Tuesday, January 31, 2012

The Calm Before The Storm

For the last month or two the world has been on pause. The Greek crisis is still there, Portugal is closing in on BK, and there is a solution being worked out. Deadlines come and go and still no real solution.

FHA, which is about to join Fannie and Freddie in bankruptcy, is still offering great home deals; a friend of ours is buying a 555K home with a 3 ½ percent down payment out here in California. A coworker yesterday showed me a 343K REO home that he was bidding on. It was offered by the bank and since there are 5 other bidders, he’s bidding 383K on it. If it was me, I would have bid 300K and if I didn’t get it, I’d bid on the next one. The only trouble is, very few Realtors want that sort of a client. You’ll be considered a waste of time.

The housing market in California is in the dumpster and everyone is oblivious to it. Prices have dropped enough that buyers think they are getting the deal of a lifetime. There is no panic, just a lot of unexplained burnt lawns and lock boxes hanging on front doors. Interest rates are at an all-time low. All the consumer is interested in is; can I afford the monthly payment? No fear yet, we have yet to hit the lows where panic selling begins.

The real thing to look at is the cost of money. When interest rates are low, the banks are flush with cash and no one to loan it to (or the buyer can’t qualify for a loan). When this happens, commodities take off like a rocket. Futures in gold, oil, wheat and etc. are determined by interest rates. The price of a commodity on the spot market determines the price in the futures market. So if gold is at $1600 an ounce spot, a 100 oz. future 1 year out would be spot plus interest on the value of the spot price for one year on 100ozs. So if the interest rate was 5%, 100 oz. for a year, the premium would be at least $8,000 for the contract. So with very low interest rates, it becomes very profitable to dabble in commodities that are in an upward trend.

Banks are paying zip for interest right now. And the odd thing, there is a very small spread between AAA and DDD bonds. In normal times you could see a spread of 12%. Well with the Federal Reserve guaranteeing everything, there is no risk so Triple D only raises eyebrows when it’s a bra size. The silver foxes are trying to maximize their retirement interest income with high risk investments that have very poor returns for the risk taken. We have speculators playing the commodities and stock markets. All because of very low interest rates.

With the calm before the storm, there are only two real games in town, the stock market and the futures market. As long as we have very low interest rates, look for the markets to go up. Many investors will realize that dollars in the bank are returning nothing and this will be the new sand box to play in. In the end, it plays out like the river boat in India where two star crossed lovers decided to commit suicide rather than be separated. Everyone rushed to one side of the boat to view the event and the boat capsized killing hundreds.

The mess we are facing has a high user confidence level, “I can avoid catastrophe, I know what I am doing.” It’s a little like being the driver facing a head on collision with another driver. You’re confident you can avoid the crash. You both try to turn out of the other cars path. The funny thing is, you both turn in the same direction— away from danger, to where the other car isn't, but will soon be.

Monday, January 16, 2012

The Tea Leaves Are Misleading

Unemployment is down or just maybe these people have exhausted their benefits and dropped off of the statistical charts. Consumption has picked up and maybe for the wrong reasons; immediate gratification feels better than the savings rate reward of one percent interest offered by the banks. You want to put something on your credit card, go ahead buy the Wide screen TV and pay 28% interest on the unpaid balance. Want to buy a car, there are fog a mirror loans everywhere, but the interest rates can be a little dicey.

The real question is what do we do with all of the people that were associated with the housing industry? Getting a job after being on unemployment for two years is not an easy task. At that point, reality and frustration become a part of your day to day existence. Unemployed and no job? Go to college or trade school and get that degree with government loans. If you are 62 or over consider early retirement.

Want to buy a home and finance it through a bank? Your name had better be John D Rockefeller or JP Morgan Warren Buffet or Bill Gates. The 20 percent down mortgage is still available. Nobody had 20% to put down in the bubble years and of course everyone that ever wanted a house bought one or two. Now it’s a real effort to sell a home. Of course Fannie and Freddie are still selling homes. Rumor has it; your signature is all the down payment you need.

The number of foreclosures entering the market this year range from one to three million depending on the source. Then there is also the phantom shadow inventory. If you talk to a Realtor, now’s a really good time to buy a house (loosely translated, “I haven’t had a sale in two years, am starving and six payments behind on my Mercedes”). Of course if you planned on selling your home and ease into retirement in style, things have changed a tad.

Our government didn’t save for that rainy day and now Congress can’t even pass a budget. The argument centers around, “Can we spend what we don’t have?” The Democrats say "yes" and the Republicans say "no."

We have an election coming up and the Republicans have the solution, “Try anyone but Obama.” How either party can increase the number of private sector jobs defies all logic. Governments consume taxes; they don’t build anything for consumption.

The stock market continues to go up, our retirement investments are secure, the banking system will not collapse and the housing market is as solid as a rock;>) Our present predicament, kind of reminds me of the one legged man who sold his crutches. As long as he likes where he is standing, there is no problem.

Sunday, January 01, 2012

Real Estate Investment Musings

There is a lot about simple finance that ought to be taught in high school, but it isn’t. It irritates me to hear the phrase “paying rent is throwing your money away.” That phrase has sold a lot of real estate in California when in actuality renting in our area is cheaper than owning.

The basic thing that never enters the question on home ownership is the cost of money. You borrow money to buy a home from the bank. After 20 years the home is paid off and you have no more payments, Right??? You’re wrong. Take a paid off home financed for 200K. Figure interest rates at 6% not the ridiculous current 2 percent. The interest generated by 200k at 6 percent is about $12,000 a year. This is what a paid off homeowner’s hidden costs are. The cash in his home is not paying him $12,000 a year, that’s his cost of ownership plus $2,000 in taxes plus about $2,000 in upkeep. So the paid up home owner is paying about $16,000 a year for the privilege of living in that home. Divide that by 12 and you get monthly “rent” payments of about $1334 a month. Everybody pays rent.

40 years ago you might have heard the phrase, “A home is the most worthless investment you will ever make, but a necessary one.” The reason being, it was a savings plan for young people starting a family and a long term hedge against inflation. Plus it had always been cheaper to own a home than to rent. Renters paid more for the freedom to pick up and move. The real estate bubble trashed that well tested concept and replaced it with two new ones, “Real estate always goes up,” and “Buy now before you get priced out of the market.” Everyone that ever wanted a home bought one and now this bubble has collapsed leaving our government (you and me) holding the bag.

Rental real estate may again become a viable investment option in certain parts of the country. A single family home purchased for 100 times its monthly rental, should have a very nice return. For investor owned real estate, the banks want 20 percent down. A 100k home, that can be rented for $1,000 a month, will cash flow nicely. Figure a down payment of 20k plus 6k in closing. If bought right, you could take $200 a month off the top for 20 years and then after that, you’d get a retirement check of $1,000 a month as long as you own the house. One thing to realize, landlords don’t set rental rates, the market does—the higher the rate, the more months the unit sets vacant.

Don’t go to Las Vegas and buy a home in one of those 4,000 house developments that has only 4 families living in it. The current tenants are probably busy recycling the copper and appliances out of the other 3,996 homes.

Fannie and Freddie ought to be offering some good deals in the coming year. The extra dollars they give you for buying a stripped out house, you can shop Craig’s List and buy back the water heater, furnace and dishwasher.

Cash held in the bank right now is taking a real beating. As a rule of thumb, a home is the equivalent of 150 ounces of gold. Not only that, it provides shelter, is a hedge against inflation and the banks will loan you 80% of its value as an investor, more if you decide to live in it. Maybe the investment tip for the New Year is; “Buy and hold things the government can’t print.”

So in the coming year if you have an extra 25k rotting in the bank, do you buy a new car or dabble in a rental? In 10 years, your wheels will then be worth $500 or you could have had 50k in tax deductions depreciating your rental. A lot of people in this country work full time for the car industry without even knowing it. So investing 20K and waiting 20 years, do you have the time to spare? At age 65 I keep asking myself, why didn’t I buy two instead of just one when I had the time?