Average homebuyer didn’t benefit from the low mortgage rates

Since the end of 2008 the Federal Reserve has had a Zero Interest Rate Policy (ZIRP), which is the overnight rate interest rate changed to it’s member banks, it’s called the federal funds rate.  This interest rates influences treasury yields, corporate bonds, and mortgage  rates.  The current rate is about .25% or less on a annual basis.  In addition, they Federal Reserve also creates money in a program called Quantitative Easing.   The Federal Reserve justifies these policies by claiming the recession is so extremely bad (and it is) that’s its necessary to set the rate to almost zero to simulate business borrowing (expansion) and and home purchasing.  The negative affect of this policy is on retired people’s savings because they have been suffering by having less than 1% returns on CD’S and money market accounts.  This is saving that most retired people have accumulated their entire lives to live off the interest.  This low federal funds rate change was implied as a temporary measure…probably less than year.   However, after 4 1/2 years of this policy the low mortgage have benefited institutional home buyers and not the average American home buyer or the retiree which depends on it’s fixed income from their savings.

Wall Street betting billions on single-family homes in distressed markets

Before the housing crash, big investors almost never wanted single-family homes, largely because of slow returns and the money-draining hassle of managing tenants in often far-flung properties.

But with prices still depressed and with low interest rates and high stock prices limiting prospective returns elsewhere, major investors see the prospect of healthy profits in single-family homes.

“Residential property is an on-fire asset class,” said Kranz, noting that his firm has plowed more than $100 million into residential real estate for investors in the past year and is on course to spend $250 million to buy an additional 2,000 homes in 2013.

Right here red flags should be noted.  Typically, single family residences are considered consumption items.  Home buyers don’t purchase houses for cash flow, they purchase them for shelter and here in Orange County as a status symbol.  Historically, mortgage payment are more expense than rent costs.  The fact that investors are purchasing homes for investment cash flow is indicator that is wrong with the yields on other traditional investments like CD’s and savings.

At Title Capital Management, nearly four dozen analysts and lawyers are glued to computer monitors — some seven days a week — hunting for deals among the flood of foreclosures that have bedeviled this state.

Aided by its proprietary software, Title Capital sizes up each home for square footage, special features and the prices and rents they can command. The firm’s legal team then scrubs each property for liens and title problems before determining a price that would allow its clients on Wall Street and elsewhere to turn a tidy profit.

The company bids on about 200 houses a day, making it one of the largest players in Florida that help hedge funds and other Wall Street firms buy distressed properties. It is proving to be a lucrative niche.

Actually, Larry Roberts documented the largest investors in single family residences are the banks themselves.  In addition, these institution investors, just like smaller mom and pop investors who were the big investors 18 months ago, are purchasing homes in bulk.  The Federal Reserve has pushed rates so low that homes at these prices still cash flow positive.  In a normal mortgage rate environment at 6% to 9% these houses would be currently priced too high to cash flow.  However, ZIRP and Quantitative Easing has distorted the market place.  Please note in the last few weeks Orange County homes are sometimes entering escrow at 20% above appraisal.  At these higher prices they would probably no longer cash flow.  We are have to wait about 60 days to see the new comps in the OCHN Newsletter.

Last year, famed investor Warren Buffett said on CNBC: “If I had a way of buying a couple-hundred-thousand single-family homes, I would load up on them. It’s a very attractive asset class now. I could buy them at distressed prices and find renters.”

A growing number of private-equity groups have done as much. Over the past year, Blackstone has amassed a portfolio of 20,000 rental homes worth $3 billion, spokesman Peter Rose said. American Homes 4 Rent, a firm run by warehousing magnate B. Wayne Hughes, has bought about 10,000 rental properties, according to news reports.

The strategy makes sense, as a shrinking share of Americans own their homes. After more than a decade of robust increases, the national home-ownership rate peaked in 2004 at 69.2 percent. Since then, it has been in steady decline, falling to 65.4 percent at the end of 2012, according to Census Bureau figures.

The normal home ownership rate is in the low 60’s.  The reason for the increase in the ownership rate was easy credit and cheap credit promoted Federal Reserve, the GSE’s and some governmental policy.  Many home buyers got approved for mortgages that were well above their ability to pay if it was based on a full amortized fixed rate loan. This isn’t a elitist statement, we had a process of where prospective buyers had to save a down payment of at least 20%, keep their credit clean, and maintain their mortgage payments.   In the long run this created much more stable and robust housing market.  And having people also rent is good thing because it also promotes the mobility of labor and that also leads to a strong economy.  It wasn’t prefect but it was a good system of homeowners and renters.

The big investor activity is pushing up prices, which is good for the large number of homeowners whose mortgages are larger than their home’s values. But for people being shut out of the biggest bargains offered by the housing market, it means a longer, slower slog to building equity. It also raises the specter of future price declines when investors lose interest or decide to dump their properties.

Did the author just admit that this recent price increase is a bubble?  In addition, a lot of underwater homeowners are getting loan modifications with teaser rates.  They are not paying the full amortized loan balance on a fixed rate.  Many of these loanowners should have defaulted and lost their homes to foreclosures years ago, but they haven’t so hence the term cloud inventory.  After July 1st enrollment in a loan modification program might be automatic in case of default.  Home foreclosure is becoming a method that most banks are avoiding.  Loan modifications seems the process in which banks “store” the homes.

“Clearly the investors are moving markets in some places,” said Dean Baker, co-director of the Center for Economic and Policy Research and author of a popular housing blog. “In some markets at the bottom end, you are looking at 30 or 40 percent gains year to year. That is frightening to me. At some point the music stops. The investors if they get hurt, that is their problem. But invariably a lot of other people will get caught up in that.”

The current buyers are different from the 2007 peak buyers.  They are not using affordability products but cash or fixed rates mortgages.  You will have defaults in this group if mortgage rates increase but, they will just added to the cloud inventory of current homeowners.  But there are a group of buyers that put 20% to 30% down in this bubble and they will probably won’t default and I think it will less of impact than many people think if these mortgage rates increase.

But as things stand, many investors say the opportunities are growing, particularly in Florida. The data firm RealtyTrac reported this month that one in 104 properties in the state had received a foreclosure filing in the first three months of 2013, the highest rate in the nation. On top of that, nearly half of the homeowners with mortgages owe more than their houses are worth, which means many more foreclosures are on the way. Investors think foreclosures could surge for up to five more years.

Dallas Wharton, co-founder of Delavaco Residential Property Trust, a real estate investment firm in Fort Lauderdale, is ready. The firm, which is backed by Canadian investors, started out with 14 homes two years ago and now has 700. Meanwhile, Delavaco is preparing for a public offering on the Toronto Stock Exchange that Wharton hopes will raise as much as $40 million.

I think we are not hearing the full story and actual returns on these homes.  Owning a single family residence for investment purposes is expense in the longer term. There vacancies, maintenance, and wear and tear.  What is the cost for roof replacements, HVAC replacements, plumbing, flooring, painting, and many other costs? There are some HVAC companies in the Manassas VA area that can handle all the issues with heating or cooling system, but this certainly requires some investment. The same applies to all other amenities. If Colony Capital which is major institutional investors in homes  reports a vacancy rate of over 50% then real rates of returns are not being published.

Wharton said his company is riding a lucrative wave. It is able to scoop up many homes for $60,000 or $70,000, which is just a fraction of the building costs. After making repairs, the company rents them out for as much as $1,700 a month. The firm’s biggest client is the federal Section 8 program, which subsidizes the rents of low-income tenants. Delavaco notes that Section 8 provides “over 60 percent” of the firm’s revenue.

So, federal cheap money and federally subsidized rents are keeping these companies in the black.  Ironically, Section 8 increases the costs of renting for lower economic renters that don’t qualify for Section 8.  Section 8 doesn’t work like it should.

“That’s a pretty good opportunity,” Wharton said, adding that investors help stabilize communities even as they make money. “If the end-user does not have the ability to enter in the market, and they do down the road, have they missed an opportunity? Perhaps. But if it weren’t for investors, where would the market bottom be? What would happen to neighborhoods if homes were just to sit there and rot?”

First, the homes will never just sit and rot except in communities are going through a major fundamental change like Detroit.  Once the cost of ownership falls below rental rates both investors and homeowners start purchasing these vacant homes.  Even home building will rebound towards the end of the recession and is sometimes a factor in improvement economic conditions.  But now you have ultra cheap money and a lack of supply that is causing a market distortion especially in Orange County.   Large institutions are  purchasing home is bulk and with the limited supply of available homes this is driving up home prices.  The increase in home values is an indication that mortgage rates are just too low.  In a normal business cycle potential buyers can take advantage of lower mortgage rates and lower home values during a recession.  Now, the conditions exampled above are setting up a mini repeat of the housing market in 2008.  By July we should see if cost of ownership is higher than cost of renting, which can really slow down sale volumes.