Real estate cashflow investors will stabilize the housing market

In its obsession with home ownership, the government has been ignoring the one group most needed to stabilize housing prices: cashflow investors. Several weeks ago, I asked the question Should Government Mortgage Subsidies Be Offered to Cashflow Investors? Most readers said no. Personally, I would like to see the government get entirely out of the housing market, but as long as they are determined to support prices, perhaps they should look for policies that will be more effective.gold_is_gone

As Shadow Inventory Grows, Time for More Subsidy?

By: Diana Olick — Monday, 22 Nov 2010

As of the end of August, there were 2.1 million properties either in the foreclosure process or headed for foreclosure, according to CoreLogic.

It’s come to be known as the “shadow inventory,” because it will be coming to market soon, but it’s not listed yet.

To put that in perspective, there are about 4.2 million properties (existing homes and new construction) currently, visibly on the market now. So add 50 percent more, and there’s your true inventory.


Rather than look at the absolute numbers, we like to look at months supply, which is how many months, at the current sales pace, it would take to sell all these homes. Add the shadow and the visible supply, and figure it into the sales pace in August, and you’re looking at a 23-month supply. Nearly two years. Six months worth of supply is generally considered “normal.”

“The weak demand for housing is significantly increasing the risk of further price declines in the housing market,” notes Mark Fleming, chief economist at CoreLogic.


Inventory is the key to predicting the future of home sales and prices. I’ve said this over and over. We know that there are investors out there looking to get into the market, and that’s a good thing, especially since investors are almost exclusively all-cash these days. But there aren’t enough investors to soak it all up, so we have to look to the demand side for regular, organic buyers.

Fannie Mae is doing everything it can to bring in these buyers, introducing a pilot program in Orlando, FL, Detroit, Mi and San Diego, CA that will allow real estate agents to submit offers online for foreclosed properties Fannie now owns and then track them through the sale. Fannie and Freddie are both taking back more and more properties, as their sales of said properties are actually declining slightly.

Other than that, government appears to be largely out of the housing subsidy business.

I’ve never been a fan of government getting too far into housing, because it inevitably results in doom and gloom when the subsidy expires.

The best solution does not require a subsidy. Merely eliminate the limit on the number of mortgages a cashflow investor may have, and count 75% of the rental income toward the payment. Eliminating the limit on the number of mortgages costs no money, and it allows those investors with expertise in obtaining and managing properties the ability to acquire more. My counting a portion of the rental income toward qualification, wherever the prices are low enough for cashflow investors to make a profit will quickly get bid up to the limit of available financing.

None of this costs the government anything, and the demand it creates is not artificial based on a financial subsidy that inflates prices. The GSEs are merely eliminating an artifical barrier they created. This demand would seek out the most downtrodden markets and put a floor beneath prices in those areas. Very little of that money would flow into inflated markets like Orange County because so few properties meet the criteria.

But here’s the conundrum: Even as new loan delinquencies improve, they are improving slowly and are still far too elevated for comfort. On top of that, loan modifications are failing at an alarmingly high rate, which means ever more borrowers will go straight to foreclosure. Foreclosure inventories are still rising, as banks re-file and ramp up the process, which again means more inventory coming to market.

Perhaps it’s time to look at a new government incentive, this time for those previously dreaded real estate investors. More to come…

Real Estate Investors Are Not the Enemy

By: Diana Olick — Friday, 3 Dec 2010

They have surpassed lawyers and repo-men as the most vilified professionals on the planet.

Thanks to the unprecedented real estate crash, “investors” are now the bad guys. During the housing boom, they canoodled with lenders to lever themselves to the hilt, and consequently fueled home prices to levels so unsustainable that the market came crashing down.

There is a major distinction that must be made here. The people who were buying real estate during the bubble were not investors, they were speculators betting on appreciation. Buy-and-hold investors are buying for the cashflow offered by the property. Appreciation does not figure in to their thinking, other than perhaps to acknowledge that appreciation will keep pace with inflation so their original capital is protected.

People who speculate in real estate to capture appreciation are fools. Occasionally this group gets lucky if they manage to time their purchase and subsequent sale well, but few accomplish this task. Many profited greatly from the housing bubble by appreciation, but that was only because banks allowed them to convert artificial appreciation to cash through mortgage equity withdrawal. That won’t be happening again any time soon.

Never does the President, the Treasury secretary, or the HUD secretary announce a new element to the Administration’s multi-billion dollar housing bailout, without making clear that investors need not apply.

Get over it. That’s all I, and plenty of qualified real estate investors, have to say. That was then; this is now, and real estate investors may be our only ticket out of the housing crisis.

“If you want to stabilize the housing market, you have to encourage investors,” says hedge fund manager Aaron Edelheit. “The quicker you can end the foreclosures and the short sales, the quicker you’re going to have a turnaround in the economy and the housing market.”

That isn’t really true. The quicker we push through the foreclosure and short sales, the quicker we will have an improved economy, but “ending” foreclosures and short sales requires faster processing. Most loan owners interpret “ending” as terminating the process prior to foreclosure. That isn’t helpful because the onerous debt remains.

Edelheit has invested over $10 million in foreclosed homes. He’s not looking to flip them for a profit; he’s in this for the long-term gain. He doesn’t buy up bulk condos, as many institutional investors are now doing, and which he admits is much easier. He buys single family homes with the sole intention of renting them out to families. No, he’s not a do-gooder. He’s making around an 8 percent profit after expenses.

Eight percent capitialization rates on properties in Las Vegas are quite common. Eight percent can also be readily found in beaten down markets like California’s central valley, Riverside county, and suburban Phoenix, Arizona.

Think of it this way. At the height of the housing boom, the home ownership rate was at 69 percent. It’s now down to 66.9 percent and dropping. Historically it’s around 62-64 percent.

“You have five to seven percent of the nation who needs a place to live, and they would prefer single family homes,” notes Edelheit.

Today’s jobs report proves that this is going to be a slow economic recovery, which means the pool of potential home buyers will remain small for quite some time. We have already seen apartment rents rise on higher demand. This in the face of a serious oversupply of homes for sale and a shadow inventory of, by some estimates, up to 7 million foreclosed properties.

There aren’t the natural buyers to buy these excess homes, but there are the families to live in them, so if you had long term capital to incentivize investors like me, we would go in, buy homes, fix them up and rent them to families,” says Edelheit.

I totally agree.

But there’s the problem.

Gun-shy banks and government-owned Fannie Mae and Freddie Mac are being very stingy with credit to investors, capping them at very few loans. Fannie Mae allows ten loans to each individual investor, but investors tell me it’s more like four when you talk to the banks. A Fannie Mae spokesperson adds, “Lenders may have their own overlays or added fees.”

They’ve thrown the baby out with the bathwater. I’m not suggesting we return to the heady days of lending to any Joe with a pen to sign on the dotted line. I am suggesting we stop demonizing investors and instead offer low-cost credit to those with worthy balance sheets who are willing to put significant down payments on the properties. And yes, underwrite them conscientiously. It may be our best exit from a too-slow recovery.

Investors like Edelheit are waiting in the wings. “I think that if the government were to encourage investors, they would swoop in and buy homes, and you’d very quickly not have an excess amount of housing.

I find it interesting that the few good ideas for stabilizing the housing market are universally reviled, and the many bad ideas are lionized and implemented only to fail dismally.

If there were no limit to the number of loans the GSE would insure for each investor, and if they counted 75% of the rental income toward qualification for the loan, I would buy hundreds of properties in Las Vegas, and so would many other investors. The foreclosures would be readily mopped up at prices dictated by stable loan terms. The crisis would be resolved as quickly as the foreclosures could be processed. As it stands, prices in Las Vegas are well below cashflow levels, and investors can’t buy them quickly enough to absorb the supply. Anyone in government who believes owner-occupants are going to clean up this mess is delusional.