USA – The Land of Deadbeats?

Posted on March 9, 2010 by Nirav

The Wall Street Journal had an article advising homeowners who were upside down on their mortgage to just throw in the towel and walk away from their mortgage. Here’s the abridged version:

Millions of Americans are now deeply underwater on their mortgage. If you’re among them, you need to stop living in a dream world and give serious thought to walking away from the debt.

No, you shouldn’t feel bad about it, and you shouldn’t feel guilty. The lenders would do the same to you—in a heartbeat. You need to put yourself and your family’s finances first.

If you are reluctant to give up on “your” home, realize that it isn’t “yours.” If you are in negative equity, it’s the bank’s home. You’re just renting it. And right now you may be paying way above market rates. You need to be ruthless about your cash flow.

Still, when it comes to the idea of walking away from debts, many people are held back by a sense of morality. They feel it’s wrong to abandon their obligations. They don’t want to be a deadbeat.

Your instincts, while honorable, are leading you astray.

The economy is fundamentally amoral.

Whether we like it or not, walking away from debts is as American as apple pie. Companies file for bankruptcy all the time, and their lenders eat the losses. Executives and investors pocketed millions from the likes of Washington Mutual, Lehman Brothers and Bear Stearns when the going was good. They didn’t have to give back one cent of that money when the companies went into bankruptcy.

Wow, I’m speechless. It seems the greed of Wall Street has permeated down to the lower rungs of society and it’s perfectly okay to socialize your debts and losses. (By socializing, I mean the bank or taxpayer or a large group of people who are not affiliated to you end up paying for your debts/losses/mistakes/greed). Apparently its as American as apple pie. Is this the change I didn’t vote for? If everyone in all sections of society thinks its perfectly okay to default on your obligations, logically, the next question is

How much longer until the US Government starts defaulting on its debts?

Of course, the US Government cannot default, since it can keep printing US Dollars to pay for its debt. Which it is already doing. The only problem is that this increases the number of dollars in circulation and causes the currency to devalue. Sooner or later, we’re going to see a large of amount of inflation. No we may not see hyperinflation like Brazil or Zimbabwe, but we sure might see 10-12% inflation for a few years.

But 12% inflation for only 6 years would cause the price of everything to double. If you don’t think that’s possible, just look at a country which isn’t currently in deep recession, like India. Inflation in India is currently running at 9%. And over the past decade it has been running at a similar rate.

So what’s the effect on the average Indian? Highly skilled workers saw their salaries jump 10 times, while salaries for unskilled labor is up about 5 times. So everyone is better off, right? Not exactly, people living on fixed incomes basically got screwed as prices for everything else went up 5-10 times as well. It was great if you owned real assets like real estate, gold and to some extent stocks, but terrible if you owned bonds or cash. Just make sure your investments are tailored towards those investments that happen to do well during inflationary times.

Suzie Says “Pay Off Your Home Mortgage”

Posted on January 19, 2010 by Nirav

Suzie Orman is a famous financial planner who appears regularly on TV and is a prolific writer. I’m not a big fan, mostly because her ideas are too simplistic for me although they must appeal to a lot of people who have no knowledge of financial information.

But now and then she has a good nugget of information. Check out this short clip about paying off your home mortgage as soon as possible.

The only counter argument I can think of is inflation.

If you bought your house in 1980 for $50,000 and never paid off the mortgage (that wouldn’t be possible unless you refinanced the home loan along the way), the value of $50,000 today is a lot lower than it used to be 30 years ago.

But on the flip side, the mortgage interest tax deduction on $50,000 is rather small too. So maybe you should send in that extra $100 every month!

One resource I strongly recommend is How to Save Thousands of Dollars on Your Home Mortgage. You can buy the book used on Amazon for under $2.00 – possibly the best 2 bucks you’ll ever spend!

The World’s Most Expensive House

Posted on July 23, 2008 by Nirav

Anyone remember Apprentice winner Kendra Todd? No, I didn’t think so. Anyway Donald Trump (aka “The Donald”) used her previous experience as a real estate agent and had her doing some renovation work on a house he wanted to flip.

But this wasn’t any old flipper house. This was a multi-million dollar West Palm Beach Mansion that Trump bought for $41 million in 2004.

Russian Fertilizer Billionaire, Dmitry Rybolovlev, paid $95 million dollars for this property. Can you imagine the home insurance and property taxes on this thing? I wouldn’t be surprized if they ran a whopping $4 million a year.

San Diego Burning

Posted on October 23, 2007 by Nirav

Most of you have probably heard that San Diego is now in a state of emergency, due to the wildfires spreading through over 150,000 acres. Nearly a million people have been evacuated and nearly 1,000 homes have burnt down.

A similar event happened in 2004, but compared to this time, it was on a much smaller scale. Also different this time, is how the web has made a difference in relaying information and news.

Web 2.0 sites like Google maps and Twitter are being used to help spread news. Google Maps is being used to display where the evacuation zones and evacuation shelters are. Important news items like shut-down freeways and URLs can be embedded onto the map. Twitter is being used for up-to-the-minute breaking news regarding the status of fires and evacuations.

Even though I’m several miles away from the closest fire, there’s a lot of ash swirling around and the air is heavy with the smell of burnt wood. I can’t go outside for more than a few minutes without my eyes starting to burn.

Most businesses have been shut down since yesterday and everyone’s been told to stay indoors. Most hotels are at 100% occupancy so some people are prospering from this situation, although to be fair, its been reported that many hotels are offering significant discounts on their rates.

But the local economy should definitely get a boost from this. Insurance companies will suffer as 1,000 homes need to be rebuilt, but the real estate construction segment of the economy should get a boost. Rentals will be in short-supply over the next 12-24 months as these homes get rebuilt. As local retailers will profit as new homeowners will have to replace all their belongings that were lost/damaged in the fire.

I don’t think this will prop up the prices of homes in the long-run, but maybe this is the soft-landing that the San Diego real estate market was looking for?

Housing Continues To Get Worse

Posted on October 7, 2007 by Nirav

Housing continues to get worse. According to a recent article in BusinessWeek:

A strong job market, the thriving casino and convention industry, and the highest population growth in the country made Vegas a boomtown for builders. Sin City represented one of the top five markets.Today, new homes are empty and communities half-built. The number of unsold homes has reached as much as 48,000, by some estimates, up from a more or less steady level of 10,000 over the last several years. “Builders have a glut of houses that’s going to weigh on home prices for awhile.” says Dennis L. Smith, president of Home Builders Research Inc., a local consultancy.

Mike Alley has gotten whacked hard by the area’s declining housing market. In the spring of 2005, Alley, an independent real estate agent in Racine, Wis., moved to Las Vegas, lured by the warm weather and the strong real estate market. He quickly found a sales job with Pulte, where he says agents were pulling in $500,000 a year for basically taking orders. “It was nutty,” says Alley. “Houses were flying off the lot.”

A year later, he decided to jump into the market himself and buy a home. He spent a month searching, settling on KB’s Huntington subdivision. The neighborhood attracted a mix of folks, from couples just starting out to empty nesters. More important, there were a lot of families with young kids the same age as his. The $86,000 worth of upgrades, including higher-end cabinets and granite countertops, thrown in by KB Homes at a discount clinched it. Alley thought he was getting a deal: In August, 2006, he paid $360,000 for a three-bedroom home in Quayside Court, which was appraised for $415,000.

Yet even Alley, who made his living in this industry, says he was blindsided by the markdowns. Today he reckons his home is worth around $300,000. “I didn’t quite keep my finger on the pulse of what [KB is] doing in this community,” says Alley, who’s largely gotten out of the real estate business. “I’m looking at the sales data, and they were selling my model for $50,000 less even months after I bought it.”

This is another example of the fact that real estate agents don’t often know much about real estate cycles or investing. Never ask an agent if its a good time to buy. They don’t know and its not really their job. Their job is to help you select your perfect home based on your criteria and budget and their knowledge of the local neighborhoods. More importantly, they take care of the paperwork that most homebuyers find imtimidating and incomprehensible. Their job profile does not usually include providing investment advice, even if they claim they’re investment experts.

Riskiest Real Estate Markets In The US

Posted on August 2, 2007 by Nirav

A lot of people are wondering where to invest in order to catch the next real estate boom. I don’t have a ready answer for that, but Forbes magazine was nice enough to tell us where the riskiest markets are.

1. Miami, Fla.

Due in part to escalating insurance costs, Miami produced a price-to-earnings ratio that was sixth highest. Despite a loan-to-value rating around national averages, a high vacancy rate of 3.5%, and a 43% share of adjustable rate mortgages was enough to propel Miami to the top of the list of riskiest housing markets.

2. Orlando, Fla.

Its moderate price-to-earnings ratio didn’t do enough to set off an astronomical vacancy rate (over 5%) and scores in the bottom third for 90%-plus loan-to-value mortgages and share of adjustable-rate mortgages. Strong local economic indicators like job growth and immigration significantly mitigate the risk, but the city is in a vulnerable position.

3. Sacramento, Calif.

A high vacancy rate of 3.3%, which ranked 10th worst, the seventh highest price-to-earnings ratio despite consecutive quarters of falling prices, and a share of adjustable-rate mortgages in excess of 50% made Sacramento the riskiest investment in California. A very low number of loan-to-value ratios above 90% means the market can bear the stress of continued price drops should the local economy take time to absorb the slump.

4. San Francisco, Cailf.

More than 70% of the market’s residential loans over the last year were adjustable-rate mortgages, which puts San Francisco in a very vulnerable position should interest rates rise. A middle-of-the-pack vacancy rate of 2.4% is well above healthy, which means that any future price dips for the highest price-to-earnings ratio market could hurt.

5. San Diego, Calif.

San Diego has the lowest share of mortgages with loan-to-value ratios above 90%, which bodes well for any future price decreases, suggesting the city can stand some short term strain. Its problems are a 2.8% vacancy rate, the nation’s third-highest price-to-earnings ratio despite prices not yet reaching a trough, and above-90% loan-to-value and adjustable-rate mortgage shares–among the top three in the nation.

6. Phoenix, Ariz.

There isn’t one poison-pill measurement for Phoenix. A high 3.1% vacancy rate hurts, but so does the 10th-worst price-to-earnings ratio, despite significant downward price pressures over the last year. Adjustable-rate mortgages rank eighth-highest of cities measured and loan-to-value ratios above 90% are in the middle of the pack. The question is whether Phoenix’s labor force and local economy, which is highly tied to the building industry, can sustain a prolonged slump.

7. Kansas City, Mo.

Things look dicey for Kansas City. Vacancy is above 4%, and the share of mortgages with loan-to-value ratios above 90% is the worst of the cities measured. The housing market is strained and ill-equipped to handle any future price declines. At least, with its low price-to-earnings ratio, mortgage costs are little compared with what one could earn renting the property.

8. Cincinnati, Ohio

The share of adjustable-rate mortgages and those with loan-to-value ratios above 90% usually have an inverse relationship. Not in Cincinnati. The city has the 5th-highest share of 90%-plus loan-to-value mortgages and, at 30%, an above-average share of adjustable-rate mortgages. This exposes the market to both price-decrease problems as well as interest-rate hikes.

9. Chicago, Ill.

Chicago is a traditionally stable market, but is currently under pressure. Its 2.3% vacancy rate isn’t unmanageable, nor is its price-to-earnings ratio, which is the 12th highest nationally. Chicago’s problem is a very high share of adjustable-rate mortgages (45%) and a middle-of-the-road share of mortgages with loan-to-value ratios above 90%. Having a high share of one is sustainable if there’s a low share of the other, but in a scenario like this, both lenders and borrowers have elevated risk.

10. Denver, Colo.

Vacancy is high, at 3.7% – it’s the list’s fifth worst, which means that the city has a ways to go before it experiences price recovery. Adjustable-rate mortgages comprise 40% of Denver’s mortgages, which exposes a market that’s already struggling to problems if interest rates should increase.

I’m not sure if I’d invest in any of these cities, but just in case there are any concerns, they’ve also included the Most Overpriced Cities. The top three cities are

1. San Diego
2. Miami
3. Sacramento

which incidentally are also amongst the least affordable, along with Los Angeles and San Francisco.

I definitely wouldn’t be buying in any of these 5 markets, whether for investment or as a personal residence.

In other interesting news today, Beazer Homes (BZH) is rumored to be facing bankrupcy.

American Home Mortgage (AHM) was up today, jumping from $1.25 to ~$4.60. It closed the day with news that it would close down tomorrow and the stock dropped in After-Hours trading back to a $0.72.

CFC and WCI, both of which I lost money on shorting too early were down and are likely to head lower in the long term. In the short term they’ll probably bounce, just like IYR. I had sold naked calls on IYR, which I closed out on Tuesday for a decent profit. Since then IYR has bounced up again. I look for another entry point and buy SRS instead this time.

Tax Proposal Could Wipe Out Housing Market

Posted on November 29, 2005 by Nirav

I get periodic emails from John Burns Real Estate Consulting.
Today’s email was particularly enlightening. I’ve reproduced it below and I recommend everyone sign up for it.

Tax Proposal Could Wipe Out Housing Market

Executive Summary

You may be aware that the Bush administration is proposing to eliminate the tax deduction on mortgages in excess of $227,000 to $412,000 (depending on metro area). The proposal also reduces the tax break on all mortgages to a 15% credit. While those of us who live in expensive housing markets initially believe that the odds of this passing are next to zero, especially under a Republican administration, we need to remind you of a couple of things:

1. The vast majority of Senators and Congressmen represent areas where their supporters have mortgages less than $227,000. The median existing home price of a home purchased last month was $220,000.

2. In 1986, Congress (under the Reagan administration) passed a tax reform bill that reversed tax benefits created in 1981 that encouraged apartment construction and investment. An 81% increase in multifamily construction from 1981 to 1985 was followed by an even steeper decline in construction.

3. In 1989, Congress passed the FIRREA Act, which effectively wiped out the capital to the home building industry and resulted in a 20% reduction in single-family construction in a 2 year period. A significant Congress-induced reduction in defense spending didn’t help either.

4. In 1997, Congress (under the Bush administration) passed a tax cut bill that encouraged investment in single-family residences. The law has created tremendous wealth for households and investors alike, and helped deplete the IRS coffers during a period when government spending is growing significantly. Since 1997, single-family construction is up 53%.

What would the passage of the proposed tax law due to the new home construction industry? For those who say “but the demographics for single-family housing are awesome,” we point out that those same demographics supported apartment construction in the 1980s when the younger Baby Boomers were graduating from college. The demographics and mortgage rate environment have been phenomenal, but they haven’t created a 53% increase in demand over an 8-year period.

Conclusions
A stable housing market is in the best interest of almost every household in the country. In the past, it has been elected officials that have created booms and busts. Let’s encourage the elected officials to leave the housing market alone or, at a minimum, implement changes over a long period of time instead of the immediate “phase in” of radical changes that has occurred in the past.

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