreclosed homes at discounts and rents them out to tenants. The investment is among the largest to date by an institutional investor in the single-family rental space.

Even the Federal Reserve has entered the fray.  “In contrast to the market for owner-occupied houses, the market for rental housing across the nation has recently strengthened somewhat,” understated the Fed in a white paper released last week.  “The price signals in the owner-occupied and rental housing markets–that is, the decline in house prices and the rise in rents–suggest that it might be appropriate in some cases to redeploy foreclosed homes as rental properties. In addition, the forces behind the decline in the homeownership rate, such as tight credit conditions, are unlikely to unwind significantly in the immediate future, indicating a longer-term need for an expanded stock of rental housing.”

Perhaps all this attention and heightened awareness will produce something useful for the SFR marketplace, where good, credible information is in short demand.  A first step would the recognition that SFR is a distinct category:

SFRs appeal to a different market.  SFR tenants have about as much in common with multifamily as the Brady Bunch has with Friends.

Single family homes should rent at a premium.  They provide more living space, more outdoor space, neighborhoods that are more residential in nature, amenities like parking, gardens and pets, quiet, privacy, etc.  Has anyone done market research on how much more SFR tenants would or should pay above multifamily rates?

SFR marketing and management is still an emerging business.  I know of only one national site dedicated to SFR listings. In most other rental or ownership sites, SFRs are step children, often difficult to search for and with little how-to information for either tenants or owners.  In many markets, investors have limited options if they don’t want to manage their properties themselves.

Data on costs and profitability would improve management strategies and encourage more lenders to make more financing available.  How many investors are financing their projects with second mortgages and personal funds when OPM should he available?

It’s time America awoke to the reality that SFRs are critical players in today’s housing picture.  They are solving two problems simultaneously.  They soak up vacant foreclosed properties, reviving home values and revitalizing communities.  At the same time, they provide rental housing in markets where vacancy rates are shrinking.  Without them, rents would be rising even faster than they already are.

This Article is Copyright © 2004-2011 BiggerPockets, Inc. All Rights Reserved.

SFR: Birth of a Category

Have foreclosures gotten a bad rap?

For years, economists and policy makers have believed that foreclosures are inherently toxic for neighboring home values.  Many therefore assume that a housing recovery will be impossible as long as foreclosures remain abundant.  The mere existence of 4 to 6 million properties in the foreclosure pipeline has contributed to a growing consensus among economists that national median prices won’t turn the corner until 2013 at best.

A new analysis of recovery patterns in some of the nation’s markets hit hardest by foreclosures suggests that under the right conditions full value properties large numbers of foreclosures—even greater than a 20 percent saturation of the market—can thrive side by side.  The study by data provider Clear Capital was released earlier this week and it may radically change the way we think about foreclosures.

For investors, the study provides both a confirmation of the critical role they play in the recovery of devastated markets and guidelines to help identify opportunities that offer maximum profit potential.

Florida Phenomenon

Clear Capital conducted a microanalysis of a number of Florida markets that have been flooded by foreclosures.  Many of these markets suffered several waves of foreclosures resulting from the subprime meltdown, the South Florida condo crash, the 2007 recession that kept snowbirds north and the subsequent housing crisis that froze many boomers in place, making it hard to sell their existing homes and buy retirement properties.  In markets like Miami, Naples and Fort Myers, prices plummeted 35 percent or more below peak as the foreclosures.  About a year ago, inventories shrank dramatically as sellers withdrew from the market in response to prices that were and the flow of foreclosures slowed as processing in Florida, a judicial state, slowed.  Low prices sparked demand among investors and foreign buyers, and prices turned around.  Among the 50 national markets Clear Capital tracks, sale prices rose 6.7 percent in Orlando last year and In Miami they rose 5.6 percent.  Realtor.com’s data shows year to year list prices in Naples and Fort Myers were up by 21 percent, and West Palm Beach by 18 percent.  Eight Florida markets had double digit increases in list prices in 2011.

“This positive trend isn’t receiving the attention it’s due because of the interaction of people’s expectations, perceptions and reality,” said John Tucillo, chief economist of the Florida Realtor Association in November.  “When you come out of a recession, people expect the real estate market to take a huge jump forward, and when it doesn’t, they perceive that the market is ‘bad’ or still down. However, the reality is that the Florida market is improving and it has been for some time – it’s just improving more slowly than initial expectations.”

What’s even more remarkable about the Florida phenomenon is that prices for both full value and distressed properties are rising simultaneously.  Moreover, prices are rising even though foreclosures still account for a lion’s share of listings. REO market share in Orlando fell 21.0 percent last year and 9.9 percent In Miami, but some 24.9 percent of Orlando’s listings and 31 percent of Miami’s listings are still REOs. (Unlike any other data source I know, Clear Capital has market-by-market REO saturation data.)

REO’s Don’t Stop Stability

How large a market share can REOs occupy in a stabilized market?  Dr. Alex Villacorta, Director of Research and Analytics at Clear Capital, has no magic number but has seen markets progress towards stability with 20 percent or more REOs.  He describes the recovery of deeply depressed market as looking like a see-saw more than a straight line.  Foreclosures drive down prices when large numbers hit a market at once, causing a shock to the system.  Prices adjust downward and eventually they reach point where investors step in to buy up bargains and create a new demand.  Other buyers follow suit and prices rise. Eventually price swings lessen as the market reaches stability, which Villacorta defines as 2.5 percent a year or less as supply and demand reach equilibrium.  As Tucillo suggested, Florida is not there yet, nor are many other markets.

In fact, Villacorta found that in 2011 only 12 of the top 50 metro markets returned year-over-year price movement that can be considered stable—price swings of less than 2.5 percentage points.He expects this to  continue into 2012, with only 40 percent, or 20 out of 50 markets, being considered stable.  Below are his price predictions for this year’s top 30 markets.  (For a complete list, see the report.)

Villacorta expects Florida markets to extend their impressive 2011 performances into 2012. Miami and Tampa are projected to be among the five highest performing metros with 8.8 percent and 7.4 percent growth, respectively, and Jacksonville is forecast to gain 4.3 percent, placing it at a respectable eighth among the top metro markets. The exceptional growth in these markets can be a result of several factors, including being hit especially hard in the downturn. While fighting back, they remain significantly off their highs of 2006. Other factors in play in these markets include large increases in the values of their lower priced homes (near double-digits for all markets) when compared to higher priced segments of the market, and a high percentage of all cash transactions (51.8 percent) when compared to other metros.

Investors Initiate Recovery

Villacorta expects a high degree of investor activity to drive up demand as they look for bargains in Florida and elsewhere.  In his view, investors are absolutely crucial to the process of recovery because, like tinder igniting a fire, they initiate stabilization by buying properties at the bottom and encourage other buyers to follow.  He would advise investors this year to move very carefully.  “Although ‘stable’ and ‘flat’ have been used to describe the performance of 2011 and forecast for 2012, the performance of individual metro markets has not been flat at all.”

Villacorta advises investors to take into consideration peak and trough values, and to look for markets with the greatest spread between the two. Then they should research a market to get a perception of whether a recovery is underway and an understanding of where it stands today by regularly tracking each a market’s performance as numerous dynamics, including varying REO saturation, unemployment levels and whether there is a sense of confidence in the market shown by move up buyers . “Success in 2012′s real estate market will be driven by picking markets carefully and fully understanding local drivers,” he said.

This Article is Copyright © 2004-2011 BiggerPockets, Inc. All Rights Reserved.

Can Home Values and Foreclosures Live Happily Ever After?

A nation’s homes shape the quality of its citizens’ lives.  Homes are where the workaday world ends and family life begins.  Life’s passages take place in our homes; they are where children grow up and memories are made.  Homes form the building blocks of every community.

Not since the Depression has a man-made disaster so threatened America’s homes and housing stock as the plague of foreclosures that began with the subprime meltdown of 2006 and continues to this day.

Since 2006, some 4.5 million homes have completed the lengthy, sad ordeal of default, foreclosure, repossession and resale.  About 6 million more are in process as 2012 begins.  A smaller but substantial number of beleaguered borrowers chose short sales to avoid foreclosure.  These distressed sales accounted for more than 40 percent of all home sales every month for the past 23 straight months, according to the Campbell/Inside Mortgage Finance HousingPulse Tracking Survey or real estate brokers.

Houses entering foreclosure often suffer neglect, disrepair and even vandalism at the hands of cash-strapped, angry owners.  Once abandoned, they languish empty for more than a year, deteriorating and inviting decay and destruction.  So many are in need of serious repair when they finally come on the market that a new category of distressed sales has been created:  damaged REO.  As foreclosure timelines have lengthened over the past 18 months, the damaged REO category has grown to 13.9 percent of all home sales and perhaps more this year, more than 400,000 properties in 2011 alone.

Discount on Damaged REOs

Damaged foreclosures have an incredibly toxic effect on home values.  Even one or two long-vacant damaged homes can hurt the value every home in a neighborhood.  They usually list at a 5 to 7 percent discount below other foreclosures, which sell at 20-30 percent below a comparable home in the same area, though in November, damaged REO homes sold at a significant discount—58 percent below other distressed properties, according to the November Inside Mortgage Finance survey.

The discount reflects how difficult they are to sell; few owner/occupant buyers can afford the cost of repair to make them move-in ready.  They linger on market, dragging down prices and values of neighboring properties, until they are purchased by those investors who are willing to take the risk to make a serious investment.

In major foreclosure markets such as Las Vegas, Phoenix, and Miami, damaged foreclosures have played havoc.  The Las Vegas Review Journal reported in July that the deterioration of vacant homes — many of them bank-owned — continued to drag down home values in Las Vegas while other housing markets were showing signs of stabilization.

Damaged REOs Plague Las Vegas

Las Vegas home values dropped more than 60 percent from their peak to a median price of $111,000 in May.  Yet hundreds of foreclosed homes languished on the market for months, even years, often hurting home values in the surrounding neighborhood.  They were consistently devalued by appraisers by $5,000 or more based simply on appearance.

“So here we’re stuck — the foreclosure capital of the nation — with a glut of vacant homes fueling the self-destruction of a once booming Las Vegas housing market. Local housing analysts estimate that three-fourths of the total real estate-owned inventory is empty homes,” wrote the RJ’s real estate reporter, Hubble Smith.

In October 2009 and again last April, Move, Inc., the company that operates Realtor.com, conducted national surveys to look at some of the key issues facing investors.  I was fortunate enough to participate in these projects.  What we found surprised us and skewered the “flip and run” image perpetuated on TV and elsewhere.

Move Investor Survey

The research defined and quantified for the first time the vital role investors play in repairing, restoring and rehabilitating the damaged foreclosure housing stock.  Some 42 percent of investors said they plan to invest their own time and energy to improve, repair and maintain their properties.  The remainder (29.5 percent) said they’ll hire a contractor for repairs and only 28 percent planned to purchase move-in-ready properties.  Some 30 percent said that they expected the cost of repairs to exceed 20 percent of the purchase price.

The picture that emerges is one of an emerging community of small-scale, local, hands-on entrepreneurs, largely middle-aged men, who are risking their own money and putting serious time and sweat equity into repairing the bricks-and-mortar victims of the foreclosure crisis in hopes of making a good profit, either through rental or resale or both.  Not only are they repairing the nation’s housing stock, they are improving home values and quality of life in their own communities.

The Move, Inc. study makes it possible to put a value on the contribution investors are making to the nation’s housing stock.  Let’s look at 2011.  About 20 percent of the 4.4 million existing homes purchased during the year were purchased by investors, according to NAR’s re-benchmarked numbers.  That’s 880,000 homes.  From the Move survey, 30 percent of investors said they planned to invest 20 percent or more of the value of the property in repairs.  Thirty percent of the homes bought last year by investors is 264,000 homes.  The median home price for the year will come in around about $165,000.  At a discount of say, 35 percent, which is probably conservative, the median damaged REO sold for $107,250.  The median repair cost per damaged REO at, say, 20 percent of the purchase price, which is also probably conservative, was $22,450.  Multiply that number by 264,000 homes and the total amount investors spent repairing foreclosure-damaged homes in 2011 was $5.9 billion.

$5.9 Billion Invested in America

Imagine what America would be like today if investors were unwilling to step up to the foreclosure crisis.  Over a four year period, HUD is spending about half of what investors are spending in a single year to repair abandoned foreclosures and restore foreclosure blighted communities in a Neighborhood Stabilization Program.  Without investors, America’s neighborhoods would be overcome with abandoned and decaying foreclosures despite NSP.  Not to mention that fewer affordable properties would be available for rent or purchase and as long as they were listed, damaged REOs would depress local home values and reduce every owner’s equity.

Image: John Morgan

This Article is Copyright © 2004-2011 BiggerPockets, Inc. All Rights Reserved.

The Difference Investors Make

The stars are aligned to make 2012 an extraordinary year for rental income.  The decline in homeownership is translating into rising rents and the multifamily apartment sector, though booming today, was late catching the wave.  If it weren’t for the new investor-driven single family rentals in many markets, rents would be zooming even higher than they already are.

The New Normal in Homeownership Creates Demand

Changing attitudes towards homeownership have been pushing up rental demand since 2004, before the housing bust.  The number of homeowner households declined by 805,000 from 2006 to 2010 and the number of renters rose steadily for six consecutive years, increasing 3.9 million during that period, according to Census data.  The net increase of in 2012 alone was 1.4 million new rental households, a 1.5 percent decline in the national homeownership rate and a 4 percent rise in the number of tenants.

Much of the rental demand is from younger households that are postponing or even canceling homeownership in favor of renting.  The decline in the homeownership rate has been sharpest for those household heads under 30 years of age.  Owner rates have fallen by 4.4 percent (to 21.9 percent) for those under 25 years of age and by 7.0 percent (to 34.7 percent) for those aged 25 to 29 years, according to Freddie Mac.

Multifamily Struggles to Keep Up

Multifamily rental housing can’t keep up with the demand.  Census Bureau reported that third quarter vacancies for rental housing were only 9.2 percent, 1.4 points lower than a year ago and .5 percent below the first quarter.  We haven’t seen a 9.2 percent vacancy rate since 2003.  A Reis Inc. survey of professionally managed buildings in metropolitan markets found vacancy rates stood at 5.9 percent during the third quarter, the lowest since 2007 for that class of apartment.

Apartment developers and investors are a conservative lot and they took a wait-and-see attitude towards the rapid and dramatic changes in the rental market.  Now, however, things are popping.  In November starts of residential developments with two or more units saw a 25.3 percent increase from the previous month , the construction of apartments, town houses and other multifamily developments, evidence that rising demand for rental housing has encouraged developers to begin building again. Newly issued building permits, a gauge of future construction, climbed 5.7 percent in November from a month earlier to an annual rate of 681,000, a 24.3 percent increase from November 2010 and the highest rate since March 2010. The overwhelming majority are for multifamily units.

Even so, developers can’t keep up. Two-thirds of developers surveyed in the third quarter by the National Multifamily Housing Council said construction activity is underway, and 20 percent are breaking ground on new projects at a rapid clip.  The other 47 percent reported an increase in pre-construction activities-acquiring land, lining up financing, getting building permits-but not much actual construction yet.  Yet even with this increased activity, more than half (54 percent) think new development remains considerably below demand.

Single Family Fills the Void

In the dorky world of real estate economics, single family rentals are the newest kid on the block.  Just recently have databases serving the residential investor tracked single family apart from multifamily, but it’s very clear that in many markets today single family rentals are taking up the slack.  From 2005 to 2010, single-family rentals grew at 21 percent versus just a 4 percent increase in total housing units, according to Zelman Associates.

Single family demand is closely linked to foreclosure activity in the hardest hit markets as families displaced by foreclosure prefer to rent a single family home rather than crowd into an apartment.  In hot foreclosure markets attractive to investors, such as Nevada, Arizona and Florida, single-family rental units have increased 48 percent, while apartment units were virtually unchanged.  According to the Census Bureau, since 2004 there are 3.60 million homes built for sale that are being utilized as rental today.

2012 Rental Outlook

The national median rental rate rose to $1,004 in the third quarter, up from $981 in the third quarter of 2010, according to Reis Inc. Although overall rent growth will vary greatly by metro, on a national median rent increase will come in somewhere between 2.5 to 4.0 percent for 2011, depending on whose data you use.

However, 2012 could be even better.  Fannie Mae is currently projecting that average asking rents on a national basis could experience an annualized increase of between 2.0 percent and 3.0 percent.   Others are less conservative. The National Association of Realtors forecasts multifamily rents to rise 3.5 percent next year. Axiometrics’ research forecasts a national rental growth rate of 5.5 percent. Christina Aragon, Director of Marketing and Customer Insights at Rent.com, predicts the vacancy rate will hover at a only 5 percent and rents will explode. Now, Aragon expects rents to spike 7 percent over the next two years.

As we all know, there is no such thing as a “national” real estate market.  Numbers like those cited above are merely estimates of national medians across hundreds of local markets.  Relying on a national real estate forecast to predict prices or rents in your market is like using a national weather forecast to tell you whether it will rain in your backyard this afternoon.  The big picture may or may not be relevant to your market situation.

 Local Market Rental Outlooks

However, the good news is that many of the hottest markets for investors, rents are going to the most.  Increases will likely top the 10 percent mark annually for the next couple of years, according to John Burns Real Estate Consulting quoted in CNNMoney. In San Diego, rents will rise more than 31 percent by 2015 and in Boston, they may jump between 25 percent and 30 percent. Seattle rents will climb 4.5 percent next year and 6 percent in 2013.

A number of metro areas have actually had double-digit effective rent growth. High-density, west coast metro areas such as San Francisco with 14.8 percent and San Jose with 11.7 percent year-over-year effective rent growth rates are not totally unexpected. Charlotte with 7.2 percent rent growth; Miami with 5.6 percent; and even Denver with 6.6 percent effective rent increases, are less predictable examples.  Axiometrics expects San Jose, San Francisco, and Austin to remain among the top 10 markets in effective rent growth in 2012 and Las Vegas is expected to become one of the most improved markets in 2012.

Local economies, especially jobs, will drive local demand.  Over the next three years, Local Market Monitor expects rents to rise 18 percent in Houston, 15 percent in Grand Rapids, 25 percent in Rochester, 16 percent in Dallas and 19 percent in Tulsa.

Landlords increasing rents by 2 to 4 percent this year may find tenants won’t be surprised.  Consumers expect home rental prices to increase by 3.2 percent over the next year, according to a recent Fannie Mae survey. Some 41 percent said rents will increase next year, 48 percent expect rents to stay the same and only 6 percent expect them to fall. The November numbers showed a slight retreat from October, when 43 expected rents to rise and 47 expected them to stay the same.

“Most Americans expect no improvement in their personal financial situation in the next 12 months and will likely remain wary about undertaking the significant financial obligation associated with homeownership until their view of their income, expenses, and job security heads in a more positive direction,” said Doug Duncan, vice president and chief economist of Fannie Mae.

Photo: Cliff

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Rental Outlook 2012: The Good Times Roll on

Real estate investors, like mortgage note buyers, need to have a clear understanding of not only their own investments but also of the broader real estate and economic world.  Your decision on whether to put up your own money would vary widely based on differing assumptions of property values declining 20% over the next five years, versus those values climbing by 20% over the same time period.  As a mortgage buyer, I’d like to know what interest rates will be over the next few years so that I calculate my rate of return appropriately and with the right risk parameters.

Of course, there is no way to know trends in advance, so we can only make educated guesses and try to cover our downside risk.  Even the smartest economists and market analysts have been wrong more often than right over the last five years, so it is perilous to make forecasts over any lengthy period of time.  I’ll give it a shot here anyway, and maybe someone will come back to me in 2016 to tell me how right or wrong that I was.

Predictions

My line of thinking is that it took a lot of years to get ourselves into this mess so it will take a long time to get out of it.  No matter who wins the election next November, we will still be scrambling to get out of the current economic wilderness at the end of their first term in November 2016.  The country’s total debts will be worse than today, with the politicians still dickering and perhaps putting in place weak deficit reduction plans.  Interest rates will be much higher than they currently are as U.S. and European country debts stay out of control and thus pose more risks.  Unemployment will come down slightly, but still remain at 7.5% or higher.  Rioting across the U.S. will increase dramatically from the current “Occupy” protests as the population grows increasingly frustrated.

What will this mean for real estate?  Well, not much to smile about.  High unemployment and high interest rates will mean less demand for housing, so lower property values.  State and federal governments will pass laws to make foreclosures more lengthy and expensive, which will make investors and banks alike more picky about what they will buy.  In general, politicians will feel like they need to bend over backwards to appear consumer-friendly, making an already challenging environment even more treacherous for investors and for business.  All in all, the real estate market will be seen by the general public as difficult and a poor place to invest.  For savvy investors, there will be plenty of opportunities to make big money as long as they have their eyes wide open to the risks.

On a positive note, the short term outlook for real estate and the stock market should be more stable, as the administration “shines the apple” prior to the next election.  After that, reality will strike hard.

I certainly cannot guarantee the accuracy of my opinions, but am letting them guide me through the current environment.  Over the past five years, I have been right much more than the “experts”, as I am not political, not beholden to any organization, and cannot be bribed.  Whether you agree or disagree with my forecasts above, your comments are welcome.

This Article is Copyright © 2004-2011 BiggerPockets, Inc. All Rights Reserved.

Real Estate in 2016

Economic Highlights of the Past Week

 Real Estate
*22.5% of all U.S. homes (nearly 11 million properties) are still underwater, down from 24% a year ago.  Nevada at 60% and Arizona at 49% are the “leaders” (9/13/11 Housing Wire)
* FHFA, regulator of Fannie Mae and Freddie Mac, is considering whether to allow refinancing in excess of 125% (9/12/11 Mortgage Daily)
* Fitch downgraded several homebuilders, including knocking KB Home from B+ to BB- (9/12/11 Housing Wire)
* Mortgage servicers started the foreclosure process on 78,800 properties in August, up 33% from the month before but 18% below the previous August, just before the robo-signing scandal (9/14/11 Housing Wire)

General
* The income of the typical American family is roughly where it was in 1996, adjusted for inflation (9/14/11 WSJ)
* Retail sales in the U.S. were flat in August (9/15/11 WSJ)
* A record 46.2 million Americans are below the poverty line (9/13/11 MarketWatch)
* Unemployment-benefit applications rose to 428,000 (9/15/11 MarketWatch)

Two articles in the Wall Street Journal (9/13/11) earlier this week highlighted the severity of the economic and unemployment situation in the U.S., how the government continually demonstrates its ineptness, and the country’s lack of a cure for its current ills.  Although these stories may at first seem to be interesting abstractions for real estate investors, they actually point out current and future problems for the industry.

The first article, titled “Student-Loan Defaults on the Rise,” noted that default rates on student loans are up sharply in recent years.  As of September 30, 2010, 8.8% of federal student loans whose payments began coming due during the previous fiscal year were in default.  Pew Research found that most of the problem comes from for-profit colleges, which represent only 9% of all students but 25% of Federal Pell grants and loans, and 44% of all student loan defaults.

A study by Rutgers University found that only 53% of students who graduated between 2006 and 2010 had full-time jobs.  This ties closely to an article that I wrote last June citing research showing 22% of 2010 grads are unemployed and 22% work in jobs that don’t require a college degree.  Current high-school students apparently are not getting smarter than their older peers.  A 9/15/11 WSJ piece tells of how SAT reading and writing scores hit a low for the 2011 graduating class, with only 43% of students being ready for college.  When most of the younger segment of our adult population carries large student loan balances and cannot get well-paying jobs, this has a dramatic impact on sales of starter homes.

A 9/13/11 WSJ opinion piece by James Bovard reflected on how federal government job training has been an utter failure.  He noted that between 1961 and 1980, the Feds spent tens of billions of dollars on federal job training and employment programs without keeping any meaningful statistics.  A 1982 job training act called JTPA went beyond a waste of money, as the young trainees were twice as likely to be on food stamps after the program as before, partly because the training included a section on applying for government benefits.  A 1993 study of JTPA found that those who participated in the training had 10% lower earnings than a control group.  By the way, the Georgia Work$ program that the current administration wants to emulate has produced less than 200 jobs this year. 

What does this mean for real estate?  From an education standpoint, it means that weaker performing students will be going to college, and that current and future college grads are less likely to have good-paying jobs that would allow them to buy a house.  Young adults with little or no income won’t be able to get a home loan, and couldn’t pay it back if they did.

For those who don’t go to college, government training programs are not the answer.  They run up huge taxpayer bills without any meaningful skills being developed.  These folks won’t be buying a house either.

The lack of income for younger adults also affects older generations.  People who currently own a small house and want something bigger to accommodate a growing family will have more trouble selling their old house.  This impact carries right up the chain to all but the most expensive houses.  Of course, the lack of home sales naturally affects the livelihood of realtors, banks, appraisers, and everyone else tied in with these types of transactions. 

In my view, the short-term prospects for real estate in general are bleak.  If the government would stop meddling, then home prices could go to a more natural level (still lower than today) and recover over the medium and long terms.

This Article is Copyright © 2004-2011 BiggerPockets, Inc. All Rights Reserved.

How a Broken Education System Affects Real Estate

Economic Highlights of the Past Week

Real Estate

* Federal government considering  using Fannie and Freddie to refinance loans in order to  lower mortgage payments
* 30-year fixed rate mortgage average down to 4.12%, the lowest since Freddie Mac started tracking this in 1971.  The 15-year fixed rate came in at 3.3% — also a record low (9/8 MarketWatch)
* Labor Dept. is investigating pay practices at many top home-building firms (9/8 WSJ)
* Federal Housing Finance Authority filed lawsuits against 17 of the biggest banks for selling $196B of risky loans to Fannie and Freddie (9/3 WSJ)

General
* Job growth ground to a halt (no change) and the employment to population ratio dropped to 58.2%.  The unemployment rate in August remained at 9.1% (9/3 WSJ)
* Nearly 1 in 3 Americans who grew up middle class are now in a lower income rung (9/6 Washington Post)
* Euro-zone still a mess, with austerity measures in Greece and Italy being challenged
* 39% of households with heads aged 60-64 had primary mortgages in 2010, up from 22% in 1994 (9/7 WSJ)
As I write this blog a few hours before President Obama addresses the nation and tells us his plan this time to cure the nation’s economy, my concerns about our nation only grow.  He will propose payroll tax cuts, jobs programs, extending unemployment, etc., and none of it will help more than a miniscule amount.  If you doubt this, look at the results of previous government programs such as buying toxic assets from banks, various foreclosure-relief programs, financial regulation, home buyer tax credits, cash for clunkers, and on and on.  None of them did much more than raise false hopes and dramatically increase the country’s debt.

Congress, both Republicans and Democrats, haven’t done any better.  They, like the administration, want to be seen as doing something, regardless of the longer term costs.  Those longer term costs – meaning the country’s huge debt – will prevent any meaningful economic recovery for years.

Meanwhile, unemployment stays high and the percentage of adult Americans who are working remains relatively low.  Household debt as a percentage of after-tax income has decreased, though mortgage debt as a share of home values is quite high (9/8 WSJ).  Companies are nervous about what is coming down the pipe, so they delay hiring or major investments as long as they can.

For real estate, this is all bad news.  People without sufficient incomes or savings can’t buy properties.  Even when they think they can, the banks get stingy about giving loans to all but their best-credit customers.

While there will be pockets of the country where values may climb – parts of Texas and North Dakota affiliated with energy discoveries and sections of the San Francisco Bay Area that are close to high-tech jobs spring to mind – vast swaths of the country will see price declines.  San Diego, where I live, and several areas in the L.A. region still seem way overpriced to me and ready for another big drop.

Even areas that have historically been less volatile are going through tough times.  For instance, I owned a mortgage note on a house in Oklahoma City, OK.  The payer defaulted, so I had to foreclose and then spent a lot of money refurbishing the entire property.  The house was transformed from being a dump into beautiful living quarters, albeit in a middle/low-income neighborhood.  That house has been on the market for over three months with no offers and only a handful of interested people.  I’ve even dropped the price two times and offered owner financing, to no avail.  From discussions with other investors, it’s clear that my situation is fairly typical.

Does this mean that you should park your money in a savings account and forget about it for the next few years?  Of course not.  What it does mean is that you’ll need to be pickier about what you buy, possibly be creative with financing arrangements, and know your exit strategy.  Don’t expect a recovering in housing to save you by jacking prices back up, so your fundamentals have to be sound.

This Article is Copyright © 2004-2011 BiggerPockets, Inc. All Rights Reserved.

Selling Oklahoma

Real Estate

* The average price of a home is down almost 6% from a year ago, though up by 3.6% in the second quarter, according to Case Shiller  (August 30 Housing Wire)
* The Congressional Budget Office (CBO) estimates that Fannie and Freddie will cost taxpayers another $51 billion between 2012 and 2021 — $9 billion higher than their June estimate (August 25 Housing Wire)
* New privately owned housing starts are the lowest in recorded history, going back to the 1950’s (Dept. of Commerce)
* 6.54 million homes are either delinquent or in some stage of the foreclosure process (September 1 Dr. Housing Bubble)

General
* Second quarter GDP revised down to 1% after only a 0.4% rise in the first quarter (August 26 MarketWatch)
* Consumer spending up in July by 0.8%, though consumer confidence plunged (August 30 WSJ)
* CBO projects unemployment to stay above 8% through 2014.  Deficits will total $3.5 trillion assuming that Bush-era tax cuts expire and Medicare fees to doctors are reduced – both of which are unlikely (August 25 WSJ)

As a mortgage note buyer, I watch real estate news and trends like a hawk.  Over the years, I’ve been pulled more and  more to also closely follow general economic news.  After all, real estate does not operate in a vacuum , and is heavily affected by economic factors like unemployment, interest rates, regulatory decisions, etc.

One thing that I do not do is closely follow the stock market.  Oh sure, I generally know how the overall market and the few stocks/mutual funds that I own are performing.  But this “research” involves a few minutes per week of updating myself rather than doing any deep investigations.

The performance of the stock market lies, for me, somewhere between fascinating and disgusting.  Buying stocks feels much more like speculating than actual investing.  Given all of the bad economic news, the stock market should be well below where it is today.  Government spending programs and short-term corporate profits have kept prices artificially propped up.  My feeling when buying a stock is that I have much less information than needed to make any brilliant decisions.  The stock market game is made more risky as Wall Street and the government manipulate a lot of pieces behind the scenes.

Gold seems to be a more pure investment that can’t be as easily controlled by evil forces.  Oh sure, there can still be margin calls on gold stocks and rampant speculation, but gold still feels safer.  After all, an increasing gold price is inversely correlated with good government fiscal decisions.  So, every time that Congress, the President, or the Fed launch a new destined-to-fail program, gold is likely to go up.  The value of the U.S. dollar is being so thrashed by those folks that it takes more dollars to buy an ounce of gold.

Gold has increased in price by 11% over the past month, 47% during the past year, and 193% since five years ago.  Those are might sweet returns, especially when compared with the returns of stocks, real estate, and just about every other investment vehicle.

I’ve come to appreciate that buying gold is betting that the government will do the wrong thing financially – a fairly safe bet, if you ask me.  Congress is starting up again and the President is back from vacation, so we will see lots of new programs and political bickering, all of which will only make the country worse off.  My gut has been telling me for a couple of years to buy gold, but I’ve never actually pulled the trigger.  Is now a good time buy, with price per ounce at over $1800?  Your guess is as good as mine, though I would think it should exceed $2000/ounce by year-end, and much higher if the Fed decides to pursue a QE3.  How lucky do you feel?

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The Golden Year & Economic Highlights from the Past Week

Rarely do I come across something intelligent from any government leader associated with a monetary or economic entity.  Below, I note not just one but two brilliant pieces with which I fully agree.

The first was a speech by a region president of the Fed – of all places.  As many of us who stay informed understand, the Fed has done more to ruin the U.S. economy and run up the nation’s debt than any other entity, save Congress.  The Fed is run by academics who are quite bright when it comes to theory but less so in the area of common sense.  Even though their theories on bringing back up the economy have continually failed, they keep trying new offshoots of the same tired programs (e.g. QE2).

Three Fed presidents disagreed with the recent Fed decision to keep interest rates near zero for the next two years.  Richard Fisher, the Dallas Fed President, went further with explaining how current government policies are immobilizing business.  For businesses both large and small, the uncertainly of the general economy, fiscal policy (including the debt ceiling debate), regulatory policy, etc. preclude them from being able to properly plan.  Everyone knows that federal spending will have to decrease and tax revenues will need to go up, but nobody knows when these will kick in or what form that they will take.  How does any business person plan in that type of environment?

As a mortgage buyer, I can relate to these concerns.  Every time that I see an opportunity to buy a mortgage note come across my desk, I hesitate and have an internal debate about whether I should be buying any more mortgage notes at all.  Will the real estate market crash?  Will unemployment spike to such a point that many of the notes go into default?  Will federal or state bureaucrats make it even more difficult to foreclose on a defaulted property, thus causing me to lose my investment?  Many other businesses have similar concerns which cause them to freeze hiring and minimize new investments.  I doubt that this climate of not knowing will change over the next year, and probably not even after the 2012 elections.

The second item was an article published last December by the IMF – again, of all places.  The authors ran a study finding that the two major economic crises in the U.S. over the last 100 years – the Great Depression of 1929 and the Great Recession of 2007 – had the consistent themes of (1) large increase in the inequality between rich and poor, and (2) sharp increase in the household debt-to-income rations.  As the top 1% of wage earners garnered a higher percentage share of total wealth and as the debt-to-income ratios of the poor and middle class increased while they tried to maintain their standard of living, the country’s economy started to fall apart.  This is not a trend that can continue without hitting a threshold of an angry population.

In my view, the situations for both business and the working class are likely to get worse before they get better.  The U.S. is likely to see civil unrest and outright violence, especially among youth, who are more likely to be unemployed and thus have more time on their hands.  At some point, the politicians will figure out what is already obvious to many of us.  Let’s hope that they don’t wait too long.

The opinions expressed in the above commentary are solely those of Alan Noblitt.

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Lost in Never-Ending Space