A few years ago there were news reports that Fannie and Freddie would directly sell their inventory to large investors consisting of enormous blocks of single family residences in hundreds if not thousands per transaction. In fact, there were a couple of pilot programs. However, it seems like the hedge funds are purchasing REO’s and short sales listed on the market. This has driven out the small investor due to the deeper pockets of these hedge funds. Small investors might have hundreds of thousands while hedge funds have billions, it’s a David versus Goliath. They will purchase homes at 5% to 7% over list if they really focused on deploying capital in a give a area. This drives up prices as evidenced by the huge run up in Phoenix last year.
This is unique in history, because traditional real estate investments have been industrial, commercial, retail, and multifamily types of properties. Single family residences have been seen as a consumption item not an investment vehicle. Typically an SFR purchase by a owner is for it’s use and enjoyment, except during the housing bubble due to easy and cheap credit at that time. Valuations on home sales are done by comparable sales, not on projected incomes streams. They are some transactions that are investor purchases and some conversions from a principal home to a rental. However, the majority of the SFR buyers use it for their principal residence or vacation use. Now, a large portion of homes that are purchased is for capital appreciation, cash flow, or both.
Hedge Funds Shrink Foreclosure Discounts
Written by: Steve Cook Monday January 14, 2013n
Demand for foreclosures is so great and supplies are so low in some of the nation’s hottest foreclosure markets popular with investors that the price differences between REOs and full-price homes have virtually disappeared.
According to data from Home Value Forecast, during 2012 foreclosure discounts shriveled in some but not all of the markets suffering the greatest record foreclosure activity in past years. Foreclosure inventories have declined in these markers, largely due to residential real estate investors, both individual and hedge funds, who buy up foreclosed properties to convert into single family rentals. While full-price homes and short sales have appreciated slightly in these markets, REO prices have zoomed, a sign that investor demand-especially hedge funds who have been buying up thousands of REOs since the end of 2011-is driving the decline in foreclosure discounts.
A reason you have seen price appreciation is that banks have slowed the foreclosure process for it’s inventory. It’s managing the slow release of it’s inventory so it won’t hurt home values if a flood of homes hit the market with few buyers.
Foreclosure discounts are critical to most investors’ business plans. To bring foreclosures up to market-ready or rent-ready status, investors spend a media of $7500 per property, or $9.2 billion per year according to a survey of investors by BiggerPockets.com and Memphis Invest. Should the foreclosure discount evaporate, it will be cheaper simply to purchase a full-price home that needs no repair.
Foreclosure discounts also have toxic effect home values. Their reduced values often are used by automatic valuation models and by appraisers in calculating comparable sales values for full-priced properties, resulting in lower appraised values.
I don’t think foreclosure discounts are a toxic affect. Really a market reaching it’s natural equilibrium. It’s part of the business cycle we experience every 15 years or so.
In Las Vegas, the discount between full price homes and foreclosures was only was only 1 percent in the third quarter of 2012, and price differential between full-price properties are REOs has fallen to only $2000. Third quarter 2012 data from Home Value Forecast provides trend lines for REO, full-pricne and short sale prices, sales volume and time on market.. HVF provides insight into the current and future state of the U.S. housing market, and delivers 14 market snapshot graphs from the top 30 CBSAs. Home Value Forecast was created from a strategic partnership between Pro Teck Valuation Services and Collateral Analytics and uses numerous data sources including public records, local market MLS and general economic data.
Part of the problem in Las Vegas is that Nevada past very strict foreclosure laws and banks simply stopped foreclosing on homes.
The foreclosure discount in Phoenix has shrunk to about 5 percent. REO prices have risen to a median of $88,000 from $62,000 in January 2011, and today are only $6000 less than the median full-price home in the Phoenix market. At $70,000, short sales trail both REOs and full-price homes.
n Orlando, REO prices have been rising throughout 2012, but they still trail full-price homes by $17,000. The discount in the third quarter was still sizeable, about 21 percent, but down significantly from 33 percent in 2009. Tampa also saw in increase in REO prices at the same time that full-price homes rose, keeping the discount at about 32 percent.
Yet in Detroit, a major source of foreclosures but not a popular market for most inestors, the discount actually grew. REO prices in the third quarter were at the same level, $26,000, as they were in the third quarter of 2011, while full-price homes rose from $41,000 to $50,000.
Would you really want to purchase in Detroit, that’s a bad example. However, other ones are excellent.
The massive amounts of money hedge funds are spending on foreclosures clearing impacting the real estate economy. Last year several dozen investment firms backed by $6 to 8 billion in private equity hedge funds announced plans to purchase between 40,000 and 80,000 previously foreclosed homes. In September investment bankers at Keefe Bruyette and Woods estimated the dollars raised so far may only trim 15 percent of the foreclosure supply and there is room for even more growth that could last for years.
Just last week Blackstone Group LP, the largest U.S. private real estate owner, accelerated purchases of single- family homes as prices jumped faster than it expected. According to Bloomberg, Blackstone has spent more than $2.5 billion on 16,000 homes to manage as rentals, deploying capital from the $13.3 billion fund it raised last year, said Jonathan Gray, global head of real estate for the world’s largest private equity firm. That’s up from $1 billion of homes owned in October, when Blackstone Chairman Stephen Schwarzman said the company was spending $100 million a week on houses.
I can’t see this situation being permanent. Once single family residences become a consumption item again, the hedge funds will slowly get rid of their inventory can chase the new speculation that emerge in the future. Remember appraisal valuations are produced by looking at comparable home sales not income streams.
“The market is moving much faster than anybody thought possible,” Gray said during an interview in Blackstone’s New York headquarters. “Housing is much stronger than people anticipated.”
Santa Monica-based Colony Capital LLC, last week raised at least $45 million to finance additional REO purchases. It has invested $355 million in the REO-to-rental business since July, according to regulatory filings.
Meanwhile, Colony, Blackstone, Waypoint Real Estate Group LLC and American Homes 4 Rent have reportedly converged on Atlanta in search of low-priced properties to buy and rent out, after helping drive prices up 34 percent in Phoenix from a year ago.
When federal reserve stops pushing down mortgage rates and the banks stop managing inventory this will all end. The single family resident is the least efficient real estate investment that has the lowest rates of return. They don’t have economies of scale like large commercial or multifamily buildings. SFR’s for income and speculation has always been the small investor that wanted a extra income stream.
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CFRB extends more regulation to Jumbo and other private mortgages
January 17, 2013, 9:29 p.m. ET
Private jumbo mortgages could soon become harder—and pricier—to get.
New rules announced last week by the Consumer Financial Protection Bureau will tighten lending standards in the private-mortgage market. The changes, which start in 2014, will ban lenders from issuing loans if they don’t verify a borrower’s income or assets.
The CFPB rules are meant to ensure that home buyers have the ability to repay their mortgages. They also affect many affluent buyers seeking private jumbo mortgages, those that start after $417,000 in most parts of the country or at $625,501 in high-cost metro areas.
Low-documentation mortgages account for about 12% of the private mortgages borrowers signed up for from January through October 2012, according to the latest data from CoreLogic, CLGX +0.18% a real-estate analytics firm. Unlike full-documentation loans in which borrowers present detailed financial paperwork, such as tax returns, pay stubs and bank statements, low-documentation loans are sometimes given to wealthy borrowers who provide limited information.
While these borrowers can more than afford the mortgage payments, their financial statements don’t always prove that. Starting next year, if home buyers can’t provide enough paperwork to verify that they have the income or the assets to afford the mortgage, they’ll be ineligible for a mortgage—even in the private market, according to the CFPB.
Another change that could have a big impact on private jumbos: Interest-only loans, in which borrowers don’t pay principal toward the home for a certain period, will be restricted. As a result, some lenders are questioning whether they’ll continue providing private loans that don’t meet the CFPB’s “qualified mortgage” criteria.
“All lenders are going to have to think very hard before we expose ourselves to liability,” says Tom Wind, executive vice president of residential lending at EverBank, EVER +0.13% a national lender.
Lenders who continue to provide interest-only mortgages next year could face greater liability in lawsuits filed by borrowers in foreclosure. If they default on their loan, borrowers of these non-qualified mortgages could argue that the lender didn’t do a thorough job confirming that they could afford it.
Interest-only mortgages account for roughly 14% of the private mortgages originated during the first 10 months of 2012, according to CoreLogic. Well-off borrowers often choose these lower monthly payments in order to invest the savings elsewhere.
EverBank will continue originating interest-only private mortgages for now but will re-evaluate its strategy toward the end of the year, Mr. Wind says. And Jim Cutillo, chief executive of lender Stonegate Mortgage Corp., based in Indianapolis, says his firm will have to change how it approves borrowers for adjustable-rate mortgages, given the new rules.
With ARMs, lenders can currently approve borrowers based on the initial rate of the loan, even though the rate will vary in the future. But in order for an ARM to be originated starting next year, lenders will have to approve borrowers based on the loan’s “fully indexed rate.” That’s the margin the lender has on that loan plus the index the loan is pegged to. For instance, an ARM with a 225-basis-point margin that’s pegged to the one-year Libor, currently at 0.82%, would have a fully indexed rate of 3.07%. Because this fully indexed rate is typically higher than the initial rate of the loan, Mr. Cutillo says, some applicants will find that they qualify for a smaller mortgage under the new rules.
Separately, the new rules could lead to higher overall rates for private loans since lenders may price in more risk, says Sam Khater, senior economist at CoreLogic.
For now, luxury buyers should strategize if they plan to get a mortgage that doesn’t meet the CFPB’s new standards. Some points to consider:
• Act soon: Would-be borrowers might want to move forward with their mortgage applications and line up their paperwork between now and the summer—especially if they’re planning on getting a low-doc mortgage.
• Fewer options: Currently, it’s possible to get an interest-only mortgage in both the government-backed and private mortgage markets. Starting next year, borrowers who want this loan will likely have to turn to the private market, possibly leading to longer waiting periods. Also, fewer lenders will be offering mortgages with a balloon payment, which starts out with regular monthly payments but requires the borrower to pay the remaining balance after a few years or refinance.
• Large down payments: Most lenders will continue to require down payments of at least 30% on private mortgages. That threshold could rise as more rules are announced.
When federal reserve stops pushing down mortgage rates and the banks stop managing inventory this will all end. The single family resident is the least efficient real estate investment that has the lowest rates of return. They don’t have economies of scale like large commercial or multifamily buildings. SFR’s for income and speculation has always been the small investor that wanted a extra income stream.
You are 100% right. The low rates are pushing these hedge funds into areas they have historically never gone. SFRs will spread the hedge funds too thin and expenses are going to eat into their ROI.
Centrally planned interest rates send false signals to those who misinterpret them. This is the Austrian School’s mantra. We are seeing it play out in real time with Hedge fund SFR purchases. Everybody’s doing it!!
Are the big hedge funds and PE firms bidding on homes NOT listed on the MLS?
Or is anyone allowed to bid on these REOs?
Most of purchases are bidding wars for short sales.
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[...] interesting) Housing speculation explodes but with institutional investors this time – OC Housing News – conclusion: When federal reserve stops pushing down mortgage rates and the banks stop [...]
[...] interesting) Housing speculation explodes but with institutional investors this time – OC Housing News – conclusion: When federal reserve stops pushing down mortgage rates and the banks stop [...]
Literally, the second that borrowing costs become greater than cash flow from SFR rental, investors will stop buying SFRs.