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larrywww

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Reply with quote  #1 

If it wasn't bad enough that returns on alot of classes of real estate (including multifamily) are in the low single digits, now there is a movement afoot to institute rent control.

Bruce Norris interviewed someone this week to report on the progress of various initiatives to make this law.

Bruce indicated that Proposition 13 permitted a onetime transfer of basis for a homeowner----however, the problem is that homeowners are living longer---and there are some initiatives that address the problem of what happens when a 2nd /3rd or other transfer is made---there are some proposals that would modify Prop 13 to permit unlimited transfers.  (I am just relaying what was said in the podcast----keep in mind that your current rights may be dictated to some extent by what the county assessor's office may or may not do.)

Mention was made of Propositions 60/90 which provide as follows:

"What is the difference between Proposition 60 and Proposition 90?

Proposition 60 allows transfers of base year values within the same county (intracounty). Proposition 90 allows transfers from one county to another county in California (intercounty) and it is the discretion of each county to authorize such transfers."

I have already been advising investors to exit the market (I'm not claiming that Bruce Norris is advising this), but the rent control angle is a game changer by itself.   I realize that rents have been increasing----and that can't last forever as a practical matter----especially in some of the highest appreciating areas like the Bay Area.

Apparently, there was a law passed in the 1990s called Costa Hawkins such that counties / cities dont have the right to institute rent control on new construction (again, without a repeal of this law by the California legislature)-----and apparently there are a number of cities / counties that want to do that.  If it ever were repealed, then it would be up to the cities / counties, etc.   

Bruce's guest (the President of IVAOR) indicated that rent control was maybe unlikely to come to the Inland Empire even if Cost Hawkins was repealed---but the Bay Area, L.A. area and San Diego would find alot of support for that.  (This is based on the speaker's assessment of the current legislative environment, who knows what will happen in the future?)

Of course, the other problem is that affordable housing is nowhere on the horizon anywhere in California----no matter what laws have been passed by the California legislature (including the authorization of ADUs to open up the housing market)---it doesn't seem to have worked to any great extent so far.  (Has anyone tried to build an ADU?).

Bruce Norris mentioned that John Burns (the building expert) has estimated that an $800,000 project in California would cost only like $350,000 in Florida-----and that price difference isn't going away anytime soon.  It may be partly due to overpriced land, but impact and other fees are part of the reason for this discrepancy.

But I also know that when rent control became the law in Santa Monica decades ago that suddenly the real estate became harder to sell.  And because rent control could freeze returns that were dramatically at variance with market rents, landlords have sought various exceptions to take their units off the rental market (maybe by having a family member move in, or otherwise---or converting an apartments to condos so it's no longer a rental, etc.).  Also, the landlords would have zero incentive to repair their units----since they are frozen in below market rents, etc.

The other problematic development is the rising mortgage rates---it's hard to have rising mortgage rates with such low returns.
And there is a great deal of economic uncertainty to add to the total mix.

Even though Bruce Norris doesn't think the SFR market will crash in the next year or so, there is no guarantee what will happen with multifamily and other asset types.   To me what is bizarre about this cycle is that if you wanted to buy and hold there is no assurance how long this would occur before we get into a reasonably priced market that would permit most investors to start buying real estate again----and if we are going to experience relatively flat growth, what is the advantage to managing something that isn't appreciating anytime soon---and where you also can't buy anything anytime soon.  (At least if a buying opportunity was on the near horizon, you could 1031 into something attractive--but that also is NOT on the horizon).

We also seem to be transitioning to a softer market.   This isn't by any means a stampede----but I heard that London's housing market----which has led the way for a very long time---- may finally be retreating to some extent.  https://www.bloomberg.com/news/articles/2018-05-23/london-s-long-housing-boom-is-over-is-a-bust-coming.  It has been an astonishing run as mentioned in the article (quoted below):

Since 1973, the year Britain joined the European Union, the average London home price climbed from just under 13,000 pounds to about 474,000 pounds—a 36-fold increase, according to Nationwide, the U.K.’s largest building society. The last big reversal occurred during the financial crisis, when prices dropped about 20 percent. Since bottoming out in 2009, they’ve nearly doubled.

The declines this time have been modest. London recorded its first annual decrease in prices in more than eight years in February, a drop of 0.1 percent, revised government data published Wednesday showed. Prices in March slipped 0.7 percent from a year earlier. That said, costlier central districts registered sharper falls and forward-looking indicators, such as the time it takes to sell homes, point to further declines.

Time to Sell

London homes are taking longer to find buyers

Source: Hometrack

Pessimists fret that some of the pillars that underpinned the long London property boom—from rock-bottom interest rates to generous government support—are under threat.

In the U.S., 10-year Treasury yields have reached the highest in almost seven years, narrowing the premium that real estate has commanded over bonds for the past decade. That dents the relative appeal of London property, especially for those from outside the country.

International buyers made more than half of home purchases in prime central London and almost a third in greater London in the second half of 2017, according to broker Hamptons International. Both overseas and U.K. investors who purchase homes to rent out have become an increasingly important part of the London market over the past decade, lured by higher returns on offer from rental property at a time of low interest rates.

[600x-1]

“What happens to real estate if real interest rates go up? In the most simple form, values go down,” said William Hughes, managing director and global head of research and strategy for real estate and private markets at UBS Group AG’s asset management unit. “If the political situation in the U.K. causes the economy to struggle while global rates were to rise, then that would be a double whammy for London.”

Changes the government made over the past few years to deter property speculators could also weigh. The reforms included an increase in sales taxes on second-home purchases and changes in the tax relief for mortgage interest on rental homes. One popular initiative that’s helped support the property market, the government’s “Help to Buy” loan plan, is slated to end in 2021, unless it’s extended again.

And looming over everything is the potential impact of Britain’s withdrawal from the European Union. Less than a year from the planned exit date, the terms of that rupture remain as murky as ever.

Global City

Proportion of London homes bought by international buyers

Source: Hamptons International

“What happens if rents fall 20 percent because we had a bad Brexit and no one wants to come here?” said Richard Donnell, director of research and insight at Hometrack, which provides data and analysis on the property market.

The city has had a good run. London’s best districts have seen prices climb by more than 500 percent since 1989, according to an index published by broker Knight Frank LLP. That compares with an almost 350 percent increase in the average value of condominiums and co-ops in Manhattan in that period, data compiled by Miller Samuel Inc. show.

Not everyone sees Brexit, or even higher interest rates, upending the property market. The pound’s slump after Britons voted to leave in June 2016 cushioned the blow by making London homes more affordable to buyers from abroad. The prospect of a weaker currency remains an insurance policy against a disorderly Brexit, said Savvas Savouri, the chief economist at Toscafund Asset Management LP. He’s optimistic about the housing market and supports leaving the EU.

He does see one big political risk beyond Brexit, however: the potential ascension of Labour party leader and self-proclaimed socialist Jeremy Corbyn to the premiership. At last year’s general election, Corbyn promised to introduce rent controls, among other proposals that harken back to a less business-friendly era.

Should a Labour government materialize, “the pound will crash,” Savouri said. That would lead to “a genuine stampede” of capital out of the U.K., he said.

All of these “what ifs” complicate matters for owners like Lance Paul, who’s considering the offer for his Shepherd’s Bush home. He wants to raise money for medical bills, to top up his modest pension and to move closer to his son, who was forced out of London by sky-high home prices.

“We want to move now—so we have to accept that if we hung on we could get more,” he said. “But I don’t think we would be out of this house for another three years.”

Does anyone strongly disagree?  Obviously, each investor has the right to make their own decisions in this regard.

Nyou

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Reply with quote  #2 

100% agree!!
But 1,tax for sale.2,there is nothing on the market significantly better 1031 into something else
[confused]
larrywww

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Reply with quote  #3 
As if right on cue----stock market lost around 400 points (1.58%).

Everyone's getting nervous!
brycewheeler

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Reply with quote  #4 
The old real estate saying is that the you make your money when you buy, not when you sell, (meaning you need to buy it low enough to have a cushion + good opportunity for appreciation long term).  That said, most of coastal California is quite near a topping price point in the next 2 or 3 years years IMO.  However the Inland Empire area of California which you know well Larry may have some juice left if a Calif. investor wants to invest closer to home.

Otherwise Larry, I believe you were speaking well of the Raleigh, North Carolina area for the US as having pretty good prospects, and they are probably still closer to the middle of their real estate cycle than the top, which would also be the case for most of Florida for adventuresome investors.  Of course its nice to have some contacts in those areas for guidance and management.  

A few years ago, I had a good contact and manager (my daughter) in the Atlanta suburb area which was similar to the Releigh NC area in terms of strong rents, strong appreciation prospects, so I started selling my CA properties buying two nice starter level properties for every single sale I made in CA and it is working out just fine for all parties.  Some were IRS section 1031 exchanges but most were not.  Section 1031 exchanges are not always easy to complete and I had at least two that failed to complete.

Bryce
larrywww

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Reply with quote  #5 

Bryce: 

I'm glad things are working out for you.


But I never expressed any opinion about what stage that other markets were in (including North Carolina).   Paul (correctly) pointed out how highly Raleigh ranked in terms of quality of life---and I'm sure that is very positive.  And it would be ideal if we could transition to other markets that are much closer to the beginning of their cycles---or, at least, haven't totally inflated like the California market.

But here's the other thing: There was a reason that Bruce Norris was able to catch up to the Florida cycle before they maxed out----because this is a judicial foreclosure state requires foreclosure by a lawsuit that may take as long as 4 to 5 years.  (I can't recall the estimate, the length to trial changes as time goes on).  But it is logical that a judicial foreclosure state might take alot longer to get rid of its underwater properties due to the long foreclosure process.

And the same may also be true (to some extent) in Nevada----where they have (essentially) frozen the foreclosure process (not sure if or when they ever have or will unfreeze it).

The states that are still showing some youth (like Florida, Pennsylvania, etc) are judicial foreclosure states.  The Nolo website has a chart listing which states are judicial vs non judicial.  https://www.nolo.com/legal-encyclopedia/chart-judicial-v-nonjudicial-foreclosures.html

But I'm not sure based on this factor alone it would necessarily be the best place to 1031 into.  Alot of investors avoid these type of foreclosures on the ground that it's just too risky.   Bruce Norris isn't violating this rule, however---he is building apartments and not trying to sell the properties he construct.

I've never really looked at the market in North Carolina.  Also, North Carolina is NOT a judicial foreclosure state---so it may already have experienced price inflation in a manner not dissimilar to California--though I don't really know.  Paul would certainly know more than I on this subject.

It will be interesting, in any case, when Bruce Norris invents a timing model for Florida---this might give us more information about at what point it might make sense to invest in a judicial foreclosure state like Florida.




brycewheeler

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Reply with quote  #6 
Larry I have a contact (son) also in Raleigh area.

But you can easily get a rough feel for pricing in other areas if you use Google or other services.  Get some zip codes and try different property types--condos, detached homes etc and you can get rough price comparisons to your Calif market real quick.  

Bryce
larrywww

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Reply with quote  #7 

The only website that I have found that tries to answer which states have recovered from the downturn---and which have not---is this one published in 2016.

According to the article, all of the information about the state of recovery is incorporated into 2 graphs.

It lists the top 50 MSA areas and the extent to which they have recovered since July of 2009.  

http://thedataface.com/2016/02/economy/us-real-estate-recovery

There are 2 graphs there, the first can't load, but the second one can---and you can plug in individual MSAs to see how they fare compared to July of 2009 (the baseline).  The first graph just shows a continual loading---can't find a brower where it works.  


The weird thing about the map for Raleigh----the values in this city exceeded July in 2009 by August of 2014.  But what is truly strange---the values then crashed and right now the prices are back to July of 2009.  So, I guess you're right---no real price inflation there.  (FYI, for Paul---Charlotte is doing only 4.4% better than the standard----so no big winners there).  Although maybe the fact that prices are relatively flat means that it is a more attractive area than one would have supposed.

Actually, almost the same thing happened in Orlando (per this graph)---Orlando improved beyond the July of 2009 price in January of 2014---but now the prices have crashed again---almost back to the original July of 2009 price---they are only 5.3% above the standard.  So, there's no undue price inflation here either.  Although in March of 2015 when  Bruce started investing in areas inland of Orlando, the prices were down to 3.2% above the standard.

You mentioned Atlanta---their price curve is really weird, it looks like multiple hills and vallies---they exceeded the baseline in July of 2012---but there have been lots of ups and downs since then---and right now they are just slightly below the July of 2009 price.

The truth is that alot of markets have taken significant hits in 2018---focusing on California prices kind of skews your judgement in this regard.

Another weird thing: In most of America the 3 bedroom properties recovered alot faster than 2 bedroom---only in like 6 high demand states did 2 bedrooms do nearly as well.  So, it may matter what kind of asset you are tracking. (You can adjust for this).

If you wanted to find areas that are significantly worse than July of 2009, then:
1. Detroit is down by 37.7%
2. Chicago is down 35.3%, but I wouldn't go there because their property taxes are going to rise signficantly (The State of Illinois is broke, basically).
3. Birmingham Alabama is down 31.5%
4. Cleveland is down 39.2%
5. Cincinatti is down 20.9%
6. Memphis is 32.3% down.
7. Kansas City is 44.1% down.  (Wow, what happened to Kansas City---they fell off the face of the earth?)


The big winners on this graph may surprise:  Houston is up 78% which, for a formerly cash low area, is rather astonishing.  New York is up over 100%.  Boston and Honolulu are both up over 50%.  Miami is up 46.7%.  Nashville is up 41.5%. 

Areas that support oil & gas appear to be doing significantly better than the standard, due to the high price of oil, even though many of these are  traditionally cash flow and not appreciation areas, such as the Texas cities (Dallas, Houston, etc), Oklahoma City and North Dakota.  (Also, it is arguable that cities like Dallas may have become higher appreciation areas during this cycle---whether that will continue into the next cycle may not be so clear.)

These are the big losers, though FYI I think there are some fairly solid reasons why alot of these cities have continued to lose value.  (If you only want a cash flow rental, Well, that might make sense  . . .).

I'm not sure I see any direct correlation between the quality of life ratings (mentioned above) and the extent of the recovery of the market.  Charlotte is 4.4% above the price standard of July of 2009, whereas Raleigh is at that standard.  I wonder whether the hedge funds made it to cities like this?  Or foreign investors?  I'm not sure why these areas haven't really attracted the most appreciation.

Also, the general impression that one receives is that the national market has significantly retreated---unless you happen to live in a hot area, it's starting to look like a down market, even if the downturn isn't dramatic but gradual.

All in all, a really cool dataset.  But the abiding message seems to be that the price recovery since July of 2009 is NOT nearly as robust as I would have supposed, except in the traditionally hot real estate markets.




Nyou

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Reply with quote  #8 
2004-2005 sold CA properties. 1031 to TX. after 5-10 years sold those properties. not even made small money. [frown]

this time i will hold CA properties.
larrywww

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Reply with quote  #9 
Texas is the one state where even Bruce Norris made an absolute mistake with his investments---one of his admitted failures (even though he's had alot of successes).

And now that prices have dramatically inflated, I think it's twice as dangerous to out of state investors.

Bruce held for over a decade and was absolutely convinced that it made no sense to sideline his money for such a long time.

Houston prices inflated dramatically even after that absolutely Godawful storm---they still have no long term drainage solutions to next year's storms.  That makes absolutely no sense.

I really don't see the upside, quite frankly.


mlreits

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Reply with quote  #10 
No doubt it's harder and harder to buy investment properties in California especially the coastal markets. I'm glad to say that we're in contract to buy a 12-unit building with low in-place rents (currently at 55% of market rents or so) for $2.25M. We made a goal to buy at least one apartment building each year. As tough as it sounds year after year, we have been able to keep the streak alive for 6 straight years. What I've learned is that if you live and breath your market daily and are plugged in the right network, deals can still be had regardless of where we are in the cycle of the housing market. They're just not as abundant compared to the Great Recession.

I've also come to appreciate the saying "You make money when you buy." We just have to buy right and have a 10-15 year investment horizon. Let the market do all the heavy lifting for us, and we reap the rewards.

With respect to landlording, I've learned to be an investor rather than a landlord. The amount of money we save by landlording is small in the scheme of things. If we want to be efficient with our biz, being an investlord maybe a good compromise. We don't have to deal with the day to day operation and the tenants. We get to pick and choose where we want to step in to save some pretty nickels.

Just my 2 pennies of course.

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larrywww

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Reply with quote  #11 
The question that I would always ask is this:  How much more are you earning as a landlord versus being a lender?

Being a landlord entails all manner of expenses and risks.  Lending much less so.    If you didn't want to pay taxes you could keep a certain amount of inventory, those that are easier to manage or more desireable.

What if you resold the 12 plex and did an interest only loan on it?  If your actual upside is in the neighborhood of 1% or so (as I think it is)---is that an adequate return for the risks of being a landlord?  

Also, multifamily appears to be on a lunar trajectory, especially in the Bay area.  Is it realistic to expect this asset class to inflate materially going forward?   Can you reaslistically expect the rents to continue to climb?

Also, you are overinvested in just one geographic area, one that is experiencing (probably) some negative migration.  

Look at what Bruce Norris has done----doesn't his plan seem better?  (Sure, maybe those deals are no longer available---but at some point, you can't find alternative deals like this if you aren't looking.)

I realize that you are alot younger---and many investors at your age are still ramping up.  But I'm not sure when multifamilly becomes less favored (the asset classes are in constant transition, after all, and they can't remain on top forever), that you wouldn't be happy securing some of your gains with loans.

Look at it this way----when the market finally crashes, you can turn those loans into cash when buying season starts over.

You indicate that you have kept your investment criteria intact, even though we are in a bubble.  I would say that this isn't what happens with most buyers.   Typically, they start with one (sensible) kind of investment metric----and the market gradually erodes it---until you convince yourself that this newest purchase makes sense, even though you are paying (arguably---I can't know about the specifics of your transaction) more than you would have a few years ago.  At some point, you just have to say that enough is enough----and you close shop for the cycle---at least, that is what I do.

One of the surest signs of a bubble (whether or asset or credit) are these hyperspace valuations.

Keep in mind that Wall Street and the real estate market have never been particularly good at accurately measuring market risk---especially that capital came close to being interest free (or as interest free as we've seen), during this cycle.

If the difference between holding is the less than 1% additional return----even though are facing an asset class whose overall value may erode---then you paying to manage it for a very low return, really.  If, instead of this, you can secure your gains and become a lender with much fewer risks---I don't understand the math why that isn't better.

Actually, the 1% difference may not even exist----loan rates are alot more negotiable than cap rates, IMHO---but, no matter.

The other thing that an investor should always do is look at the cycle for your asset class---people tend to be shocked at how long multifamily has been inflating---it's longer than your usual real estate cycle.

We find absolutely hilarious the delusional mindset that one saw in The Big Short in most hedge firms---which decimated not only some hedge firms but took down AIG---a superlative business that ran insurance worldwide---even in the (former) Soviet Union.  Why was AIG decimated?  Because they didn't understand the risk of credit default swaps---so they assigned them a merely token risk value.  Famous last act of a really great business.

In any case, do you seriously believe that current multifamily valuations make significantly more sense?

I'm not buying it---but, of course, you can make judgements as you see fit.   But I think this is a risk you should (somehow) hedge against.







brycewheeler

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Reply with quote  #12 
Minh.  Congratulations.  Over the years you always make such  fabulouis moves as an investor and are one of the very smartest guys on this board IMO.

Larry.  Always enjoy your great extensive research on these topics---you are truly a scholar and bring so many great subjects and posts to this board.  However you may want to fight an occasional tendency to look too heavily on the dark side of ideas presented.

Bryce
mlreits

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Reply with quote  #13 
Larry,

Thanks for the thoughts. To put things in perspective, when we first started buying multifamily in 2013, rents for studios were at $1,200/mo, 1-bed units at $1,350-$1,400/mo and 2-bed units at $1,700-$1,800/mo. Currently, studios are renting for $1,500-$1,700, 1-bed units are renting for $1,800-$1,900 and 2-bed units are renting for $2,300-$2,400/mo so valuation has to be evaluated based on current market rents. The reason we have done well because we were able to ride the rent growth in addition to cap rate compression. 

Given the rents are so far below market value on this recent acquisition, we have nowhere else to go but up from here. In fact, we had an unsolicited offer for $3M from one of our other agents who has a buyer in a 1031 exchange at the moment. Fully stabilized, the building should worth $3.6M in the current market environment, but we wouldn't sell it for $3.6M if it's fully stabilized. 

With respect to evaluating risk, we performed a stress test on our 42-unit portfolio. How much rents do we have to cut before we break even? The number is approx 20%. What if we had to cut rent more than 20%? Say an additional $200/unit. That's $8,400/month or $100k/year give or take. Based on historical data, how long would a down cycle last? It's 3-5 years so we set aside $500k for our portfolio where our lender is paying us 1% interest in our savings accounts.

With the latest acquisition, every vacancy is a blessing so we're actually praying for it to happen. Tenants are paying $1k/mo for 1-bed units. We'll let it run for a year or so with professional property management to see if we get natural turnovers. If we don't, we'll consider doing buy-outs, if warranted, to get the rents up faster. $5k-$10k buy-outs per tenant has been done is our San Jose market. 

The reason we haven't looked at lending because we have been able to buy buildings with 70-100% upside in equity. So far, we have been able to extract the equity in 1-3 years so it hasn't made sense for us to look at lending. There are a couple deals where we got more invested money out of the deals, and the buildings are still cash flow after the cash-out refinance. There are more buildings where we could do the same (cash-out refinance), but given where interest rates are, it doesn't make sense for us to do it. 

Originally, I though the peak of the housing market would be 2017. Boy, was I so wrong. Thankfully, I've still been looking at deals and kept writing offers. It takes more time and effort, but when you land a deal, it's all worth it. Given the knowledge I possess now, I believe deals could be had in any part of the cycle of the housing market. Thus, time in the market is just important as timing the market as long as my underwriting is conservative with downside risk in rent factored in.

If history is any indication, expect the Fed to cut rates to 0% during the next downturn. That'd be a great time to refinance and lock in the low rates for another 5, 7 or 10 years. That's my theory, and that's where I'm placing my bets.

It's interesting talking to 2nd generation folks who have been in the real estate game for 40+ years. They said Bay Area real estate valuation has never been cheap. In fact, it still seemed expensive during the Great Recession to folks. Here's a one minute video clip of someone who was looking to buy in 2009. In hindsight, it was soooooo cheap. 😃


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Minh

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Reply with quote  #14 
Quote:
Originally Posted by mlreits


If history is any indication, expect the Fed to cut rates to 0% during the next downturn. That'd be a great time to refinance and lock in the low rates for another 5, 7 or 10 years. That's my theory, and that's where I'm placing my bets.



If history is any indication, there will again be times when most private real estate is leveraged at 80 to 90 percent, occupancies and rents begin to fall, debt service becomes unsustainable, refinancing becomes impossible, and previously stellar real estate careers come to an end.  

Pilots have a saying:

   There are old pilots
   and there are bold pilots
   But there are no old, bold pilots

The same holds for people that are careless - or unlucky - with high leverage.

When times are good and money flows freely, it seems inconceivable that money can dry up.  When money dries up, it really dries up.  This has happened multiple times during the past half century, and I can see no reason to believe that it won't happen again multiple times in the next half century.  

It is not typical for governments to bail out real estate investors.  So many ordinary civilians were caught up in this last crisis that the government was forced to take unusual and extraordinary actions in order to help underwater homeowners and get the economy back on track.  I would not count on the government ever again pulling out all stops in order to bail out landlords with debt problems.  Landlords do not generally constitute a politically popular class.

Publicly traded REITs tend to be about 50% leveraged and have not, as far as I am aware, run into terminal problems with that level of debt.  Of course, they also have much better access to capital than smaller players do.  

One more thought:

During the recent boom, a lot of newer landlords in my part of the world were aggressively getting rid of old, established tenants in order to rent at top dollar to the highest boom-time bidders.  Unfortunately, a lot of those top dollar payers tended to be people closely connected to the real estate industry who owed their high incomes to the boom.  When the boom ended, so did their high incomes, and they had to move out.  And since the landlords previously had gotten rid of their long-time, tried-and-true tenants, they now had high vacancy rates and eventually lost their buildings.  

I've run into this scenario several times over the last few decades.  It is always interesting when you're dealing with experienced owner-operator landlords, especially in commercial space.  These people really understand the value of tenants that have staying power.  I used to be surprised by how accommodating they were with good tenants, and how uninterested they were in pushing for the last dollar during boom times.  But now I understand that these multi-cycle survivors knew exactly what they're doing.  

I am aware that San Francisco is a special case due to its extraordinarily restrictive rent control laws.  Nevertheless, some aspects of the above will apply everywhere.  

There are times when it makes good sense to lever up, but one always has to be careful and I think it is extremely risky to plan a life of permanent high leverage.  Some serious bumps in the road may be predictable but others are not, and during a long career you will run into and have to survive both kinds.










larrywww

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Reply with quote  #15 

I think there is fallacy here----the real estate market can’t crash because it is somehow insulated from economic downturns caused elsewhere in the US economy.  I think there are more than half a dozen factors that should usher in the end the current economic rally in the near future:

1. Rising interest  prices have been promised and should make further price increases very difficult.  Inflation is starting to gather steam, oil prices are rising, all of which are arguably going to force the Fed’s hand and force them to raise interest rates;

2. Rising valuations in the stock, commodities, real estate and economy in general have pricing at unsustainable levels.

3. Donald Trump has started a trade war with our biggest trade partners, Mexico, Canada, the EU.  And a trade war with China isn’t far behind.  The Republicans are no longer serving as a brake on Trump’s actions.  Our allies are starting to align against us in terms of trade, refugee policy, and other economic and political matters.    Donald Trump is doing his level best to add fuel to the combustible mix.  Europe is showing increasing signs of instability with Brexit, the elections in Italy and the ever present Greece situation.

4. The Middle East is a slow moving military, economic and political disaster that will eventually pick up speed----and adding Iran to the chaos isn’t going to improve things, especially since our allies show every indication that they will side with Iran, not the United States.  There are millions of refugees in a combustible Middle East and allies like Turkey, Israel, Jordan, Egypt are showing increasing instability.  Refugees are a sticking point with former allies inside and outside the region and Donald Trump has done everything humanly possible to destabilize this dicey situation.

5.The Trump administration has asked the Texas judge(a Bush appointee) who is presiding over the Obamacare lawsuit to completely dismantle Obamacare right after the midterm elections.    If the health insurance system was challenged before, what choice will this leave insurers except to materially raise prices and/or withdraw from the program?  How can the United States attack its own health system without offering some kind of replacement?  This will NOT end well.  The ONLY surprising thing is that they have telegraphed their intentions BEFORE the midterm elections.

6.  The outsized economic stimulus is eventually coming home to roost and will accelerate and worsen the severity of the ultimate downturn.  Ben Bernanke in a remarkably apocalyptic statement said that:

“The stimulus “is going to hit the economy in a big way this year and next year, and then in 2020, Wile E. Coyote is going to go off the cliff,” Bernanke warned.”

When was the last time?---or ever?---that you had a former Fed Chairman speak in such apocalyptic terms?  Since when is Ben Bernanke channeling zero hedge?   The only question I have is whether we will even reach 2020 before the downturn starts, given the other forces at work.

7. Added to this combustible mix: Korea is finally hitting their stride in nuclear missile technology.  And their diplomatic offensive will in all likelihood sow further chaos without pointing toward any likely solutions.

8. The only nation that seems to be enjoying the chaos?  Russia and our enemies in the Middle East, especially Iran and Islamic fundamentalists.  Yesterday Russia issued a statement telling Europe and the rest of the world that their Cassandra like statements about how bad US influence was for the world are finally being taken seriously.  What was the Trump administration's reaction?  Trump has suggested that he wants Russia reinstated in the G7, contrary to the views of all of our other allies.  (Russia was evicted due to their annexation of the Crimea). Soon to come: The United States has done very little to tamp down Russian influence in the next election.

9. America is politically paralyzed, not unified, even on vital matters of economic and military policy.  Even assuming that the impact of any crisis could be lessened by political action, there seems little reason to foresee any unified action coming together anytime soon.

Am I the only person who thinks that we heading for an economic downturn?

The question isn't so much whether you should sell everything--but whether you should have done that already.

To those who think they can sidestep these various catastrophes and the Wile E Coyote bounce, I have but one response: Beep! Beep!

mlreits

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Reply with quote  #16 
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Originally Posted by brycewheeler
Minh.  Congratulations.  Over the years you always make such  fabulouis moves as an investor and are one of the very smartest guys on this board IMO.

Larry.  Always enjoy your great extensive research on these topics---you are truly a scholar and bring so many great subjects and posts to this board.  However you may want to fight an occasional tendency to look too heavily on the dark side of ideas presented.

Bryce


Thanks for the compliment Bryce. 

Life is an experiment and a journey in and of itself. I'm trying different stuff and see what works and what doesn't. We only have a finite time on this earth. I want to make my stay and beloved ones as pleasantly and enjoyable as possible. Time is the most precious commodity money can buy until it runs out. Having money allows us to buy our time back. After all, isn't having more time to spend however we want is our ultimate goal? 

Our family and wife's siblings' families are heading to San Diego on 8/5-8/11 to enjoy the beautiful weather, theme parks and the beach. San Diego is expensive for a reason. The folks who live there are quite fortunate.

Enjoy your Sunday afternoon and take care.

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mlreits

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If history is any indication, there will again be times when most private real estate is leveraged at 80 to 90 percent, occupancies and rents begin to fall, debt service becomes unsustainable, refinancing becomes impossible, and previously stellar real estate careers come to an end.  

Pilots have a saying:

   There are old pilots
   and there are bold pilots
   But there are no old, bold pilots

The same holds for people that are careless - or unlucky - with high leverage.

When times are good and money flows freely, it seems inconceivable that money can dry up.  When money dries up, it really dries up.  This has happened multiple times during the past half century, and I can see no reason to believe that it won't happen again multiple times in the next half century.  

It is not typical for governments to bail out real estate investors.  So many ordinary civilians were caught up in this last crisis that the government was forced to take unusual and extraordinary actions in order to help underwater homeowners and get the economy back on track.  I would not count on the government ever again pulling out all stops in order to bail out landlords with debt problems.  Landlords do not generally constitute a politically popular class.

Publicly traded REITs tend to be about 50% leveraged and have not, as far as I am aware, run into terminal problems with that level of debt.  Of course, they also have much better access to capital than smaller players do.  

One more thought:

During the recent boom, a lot of newer landlords in my part of the world were aggressively getting rid of old, established tenants in order to rent at top dollar to the highest boom-time bidders.  Unfortunately, a lot of those top dollar payers tended to be people closely connected to the real estate industry who owed their high incomes to the boom.  When the boom ended, so did their high incomes, and they had to move out.  And since the landlords previously had gotten rid of their long-time, tried-and-true tenants, they now had high vacancy rates and eventually lost their buildings.  

I've run into this scenario several times over the last few decades.  It is always interesting when you're dealing with experienced owner-operator landlords, especially in commercial space.  These people really understand the value of tenants that have staying power.  I used to be surprised by how accommodating they were with good tenants, and how uninterested they were in pushing for the last dollar during boom times.  But now I understand that these multi-cycle survivors knew exactly what they're doing.  

I am aware that San Francisco is a special case due to its extraordinarily restrictive rent control laws.  Nevertheless, some aspects of the above will apply everywhere.  

There are times when it makes good sense to lever up, but one always has to be careful and I think it is extremely risky to plan a life of permanent high leverage.  Some serious bumps in the road may be predictable but others are not, and during a long career you will run into and have to survive both kinds.



I heard of this quote before from a retired pilot. Funny he's also a real estate investor. Thanks for the reminder. A good friend of mine works for the Federal Reserve. He reminds me on a regular basis of having reserves, more reserves and even more reserves. He shared with me cases of investors who failed during the GFC due to being over-leveraged. One investor in Santa Rosa who was worth $196M and lost everything during the GFC.

If 50% leverage is an adequate measure, I'm glad to report that my portfolio is below 50% LTV. I know it may sound like I'm leveraged to the hilt, but that's not the case fortunately. Every time I buy a multifamily, I sell a smaller asset to deleverage. It's like trading one single unit for 3 to 4 units in a multifamily building.

I'd like to say I'm disciplined in my acquisitions, thus been doing only one deal per year for the last 3 years. Of course, only time will time. 

With respect to established tenants, most of our buildings are around a University. Turnovers are to be expected every few years. This helps to reset the rents so rent control doesn't affect us as much.

I can understand keeping rent at $1.5-$1.6k/mo to keep good tenants and turnovers low. However, I would argue that renting at $1k when fair market rent is $1.8k/mo is being a prudent landlord. If the building were renting for $1.5k/mo/unit, the heirs would have gotten $3M for the building easily. That's $750k that the owner has left on the table. IMO, rent control basically screws good landlords because there's no way for them to catch up in rents once they're too far behind. 

I'm still hoping for a couple turnovers. I'll rehab the units, offer them to other existing tenants at $1,400/mo to move to a brand new unit. If I can get half of the building turnovers, I'll start to ask for $1,500/unit. Then I'll ask for $1,700/unit on the last couple. At 5% annual rent increase, I'll be at market within the next 5 years. At $1k/mo, it will take 11-12 years to get to today's market rent. We went into this deal knowing we may have to wait, hope and pray. 

When I started this real estate investing journey, our net worth didn't have a 1 at the beginning of the 7 figures. Now, we're well on my way to the 8 figures. I want to be able to provide the opportunity for my daughter to pursue whatever she wants without worrying about money, an opportunity I wasn't given to.

Talking about the most precious commodity money can buy, I've had a lot of free time to get in shape, get better at my tennis game, do charity work for the community and spend more time with my beloved ones. We have a property manager managing all of our buildings. I only spend a few hours a week on them. When your nieces and nephews say they want to be like uncle Minh when they grow up, I realized I've done something right. We haven't had to worry about money in the last few years. It's such a great feeling. I'm doing all I can to protect and grow what we have. I don't want to start allover at this stage in my life. If I had to eat dirt to protect what I have, I'd do it. 

Thanks for the constructive reminders and keeping me on my toes.

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SFL

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Minh,

Your business sounds like a good one, but even more important is your skill set which should continue serving you well, regardless of what may lie ahead.  Especially if you stay solvent during downturns which inevitably will occur at multiple times in the next few decades, generally with little or no advance notice.

Being around 50% LTV is certainly a whole lot more comfortable than being at 80%-90%.

High leverage is the most doable when loans are self-amortizing and cannot be called as long as all payments are made on time and in full.  (e.g. typical 30-year home mortgages).  There is no-refinancing risk because the loan continues until it is paid in full.  You do have to make sure that you have the ability to make the payments, even under very adverse business conditions.  

A step down are the 10-year, balloon-type loans typical in commercial real estate.  These carry a refinancing risk, so you have to be able to deal with a wide range of potential refinancing scenarios - including one where money now costs 17%-18% (it did in 1981) and one in which no bank loans are available at any cost (this happens too).

(I think it is dangerous to assume that 2% rates will be available in the future - I consider this wishful thinking.  Of course, sometimes wishes come true.  However, nobody predicted 18% rates three years before they occurred, and I doubt interest rates three years from now are predictable either.  Interest rates are set by supply and demand, where both supply and demand are affected by a very large number of factors, both foreign and domestic.  These cannot all be predicted one year out, much less three years out.  It would be like predicting the weather three years ahead of time.)  

Least safe are variable-interest loans that can be called at any time, for example margin debt against a stock portfolio.  A few very bad days and you can be out.  I would be uncomfortable even with 25% leverage with that kind of debt - even good stocks can drop by 50%, and then your 25% margin has turned into 50% margin and you're facing margin calls.  

Non-recourse loans are preferable to ones you have to personally guarantee, since you can limit the risk of such loans to a business single entity.

Best of luck in your ventures!











mlreits

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Originally Posted by SFL
Minh,

Your business sounds like a good one, but even more important is your skill set which should continue serving you well, regardless of what may lie ahead.  Especially if you stay solvent during downturns which inevitably will occur at multiple times in the next few decades, generally with little or no advance notice.

Being around 50% LTV is certainly a whole lot more comfortable than being at 80%-90%.

High leverage is the most doable when loans are self-amortizing and cannot be called as long as all payments are made on time and in full.  (e.g. typical 30-year home mortgages).  There is no-refinancing risk because the loan continues until it is paid in full.  You do have to make sure that you have the ability to make the payments, even under very adverse business conditions.  

A step down are the 10-year, balloon-type loans typical in commercial real estate.  These carry a refinancing risk, so you have to be able to deal with a wide range of potential refinancing scenarios - including one where money now costs 17%-18% (it did in 1981) and one in which no bank loans are available at any cost (this happens too).

(I think it is dangerous to assume that 2% rates will be available in the future - I consider this wishful thinking.  Of course, sometimes wishes come true.  However, nobody predicted 18% rates three years before they occurred, and I doubt interest rates three years from now are predictable either.  Interest rates are set by supply and demand, where both supply and demand are affected by a very large number of factors, both foreign and domestic.  These cannot all be predicted one year out, much less three years out.  It would be like predicting the weather three years ahead of time.)  

Least safe are variable-interest loans that can be called at any time, for example margin debt against a stock portfolio.  A few very bad days and you can be out.  I would be uncomfortable even with 25% leverage with that kind of debt - even good stocks can drop by 50%, and then your 25% margin has turned into 50% margin and you're facing margin calls.  

Non-recourse loans are preferable to ones you have to personally guarantee, since you can limit the risk of such loans to a business single entity.

Best of luck in your ventures!













Thanks for the compliment. It's funny you mentioned "Am I Too Subtle" book in another thread while I was in the midst of reading it. Finished the book over the weekend. Great book. It was recommended by my Federal Reserve buddy. I could relate to several things he mentioned in the book about myself while other things reminded me of my partner. Sam's business partner, Bob Lurie, reminded me of my Federal Reserve buddy, who we call Dr. No. 😃

In the book, Sam mentioned a $7.3B merger with Spieker Properties. Ned Spieker of Spieker Properties has a brother named Todd Spieker who owns over 4,000 units (over 3,800 units in the Bay Area and over 200 units in LA). One of our favorite agents is Todd's son in-law. Small world isn't it?

Sam recommends to stay nimble and ready to pivot. Funny my Fed buddy mentioned this to me several times. He said he has watched me pivoted several times during this cycle.

One point Sam said that is so true is that "there's an attitude that you can't be both successful and ethical. I beg to differ. That's the underachiever's perspective on the world." Well said and I couldn't agree more.

The 12-unit deal that we're buying for $2.25M was actually on the MLS. We competed for it and got it. It's out of our core area, but close enough. It has good long-term potential given the area is changing quickly, it's close to the new Bart, and Google is building a 6-8M square feet office space for 20,000 employees within a few miles. The Google Village is scheduled to break ground as early as 2020 or 2022.

The building needs help, and we believe we can beautify it. We're scheduled to close on Tuesday 7/3. A friend who has been looking to get into MFH called me yesterday out of the blue. Funny she was looking at this building, wanted to make a run at it, but couldn't figure out how to make it work so she passed. LOL! Again, small world. Here's the link for our latest purchase.

https://www.redfin.com/CA/San-Jose/992-E-Taylor-St-95112/home/1010969

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Minh

"Be formless, shapeless like water." Bruce Lee
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