Bottom's Up

Head's up ... I am going on record here and calling the Nationwide Residential Market Bottom in April, 2008...

Here's why...

If I look at a sampling of places that have suffered a real "smack down" in prices .... places like...

2007 Median SFR Prices compared to 2006

• Detroit - Down 56%
• Sacramento - Down 34%
• Las Vegas - Down 23%
• Ft. Myers, FL - Down 29%

These select markets can serve as the "Canary In The Coal Mine" for the rest of the nation.

When these markets collectively start to turn around ... you know the rest of the nation cannot be far behind.

According to an article in yesterday's Wall Street Journal, all four of these markets turned in April. As did Contra Costa and Riverside Counties in California, Prince William County in Virginia and other hard-hit markets. Last month each of these markets showed a significant increase in home sales compared to the previous year. And these are Big Numbers.

Sacramento sales up 41% over 2006

Ft. Myers, FL up 41%

and first quarter in Detroit showed a 48% increase in home sales from a year earlier.

Why such an uptick...

Its all about price. We have reached the plateau where sellers - individuals all the way up to Bank REO Departments - are caving in and capitulating and lowering prices to a point where investors cannot resist.

Example:

If you search Detroit on Realtor.com for properties $20,000 or less ... you'll find over 5000 houses actually listed on the MLS. That's what I call a Bottom.

Now can you imagine a 34% median home price drop? Well it happened even in Sacramento and it's producing the increase in sales that you would eventually expect once the prices drop low enough.

For the SFR investor the equation is quite simple. When prices drop to the point where a property bought off the MLS will cash flow as a rental ... buy as many as you can. I believe we are at this point now.

What's new here is the complete sample of "Canary" markets above are following the same pattern. Now we would both admit there's a huge difference between Detroit and Sacramento, however the market dynamics are identical. The prices just have a different set point.

So I'll step out of a limb here... I'm calling the market bottom right right here in April, 2008.

I believe in the predictive power of the combination of Detroit and Sacramento and Las Vegas and Ft. Myers all exhibiting the same market bottom pattern ... this sure as heck looks like a trend to me.

Here's the Rub

What no one's crystal ball can tell you, however, is whether the market bottom will be

- A Sharp Bottom with a quick upturn and rebound of prices and sales

- Or a Long Flat Low Point with depressed prices and slow sales for as long as several years.

I am personally betting on the latter... if for no other reason than four dollar a gallon gas and the return to conservative lending practices.

And don't forget the leverage a professionally managed Apartment Complex has over a portfolio of Single Family Houses ... any day of the week ... IMHO.

Here's a link to the article in the Wall Street Journal. Read more here...

The Residential Markets are doing the equivalent of the Limbo Dance these days. The only remaining question is How Low Will They Go?

Here are three recent data points from the Press and our Wellspring Network Members showing just how bad the Single Family Residential market is in many areas of the country. I think you will see clearly why I remain suspicious that single family homes still have far to fall to hit the actual bottom in a large number of markets.

A) The Deepening SubPrime Mess

An article in last week's Wall Street Journal showed a graph of the default rates of residential mortgages based on the year in which they were originated. Talk about some scary numbers.

For Mortgages written in years 2000, 2001 and 2005

At twelve months after loan origination the default rates averaged 8%. This is considered a high default rate by the way.

For mortgages written in 2006 and 2007

At twelve months after loan origination an average of 15% were delinquent and the delinquency rate is still climbing steeply. 24 months after origination of 2006 mortgages ... a full 30% were in delinquent and the delinquency rate is still climbing steeply.

What will the ultimate Default rate be on these 2006 and 2007 loans... 40% ... 50% ... higher ?

The answer has huge implications for Real Estate and the whole economy at this point. And we are no where near the peak default rates ... yet.

B) The Investor's Credit Crunch

Many Residential Real Estate Guru's are saying this is a GREAT time to buy Pre-Foreclosures, REO properties and cheap rehabs. But even that is difficult given our simultaneous Credit Crunch.

Especially hard hit is the Residential Mortgage for the Non-Owner Occupant ... the type of loan an Investor would use to buy a house. Multiple Residential Investors in the Wellspring Network are telling me that these loans are VERY difficult to come by with one exception. If you are doing all your business banking with a local bank, they may be able to get you an investor's mortgage more easily than any regional or national lender.

HOT TIP:

If you will be needing an Investor Loan in the next 12- 24 months,

you might consider moving all of your accounts to a

strong local bank now to start building that relationship.

C) Last but not least - Foreclosures and REO

One of our network members tells me that in Houston last month a full 60% of the foreclosed houses offered for sale on the courthouse steps didn't get a bid. And Houston is not a market that is in deep trouble.

There appear to be two reasons for this.

1) No availability of Non-Owner Occupant loans as mentioned above

2) Investors know these same houses will become Bank REO properties and show up in a couple of months even cheaper on the MLS.

The Investors know that even a courthouse steps auction is asking WAY to much right now. Banks and other lenders are becoming desperate to move their inventory of REO property. Loads of extremely cheap houses are beginning to show up on the MLS in many markets.

For an extreme example...

If you search www.Realtor.com for homes in Detroit at a price of $20,000 or less you will find 5,451 listings. This does not take into account the thousands of abandoned properties that are not listed on the MLS.

So where and when is the bottom?

I still believe the worst is yet to come as the defaults on mortgages written in 2006 and 2007 move to Foreclosure. The problem is that these additional foreclosures pile on to an already terrible market where it is simultaneously difficult for investors to get a loan.

Now ... On One Hand

This could be a bonanza for SFR investors and now MIGHT be a good time to buy IF you have the cash.

AND on The Other Hand

The actual, real, honest to gosh bottom of the market may be many months in the Future. My crystal ball is as cloudy as yours. The longer it takes to hit the true market bottom ... the cheaper homes will become and the more opportunity the Credit Markets will have to recover and start lending on Investment Properties again.

Keep your eyes peeled in your local market, don't forget Multifamily and stay tuned...

Recession Ping Pong

"This time it's different". How many times have we heard that before? Usually spouted by investors sitting right at the peak of what we later identify as a Bubble of epic proportions.

Here in the Recession of 2008, the statement may actually hold true.

We are certainly seeing world economic conditions never seen before ... and it really may be different this time. Sort of feels like a game of Recession Ping Pong. Here's what I mean...

In past Recessions...
it was the Economy that went in the crapper first. General economic conditions ... oversupply and manufacturing downturns, rising unemployment and such ... were what threw threw us into a Recession. AND the Economic Recession would THEN affect the Financial Sector with rising default rates and such.

This time ...
the Financial Sector is taking the lead. The over-leveraged, easy credit blowup of lending on all levels has thrown the Economy off the cliff and into the pit of doom. And now that we are in a general Economic Recession ... the economic downturn is reverberating back in a feedback loop to drive the Financial Sector down even further.

Imagine if this were a game of Table Tennis ... Ping Pong

In the old days it went something like this

• Economy Down - Ping


• Financial Sector down with it - Pong


• Both recover together

This time it may be different

• Financial Sector down - Ping


• Economy down - Pong


• Driving Financial Sector down further - Ping


• Driving Economy down further - Pong

All I can say is ... if this really was a Ping Pong game I am hoping for a mercifully short rally.

Then you add in several flavors of "Special Sauce" and it really, honestly may be "Different this Time".

- Oil over $120/barrel
- Worldwide Commodity prices at record levels
- Worldwide food inflation and shortages due to diversion of crops for bio fuels
- The underlying demographic of the emergence of a middle class in India and China
- The Weakness of the US Dollar
- An historically significant drop in US Home values and its negative "Wealth Effect"
- US Consumer and US Government debt at record highs


Now I am not predicting the "Economic Sky is Falling", but I think anyone who is saying the US and world economy will snap out of this recession in just a quarter or two has their head buried in the sand. And I just start laughing when I think about Bush and the $600 checks that are supposed to make a difference. BTW, someone talk to me about Republicans and Fiscal Conservatism... please.

It would seem to me that the most appropriate attitude at the moment is one of watchful anticipation. As the various markets begin to understand and adapt to the changes taking place on a daily basis ... it may turn out that we do snap out out of this recession quickly. AND it could also be that "this time it is different" and we are in for a ride the likes of which we haven't seen before.

My advice ...
Save money, work on finding new customers and newer ways to make them happy in your business, invest in stable cash flow (like apartments in selected markets) and read the WSJ and John Mauldin's Blog to keep in the information flow.

Securitization Slow Down

It's as if the Market has been "holding its breath" for the last several weeks... basically since the Bear Stearns collapse. (You may have noticed this in your neck of the woods)

The nationwide market for Multifamily Properties is still strong in the face of the residential real estate collapse. Occupancies are stable in most markets and rents are keeping pace with inflation. But not very many properties are being bought and sold this quarter. Here's the reason...

I call it the "Securitization Slow-Down"

Used to be that a lender would write a loan and then quickly get that loan off their books through Securitization. The Securitization process bundled a bunch of loans into a larger "security" and sold those to other entities as a safe way to make good income. Things just didn't quite work out that way when the underlying loans went sour.

Securitization allowed lenders to make more money by writing more loans and shift the risk to other entities. As the loans started to go bad it was the owners of the securitized loans that were left holding the empty sack ... not the ones who originated the loans. So now nobody trusts a Securitized Investment. No one wants to take on problem loans that another institution originated.

According to the Wall Street Journal ... In just the last year total assets in US Banks have risen by $1.2 Trillion ... mostly because of the Securitization Slow-Down. Lenders are not able to securitize ... so the loans stay on the books.

Why is this Important?
Well ... when a lender writes a loan they intend to keep, they go about the process differently than if they intend to Securitize it. They are more careful at every stage of the loan process. This new caution has a negative affect on your Return on Investment.
The Lenders are doing two basic things differently now

1) Lower LTV'sAverage LTV's have fallen from the 80% of the last several years to the current 75% or less. So, buyers have to put more cash into the deal.

2) More Conservative Underwriting The Lenders are moving expense estimates up and income estimates down across the board. This "new math" lowers the Net Operating Income (NOI) projections from your property ... Which lowers the Debt Coverage Ratio ...Which lowers the amount they will lend to the buyer. So, buyers have to put more cash into the deal.

More Cash Please ...
The Double Whammy of lower LTV and lower NOI from more conservative underwriting ... means it will take a significantly larger pile of cash to buy the same building now than it did just a few short months ago. Less Leverage = Lower Returns With more cash into the deal ... any Buyer's Return on Investment is lowered.This naturally lowers the price any Buyer is willing to pay.

Sellers who have been used to top dollar for their properties are holding off on their sale because top dollar is significantly lower in this market than before the Credit Crunch. Everyone ... hold your breath just like George there.

The New Old
This new, more conservative environment isn't "New" at all. It's actually a return to what is historically normal. Just like the way Price/Earnings Ratios returned to more normal following the DotCom bust. What has been distinctly abnormal is the superleveraged environment of the last several years. Lenders writing loans willy nilly knowing that they would have them Securitized and sold to someone else in a matter of weeks.

So this is not a new phase. It is more like the fashion world ... what was old is now new again. The bell bottom jeans of my high school days are back in style. Look for properties to begin coming back on the market and seller flexibility to return in the next several months as we all get used to this New-Old state of affairs.

Sooner or later everyone - even the Sellers - will realize the days of easy credit and fat underwriting are over and prices will find a new level that makes sense in today's environment.

Won't be long before the market starts to breathe again.

That was TOO close !

That was waaaay to close for me.

Looks like we were all standing on the edge of a cliff for a moment and fortunately we have taken a step back. I am talking about the collapse of Bear Stearns that ended in the buyout by J.P. Morgan over the weekend. The actions of the Federal Government showed they are clearly treating this as in impending collapse of the US credit markets. They obviously felt a Bear Stearns collapse would have taken the whole economy down with it. Just look at the numbers....

- Bear Stearns was worth $20 Billion in January.
- Their New York headquarters building alone is worth $8 per share.
- They were bailed out by J.P. Morgan for an incredible $2/share
- Total value of the deal was only $236 Million
- Remember they were worth $20 Billion two months ago ... that's just under 12 cents on the dollar ... a "fire sale" in anyone's book.
- AND the Feds threw in an additional $30 Billion in guarantees to lower the risk of the deal.
- Both President Bush and Secretary Paulson signed off on this deal. [Historical Note: The 1998 bailout of Long Term Capital Management cost $3.6 Billion]

To get the inside information on just what happened ... you have to read John Mauldin's newsletter - and consider subscribing for the best commentary on world credit and investing markets I have found. Click here to read "Let's get real about Bear" and learn why this was most definitely NOT a bailout. This is a MUST READ!

Here's the good news.Goldman Sachs and Lehman Brothers both reported earnings today that beat the street's expectations ... so the bleeding may be stopped for now. At least the fears of Bear Stearns being the first of a set of falling dominos is on the back burner now.

Expect a huge and temporary stock market surge on this news.

Bottom line: - Hoard your cash ... the buying opportunities will come.- Don't expect any loan origination to be easy in the next several months minimum.