What Causes A Perfect Storm?
Well that & # 39; s the million dollar question, is not it?
There was one similar opportunity in the late 1980s, early 1990s when the RTC () was the set of circumstances that occurrence, a perhaps twice in a lifetime that offers unparallel opportunity to purchase undervalued real estate at unnaturally depressed prices. This was a time of fortunes were made in the acquisition of overly distracted real estate assets. (2) Overbuilding, (3) The Savings & Loan banking scandal and fraudulent activity of mortgage lenders and appraisers. (3) main factors (1) change in US tax laws affecting real estate investors.
So what & # 39; s causing the Perfect Storm Today?
1 Massive residential property speculation in 2003-2006
(2) Too much credit available to purchase and finance real estate which was overused by lenders and uncreditworthy borrowers
(3) The current overall US market decline / recession that is spreading into a global crisis
(4) Current lack of funds for qualified borrowers
(5) Current oversupply of properties for sale
We can not see it, there are 2 stages that the other side of the creation of a perfect Storm and opportunity to purchase real estate at incredible values - The Housing Speculation or Run-Up phase and the Market Collapse. examine each of these phrases so you are more informed on what has has led us to this perfect point in time to invest in real estate.
LOCATION. LOCATION. LOCATION. LOCATION. LOCATION.
Underlying Market Strength
I have a different spin on this saying. "Mine goes more like," location, timing, cash - flow "I 'm heard the age - old adage," location, location, location ". If the underlying market is not strong with potential for rental and value increases in the future, then what & # 39; s the point of investing in the first place?
First, let & # 39; s look at Metropolitan Phoenix as a whole for location. Why the heck would you want to buy property in the middle of the desert?
Even though our market is severely depressed right now, Phoenix has show remarkable durability and long term appreciation for a number of reasons:
(1) Climate - People want to live here because of the warm, sunny weather. It is why snow - birds come in flocks for the winter and to retire. We all know that the baby boomers are reaching retirement age.
(2) Affordability - Phoenix is one of the most affordable places to live in the US. While this statistic took a temporary hit during the last boom, we have fallen back down to being extremely attractive to business based on real estate values, This will continue to attract business, labor and retirees to the area for the long term.
(3) Standard of Living - very high. Ease of commuting, and a fresh young, vibrant city leads people to to to to live here.
This puts pressure on the housing market and inevitably leads to appreciation .
After deciding that Phoenix is the right spot to invest in real estate, your next task it to pick a sub-market within the metro region that makes the most investment sense.
(1) Area of greatest price declines
(2) Proximity to employment
(3) Proximity to amenities
(4) Quality of area
(5) Strength of rental market / values
These will be later on in this report and a qualified real estate professional can assist you in in sub-markets to invest in that match these criteria.
The Residential Housing Value Run-up
Phoenix real estate has always appreciated at a steady pace with the exception of a few massive run-ups in value followed by sharp declines. The decline of the late 1980s was briefly reviewed above. So what has caused the latest mass-speculation and run- up in values between 2003 and 2006?
Well there being a few culprits that worked together to create this latest debacle.
(1) Underlying Market Strength - As stated above, Metro Phoenix has inherent under market strength. That is what got the ball rolling and led to the mass speculation for 3+ years.
(2) Cheap Credit - Interest Rates came down to unheard of levels making it easier to buy more assets with less money.
(3) Overabundance of Credit - It started in the late 1990s when Bill Clinton passed legislation freeing up credit to allow more people to buy homes - the sub-prime mortgage market was created. People that really should not have been buying homes in the first As credit loosened and values started as equity lines of credit and refinancing freed up the equity in people 's homes and reviewed them This result: even homeowners that bought early in the boom and the early to the mid-2000s. saw their property values increase 50-100% over a 5-6 year period had little to no equity left in their homes by the end of this appreciation cycle as they leached it all out through equity lines of credit and other borrowing methods.
(4) Investor Stupidity - As values went up and loans became easier to attain, investors started buying property with no money down and buying as many properties as they are can love for (see next point below) It became an exercise in buy high and hope to sell higher.
They got to the point that, in 2005, there were busloads of investment that were driving around in town stopping in new hosts. Then put in there owning it yet! Then they are either flip it right now it was completed or hold it in hopes of it appreciating even more.
As a result, new homes were overbuilt in 2004, 2005 and 2006 by a wide margin due to & # 39; fake & # 39; demand in many buyers were investors with no intention of ever living in the home!
As you build a pyramid of fools, there are less and less than fools as you work your way to the top When you finally reach the summit the greatest fool at the top looking around and sees no to one dumber than himself to buy his property for more money and so, the whole structure comes crashing to the ground. The Market Collapse & # 39 This is further discussion on below with the market number of listings coming on the market with few takers. ;
(5) Lender & Investor Fraud - As the run - up in values was occurring, lenders and investors started to get greedy. Lenders began offering programs that made little or no sense for some homebuyers to get them into a home. Many times , putting a buyer into a home big than they knew their client could afford with programs that their did not fully understood.
Declared income & # 39 ;, & quot; no-doc & # 39; loans and lenders were turning the other that investors and homebuyers were fraudulently misreporting their income too high on & cheek and underwriting the loans with no clear proof of the borrower & # 39; s ability to repay.
The Market Collapse
As why did the proverbial% # $ hit the fan? Greed and loose credit was the culprits and it culinated when investors and homebuyers ran out of money to purchase and overall economy began to slow down as people started running out of capital and credit. the real estate market began to slow down, property sellers remained steadfast in their belief that their home was worth more money than the current market value as it had been in months past. But it was not.
From there, the first phase of the market collapse occurred. Property owners unrealistically priced their homes for sale too high and buyers began to pull off to the sidelines as they were unwilling to pay the exorbitant prices for homes As the market leveled off and began to slowly correct, phase two began ... listings began to pile up and very few. .
Because all these investors were buying property based solely on appreciation and not cash flow, they are counting on the other side of the market. Some tried to rent, some have not paid so much for the homes, the properties were unable to cover the expenses. Some investors and homeowners hung on for longer than others, but almost all of them historically cave in to the realities of declining property values.
Investors planned on short hold times so naturally acquired lower interest loans with shorter terms as They planned to sell within 1-2 years. They are not sell, these loans became due to sorrow, these loans became declining, they could not get new loans to cover the value of the old loans. Many more property owners walked away for this reason and it continues today.
Many went the route of short sale to minimize the affect on their credit rating and those who could not or would not go that route historically walked away from their property and let the bank take the property back.
I have another article posted on this site detailing the Pros and Cons to purchasing Short Sales and Bank-owned Properties in Phoenix.
This forced home values down further and faster as troubled properties are included aggressively priced at least 5-10% less than current market value. This cycle has continued to force values down for months to the point where most submarkets in Metro Phoenix have fallen 25-50% in the past 2 years. Some properties have fallen over 60% from their highs 2 years ago.
This is further compounding. This is further compounding ___ ___ 0 ___ ___ ___ 1 ___ ___ 0 the downturn as properties in poor condition are even harder to sell and must be discounted that much more in order to find a willing purchaser.
When Will The Housing Market Hit Bottom?
Good question. Here & # 39; s the answer .....
I have no clue. In fact, no-one does. NE that the investment wisely NEAR the bottom Purchase properties that produce positive cash flow, and wait to ride the wave back up.
Why now?
There are several critical elements in the state of the residential real estate market and the procurement to turning the corner. Many of these criteria are now pointing to real estate values bottoming out. Here are some of the statistics I have been watching carefully which lead me to believe we are finding resistance that is creating a market bottom.
(1) Housing affordability has shot through the roof
(2) Residential Resales are on the rise
(3) Homebuilding is at a 25 year low
(4) Applications for new mortgages are on the rise
The biggest concerns that still remain are:
(1) The overall economy is weak and likely to get worse before it gets better
(2) Credit is harder to obtain and larger down payment are now the norm when buying real estate making it less available for more people
(3) Still too many foreclosures and short sales coming on the market from the frenzy of a few years ago.
Affordable Housing Is Back!
A number of 65-70 shows considerable value and In the speculation frenzy in the mid-2000s, that affordability plumeted to numbers never seen before. as As can see, one of the driving forces. prices have fallen, you can see the affordability coming back to the point where now, we are above our historical average.
* graph not available on this site *
Residential Resales are Picking up Steam!
This shows that we are starting to hit a resistance at the bottom as If this trend continues, it could signal the slow-down in price Declines and near-term stabilization of our home values.
I think it will be a few years before we see a marked improvement in our area where values begin to rise again. Will it happen? Absolutely! As I have attempted to explain above, the overall Metro Phoenix Market is very strong for numerous reasons and is poised to be a major growth region again - and not too long into the future, either.
So why not wait until things start turning around? Well, you certainly can, but there are 2 reasons why now is the ideal time to get involved.
As the market shifts more towards demand more more buyers chasing good (1) Abundance of properties (supply) - with so many troubled properties out there. I will be more difficult to find really good deals and there will be more competition to buy them.
(2) Positive Cash flow, it is reliably easy to find residential properties that will produce a positive cash flow. Basically this means that the rental income should cover all the expenses and mortgage costs leaving you with money at the end of the day.
Why Residential Property?
Normally, I do not recommend purchasing individual may not invest cash flow. The major benefits you may invest in are:
(1) Liquidity - Simply stated, there are more buyers for this form of real estate than any other. It is therefore easier to sell when needed for the greatest value.
(2) Appreciation Potential - for the smaller investor, it gives you the greatest potential for appreciation if purchased at the right time
(3) Lower mortgage rates than commercial property investments, typically
(4) Values may have fallen 30-60%, but rents have not really fallen much at all.
It is now easier than it has been in decades to buy residential property in Metro Phoenix at a positive cash flow.
How Do I Buy Property?
I can not guarantee. I can not guarantee results or success for any investment. It is up to you to properly evaluate investment opportunities and make decisions in line with your goals and risk tolerance.
Picking the location
Here are important elements in the area to purchase an investment property
(1) Safe area
(2) Close to highway access
(3) Within 30 minutes drive time of major employment centers
(4) Proximity to shopping and other amenities
5 Proximity to schools
(6) Strong rental market - I mean with a track record of other properties being rented for rates which you can use evaluate the liability of the property as an investment
Picking the type of property
Size criteria is meant to keep the property in the range of properties that are easiest to lease, rent for the highest value per square foot and are also easiest to sell down the road since they conform to the largest market segment of potential buyers.
For Single Family Homes
(1) 3-4 bedrooms, 2+ baths
(2) 1,200 - 2,000 square feet with 2 car garage
(3) Newer homes are better. Try and stay with 1995 and newer
(4) NO pool / spa in backyard (too much liability and maintenance
(5) Low or No maintenance landscaping is preferred
For Condos
(1) Minimum 2 bedrooms 1.5 baths
(2) Decent amenities in complex (pool, spa, clubhouse)
(3) Stick with larger communities with 100+ units. If you & # 39; re looking at a smaller complex, make sure to verify the liability of the HOA and fees
The benefit to the exclusive and the community grounds. The downside is that they may may appreciate at a slower pace than single family residential.
Evaluating the numbers
Properly evaluating a property will make a difference between success and the need to be careful. investment and an underperforming one.
We always recommend that you get a HOME INSPECTION on every home plan to purchase to help insure that you are buying what you think you are buying.
Initial Analysis
Before placing an offer on a property, you want to have an afternoon cash flow. Once you know what those cost are, you are ready to evaluate the income and expenses.
Evaluating the INCOME is fairly straightforward. You will want to compare the going rental rates in the area for the singular homes in fair to good condition and use a figure in the bottom of the going rental rates to be conservative.
There is a bit trickier. There are a few items that you need need in order to verify costs and come up with a total expense amount. These may be broken down into the following:
Recurring Expenses
Property management - Figure 8-10% of the gross rent will be paid as management fees on single family homes. The more properties you have under management, the better the fee you may be able to negotiate with a management company.
Insurance - You will need to have enough insurance to cover the home and liability to cover accidents, having tenants in the concessions. Make sure you have adequate coverage
Taxes
HOA Fees - Many single Family Homes in Phoenix belong to a homeowner association where fees are collected periodically for community maintenance.
Utilities - usually paid for the tenant on single family residences, so you do not have to worry about this.
Please talk to legal and tax specialists for more information. The more property you own, the less these items costs per property since you can spread the cost over all your investments.
Maintenance Costs - you may have to pay some one to the main reasons to buy a home with no pool / spa and low - maintenance desert - style landscaping. Once a tenant is in, they are responsible for maintaining these areas.
VACANCY FACTOR - You will not always have have a tenant in the property. If you price your rent aggressively for the market, 1 month per year as vacancy should be more than adequate.
One-Time Costs
They will include Include purchasing the property. You will bundle this into the total investment cost along with the down payment you intend to use.
Escrow fees and other closings costs
Home Inspection
Termite Inspection
Other Inspection Fees (if applicable
Finance Charges (for the loan)
Typically, you will have an estimate for a property. Typically, you will have 1020 days after offer acceptance to run all inspections and tighten up all your figures to make sure your estimates were accurate Speak with your real estate Professional for more information about the procedure of placing an offer on a property
Emergency Fund
It 's important to have some extra money put on the side to cover emergency expenses, a tenant that skips out or is delinquent on payments, repairs costs, etc. Always be prepared for the unexpected.
Sample Analysis
Let 's work through an example so you may see how a financial investment might look on a single family home:
A home like this is fairly typical in today & # 39 We are assume that you will need 30% down to purchase this home. ; s market and may have sold for $ 180,000 - $ 200,000 + 3 years ago.
Total Purchase Price $ 100,000
Down payment (@ 30%) $ 30,000
Loan Amount $ 70,000
Closing Costs
Down payment $ 30,000
Escrow Fees $ 1,000
Finance Charges $ 1,500
Home Inspection $ 400
Termite Inspection $ 100
Total Closing Costs $ 33,000
Income
Monthly Rent $ 950
Less Vacancy Factor (1 month) $ 950
Annual Income $ 10,450
Annual Expenditures (est.)
Taxes $ 800
Insurance $ 400
Property Management (@ 9%) $ 940
HOA fees ($ 50 / month) $ 600
Maintenance / Repairs / Cleaning $ 450
Legal / Accounting $ 250
Total Annual Expenses $ 3,440
NET OPERATING INCOME $ 7,010
Annual Mortgage Payments (@ 7.5%) $ 5,874
Positive Cash Flow $ 1,136
Return On Initial Investment (ROI) 3.4%
return excludes appreciation
Condition Of Property
There are 3 different types of properties you can look at purchasing as an investment as it relations to condition.
Option A - Property In Good Condition & Ready To Rent
Work required is more cosmetic This is a fair condition but requiring cosmetic repair to make rentable. Work required is more cosmetic in nature and easy to estimate. Things like carpet cleaning or replacement, new appliances, repainting, cleaning, landscape repair, drywall touch-up
While you may be able to purchase a property well below current market values and create instant equity by fixing them up, you can also lose your shirt if you do not know what you are doing.
If you are a beginner real estate investor, I suggest you stick with option A until you get your feet wet and a little more experience with repair and replacement costs.
Be Pragmatic
NEVER FALL IN LOVE WITH A Remember, it 's investment. Be a Vulcan. Do not exhibit emotions when dealing with buying a property or renting it to a tenant. HOME YOU. RE BUYING AS AN INVESTMENT. You will not be living in it. Think of it strictly as an income producing asset like a stock or bond. Make sure tenants are properly screened and qualified.
Property Management
Factor them into the theme But it is important to have quality assurance of money to pay them, but they help maintain the value of your asset and save you from those calls at 3 am about a plumbing leak. numbers when evaluating an investment and do not buy anything that does not positive cash flow without management.
Why Not Commercial?
The consensus real estate like apartments, office, retail and industrial investment professionals is this this segment of the market has not bottomed out and will not for a while. time to pick up troubled real estate investments in these asset categories may still be 3-4 quarters away (from 4th quarter 2008).
This drive up vacancy rates and reduces asset performance while on the same time, reducing rental values as more space competes for limited contracts. Investors start It usually takes some price for property down. It usually takes some time for property for owners to catch on to this market trend and reduce their asking prices to falling market values This is the same scenario that is happened in the residential property arena in mid-to-late 2006 and into 2007. I suspect that there will be many many commercial properties that enter default and return back to the lenders creating opportunities for seasoned investors to purchase commercial real estate assets for real attractive values - but the time has not yet arrived. Patience is warrant ed in this area.
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Legal Notice
While attempts have been made to verify information provided in this publication, neither the author nor the publisher assumes any responsibilities for errors, omissions, or contradictory information contained in this document.
This document is not intended as a legal, investment or tax advice. ___ ___ 0 ___ ___ 0 ___ ___ 0 Celestial Homes Ltd, Prudential Arizona Properties and the author assumes no responsibility or liability whatever on behalf of any reader of these materials.
© 2008 Celestial Homes Ltd.
