Apr262013
With house prices rising, the value of lots and raw land skyrockets
The valuation of land used for residential housing is mysterious and often misunderstood. The valuation of lots and raw land requires a detailed knowledge of construction and marketing costs as well as a good estimate of the sales price of the final product: a residential housing unit. In short, the value of a lot is the total revenue (sales price of the home) minus the costs of production and the necessary profit. Land value is a residual calculation.
The value of a piece of land is whatever is “left over” after all the other costs of production and profits are subtracted from revenue. This is a key point. Land for residential home use has no intrinsic value. It is a commodity useful for the production of houses just like lumber or concrete. For a given price level, if the cost of the house and land packages increases, the value of land decreases; if the cost of house construction decreases, the value of land increases. This last point is often confusing as the inverse relationship between building cost and land value does not seem intuitive, but since land value is a residual calculation, this relationship is the reality of the marketplace. The value of a piece of land used for residential housing is directly tied to the revenues and costs of house construction.
A Simple Example
Let’s say a 2,000 square foot house sells for $400,000. That comes to $200/SF. The actual construction cost for the sticks and bricks is about $100/SF for a production builder. That means $100/SF of house price is left over to pay builder overhead, profit, and land costs. If profit and overhead run at about 20%, then 30% of the sales price is the value of the lot that sits on it. In this example, that’s $120,000.
Now let’s say the same 2000 SF home gets inflated in value to $600,000 (similar to what we’ve just seen in our local market). The cost of production of the home hasn’t changed. It’s still $100/SF. However, with the higher sales price, builders will be willing to pay much more for a lot to build that house on because they can still make a profit. If profit and overhead is 20% of the price ($600,000 x 0.2 = $120,000) and the cost of construction is $100/SF ($100/SF x 2,000 = $200,000), the lot is now worth $280,000 ($600,000 – $120,000 – $200,000 = $280,000.
Notice the $200,000 increase in house price caused a $160,000 increase in the value of the lot. The value of the lot increased 150% while the house price only rose 50%. In my opinion, the people speculating on higher house prices are missing the real opportunity for leveraged capital growth available in finished lots. If you really believe house prices are going to continue to go up, and it’s purely a capital appreciation investment, finished lots will give you much more bang for the buck. Of course, if prices go down, the magnified impact cuts both ways.
U.S. Land Gets More Expensive
By ROBBIE WHELAN — April 9, 2013, 7:19 p.m. ET
… The rebounding housing market has sparked a sharp rise in land prices, creating big profits for land investors but putting pressure on builders to further increase the price of new homes.
For consumers, costlier land means more-expensive houses. Land cost constitutes 21.7% of the final sale price of a new home, according to the National Association of Home Builders. As land prices rise, builders tend to pass 100% of those costs on to consumers. …
That is a completely erroneous way to look at land prices. Land prices don’t drive anything. Land prices are driven by house prices.
Land prices rise because house prices rise. In reality, the rising house prices get passed on to the landowners who receive the residual value left over after the cost of production is backed out.
This is a significant shift from the economic downturn, when builders halted development and liquidated land for pennies on the dollar. From 2006 through 2011, residential land lost a cumulative 58% of its value, Zelman says.
Since land is a residual calculation, land values can go negative. If it costs $100/SF to build a house, and houses only sell for $80/SF — which happened in Las Vegas — the residual value is negative.
In the real world, nobody pays you to take their lot, but until house prices rose above construction costs, builders weren’t going to buy more lots or build more houses.
To be sure, land prices nationally are still far from the peak levels reached in 2005 and 2006. They also are notoriously volatile.
Of course land values are volatile. Once you understand how their calculated you see they move $3 or $4 for every dollar in house price — up or down. That’s volatility!
That is great news for private-equity firms and other land investors, including Paulson & Co., Angelo, Gordon & Co. and Starwood Capital Group, that crowded into the land market at its 2009 trough.”This is exactly what we predicted would happen,” said Tom Shapiro, president of GTIS Partners, a New York-based private-equity firm that 3½ years ago started buying lots in suburban new-home communities at an average of about 20% of peak pricing. “The rate of recovery in some of these markets has just been incredible,” he said.
Since 2010, GTIS has amassed a portfolio of about 30,000 home sites and has started selling out of its land positions for large profits. In the past three months, the firm says it has almost sold out 400 lots in Carillon South Lake, a development near Dallas, where it bought land in 2010. “We doubled our equity,” said Rob Vahradian, a senior managing director with GTIS.
He was right, and so were the other investors who went into beaten down markets with patient money. He was also lucky because the efforts to reflate the bubble made his investment pay off several years ahead of schedule. His return on investment will be astronomical.
I’m thinking that saying that the bank is going to lose a fortune on that property may be inaccurate. The bank is going to be just fine. Surely, a fortune will be lost, but by who? The bank will pay its huge bonuses out this year based on strong profits. That’s the trend right? All these losses keep mounting, and the source of money to cover the losses is obfuscated.
I bet it is coming straight out of my retirement. One away or the other.
The banks are carrying these non-performing notes by paying you next to nothing on your savings. So indirectly, they are robbing from your retirement to cover the costs. Later, they will finish stealing from your retirement savings when inflation ravages the value of the dollars you saved. So yes, it is coming out of your retirement one way or the other.
Who says real estate is not a great investment? They got got cash out and almost four years of free rent/housing. Where else but America!
Too bad the banks and govt are transferring the loss to the savers. Reward the guilty and punish the innocent (or stupid). For most of the savers are blaming the poor for forcing the banks through GSE’s to make such loans and creating the lending crisis.
Can you imagine living in that house for five years at no cost? That’s a sweet deal.
Even sweeter are the ones that are leasing the house out without paying the bank.
I find it hard knowing my taxes and savings are supporting that type of behavior and system. It’s hard to be a landlord and to compete against someone who has no overhead such as monthly interest payments and RE taxes.
Better Borrower Character and Underwriting Standards Cause Zero-Down VA Loans to Perform Better
A no-down payment loan program has quietly become the mortgage industry leader when it comes for foreclosure avoidance.
For most of the last five years VA loans have maintained the lowest foreclosure rate of any major loan product, besting even prime loans. In the same span, the VA has helped nearly 300,000 military homeowners avoid foreclosure, mostly through supplemental servicing and encouraging lenders to explore viable alternatives.
VA loans closed Q4 2012 with a foreclosure inventory rate of 2.08 percent, just ahead of prime loans (2.10 percent) and well ahead of FHA loans (3.85 percent) and prime ARMs (6.68 percent). In addition, the program recently saw its streak of 14 consecutive quarters with the lowest delinquency rate come to a close.
The relative safety of the program is all the more compelling given that 9 in 10 borrowers put no money down on a VA purchase.
There are a couple key reasons why VA loans have emerged as a safe haven for homeowners in jeopardy:
Avoidance a priority
The Loan Guaranty Program employs about 300 people who focus on veteran borrowers in default. These foreclosure specialists are in constant contact with financial institutions nationwide and keep tabs on every VA homeowner on the edge of default. They often wind up acting as intermediaries between the veterans and servicers and help push for options such as repayment plans, forbearance and loan modifications.
Residual income standard
This is a unique VA underwriting requirement. Borrowers must meet a monthly benchmark for residual income that varies by geography and family size. For example, a family of four purchasing in the Midwest must have at least $1,003 left over each month after making major installment payments like a mortgage or student loans. The minimums are higher on the coasts. This type of standard can help identify veterans who might present significant lending risks.
Market Cools from ‘Unsustainable’ Level of Appreciation
After “months of robust and largely unsustainable annual home value appreciation,” the national housing market finally showed signs of moderation in this year’s first quarter, Zillow reported Thursday.
Zillow’s Home Value Index (HVI) rose to $157,600 as of the end of Q1, up 0.5 percent over Q4 2012 and 5.1 percent over the same time last year. Quarterly home value appreciation in the fourth quarter was 2.1 percent—indicating the market is slowing down to a more sustainable pace, says Zillow chief economist Dr. Stan Humphries.
“The national housing market has rebounded strongly over the past year. But the sometimes dramatic home value run-ups experienced during these months were never expected to be sustainable, and recent slowdowns are indicative of a market that is slowly finding its natural level,” Humphries said.
Not all markets saw a slowdown in growth, however. According to Zillow, five metros tracked by the company experienced year-over-year appreciation of more than 20 percent: Phoenix (up 24 percent); Las Vegas (up 22.3 percent); San Jose (up 22.1 percent); San Francisco (up 21.4 percent); and Sacramento (up 20.1 percent).
In addition, seven of the top 30 metros covered by Zillow saw a decline in home values last quarter, “[f]urther underscoring the unevenness of the recovery,” the company reported. The New York metro posted a decline of 0.3 percent after three straight quarters of positive growth, while the Chicago area experienced depreciation of 1.4 percent after a flat fourth quarter in 2012.
In the rental market, national rents rose 0.9 percent quarter-over-quarter and were 4.9 percent over Q1 2012. Zillow’s Rent Index stood at $1,290 as of March 31.
Seattle-based Zillow also found an increase in foreclosure rates, with 5.11 out of every 10,000 homes lost to foreclosure in the first quarter, down from 1.3 homes in the previous quarter and 2.4 homes year-over-year. Zillow explained the rise is “likely because of a seasonal acceleration after the traditionally slow holiday period.”
According to Zillow’s research, housing markets can expect annual home value appreciation of roughly 3 percent, historically speaking. Looking ahead, the company’s Home Value Forecast shows national home values rising 3.2 percent through March 2014, an annual appreciation rate more in line with historic norms.
“Looking forward, we expect annual home value appreciation to continue to slow, as more inventory comes up for sale. But pockets of very rapid appreciation will remain, a troubling sign of volatility and a potential future headache as affordability is compromised and homes begin to look much more expensive to average buyers,” Humphries said. “This affordability issue may become acute in many markets in a couple years once mortgage rates begin to return again the normal levels.”
Downward Trend Continues for Mortgage Rates
Mortgage rates dipped this week—some of them hitting record lows—as unstable economic news left investors with visions of another potential economic slowdown.
Freddie Mac’s weekly Primary Mortgage Market Survey showed the 30-year fixed-rate mortgage (FRM) averaging 3.40 percent (0.8 point) for the week ending April 25, down slightly from 3.41 percent last week. Last year at this time, the 30-year fixed averaged 3.88 percent.
Meanwhile, the 15-year FRM averaged 2.61 percent (0.7 point), a new all-time record low. Last week’s average was 2.64 percent. The previous record low for the 15-year fixed was 2.63 percent, first set the week of November 21, 2012.
In adjustable rates, the 5-year hybrid adjustable-rate mortgage (ARM) averaged 2.58 percent (0.5 point) this week, down from 2.60 percent last week, while the 1-year ARM averaged 2.62 percent (0.3 point), down from 2.63 percent previously. This week’s 5-year ARM average was also a new low in that category, Freddie Mac reported.
Bankrate.com also reported its sixth straight week of declines. According to the site’s weekly national survey, the benchmark 30-year fixed rate retreated to a four-month low of 3.57 percent, while the 15-year fixed fell to a new record low of 2.80 percent.
The 5/1 ARM slipped slightly to 2.65 percent, meanwhile.
“Mortgage rates continue to trend lower as uneven economic data has raised concerns about another economic slowdown,” Bankrate said in a release. “The accompanying stock market volatility has also been good for mortgage rates by increasing demand for both government- and mortgage-backed bonds, to which mortgage rates are closely related.”
Trying to reach that goal of 2.5% 30-year fixed mortgage rates. With these price increases the last several months there is no more slack in the system. As mortgage rates increase again, the cost of ownership will be over rental parity.
Yep. Prices have been bid up so high so fast that there isn’t much room before we hit affordability issues. Any rise in rates will cause sales volumes to plummet because people simple can’t afford the higher prices.
Senators Introduce ‘Terminating Bailouts for Taxpayer Fairness Act’
Two U.S. Senators are trying to tighten banks capital reserves with the release of a new bill titled, “Terminating Bailouts for Taxpayer Fairness Act.”
A previous version of the bill was leaked earlier this month, outlining what it would take to tighten banks’ capital bases while eliminating certain transactions between depository institutions and their non-depository affiliates. The bill is sponsored by Senators Sherrod Brown, D-Ohio, and David Vitter, R-La.
The bill focuses on three key points: loosening the capital requirements for community banks, new regulatory enticements for community banks and raising the highest asset bucket threshold from $400 billion to $500 billion, an article from Compass Point said.
Additional highlights include banks with assets between $50 billion and $500 billion to hold 8% equity to assets. The bill also allows regulators to institute “supplemental risk-based capital requirements” for institutions with more than $20 billion of assets as an additional layer of regulatory oversight, Compass Point noted.
“By making the bill about more than simply increasing the capital standards for the nation’s biggest banks, Sens. Brown and Vitter are likely to gain some momentum in the Senate,” said Compass Point.
However, the research firm said they do not believe the bill will come close enough to the numbers necessary for passage.
The amount land available to build in Orange is shrinking. In 20 years it will be a pure existing home market and your home inspector needs to good in spotting maintenance issues.
I’m reading the Newport Coast chart right? It’s now selling over historic premium?
More Money Printing? Here’s How It Could Happen
By: Jeff Cox CNBC.com Senior Writer
While talk around Federal Reserve policy has focused on tapering off its easing measures, a weakening economy likely will keep the central bank in the game and could even lead to more aggressive measures.
The Fed has been pumping in $85 billion worth of liquidity each month in hopes of lifting asset prices and boosting economic growth.
But even as stock market prices soar to new highs, economic gains have been elusive, and expectations are growing that the spring-into-summer swoon the U.S. has seen over the past several years is reappearing.
That will make a Fed exit more difficult, despite Chairman Ben Bernanke’s hopes to begin to pull back the throttle.
“Warning signs pointing to further disinflation have multiplied in recent weeks,” Brian Smedley, rates strategist at Bank of America Merrill Lynch, said in a recent report for clients. “U.S. economic data has disappointed as fiscal tightening begins to bite.”
Those two measures—inflation and economic news, particularly unemployment—are key for monetary policy, and both points toward more, not less, monetary easing.
Smedley is the first strategist at a major investment house to posit that the Fed could accelerate its own efforts.
“It was concerns about the sluggish recovery and downside risks to growth that prompted the Fed to announce open-ended asset purchases in the first place,” he said. “Fed officials have emphasized repeatedly that they intend to take a flexible approach to this purchase program.”
Though his most likely scenario is that the Fed maintains its monthly purchases of $45 billion in Treasurys and another $40 billion in mortgage-backed securities, he said an increase in the former could happen if inflation and employment remain below acceptable levels.
The alternative scenario could see the Fed increase its Treasurys purchases to $65 billion to $70 billion a month, which Smedley said it could do for four to six months “without compromising market functioning, but this risk would bear careful monitoring.”
Global central banks have not been shy about showing aggressiveness toward propping up the slowing economy.
Step right up to the escrow table….
are you gonna put your chips on black, or red?
When it comes to speculating in raw land or lots, it really is a roulette wheel. The extreme leverage of these assets makes them highly volatile. You can make a fortune or lose most of your investment. Not for the faint of heart.
When does government stop guaranteeing every student loan no matter what the costs.
Job Picture Looks Bleak for 2013 College Grads
Even as new numbers show the overall employment picture improving — or at least not getting worse-new college graduates may not be so lucky when it comes to finding work.
A survey released last week from the National Association of Colleges and Employers (NACE) reported that businesses plan to hire only 2.1 percent more college graduates from the class of 2013 than they did from the class of 2012.
That’s way down from an earlier NACE projection of a 13 percent hiring rate for 2013 grads. (Read More: Surging Student-Loan Debt Is Crushing the System )
This comes even as the college graduate jobless picture seems to be getting better. The rate of unemployment in 2012 for college grads-defined as 20-24 years old-was 6.3 percent, down from the 8.3 percent for 2011 graduates, according to the Bureau of Labor Statistics. The rate in 2010 was 9.4 percent.
It’s not only a bleaker job outlook 2013 graduates face. According to the Economic Policy Institute, the class of 2013 will likely earn less over the next 10-15 years, than they would have before the recession hit and jobs were more plentiful.
NACE said employment areas with the greatest demand for this year’s graduates include business, engineering, computer sciences and accounting.
One reason there may not be so many grads hired is that many employers don’t believe college graduates are trained properly.
A survey of 500 hiring managers by recruitment firm Adecco, found that a majority–66 percent–believe new college graduates are not prepared for the workforce after leaving college. Fifty-eight percent said they were not planning to hire entry level graduates this year, and among those managers hiring, 69 percent said they plan to bring on only one or two candidates.
“Too many students are graduating with a weak background in science and math,” said Mauri Ditzler, president of Monmouth College. “We need to make sure our graduates know the basics and many don’t.”
A frequent mistake graduates make that keeps them from getting even an interview is spelling, according to the Adecco survey. Forty-three percent of managers said spelling errors on resumes can automatically disqualify a graduate from being interviewed.
In fact, 54 percent in the survey said they failed to hire anyone in the last two years because of a weak resume, regardless of having a good interview.
“Businesses want people in a chosen field but they also want people who can read and write and who are cultural literate,” said Jonathan Hill, an associate dean for special programs and projects at Pace University.
“College students must take courses in the humanities like English classes as well as focus on science and math,” Hill said. “Otherwise, graduates are going to have a tough time in the job market.”
“When does government stop guaranteeing every student loan no matter what the costs.”
As I see it, never. Unfortunately…
They should have some kind of cost/benefit criteria to stop people from borrowing $100,000 to get a history degree where they’ll make $35,000 a year. Even that simple first step is strongly resisted by banks who want to make free money from the government guarantee.
When I saw Bruce Norris speak last Fall, he was a strong advocate of purchasing buildable lots left over from the bubble. I was surprised about how willing he was to share this strategy, but you need some serious capital to even participate in this sector of the market, which excludes most smalltime RE investors. The banks won’t lend to you, so on top of having your own money tied up, you’re getting no rental income and you still have to pay property taxes.
Speculating in lots is much like speculating in gold. It produces no cashflow, but it’s a tangible asset with a much volatility in its pricing. Since lots are tethered to home values, and since they magnify any movements in price, they are an extremely leveraged real estate appreciation play, but as you pointed out, they produce no cash, and worse than gold, lots actually cost you money to own them.
“lots actually cost you money to own them”
My parents have owned 5 acres in Wonder Valley, San Bernardino County, since 1984 and it’s cost about $100 per year to pay the taxes on it. (If you know where Wonder Valley is located plus 100) Now, they didn’t pay for because my grandparents got it in the Small lot homestead act of 1938. But still it’s only worth about $1,500 a acre. If you look at the San Bernardino tax lien sale you hundreds of these lots sold every year.
P.S. Next week Gary Watts is speaking at the same club. I’m thinking of going for laughs…
http://www.meetup.com/Orange-County-Real-Estate-Forum/events/116086412/
I wish I could you give large signs with his 2007 home price predictions quotes.
PS…Is it $10 to here him speak or is he playing people $10 to hear him speak.
“Economist Gary Watts
Gary Watts is a highly regarded real estate economist”
He must be so highly regarded because of his great analytical skills and acumen. His calls on the real estate market are legendary…
“Fifteen percent is pretty much in the bag for Orange County in 2006,” he says. “It’s impossible for prices to go down this year.”
He wasn’t wrong just 8 years too early. LOL!!
There are a lot of investment clubs in Orange County. I never know they were so many.
The picture of a house with a rocket flame underneath appropriately encapsulates the local housing market. Asking prices in Irvine are nearly all in the $400+ per sq ft range. A Woodbury house (detached 1,300 sq ft, no yard) is asking $500 per sq ft! This is insane!
I think the market may have finally gotten ahead of itself. Some of the recent transactions are not just above peak values, but above historic valuation measures. In other words, some current buyers are grossly overpaying, and the appreciation they are hoping for won’t happen.
The driving force for high housing prices and high land values is low interest rates. When interest rates rise land values take a hit – but they take a bigger hit than home or other improved property prices. I have seen the boom bust cycle in land and it always causes banks to lose money…A savy land investor (they’re out there – trust me) can ride these cycles to wealth…buy when things are down (like three years ago) and sell about now…you can reap untold riches.
I have worked with a few land speculators who’ve made hundreds of millions on land deals. The one thing they have in common is the willingness to take insane risks. When they pay off, they pay off big. When they don’t pay off, well… that’s another story.
Now here’s a lad that timed the land market well:
http://www.irishcentral.com/news/Irish-farmer-buys-back-land-he-sold-for-2-million-for-75000-170673576.html
Deutsche Bank can’t shake L.A. claims over foreclosure blight
By Jessica Dye | Reuters – Wed, Apr 24, 2013
NEW YORK (Reuters) – A judge has denied Deutsche Bank AG’s bid to dismiss a lawsuit by the city of Los Angeles accusing it of letting hundreds of foreclosed properties fall into disrepair and illegally evicting low-income tenants, a representative for the city’s attorney said on Wednesday.
Los Angeles Superior Court Judge Elihu Berle allowed the 2011 civil enforcement action to proceed, according to the city attorney’s office. The ruling was made during an April 8 hearing and a written decision was issued late on Tuesday, the city said.
“This ruling will now allow our action to move forward to trial and ultimately to holding the bank accountable for its intolerable practice or perpetuating blight,” city attorney Carmen Trutanich said in a statement.
During the housing boom and subsequent bust, Deutsche Bank subsidiaries acquired the title to more than 2,000 properties in Los Angeles, according to the city’s 2011 civil enforcement action.
The city accused Deutsche Bank of becoming one of its largest “slumlords,” allowing vacant properties to turn into nuisances, neglecting to maintain occupied properties, and illegally evicting low-income tenants to clear the way for a potential sale.
Los Angeles is one of many cities across the United States to grapple with the problem of blighted properties after a wave of foreclosures that followed the housing bust. It has passed a law requiring banks to fix the blighted homes they own, or pay a fine, but enforcing that has proven difficult.
The city’s low-income areas are most affected, the city said. The blighted properties have led to decreased property value, increased crime rates and additional stress on city services, it argued in the 2011 complaint.
A spokesman for Deutsche Bank, Duncan King, said in a statement that while the bank is “disappointed in this procedural decision allowing the case to proceed, we continue to believe the Los Angeles City Attorney has sued the wrong party and will continue to defend ourselves vigorously.”
Deutsche Bank said at the time the complaint was filed that third-party loan servicers are responsible for the properties.
Los Angeles is seeking a court order compelling the bank to bring foreclosed properties up to code and halting illegal evictions. It is also seeking monetary damages that could potentially reach hundreds of millions of dollars, the city said.
The interesting thing here is they are suing the trustee of the securitizations instead of the loan servicers that actually control foreclosure & REO policy. The trustee’s job is to receive payments from the servicer and redistribute them to the investors. I can’t imagine this lawsuit will be successful, but in today’s climate who knows.
Every lawsuit has a “nuisance” value. The entire plaintiffs’ insurance bar knows this very well…
I forgot to post this article this morning. Not quite land speculation, but close. To me this is a sign of a bubble.
Crowdfunding the farm
March 18, 2013 2:36 PM Rebecca Grant
FORTUNE — A new crowd-funding site launched today, but it has nothing to do with tech or consumer goods start-ups. Instead, it’s focused on the American farmer.
The site is called Fquare, and is designed to buy land from farmers and then lease it back to them at an interest rate of between 4% and 6%. Very similar to existing sale-leaseback structures for farmland, except that the capital would be pooled from thousands of individual investors.
Once the lease is over, the land is either released to the existing farmer or to a new farmer. Meanwhile, Fquare users can trade various “shares” via the platform, with each share representing one square foot of land.
“It’s basically trying to apply what we’ve seen from Kickstarter and CircleUp and SecondMarket, and bring it into a whole new area,” says Fquare founder Charles Polanco. “Farmland has been a much safer investment than unknown tech startups.”
I also asked Polanco about the name Fquare, which seems perilously close to a certain location check-in startup. He says it relates to the notion of each share representing one square foot of farmland, and that Squarefoot Inc. (his first choice) wasn’t available. “We’re in a very different market from Foursquare, so I don’t see it as a problem,” he adds.
I don’t think 4-6% return compensates for the inherent risk of farming. I have many relative that still farm. As my dad’s cousin told him recently: “I’m gambling again… just spent $250k putting in another crop.”
There are many dangers in putting a crop out, including: 1) insects, 2) drought, 3) commodity prices (no insects or drought), 4) fuel prices (to harvest the crop), 5) recession effect on retail food prices.
Funny you said that….
Steven Rattner @SteveRattner
Crowd funding may be good for entrepreneurs but a disaster for investors #2013GC