All Forum Posts by: Jonathan Twombly

 I wish I could give you 100 votes for this post. 

@Tyler Erickson Thank you for pulling together all this data. That’s yeoman effort. 

The data you cite is why I’m very bullish long-term on apartments. Let’s be brutally honest here. The American standard of living is declining and poorer people don’t buy homes, especially when jobs are concentrated in expensive areas and NIMBYism prevents any low cost housing from being built near the jobs. 

Just because the long term fundamentals are there, however, does not mean that short term prices are justified. Prices are only somewhat related to fundamentals. Mainly they are a function of the availability of financing and investor sentiment, which have as much to do with psychology as anything. In every cycle, optimistic investors glom onto good news and use it to justify overpaying for assets, especially towards the end of the cycle, when you start hearing how “this time is different”. It was that way with tech stocks in 1999, houses in 2007, and now with MF rentals. 

The problem with a market that is supported in the short-term by investor and lender enthusiasm is that investor psychology tends to change on a dime to the downside. 

After a crash, investors are scared, and no amount of evidence about long term strength will move them into the markets. Most people only move when they feel it’s safe, and that only happens after they see the early movers starting to cash out. That’s why rallies take so long to build. Over time, more and more scared investors are drawn in by others’ success and strong FOMO. 

But rallies always over extend themselves, and when they do, sentiment can change rapidly. Rallies take a long time to build, but crashes happen overnight. In illiquid assets like real estate, a market can literally dry up and, no matter what appraisers say, your real value on an asset can be zero, because there are no buyers at any price. 

In my own investing, I prefer to be in a position where assets are cheap and long term fundamentals are good. That means reversion to the mean works in your favor and the wind is at your back. 

When long term fundamentals are good but asset prices are too high because of too much investor enthusiasm, then the long term fundamentals don’t matter that much. If you overpay, you are going to watch your asset values drop, and they might do so precipitously enough that when it comes time to roll over your debt, you find no takers without putting more equity into the deal to cover the loss. 

Sea levels may be rising long term. But that doesn’t mean that if you moor your boat next to the water line at high tide, it won’t be beached when the tide goes out. 

These are syndicated deals, so I returned investments and cash to investors.  They only pay capital gains tax on the gain itself.

In my view, it is not worth overpaying for deals by 20% or more in order to save 20% on taxes.  Purely tax-driven investments are usually bad investments.

It is also hard to do 1031 with syndicated deals.  There are a lot of theories about how to do this floating around now, but they run the risk of getting sideways with the IRS.  Just not worth doing in my view.

By the way, not a single investor asked why I was not pursing 1031s. They wanted to capture their gains and pay some tax to keep the rest, rather than double down at the craps table overpaying for assets.

This is why I am long-term bullish on multifamily.  But I am short-term bearish on the asset class.  Just because an asset has good long-term prospects does not mean that the price is attractive right now and that now is the time to buy.  You can lose your shirt overpaying for an asset with great long-term prospects, despite what the gurus say.

One of my best friends is one of the best stock value-investors in the world.  He recently told me he has waited ten years to buy a stock he liked, because it was always overpriced.

Hopefully, we won't have to wait ten years for multifamily assets to be appropriately priced again. But the idea is the same.  You buy when you can build in a margin of safety in the price, and you don't buy when you can't.  Doing anything else is just hoping that the asset will keep going up. That's a bad bet at the end of a ten-year bull market, when prices are at all time-highs, and the major risk is to the downside.

This is the $64,000 question and, unfortunately, the answer is no.  No one can predict a crisis with accuracy. 

What you can see is stresses building in the system, particularly with prices and with enthusiasm. The higher prices go, the more it draws in the inexperienced, the greedy, and the lazy. You also start hearing talk about how "this time is different" and seeing a lot of real estate cheerleader articles making all kinds of arguments about why it's still safe to invest in real estate. You see lenders loosening their standards because all the strong borrowers are already full up on debt and getting anxious, and you see borrowers doing more and more creative financing to make deals work. (Last time around, it was adding mezz debt to your permanent debt to raise the LTV and get better returns on equity. This time around it is loans with a substantial interest-only component, because deals cannot work with fully amortizing loans.)

Once you see these stresses building up, then you know a crisis or correction is imminent.  At that point, it could be anything that pricks the bubble and causes the unwarranted confidence to dissipate. When it happens, it will happen suddenly.  So, while you cannot predict it with accuracy, you must prepare for it.  Preparing includes not investing at the top, and garnering funds and education so that you are ready and able to invest when the next bottom comes.

What could cause the bubble to pop?  Almost anything.  A bank failure.  A major scandal.  A war. The failure of trade talks with China. The Fed raising interest rates, when everyone thinks it won't.  Trump getting re-elected.  Trump not getting re-elected.  Who knows?  But if anything makes the markets skittish, then the whole thing collapses.

I'm not a mobile home park operator or investor, so take this with a huge grain of salt.  Short answer is:  yes, mobile home parks are a great investment for the long run.  I've had many discussions with people like Kevin Bupp about this on my podcast.  The supply of mobile home parks is dropping and the demand for affordable housing is rising.

Short term, however, I think mobile home parks are in the same situation as every other asset in the Everything Bubble. If you look at where mobile homes are on Green Street's Commercial Property Price Index, they are about 200% of their previous peak.  Now, certainly some of this results from the fact that mobile homes used to be an overlooked, disfavored investment.  But some of this is bubbly for sure.  For comparison, Multifamily is about 140% of its previous peak, and I think most people would agree that MF is overpriced right now.

I feel the same way about mobile homes that I feel about multifamily:  long-term bullish, but short-term bearish.  The long-term fundamentals support these asset classes. However, buying right now is a dangerous game and you need to know what you are doing or invest with someone who does.

In my experience those bank reserves will not be enough. I advise people to reserve at least 5-10% each year. 

Also remember that the lender reserve escrows create a cash flow issue that you need to be ready for. The reserves sit at the bank and you need to pay the contractors for repairs first, submit receipts to the lender, and wait for the money. And sometimes they don’t want you submitting receipts until you meet a minimum dollar threshold. You need to finance this cash expense while waiting for the bank to give you your money back. So you need your own reserve fund to do it. 

Own the property through an LLC in which you each own 50% of the memberships units (shares in LLC-speak).

You need an operating agreement that spells out your rights and duties. 

Please hire a lawyer to advise you on this. Being cheap about this will lead to all sorts of very expensive and unpleasant consequences later. 

 To echo @Serge, being on the sidelines is okay. After selling everything last month, I am. 

Remember, cash is an option on opportunity.  If all your cash is in deals bought with the rest of the herd at the top of the market you have none to use when the real opportunity comes. 

People in this business act like cash has cooties or something and they don’t want it around. I think they are misguided.  

 This is such a great analysis. 

It happened in 2008 and it will happen soon as well: reversion to the mean. 

What goes up must come down. What goes down must come up. 

I prefer to invest when reversion to the mean runs in my favor, not the other way around. 

Many people investing now require the Law of Gravity to be repealed and the Law of Attraction to be enacted in its place for them to succeed. 

I’ve got to get you on my show. Please PM me if you are interested.