Category Archives: Real Estate

Things You Should Consider when Investing with Partners

Investing with a single partner or as a group is a challenging task. This will involve structuring the right entity as well as understanding the goals of every stakeholder. Having said that, investing as a group can be a success. You can take advantage of opportunities in which you would not otherwise have access to. Investments that require a huge capital investment would be completely out of your reach if you had to go it alone.

When investing with a group, you have more bargaining power. For example, let’s say the group enables you to bring a larger down payment to the table. With a larger down payment, you can take a tougher stance on negotiating on price and other terms. You will, in addition, have more alternatives simply because there are far more properties within your reach. Many of these properties are such that most competing investors cannot afford them because they are acting alone. Another important facet of this idea is that larger properties often have much better cash flow than a single family residence that you convert into a rental. As a side note, when economic conditions are healthy, it can be difficult to find a single family residence that offers good cash flow for a reasonable down payment. Multi-family properties, on the other hand, typically offer good cash flow.

Partnering with other investors can also help you diversify. Instead of using all of your own money in a single property, you can spread your money across different properties with your partners. This would protect you from an unanticipated occurrence wiping out your entire investment.

Next, you should consider the goals and motives of your partners. Everyone has slightly different expectations, so it’s vital that you continuously communicate with your partners. This is important not only before you decide to pool your funds and invest but also you need to maintain the relationship over time. No partnership is without legal risk. However, with good communication and relationships, you can reduce this risk considerably.

Finally, you need to decide on what business entity to form. You generally have three choices which are a partnership, limited liability company (LLC), or a corporation. A partnership, meaning the business entity not the act of forming a group, generally offers no liability protection. Therefore, it is best to either form a LLC or a corporation. A LLC is generally the easiest to form and has the fewest requirements with regards to formalities and record keeping. This is the best entity choice for most investors. However, the best choice will ultimately depend on your specific circumstances including your income tax situation. You should seek professional advice from both a legal and tax advisor.

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Another Housing Development In Las Vegas. Really?

Being “ground zero” in the real estate crash, a new 7,000 residential development with a business park has been planned. In addition, this new development will take place near Red Rock Canyon – which is one of the only outdoor recreation areas near the Las Vegas metro area. The Climbing Narc blog states:

Other than the fact that this development seems illogical given the current status of the Vegas economy, it would have a direct impact on the outdoor experience of any and all users of Red Rock.

SaveRedRock.com claims:

The plan does not honor the land use and zoning plans for the area. Nor does the plan honor the local, state and national commitments that led to the creation of the Red Rock Canyon National Conservation Area, an area near and dear to Las Vegas that has become world renown for it’s hiking, rock climbing, cycling, nature walks, photography, and natural tourist draw.

This concept plan also defies reason and economics, asks commissioners to jump the Las Vegas infrastructure five miles from what is readily available, adds 7,000 more homes in Southern Nevada when 20,000 homes sit vacant, proposes major competition to our local university system, and adds 20,000 or more people in an area of drought.

The decision to allow this is a poor one – both from a business standpoint and an environmental one. The homes that will be built will be of the more expensive variety. This comes at a time in which expensive homes are taking up an increasingly larger chunk of foreclosures.

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Ritholtz Says Home Prices are Still Too High

“The data suggests home prices will continue to drift lower for a couple of years – maybe just go sideways for a decade.”

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The federal government is looking to rent foreclosed homes that are owned by Fannie Mae and Freddie Mac. This is completely absurd. The government, being poor allocators of capital and poor investors, thinks it would be better off renting homes rather than selling them. Are you kidding?

Investors are buying most of the foreclosed homes anyway, especially in the most distressed markets. Investors, being much more savvy financially then the federal government, will buy and rent them anyway. If the government engaged in the’ buy, rent, sell business’, my guess is that it would be so inefficient that it would create another money pit for taxpayers.

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Why the Government was Responsible for the Housing Problems

Efficient Market Hypotheses (EMH) – the notion in which asset prices always resemble an sense of balance was demonstrated to be inaccurate in real estate markets during the bubble period. Property costs traditionally had been a reflection of the region’s economic climate. When the economy was doing well, prices would certainly climb until additional residences were built. Afterward, prices would reach a plateau as supply would match the demand. Declining prices, people used to think, were very rare because whenever inventory went up too fast, then developing would simply stop and developers could possibly go out of business. One other popular delusion had been that if anyone paid out too much for a home, it could not get past the appraisal procedure; thereby resulting in not being able to qualify for a loan. The offer would basically fall through or even be renegotiated.

Long periods of rising price trends are emotionally self-reinforcing. “Real estate prices always goes up” became the prevailing bias and resulted in the real estate bubble arriving at an extreme. The more prevalent the bias, the more the speculative funds that the bias draws in.

Crowd psychology is often incredibly crucial with regards to what ultimately transpires in a real estate market. George Soros believes that markets are always biased in one direction or another and markets may effect the incidents they anticipate. This generally leads to a temporary illusion that investing arenas are generally accurate. The truth is, the market merely becomes more unstable.

Precisely what does this have to do with government regulations? A lot. Initially, governments will do practically anything to defend the present model during the boom portion of the economic cycle. Low lending standards are a typical symptom of an over-heating financial sector. Furthermore, financial institutions were allowable by law to be greatly leveraged. Leveraging can result in greater financial gain, but the reverse is definitely true on the downside. When leveraged at a ratio of 40 to 1, a relatively minimal drop in actual value is, actually, all it takes for a portfolio to become worthless.

At the peak of the bubble, politicians had been quick to publicize the prosperity of record levels of ownership. In reality, the situation was such that lots of individuals bought houses which they could not manage to pay for. The housing mania also brought about a great wealth deception, causing a negative personal savings rate. Folks felt financially safe due to the large amount of equity they were building in their properties. The fundamentals didn’t affect the bias, but the bias affected the fundamentals. A false sense of security was the main trigger that eroded the foundation in the real estate market.

The aftermath of the economic downturn in 2001 caused the Fed to bring about artificially low interest rates with the purpose of strengthening the economy. Lending money under the inflation rate results negative real interest rates. Assets that have relaxed financing requirements and low interest rates doesn’t make them less expensive. In reality, cheap financing results in prices to increase. Cheap money impacts selling prices. That is why it’s really a big misconception that low interest rates are always a good thing.

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Housing is Still Seeking a Bottom

The housing market is still sputtering along.  Here is the latest:

  • Case-Shiller index down 4.5%
  • Availability of credit continues to drop
  • High unemployment – job growth was nearly flat in June
  • Psychology – people continue to “hold out” for lower prices

The video below shows the enourmous headwinds that housing prices face when they recover from a bubble. In the past, prices “overshoot” from an extreme high to an extreme low. It will take years for population growth to soak up the excess inventory.

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Leverage is Your Friend Given that the Finance Industry is Returning to Normal

A smaller down payment and a loan sounds threatening, right? Not necessarily, as you are going to discover. The last boom-and-bust cycle was unmatched in the history of residential real estate. Within a typical market, leveraging is an excellent thing, particularly if you are a real estate investor.

By using leverage, you may build a large return on your investment. This is due to the fact that you have much less money tied up initially. If you purchase an investment for only twenty percent down, you’ll be able to possess a great deal of value.

In today’s market, there are numerous regions where it’s much cheaper to purchase rather than lease. In many of these places, it’s actually not unheard of to discover people getting more than 20% yield on cash flow alone. Throughout the bubble years, the opposite was the case. If you obtained a rental property as an investment during this period, then you know upfront that the rents you were paid failed to even take care of the loan payment. You needed to “feed” the property every month since you didn’t receive enough revenue to pay all the costs.

When it is less expensive to buy than to lease, there’s something wrong with the current market. Down financial markets are wonderful possibilities with regard to investors since the slow market will work to your advantage. In the present environment, lots of individuals are not able to get financing or have zero dollars for a down payment. Therefore, investors step up to help make up for them.

Purchasing real estate is an effective hedge against long-term inflation. In the long run, the real value of all paper currencies will proceed to depreciate while real estate will maintain real value in real terms. Right now, we’ve got very low interest rates that offer the opportunity to secure a lower rate. When inflation goes up, and it eventually will, you can raise rents while repaying the loan with cheaper money.

Also, does this imply that real estate investing is easy or that you should try to buy without a down payment? Definitely not! A 20% down payment is now an absolute minimum unless you locate a seller that’s willing to carry the note. In fact, too much leverage can be dangerous as many of us have discovered. You should aim for at least a five percent return on cash prior to investing. This consists of all obligations connected with the asset. A lot of inexperienced buyers leave out vital expenditures including vacancy loss and routine maintenance. You must think about all obligations. When you run the numbers, you’ll find that a bigger capital investment can often be necessary to clear the 5% cash flow yield benchmark.

In conclusion, you should utilize leveraging to your advantage. Nonetheless, you need to be practical and cautious about it. It’s also wise to reduce your risk by making sure that you will have favorable profit from leasing the property.

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Negotiating Strategy for Buying and Selling Real Estate

Negotiation is a critical element when purchasing a property. Most of the time, the negotiation process in asymmetric. In the current environment, this is not always the case because banks own a large portion of the properties. Therefore, they don’t have the advantage that a traditional seller would have. Great negotiation techniques will not always give you a huge advantage because the market sets the general direction of prices.

For instance, if you bought a house in 2006 and successfully haggled the price down below the market, chances are you still got a rotten deal! You are just a few thousand dollars less upside down than people who bought similar properties.

If you are a great negotiator, don’t brag about it. If the person you’re dealing with finds out, then they will either avoid you or tighten up. Billy Beane, the general manager of the Oakland Athletics, was featured in Moneyball, written by Michael Lewis. He eventually got a reputation for drafting the most productive players and acquiring more value through trades. Once other general managers became aware that he was so savvy, they started avoiding him. This was amplified when Moneyball was published. This is not to mention the fact that richer teams eventually copied his strategy.

If you are a small investor in a big market, chances are that you’ll never have to worry about your advantage becoming known. If you are the richest investor in a small community, then people will definitely pay attention to you. As a negotiator, the best reputation is no reputation. Don’t make ridiculous, low-ball offers. Also, when someone counters with a reasonable offer, then you should also do the same. The price you’re willing to settle for should be below your asking price anyway if you’re the seller.

Remember, your property is not worth more just because it’s yours. When you are the buyer, this is something you constantly experience. The market data exists for a reason.

It is critical that you have done your homework prior to the negotiation. When selling, you should know exactly what price you would settle for and aim to get a higher price. If you are the buyer, you should submit an offer that is reasonable but less that what you would be willing to pay. If your opponent cannot come to an acceptable agreement, then simply move on. Do not go past your limits. Just go find a better deal. Having a plan before you make an offer or list a property for sale will save you.

Auctions exist for a specific reason: to obtain the highest possible price. In an auction, there are individuals that don’t have the discipline to “stick to their guns”. They get amped over the rising prices. If a price moves past your reserve when your trying to buy a property at an auction, then resist the urge to raise your bid (even if it’s just a little bit more). As a side note, think about this the next time you are buying a car from the dealership. Ask yourself, why is the auto retail business designed the way it is? Why not just have a sticker price just like Wal-Mart and pay that price? If the dealer can’t sell cars fast enough, then adjust the price. The reason is simple: to get you to say yes and pay too much!

Using this car dealership example, take special notice when they will say that the deal will only exist for right now. This is, in actuality, never the case. The same is true for real estate. If you’re not satisfied with the current negotiation, than just walk away. There is always another deal.

In addition, don’t be too focused on price while you’re conceding on terms. Returning to the automobile example one last time, recall the number of times that the dealership was willing to concede on one item to make up for another. “Sure we’ll get you that price, but we can only give you $3,000 for the car you’re trading in.” These types of deals can cause you to accept something that is clearly not in your favor. Most times, this tactic involves the dealership selling the car for an X dollars a month payment. In reality, you end up paying more because they will extend the loan term for an extra year (or two) and it leaves room for a higher sticker price.

Finally, you must take an honest look at yourself. How well have you controlled your emotions in the past? How well were you able to treat each transaction, tenant, purchase, and sale as a business? Knowing yourself well is probably the best negotiation tactic when investing in real estate.

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Housing Bubble Unprecedented According to Shiller

Robert Shiller believes housing could fall another 10-25% before we finally reach a bottom. Housing nationwide is back to its March 2003 levels. Since this situation was so unique, it’s impossible to forecast the future with any certainty. Data from 1890 to 1990 shows that housing costs were about the same during this span in real terms. The last 20 years have been unlike any other in history.

A key question going forward will be whether or not we fall below the long-term average valuation (which is usually the case following a bubble). In every other crash throughout history, asset prices went from being vastly overpriced to being extremely cheap before the cycle was completely over.

Shiller also said that we need new financial innovation to make the financial system more stable. Unfortunately, the financial innovations of the last 20 years only made the system less stable.

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Case-Shiller Index Shows a Continuing Downtrend in Housing

Information available through March 2011 from the Case-Shiller Home Price Index reveals that home prices nationwide have dropped by 4.2% during the first quarter of 2011, after falling 3.6% in the fourth quarter of 2010. The index hit a new low with the first quarter’s data and posted an annual decline of 5.1% in comparison to the first quarter of 2010. National home prices are back to 2002 levels. Las Vegas, meanwhile, has home prices that are at 1999 levels.

The homebuyer credits that ended a year ago only prolonged the correction process. Nationally, the programs temporarily stopped prices from dropping further. However, the laws of economics win in the long run. The inbalance between supply and demand cause prices to keep deflating. Until the market absorbs the many empty homes that exist, prices will remain low. The next few years should offer plenty of opportunities and bargains.

According to the New York Times, the portion of homeowners continues to drop steadily.  2006 was the peak for home ownership with nearly 70% of homes being owner occupied. “Even as the economy began to fitfully recover in the last year, the percentage of homeowners dropped sharply, to 66.4 percent, from a peak of 69.2 percent in 2004. The ownership rate is now back to the level of 1998, and some housing experts say it could decline to the level of the 1980s or even earlier.”

Only adding to the problem is the lack of financing available. People must have better credit in order to buy in today’s market. In addition, many people are still stuck with huge loans that have higher balances than what the properties are worth. The only options for these individuals are either to continue to pay or default. Either way, people in this situation will not be home buyers anytime soon.

Now, it’s become less popular to buy a home. People no longer see houses as investments they way they did in 2006. This is tragic in a way because many properties in many areas offer over 20% return on investment from cash flow alone. But it takes a long period of rising prices to attract most investors.

Because the structural problems will not go away overnight, there’s still time to hold out and wait for the perfect deal.

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Home Builders Struggle to Compete with Foreclosures and Short Sales

According to the Associated Press:

“Builders are struggling to compete because foreclosures are forcing down prices for previously occupied homes. The median price of a new home was about 34 percent higher in March than the median price for a re-sale. That’s more than twice the markup in healthy housing markets.”

Builders’ outlook for homebuilding was a very low 16 for the month of May which is far below the benchmark of 50.  Any amount below 50 is considered negative.  Also, 118 out of 153 metro area experienced a drop in median prices. 

Consumer sentiment is also low as future homeowners hold out in anticipation of lower prices. This is another phase of a deflationary spiral.

Las Vegas has been ground zero in the housing crisis. In a Bloomberg interview, Las Vegas mayor Oscar Goodman said:

“We’re going to make lemonade out of this ‘crisis’.. by promoting our foreclosures here, and show people who are freezing to death in the middle of the country, and having the worst winter imaginable, that they could come out here [Las Vegas] and buy a home for 1/3 of the cost of 5 years ago and have a wonderful quality of life.”

Currently, we are in the second dip of a double-dip slump in housing. Many houses sit vacant despite the lack of homebuilding going for the reasons stated above. Nationally, housing prices are about at their low since the housing slump started. The rebound created from government stimulus and programs is over which is why the slump has resumed. It will take years for the market to correct because new households need to soak up the excess inventory.

In addition, the problems with bank foreclosures having a process that is too slow still persists. Many mortgages were not handled properly from the beginning which has caused a huge paperwork mess.  Now, the foreclosure process takes even longer as lenders attempt to sort this out.

The housing market is mainly supported through Fannie Mae and Freddie Mack. It will be very interesting to see what the government decides to do with them. These entities alone are propping up the market because they currently consist of almost all the new loans being written.  Without them, financing a new home would be almost impossible.  Banks don’t want to finance residential real estate and hold the loans.

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