Are we heading for a 'bubble' in Orlando Real Estate?
Orlando, FL · Member since 2014 · 93 posts · 35 votes
Are we heading for a 'bubble' in Orlando Real Estate?
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Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes
10y@Chris Romanythanks for bringing up an important topic. I'd like to expand it a bit further and point out housing prices across the nation being high (see case shiller inflation adjusted home index and compare current level to historic norm). But my post pertains to Orlando as well.
I'm new to BP but I'm not new to macro econ or real estate investing and I must say, after reading a lot of posts on BP, I'm astonished by 2 things... A. How well many real estate investors study the impact of micro econ and B. How most real estate investors totally ignore macro econ. And ironically, there's a very strong argument for the macro playing a much bigger roll in price appreciation or depreciation.
As you point out, lets look at the last crash. At a very basic level what caused it? homeowners not being able to make their payments. If homeowners would've continued to make their payments we wouldn't of had the defaults that caused the domino affect we all remember well.
So then the question becomes "why were homeowners unable to continue making their payments"? because everyone lost their jobs? No...that was a result not an initial cause. The answer is because interest rates had been artificially low for several years and when interest rates started to rise the loans adjusted, increasing the mortgage payments, making those payments unaffordable for a large amount of borrowers, regardless of whether or not they were subprime, granted subprime was a huge part of the problem. (if you have an adjustable rate loan right now just run the math on what would happen to your monthly payment if interest rates normalized and increased by 5%. Many properties owned by investors far from "subprime" would become cash flow negative). Now, if you recall, the theory was if you couldn't afford your monthly payment anymore you could just sell and no one's hurt. The reason that didn't work is because demand evaporated overnight and prices plummeted locking the homeowner/investor into a position where they couldn't sell or make their mortgage payment. Why did demand vanish? Because when you keep interest rates artificially low it pulls demand from the future into the present. In 2007 much of the demand from the future (2008,2009,2010,2011) was pulled into the present/past (2003,2004,2005,2006). Combine that with the fact that monthly payments increased, therefore the price of home that people could afford decreased (if you can afford a $950 a month payment you can afford a $200,000 loan at 4% interest and only a $160,000 loan at 6% interest), and you've got no demand.
As we all know the fed just started a tightening cycle (whether they continue to tighten remains to be seen), the same thing they did in 2007 that pricked the bubble. So what's different now? 1. Interest rates were far lower for far longer from 2008-2016 compared to 2003-2007... 2. As a result far more demand was pulled from the future than before and malinvestment was enabled for much longer... 3. Labor force participation is much lower (lowest level in decades) and wages have been stagnant, adjusted for inflation, so fewer people working at the same rate of pay, reducing aggregate purchasing power... 5. If we go into another recession (many economic indicators show we're already recession) the fed is out of ammo. Interest rates are basically zero already. This means that we have exhausted all traditional methods of softening a blow of recession. Just think what would've happened in 2007/08 if interest rates were already at zero...we most likely would've gone into a massive depression... 6. Hedge funds now own a significant amount of homes, many just like the rentals us small investors buy. Whats my point? What happens to the supply/demand balance if they have to liquidate their real estate portfolios?... 7. "Lending standards aren't as low." That myopic view may be misleading. Look at auto subprime, student debt subprime, oil subprime. Remember the only reason subprime housing debt was a big deal was because it was colateralized and sold and made the banks freeze when it went bad. People may think that bad housing debt affects only housing and bad car debt would affect only car sales. Not true. The type of debt is irrelevant if it causes banks to freeze up. Subprime car debt could crush the housing credit/demand just like housing subprime crushed car credit/demand. I could go on but hopefully that shows the importance of the macro environment on housing.
My goal is not to promote a bearish narrative. I actually currently like US rental properties as an investment. But only under certain conditions and only if you factor macro as well as micro into your decision making process. An ignorant investment that makes money is still an ignorant investment and over the long term ignorant investors lose.
Taking the macro into consideration here's my current strategy in the US. This applies to Orlando as well as any other market you know well and are comfortable with the micro conditions.
1. Only buy something where you can add value and be all in for the LTV of a current cash out refi. As soon as the rehab is done take out your equity and lock it into a 30 year fixed. If the market goes up that's great and if it goes down your equity is protected and you'll have cash to buy after prices have fallen. You get paid (the positive cash flow) to hold cash and see how everything plays out AND you participate in the upside if the market continues to rise.
2. Only buy something with a 1.3+ R/V ratio. This will ensure you're cash flow positive and you have staying power regardless of which way the market goes.
I personally wouldn't buy anything unless I could fit it into that strategy because the risk/reward doesn't make sense when compared to cash.
Having said all that I could lay out a strong argument for US housing prices, including Orlando's, going higher. I'm happy to expand on that if anyone would like me to but this post is long enough;)
I hope that helps your decision making process Chris,
George
37 Replies
- Casselberry, FL · Member since 2015 · 34 posts · 0 votes10y
I think that Central Florida fits these warnings. I have a friend in commercial real estate securities who says that the large commercial securities is starting to look shakey and residential tends to follow not far behind.
I agree that a correction is coming soon, but I do not think that we will have the bottom fall out like we did 8 years ago.
- Saint Petersburg, FL · Member since 2013 · 110 posts · 38 votes10y
Originally posted by @Chris Romany:
In reviewing the latest Orlando Real Estate statistics, there is a concern that house prices are rising so fast that they are becoming out of reach for the average citizen. If this continues, banks' loan business will eventually falter and there will be pressure on them (and the government) to ease lending criteria further (they have already dropped credit score requirements to 580 in some cases).
Does this sound familiar (2005/2006/2007)?
What do the voices of BP think?
(Just my opinion) Load up on Rentals, when the market tanked rentals did very well during that time. People that lost their homes rented apartments. People have to live somewhere!
- Investor · Topeka, KS · Member since 2015 · 1k+ posts · 1k+ votes10y
Not all stocks are worth buying and not all areas are worth investing in, at a given point in time.
- Real Estate Agent · Orlando, FL · Member since 2008 · 551 posts · 159 votes10y
@Chris Romany I think at some point the market will go back to being a normal market which is a good thing. IMHO I think the renters in our market will break before the home buyers.
- Investor · Asheville, NC · Member since 2011 · 833 posts · 499 votes10y
@Chris Romany it's a valid concern, we are certainly in a very competitive market. As you said, minimum credit scores dropping under 600 are definitely a warning sign.
However, the lending environment is still much more conservative than it was during the bubble, and I believe that will act as a deterrent to a total crash. However, I think a lot of people see a correction coming.
@John Kent, I would tend to agree. Affordable housing is a huge issue in Orlando, and it seems unlikely that rents will continue to rise at their current rates.
- Orlando, FL · Member since 2016 · 74 posts · 22 votes10y
Great topic, as I am in Orlando and was considering purchasing a home.
After viewing a bunch, making some offers and not getting them. I'm kind of coming to a conclusion that is cheaper to rent than to won. Looking at a 1600 rental in Windermere, similar property selling for 290k. How does that make sense?
Here is my post, if you guys care to chime in. :)
https://www.biggerpockets.com/forums/56/topics/278... - 10yCurtis YoderPro MemberRental Property Investor · Tulsa, OK · Member since 2014 · 241 posts · 187 votes
@Chris RomanyI have only purchased two properties locally due to these increased values. You simply cannot cash flow a rental with these high prices. On top of that I prefer to only leverage 15 years which makes it even tougher. Guess I will have to continue buying in different markets. I am not a gambler so i do not count on appreciation as part of my entry formula.
@Andrew DavisI hope you are right that the lending environment will ensure that the market does not break down again. I heard Sean Snaith from UCF speak last week at the National Entrepreneur Center regarding the economy... if some don't see the correction coming then they are not looking. Be prepared for it is the conventional wisdom and I think that is extremely good advice. CAUTION - Buying Opportunities to Come!
- Orlando, FL · Member since 2016 · 74 posts · 22 votes10y
@Curtis Yoder- how much of a correction do you think is forthcoming?
- Investor · Asheville, NC · Member since 2011 · 833 posts · 499 votes10y
@Curtis Yoder, I've heard Sean Snaith speak before, he is a smart and very funny guy. I have put out a lot of offers as well, but everything I've acquired in the last year or so has been off market. One can weather a correction if they buy right and have that ever important 'margin of safety' in their cash flow numbers. I heard Ken McElroy speak not too long ago, one of the smartest guys in the business, and the first thing he wrote on his whiteboard was CASH FLOW. Appreciation is just icing on the cake.
- 10yCurtis YoderPro MemberRental Property Investor · Tulsa, OK · Member since 2014 · 241 posts · 187 votes
@Paul GiloNow thats a loaded question! lol I really don't believe we will have a deep correction. But historically, all indicators are that we are ripe for a recession. With that said, the residential market is going to be somewhat protected as there has not been a large amount of FREE money out there over the last few years. I do feel that the new houses being built are priced too high and will not appreciate the way some think. Some of the mini areas such as Lake Nona have home selling from 130 to 160 and I don't think that can hold out. But who am I? Just a working man buying 40 to 70K houses for buy and hold. So maybe that top end of the market is simply something I don't understand.
Time will tell and it will be an interesting few years going forward. Prepare correctly now and it will not matter.
- Ocoee, FL · Member since 2014 · 12 posts · 3 votes10y
I've had my suspicions about this for awhile now but I'm still really new to real estate. I've watched prices climb in neighborhoods of interest to levels I'd never pay, even if I were a typical home buyer.
@Curtis Yoderthe amount of new houses going up in the back of Ocoee is insane. It's as if they're trying to build a Stoneybrook 2.0 around the Forest Lake course. I've heard rumors of $500k starting?
I'm going to have to follow this post over the next few months to see what comes of it.
- Investor · Saint Augustine, FL · Member since 2016 · 15 posts · 3 votes10y
Though not as high, the situation is similar in the Jacksonville area - specifically the northern St Johns county area. Many new developments coming up all starting at not less than 300K for the smallest of houses! Makes me wonder if we are lining up for a big correction.
Or is the correction going to be a blip considering that builders are not starting to build unless a big deposit is committed? Will the school district rating help muffle correction? doubts!!
- Orlando, FL · Member since 2016 · 74 posts · 22 votes10y
@Curtis Yoder - thanks for the thoughts. yeah, after searching to buy for a few month... the prices seem to be up there. so we gave up and going to continue renting... and hopefully pick up some investment properties with my deposit money. I would think that we learned our lesson and a repeat of the previous flush wont happen again, but who knows... I do like your price target... not sure where you find them, but hard to loose with 40k house.
@Aditya Var- I lived in jax for over twenty years ... st johns county has always been hott. good school districts from what i hear... but yeah.. even duva/jax is getting expensive.
- Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes10y
@Chris Romanythanks for bringing up an important topic. I'd like to expand it a bit further and point out housing prices across the nation being high (see case shiller inflation adjusted home index and compare current level to historic norm). But my post pertains to Orlando as well.
I'm new to BP but I'm not new to macro econ or real estate investing and I must say, after reading a lot of posts on BP, I'm astonished by 2 things... A. How well many real estate investors study the impact of micro econ and B. How most real estate investors totally ignore macro econ. And ironically, there's a very strong argument for the macro playing a much bigger roll in price appreciation or depreciation.
As you point out, lets look at the last crash. At a very basic level what caused it? homeowners not being able to make their payments. If homeowners would've continued to make their payments we wouldn't of had the defaults that caused the domino affect we all remember well.
So then the question becomes "why were homeowners unable to continue making their payments"? because everyone lost their jobs? No...that was a result not an initial cause. The answer is because interest rates had been artificially low for several years and when interest rates started to rise the loans adjusted, increasing the mortgage payments, making those payments unaffordable for a large amount of borrowers, regardless of whether or not they were subprime, granted subprime was a huge part of the problem. (if you have an adjustable rate loan right now just run the math on what would happen to your monthly payment if interest rates normalized and increased by 5%. Many properties owned by investors far from "subprime" would become cash flow negative). Now, if you recall, the theory was if you couldn't afford your monthly payment anymore you could just sell and no one's hurt. The reason that didn't work is because demand evaporated overnight and prices plummeted locking the homeowner/investor into a position where they couldn't sell or make their mortgage payment. Why did demand vanish? Because when you keep interest rates artificially low it pulls demand from the future into the present. In 2007 much of the demand from the future (2008,2009,2010,2011) was pulled into the present/past (2003,2004,2005,2006). Combine that with the fact that monthly payments increased, therefore the price of home that people could afford decreased (if you can afford a $950 a month payment you can afford a $200,000 loan at 4% interest and only a $160,000 loan at 6% interest), and you've got no demand.
As we all know the fed just started a tightening cycle (whether they continue to tighten remains to be seen), the same thing they did in 2007 that pricked the bubble. So what's different now? 1. Interest rates were far lower for far longer from 2008-2016 compared to 2003-2007... 2. As a result far more demand was pulled from the future than before and malinvestment was enabled for much longer... 3. Labor force participation is much lower (lowest level in decades) and wages have been stagnant, adjusted for inflation, so fewer people working at the same rate of pay, reducing aggregate purchasing power... 5. If we go into another recession (many economic indicators show we're already recession) the fed is out of ammo. Interest rates are basically zero already. This means that we have exhausted all traditional methods of softening a blow of recession. Just think what would've happened in 2007/08 if interest rates were already at zero...we most likely would've gone into a massive depression... 6. Hedge funds now own a significant amount of homes, many just like the rentals us small investors buy. Whats my point? What happens to the supply/demand balance if they have to liquidate their real estate portfolios?... 7. "Lending standards aren't as low." That myopic view may be misleading. Look at auto subprime, student debt subprime, oil subprime. Remember the only reason subprime housing debt was a big deal was because it was colateralized and sold and made the banks freeze when it went bad. People may think that bad housing debt affects only housing and bad car debt would affect only car sales. Not true. The type of debt is irrelevant if it causes banks to freeze up. Subprime car debt could crush the housing credit/demand just like housing subprime crushed car credit/demand. I could go on but hopefully that shows the importance of the macro environment on housing.
My goal is not to promote a bearish narrative. I actually currently like US rental properties as an investment. But only under certain conditions and only if you factor macro as well as micro into your decision making process. An ignorant investment that makes money is still an ignorant investment and over the long term ignorant investors lose.
Taking the macro into consideration here's my current strategy in the US. This applies to Orlando as well as any other market you know well and are comfortable with the micro conditions.
1. Only buy something where you can add value and be all in for the LTV of a current cash out refi. As soon as the rehab is done take out your equity and lock it into a 30 year fixed. If the market goes up that's great and if it goes down your equity is protected and you'll have cash to buy after prices have fallen. You get paid (the positive cash flow) to hold cash and see how everything plays out AND you participate in the upside if the market continues to rise.
2. Only buy something with a 1.3+ R/V ratio. This will ensure you're cash flow positive and you have staying power regardless of which way the market goes.
I personally wouldn't buy anything unless I could fit it into that strategy because the risk/reward doesn't make sense when compared to cash.
Having said all that I could lay out a strong argument for US housing prices, including Orlando's, going higher. I'm happy to expand on that if anyone would like me to but this post is long enough;)
I hope that helps your decision making process Chris,
George
- Orlando, FL · Member since 2016 · 74 posts · 22 votes10y
@George Gammon - fantastic write up. would love to read more, if your willing to write. Had to read a couple times to get my head around it... I'm a n00b, but certainly eager to learn. So what I get out of your post is that
1. We could be in for a bigger backlash, than the previous one, based on your comment of future demand being pulled forward due to low rates. And since rates cant really get much lower, there isn't much the FED can do to prop up the economy if it all flops.
2. Only buy if you can add value and get your original investment out with a cash out refi
3. Only buy if you can rent it for 1.3% of purchase price per month. So in other words, if you spend 100k on the property, you better be able to rent it for 1300/mo
did i get that right? :)
- 10yJay HinrichsBusiness MemberReal Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
@George Gammon nice post I would add that another issue that created the melt down was the amount of spec lending that was being done... you had Builders that could get 20 to 50 spec loans with no cash out of pocket.. You do not see this today... in any market that I am aware of .. new construction is not nearly as far over its ski tips as back then.
Also there is this thought process that owning rentals insulates one from a down turn... this may be the case in already tight RE markets to some extent.. but rentals got hit very hard as well. If you have debt and you have no renter you have a problem.. this happens when people leave an area for greener pastures.. or they move in with relatives... granted its nice to have cash flow rentals but its not a be all end all.. the safe play is to own them with little to no debt. if you need to slash rents you can.
It will be interesting to see where this all flushs out.. but the last melt down NO asset class was immune from disaster.. just look at all the apartments that were bought 5 years ago.. at very good prices.. those from many that could not make them work with vacancies etc.
- Investor · Orlando, FL · Member since 2013 · 27 posts · 2 votes10y
@Paul GiloWindermere is a great area, was a great investment opportunity that opened back in 2010 but prices have almost doubled since then- its a resilient area. We have some foreign buyers- vacation homes, snow birds etc now, but not much RE investor activity here in windermere, IMHO. I would wait for what @George Gammonhas mentioned. There are a couple of other big whigs talking about it recently too. Its definitely coming, question is when, not if.
There is a ton of new construction in the windermere-winter garden areas right now and if the bubble pops, you could end up getting a really good deal in a superb neighborhood.
- Orlando, FL · Member since 2016 · 74 posts · 22 votes10y
@Aisha H.- Windermere is nice, but its away from everything... all they have a is a publix there. :) Were looking to rent a place there for 1650/mo and also for sale for 260k. Well that certainly does not meet the 1% rule most ppl here talk about. The owner is freaking out, because they are loosing money... i would imagine. We were looking to buy... but renting seems to a much more cost effective option.
The whole bubble thing... I hope I have the patience to hold on and not get my money into an investment thats gona hurt me in the long run. I'm full time employed, so being hands on is kind of tough...
- Investor · Orlando, FL · Member since 2013 · 27 posts · 2 votes10y
@Paul Gilo well depends on what part of windermere you are talking about, have you seen the new construction and strip mall off 535 where the new construction is? I agree old windermere is not much but the prices there are also astronomical. You are right , rents are high in this neighborhood, Its actually zoned as a rural suburb and residents here wish to keep it that way, from what I have heard. Yes, currently IMHO its not a smart investment area for buy and hold due to the inflated prices. Good luck in your home search.
- Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes10y
Originally posted by @Paul Gilo:
@George Gammon - fantastic write up. would love to read more, if your willing to write. Had to read a couple times to get my head around it... I'm a n00b, but certainly eager to learn. So what I get out of your post is that
1. We could be in for a bigger backlash, than the previous one, based on your comment of future demand being pulled forward due to low rates. And since rates cant really get much lower, there isn't much the FED can do to prop up the economy if it all flops.
2. Only buy if you can add value and get your original investment out with a cash out refi
3. Only buy if you can rent it for 1.3% of purchase price per month. So in other words, if you spend 100k on the property, you better be able to rent it for 1300/mo
did i get that right? :)
1. Correct. The fed can do more QE and forward guidance but the jury's out on whether or not that will do anything other than give the stock/bond market a boost. And the one thing we do know is QE and lowering interest rates have diminishing returns if any at all. The fed could go to negative interest rates like the BOJ and ECB but that takes me to a completely separate topic of my bullish case for housing which I'll have to write when I have a little more time.
2. Exactly. Make sure it's a 30 year fixed or, if you're a sophisticated investor, a line of credit.
3. Exactly, there's some wiggle room on #2 and #3 based on your risk tolerance but you've got the idea. This gives plenty of cash flow cushion for vacancies or lowering rents even in a downturn.
*one thing I forgot to mention is regardless of macro environment I'd only consider homes in A or B neighborhoods. I know those numbers are almost impossible in those neighborhoods but that's when you've got to work hard to get deals or just realize being in all cash is sometimes a very prudent investment strategy.
- Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes10y
Originally posted by @Jay Hinrichs:
@George Gammon nice post I would add that another issue that created the melt down was the amount of spec lending that was being done... you had Builders that could get 20 to 50 spec loans with no cash out of pocket.. You do not see this today... in any market that I am aware of .. new construction is not nearly as far over its ski tips as back then.
Also there is this thought process that owning rentals insulates one from a down turn... this may be the case in already tight RE markets to some extent.. but rentals got hit very hard as well. If you have debt and you have no renter you have a problem.. this happens when people leave an area for greener pastures.. or they move in with relatives... granted its nice to have cash flow rentals but its not a be all end all.. the safe play is to own them with little to no debt. if you need to slash rents you can.
It will be interesting to see where this all flushs out.. but the last melt down NO asset class was immune from disaster.. just look at all the apartments that were bought 5 years ago.. at very good prices.. those from many that could not make them work with vacancies etc.
1. Agreed, but don't think that would've happened and/or blown up with out artificially low interest rates. And you don't see that today but unfortunately today you've got the subprime oil debt, car debt etc. that more than make up for the lack of bad debt with builders. Remember bad debt has the same affects on banks balance sheets regardless of where it was originated.
2. Agreed. That's why I advocate a strategy where you're cash heavy. If you extract the original equity and sit on the cash to deploy at an opportune time you can always use it to pay back the loan if you're struggling collecting rent to cover the mortgage. And another reason I like A/B neighborhoods (more stable rents). Finally, you're extremely sophisticated Jay so you might prefer a LOC to access the equity instead of the outright refi...gives you more flexibility. That might be tough to time for a newbie (interest rate hikes, banks yanking the LOC etc.)
3. Disagree here...cash was not only immune but gained a lot of purchasing power ;)
- 10yJay HinrichsBusiness MemberReal Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
@George Gammon you mis took my statement my point was cash was immune.. cash rides out all markets...
Also many banks that are RE heavy have zero auto debt... different lenders. but in premise I think your statements are correct.
and your correct in the day I had some pretty significant credit but no more.. have a different business model we pay cash for everything. Other than my new construction we have zero debt
- Flipper/Rehabber · Las Vegas, NV · Member since 2016 · 174 posts · 251 votes10y
Originally posted by @Jay Hinrichs:
@George Gammon you mis took my statement my point was cash was immune.. cash rides out all markets...
Also many banks that are RE heavy have zero auto debt... different lenders. but in premise I think your statements are correct.
and your correct in the day I had some pretty significant credit but no more.. have a different business model we pay cash for everything. Other than my new construction we have zero debt
1. yeah I figured ;)
2. my concern is there's systemic risk because the banks are so intertwined now. I didn't mention before because it's a bit esoteric but as you know banks margins will get really squeezed with neg interest rates. If one of the European banks pulls a lehman because of the neg interest rates, oil loans defaulting etc. that will negatively impact lending on everything including US real estate. Debt expansion is the only thing that's keeping the world economy afloat right now (especially in the US), look at a chart of credit growth vs. GDP growth since we went off the gold standard in 71 and that'll jump out at you. If anything happens that spooks the banks to tighten lending, reducing credit growth, we've got problems.
3. Smart...I personally like a little long term fixed rate debt because I think inflation will soon or later erode the real value of it, transferring that purchasing power to me from the bank (or whom ever the bank sells the paper...unfortunately that may be the tax payer via fannie freddie). But your point is well taken that any debt should be used with caution. One thing I didn't mention when I outlined my strategy is using all cash to buy the house and rehab it up front. So prior to the cash out rifi no leverage is used.
- Investor · Saint Augustine, FL · Member since 2016 · 15 posts · 3 votes10y
@george gammon that was a pretty enlightening writeup. I have a question. We are looking to move to a sightly bigger house in the next one year and rent my current residence out. Rentals in this area are good, so that is not the problem.
Given that the home prices are pretty high in this area (st Johns county), my dilemma is - do I use the equity in my current house to make a down payment on this future house or am I better off buying some rental or waiting out an year before buying - hoping that the correction will come by then?
Thanks
Aditya.
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