All Forum Posts by: Dion DePaoli

If no repairs are needed, then there is no After Repair Value, right?  

So the property is worth $110k.  Is the Seller willing to take less than $110k?  If so, that would be where your margin 'could' be.  (I am not a fan of wholesaling though)

Interest Rate = 8.0%?  Probably not 0.08% (eight hundredths of a percent) which might as well be zero interest.  

If you do not have a signed contract with the Seller you do not have an interest in the property and you should not be marketing the property without a license as a real estate agent.  It seems you may know that but consider this a reminder.  

So the Seller doesn't want to finance the deal.  If she was willing to hold a mortgage and note she could finance the $45k and yo would have to find $65k in cash to put down.  That would clear the mortgage.  If she is not interested in that, then your only hope is to create a margin between what price she wants and a price you can sell it for.  

It is respectable that you notice there may be nothing for you to do here.  If you can't make either of those things work, cut it loose and maintain your integrity.  Nothing wrong with trying.  

If we want to consider a reality check pessimistic, then, yea sure. I didn't just get here in the industry. I was trading loans before the last crash. I have seen good, bad and ugly. I am quite comfortable in the space with assets of varying performance. You think pricing is bad right now, try buying loans as real property values rapidly decline. I have been invested in 40 different states. I traded institutionally for several years and have worked on north of $2.5 billion of NPN's. I am quite capable of being the mentor's mentor. Doing well in this space, which we can define as investing and dispositioning and making gains, has a lot to do with having realistic expectations on price, expenses and costs which translates in to time and return.

The two largest misconceptions newbies have are rooted into capital demands and time.  That is not to say you can not make a return.  Nor does it mean you can't make a large return (relative to other assets of similar risk).  If you think these assets are inexpensive you are wrong.  If you think these assets are quick you are wrong.  That is the message.  You won't be an investor in a vacuum there is a lot of institutional capital in this space.  They are compitetion not simply sources for product.  For the record, I am here and others like me have a very deep understanding of the industry.  We are compitetion too.  This is all new to you but none of its new to us.

NPN investing is NOT passive. It takes a lot of work. You have to find loans. Bid them. Buy them. Manage them through your servicer. Lots of decisions and each of them affect your time in the asset and return. They are literally called "high touch loans".

There is no magic in mortgages.  I enjoy dispelling the notions which cling to magic related to them.  I don't personally think that is pessimism.  Is there a hint of caution, yes.  I know what you don't.  I have a very good idea of what you think about loans and the attractivness as well.  I genuinely try to help newbies.  My firm works with newbies.  So I talk to a lot of you.  

Notes can be good assets to invest in.  Returns can out perform other assets.  However risk is relative there.  If you don't know what you don't know how can you judge risk?

So, come on, jump in.  Just do it with your eyes open.  Good luck.

"Mentor" - they are like unicorns.  Magical creatures capable of doing things others can not.  

@Randy Friedland, what do you expect this mentor will do to change the reality of what I described?  
You clearly came looking for a desired response/post.  Welcome to Bigger Pockets by the way.  We have a forum here on BP with tons of topics related to notes, investing and managing, etc.  Good stuff to check out.  

Anyway, I read your response as you not liking what you hear.  It sounds like you want the pie in the sky to be true.  Granted, it is not exactly detailed in regards to what you actually mean with "bigger success" and "higher on base percent".  I didn't mean to suggest you will fail but I did mean to put a cap on your return expectations and the amount of actual time it takes to work through an asset. 

I hear expectations north of 20% all the time and investment terms shorter than a year all the time.  Completely and utterly not the norm.  Growing your capital is a function of math.  The amount of time to generate a return and the level of the return.  Right? 

For the sake of conversation help us understand what you mean above and what you are in general expecting.  Frankly, @Justin Cabral can chime in as well as any other casual reader.  

Just what in the heck do you expect from this asset class?  

Specifically, what return and what amount of time to make it?  

@Randy Friedland I guess I would clear up some language in your question first.  Even with up to $200k, I would not call that making a business in loans.  You are making an investment.  If you invest in GE stock and enjoy 10% price increase, you are not in the stock business.  You simply made an investment.  It is really not all that different with loans.  

Non-performers are difficult as they are very capital intensive upfront. There is generally no periodic income. The gain comes from the sale of the REO. So to break down a realistic use of $200k you would purchase a loan for say $150k and over the course of 23 more months spend the additional $50k on advances and holding costs. Then in period 24 you need to net $280k from the sale of the REO. Poof 20% IRR. (give or take some minor math distortions)

So then two years from now you would have $280k to work with and do it all over again over another two years to end up with $392k. You are growing your investment dollars. That is a good thing. Are you going to be able to retire working with NPN's? Probably not. I would even go so far as to to say don't be foolish, you actually need the $50k in example 1 in order to earn the $80k. So you will cause yourself to be cash poor for that period of time with no other source of income.

The next lessen I suppose is returns are relative and like I mentioned they take time.  There is no common capital doubling effect in loans.  The market (the whole secondary and capital markets) bears a relative return in the asset.  You will not take $200k and double it in any short amount of time.  Further, if you set out to do that you will more than likely increase your probability of failure as you venture into more risk for the hopes of higher returns.  Frankly all one has to do is look to the second lien market where most folks are getting their backsides handed to them.  Sure, they will be very vocal about their large return on that one asset - ask how many assets they had to buy to find that one.  All the sudden what sounded like 40%, 50% or even 100% returns add up to less than 10% and in many cases are often straight losses.

Newbies don't want to hear any of this, I know.  That doesn't mean it is not reality.  Look at Paul's comments above.  One of the primary tasks is raising money.  It takes capital to make the machine and generally it takes a good amount of it.  There were huge funds who chased NPN's after the crash and are now closed.  Granite is an example of a more recent closing.  These were multi-million dollar pursuits.  The high side of the numbers above would be but one single asset.  You will need many of those before you actually turn into a business.

I am not trying to scare nor am I trying to push away interested newbies.  I am trying to get you to think in line with reality and practicality.  Base hits win ball games.  You will never make it to first base if you swing for the fence.

Well, for me about 16 years ago I had a choice to become an insurance agent or a loan officer.  I choose loans.  I worked in retail and managed two mortgage companies, a title company and an appraisal company.  I got my license.  I managed many other licensed LOs.  We had a warehouse line of credit.  I then latter went on to working with private capital making loans.  All of that gave me exposure to the secondary market.  That lead to capital investment fund management.  I operated two blind pool funds at a fixed income broker-dealer as the senior portfolio manager.  That lead to my partner and I developing software for loan investing and management and opening SDXS (my firm now) which works in the space.  How did I get here?  I guess I forgot to get off the train at various stops.  I am a bit nerdy when it comes to real estate and loans, I am fascinated by it and how it all works along with the history and future of the same.

The stark difference between my path and that of street level investors is I am not here moonlighting.  I have made loans both residential and commercial.  I have invested in loans both distressed and not distressed.  I have made money and lost money.  I have had good assets and terrible assets.  I have hit home runs and I have gotten beat by the ball and the bat.  This is not my past time, it is my career.   

The BP note forum typically only focuses on a very very small sliver of the loan universe.  Distressed loan investing.  Mostly non-performing loans or NPNs.  Frankly sometimes I wonder if this was all just a plot devised by hard money lenders to go about their day with minimal newbie interference.  I kid.  

Why do I work with loans?  Because frankly, I know loans pretty damn well.  I should know them pretty well since I have been working with them for a fairly long time.  In many different forms and capacities.  That includes loans, title, property, compliance and regulation and legalities.  

In my experience working with a variety of investors it seems there are those who have correct expectations and those who simply want pie in the sky.  The risk free rate of return is below 1.0%.  Prevailing mortgage rates flirt between 3% and 4%.  The prevailing term is 30 years.  Investing in defaulted loans takes money well above the purchase price.  Flipping loans is a zero sum game.  The loan universe is not a vacuum.  There is north of $9.9 Trillion worth of residential loans in the secondary.  JP Morgan, BOA, Wells and the likes are not just one of the big guys, they are your competitor while you don't even register on their screen.  They are willing to risk in this asset class below half of what most street level investors would.  What you want 20% from they are happy with 8%.  That doesn't include the pie in the sky hopefuls who expect >20%.  "Good stuff" is not cheap and cheap stuff is not "good".  No Seller is going to hand you an asset with an easy large return they could have kept for themselves.  Making returns takes time.  I generally think of one month as one day in the life of a loan.  Often times this disillusioned sexiness of the loan business is just that, an illusion.  If a borrower does what they are supposed to, you do nothing.  What they are supposed to do is pay once every 30 days.  Paint literally drys faster than that.

I get the question you asked all the time.  My inbox is filled with it here on BP.  I don't have a good answer and the reason why relates to what Paul said above.  What do YOU want?  Do you want a whole new filed of study?  Do you have the time to devote to actually learn?  I mean the real time, not some 12 hour course which teaches you very little about a topic which is very vast.  If you are here expecting to make riches over night, you are in the wrong place.  As the saying goes, if it was easy, everyone would do it.  This is not easy by any means and most folks are not doing it.

I do like these discussions but I have to get some work done.  Hope that helps.

Brian,

The analysis you have is flawed.

Notes are not investment accounts.  Notes do not have a withdraw rate.  

IRR is calculation that is lower than ROI as IRR considers the discount value of money. ROI tends to simply be a cash on cash return. For all intents and purposes IRR is not comparable to ROI and vice versa. Apples and oranges. You would need to convert the ROI cash flow into IRR to compare it.

A 30 year loan at 11% interest produces $485,672.84 in interest for the life of the loan.  The sum of all payments of that same loan is $685,672.84.  I have no idea how you came up with your numbers.

We can not simply compare a generic idea of stocks to a specific idea of a note investment.  All things are not equal.  Risks are different.  Rewards are different.  Stocks do not have a ceiling per se.  A stock can increase in value indefinitely.  To properly account for the stock we must understand the dividend and the price increase or decrease.  Then we must be able to quantify the risk that a stock can go to zero.  There are probably some other features but that gets us started.

With loans, we have a ceiling that is much more visible than stocks. A loan pays the interest rate charged. Loans can trade for a discount and the yield can increase this is generally an increase in risk though. That risk is typically default risk which then creates an additional capital demand to recover the initial capital. Loans do have more bottom side protection due to collateral but that is also dependent on what the loan's terms are in the first place. 100% LTV is not all the safe. Real property value can decline. Loans are generally viewed as less volatile than stocks.  It takes time to actually default it can not occur in a day.  A stock can crash in a day.  

Again, if we don't take these things plus a couple other ideas into consideration the comparison probably doesn't have much meaning.  We can use IRR as a comparison all by itself but IRR alone doesn't quantify the risk difference between the two assets.  So it becomes impractical for us to consider the comparison as an indication of what may or may not be better than the other. 

I got pinged and have some time so I will add to what Jay and Paul have mentioned.

First let's cover the actual risks:

1. Lose all of your money

2. Lose some of your money

That is actually the easy stuff to point out. The manner in which either of those two things occur are pretty numerous. The risks are also a little different depending on lien priority. Junior liens are innately more risky than first liens. That should be pretty simple to understand. Junior lien's claims to equity are inferior to senior liens. So in general there is a higher chance of not being able to recover at all due to being in a junior position as those senior positions claim all the available equity leaving none for juniors.

Past that the complexity of collecting on notes stems from two ideas the collateral and the security instrument and note. Most folks have a notion of what it takes to collect from the collateral which is the real property. Real property has a value many can understand. Most folks have access to resources which can aide in the determination of value such as realtors, appraisers, other investors or even themselves.

All that said, there is difficulty mastering recovering from real property in loans because the way real property works in note investing is not like it works in other versions of the same. As a note investor you do not have rights of a property owner nor is the property owner necessarily cooperating with you. This makes it difficult at times to get a good assessment of value and disrepair. The impact of overvaluing an asset should be pretty straight forward. You bank on getting $X out of collateral only to find you can only get less than $X which will at the least diminishes your return. In some circumstances those unknown conditions of the property, which require substantial repair and translates into larger capital demands, can become a fast track to zero profit and losses.

On the security instrument and note side of things the complexity increases exponentially. The security instrument and note needs to be made in line with compliance and regulation. You must have proper legal and equitable rights to the security instrument and the note. They also must be held and serviced properly in line with compliance and regulation. As if that is not enough, borrowers have rights, remedies and defenses against claims and actions related to the security instrument and note.

In case any of that over simplification sounds, well, overly simple, we can expand into some detail for a moment. The documents themselves need to be properly prepared and contain proper languages according to federal and state law. Further, they must be properly executed and recorded. They must contain terms which are not improper. Then they must be properly held and accounted for. Communication with the borrower must be compliant. Actions including collections, preserving and protecting interest and enforcing remedies within the documents must be done properly according to state and federal law. Then we have the borrower's rights to defend themselves against your claims, to legally discharge your debt and to redeem the property from the lien.

If most of that sounds uninformative and vague, that was my point. What you should be thinking about right now is what any and all of those things mean while not knowing what it actually means. Welcome to being a newbie note investor. You do not know what you do not know. Nobody can give you a list of what you do not know. There is no single solution for what you do not know. What you do not know is vast chasm of information that involves many different acute details of the paper, the people, the property and the process. All of those unknowns on their own are an opportunity for you to diminish your return and loss all of your money. In NPN investing, they are all in the same box.

The notion above, which we hear way too much from newbies and gurus, about there being "multiple exit strategies" when it comes to non-performing notes is very misleading. VERY misleading.

First, let's understand a distinction, exiting the asset is not the same as removing the borrower from the equation. Exiting means you are literally not involved with the asset or a derivative of the asset any further. A deed in lieu is not an exit strategy. You didn't exit the asset you simply converted your note into real property ownership. Not recognizing the difference and understanding the risks that then follow the REO is a misunderstanding of real estate investing in general. Just because a property is surrendered doesn't mean the property can be sold. Just because a property is surrendered does not mean foreclosure doesn't have to be finished. Title typically has to be clear and marketable. Repairs and holding costs take time and money. Moral of the story, a DIL is not an actual exit, simply a conversion of asset type which is then held until sale. So there goes that one.

Next, I often hear reinstatement either with or without a modification is an exit strategy. Well, that too doesn't exit you from the asset. Literally, you just agreed to stick around and work something out with the borrower. Assumptions of lasting reinstatement or a borrower going through a long period of time without re-defaulting are not anchored in reality. Most reinstatement will re-default. In most cases that should be obvious since they just spent many months not actually paying. The value of the asset post reinstatement which may or may not involve a modification are also often miscalculated. 12 payments doesn't mean a borrower will make the next 24, 36 or 360 payments. The lack of certainty of future payments diminishes the value of the loan. The greater the lack of certainty the greater the discount regardless of calling the loan "performing" or not.  So often times you either hold the investment for longer or you take a haircut.  Like I said though, the act of reinstatement or modification is not onto itself an actual exit.  So that one is out.

Next we can move on to shorts. A short sale or a short refinance. The Mortgagee will forgive principal and create an opportunity for this event to occur. Well, short refinances should be fairly easy to understand. There are no real alternatives for distressed borrowers in the credit markets today. By the time a street level investor has a chance at the loan the borrower is miles past being able to qualify for a refinance having likely been in default for many months. Credit scores will be pretty low and the mortgage account will be past due more than 60 and 90 days. On a side note, to suggest that a Mortgagee can influence a borrower's current or future FICO is irrational. Unless you plan on paying their bills for them, you probably can't "help" them improve their credit.  Not to mention, most street level investors do not use Mortgage Servicers who actually report to the credit agencies.  

So then we have short sale. It is within the power of a Mortgagee to forgive principal and allow for a sale of the property. Now before we celebrate having one alternative to foreclosure let us not forget that ANY forgiveness of principal by a Mortgagee is an income event for the borrower. So before we convince ourselves we can save the borrowers and save the world through forgiveness of principal imagine how concerned that borrower is going to be when they find out that the $20k, $50k or $100k of principal you are willing to forgive will force them to pay income taxes on the sum forgiven. In reality if they didn't have a couple hundred or thousand dollars to pay the mortgage payment they will not have thousands or perhaps tens of thousands laying around to pay the tax man.  This is also separate from a borrower actually wanting to work for you so you can get your money.  Selling property as we all know can be a little bit of a hassle.  Letting potential Buyers in to view the property.  Working with a real estate agent.  To some extent even having the stigma of having to short sell the property can cause the borrower to simply not want to make it their problem.  Mind you, while they are the property owner, they control everything not you.  Again though, once they find out they can be taxed on the forgiven sum it is probably going to be a less attractive solution for them to cooperate with you.

And so, that leaves us one strategy to fill the holes for the great majority of all defaulted loans not accomplished by the "multiple exit strategies". Foreclosure.  Ironically, it is actually the only disposition you can actually plan for and yet so many newbies want to treat it as a last resort.  It is more prudent to treat it as the primary strategy and the others simply a bonus "if" you can accomplish one of them.

Foreclosure takes time. Time means costs. The longer it takes to get through foreclosure the greater your costs will be. Along the way to foreclosure you will need to advance on taxes to protect your interest. You will need to pay for insurance to protect your interest. You may need to preserve the property to protect the value of the property and your interests. You will need to pay your legal fees to foreclose. You will also, hopefully, need to pay your Mortgage Servicer to help keep you compliant.

Bear in mind, once foreclosure is granted the property goes to auction. A Mortgagee is not entitled to the property only the sums due under the note. So the illusions of huge returns on low LTV loans are not practical. If the property doesn't sell at auction now you have more costs to repair, market and sell the REO.

As was mentioned above NPN's are probably some of the most complex assets to mess around with and have some pretty decent chances of loss. If all you are hearing is pie in the sky - huge returns, short investment terms and all the other rosy talk - chances are the person talking has little to no real experience. You probably should not take advice from them.

Sharing equity through a promissory note is not typical or ordinary.  If that is your wish, go see a lawyer as the equity share arrangement will need to adhere to state law.  The instruments are either Shared Equity Note or Mezzanine Financing.

There are some other ways to do this and we do not have all your details so seek counsel.  When everyone makes money and gets along there is no issue.  When things go south and money is being lost or folks don't get along that is when you need your instruments and contracts to work properly.  DIY internet forms are not the answer.

@Don Konipol

That was good stuff.  That said, Granite is closed.  My firm actually consulted Granite when they were first starting up.  Granite's model was to buy the tail end of pools from institutions, mainly Citi and offer them under a stressful sales environment.  Something we advised against.  This allowed them to really just target low value and lower price assets with little actual actual planning.  In that, Granite came on to the market and had the first real platform of sales, opposed to broker joker circles, where the investors were all pitted against each other on a first come first serve basis.  All bids had to be final when delivered.  That also means as an investor you could spend money on due diligence and finally get to the final bid to find out the assets traded weeks ago.  

In a recent offering circulated by Eddie Speed, they do the same crap.  Final bids only on first come first serve basis.  They even had pricing for members and higher prices for non-members.  Something I find laughable and appalling at the same time.  In the last couple of offerings that we have seen from them they are not even selling loans, they are selling land contracts.  I guess they don't expose that in the $15,000 seminars.

@William "W.J" Mencarow

What has been the general characteristics of the loans you have purchased?  

Only having one foreclosure, not knowing how many loans in volume that means, through the RTC days and through the '07-'08 Crash is pretty astounding.  

I would presume by saying you haven't foreclosed doesn't mean you have not had defaults rather the dispositions you managed were alternatives to foreclosure.  So you are buying loans with good LTVs and decent borrowers with income and assets to support the loans, right?  

I mean Fannie Mae's historical default rate is less than 3%.  It was much higher after the crash though.

It seems note investing podcasts seem to, at times, miss important details which much of the audience doesn't stop to contemplate.