Archive for August, 2010

I’m all for government oversight of consumer protection, but I wish they’d put more thought into the impact of their regulations before they passed them.  Take California’s SB94 covering loan modification and its effect on California homeowners.  It’s one of those things that, as comedian Harry Anderson used to say, “sounded like a good idea at the time”.  But as with many laws, it has unintended consequences.

Loan modification is a big deal right now, because foreclosure notices are seeping up everywhere you look, from people who’ve been out of work for a long time and can no longer make huge mortgage payments. to people who probably shouldn’t have gotten loans in the first place (no money down, no income documentation).  In theory, banks are willing to do loan modifications because even though the homeowner gets a lower interest rate and the loan is worth less, they have one less foreclosed property to deal with.

Here in California, purportedly as a consumer-protection measure, the state Senate passed SB94.  But it was not thought out well, for several reasons.  One is that the consumer must go through an existing lender, which must be registered with the California Department of Real Estate.  The lender cannot charge any fees until the deal goes through.

The results are more than disappointing.  If someone wanting a loan modification goes through their lender, they have to get in line and deal with the general incompetence of an overwhelmed and understaffed mortgage division.  It’s not surprising, then, that if you research customer happiness with their loan modification, 95% of the results relate negative experiences.  Even the successes are more like horror stories.  I heard of one consumer whose loan modification process took 18 months. According to one Web site, Bank of America has approved just 7% of the loan modification requests they’ve gotten to date.  It’s no wonder that so many people are looking for reputable companies to relieve them of the hassle and frustration of having to deal with their lender.

Now, though, if California consumers want to go somewhere else, well, it’s become much more difficult.  Because of the no-fee clause, companies in California have much less of an incentive to provide services to California residents (companies located outside of California are not bound by SB 94).

Meanwhile, California-based companies and private investors now have much less incentive to participate in the process.  Private investors with funding could be the release valve to offload the pressure from the banking system.  People would pay for this service if they could get a solution without getting cheated, but now they’re forced to work with out-of-state companies if they want to get help.

The result is that California consumers are protected all right — but they’re protected from getting their mortgages under control.

As the summer wears on, I’m seeing a whole lot more activity on our distressed properties. I’m not sure what to attribute this to: investors patiently waiting for the bottom of the market, or our desire to take less in the way of profit to get certain properties off the books. Either way, it’s gratifying.

But what’s causing this? I’m beginning to suspect that the supply of really cheap property is disappearing, or “being absorbed,” to use the industry term, for three reasons.

1)      Savvy investors have undoubtedly snapped up the really good foreclosed properties, the ones in good neighborhoods that were purchased originally by over-extended but well-meaning buyers.

2)      Firms like ours have been churning through the next level of foreclosed homes, the ones with bigger issues but lower price tags.

3)      Cities have become more assiduous about two kinds of homes: the ones they’ve acquired through tax forfeitures, and the ones that have been abandoned. They’re tearing them down in order to reduce blight in otherwise pleasant neighborhoods.

The result: less inventory at the bottom of the market. I’m seeing lists of distressed properties that used to have a selection of prices in the thousands; now they’re in the tens of thousands. That tells me that demand is up.

Sadly, this does not signal less inventory on the market. It only signals less distressed inventory. According to an article posted on the Foreclosure Data Bank Web site on August 2^nd:

“While latest information tracked by market leaders suggests that the rate of foreclosures in America decelerated in 9 out of 10 of the worst affected metros during the first 6 months of 2010, it also reveals that this was not the case as well in metros with over 200,000 residents. There, 3 out of 4 metros reported increased rates of foreclosures, with 17 out of 20 of the worst increased recorded regions in California and Florida.”

The article’s hypothesis (which will come as no surprise to anyone): we’ve cycled through the homes that were purchased at the height of the boom with 100% mortgages, and now the people who have been put out of work by the recession are beginning to lose their homes.

There will still be foreclosed homes available, but presumably they’ll be in better condition, simply because their owners struggled longer to keep themselves afloat. The only downside — if there are too many foreclosures for the market to absorb, we may find ourselves facing a second wave of blight.

A friend of mine showed me an interesting book recently. My friend told me this book had originally been given to him by a man who graduated from college in 1927, and had the bad timing to become a stockbroker. That man was working at a brokerage in San Francisco on Black Tuesday, October 29, 1929, the day investors traded a record 40 million shares of stock. On that day, people following a herd mentality helped trigger a massive loss of financial value.

Though the book didn’t have a fancy cover and it wasn’t more than a couple hundred pages, its first printing had been in 1954 and its eighth in 1980. When I checked Amazon.com, I discovered it was still in print. Its title: The Art of Contrary Thinking, by Humphrey B. Neill.

It didn’t surprise me that it was still in print, because its message is still accurate. We’re seeing it now. When stocks are down, the herd gets out. But when stocks begin to go up again, the herd wants back in. Investors put their money in what appears to be winning and avoid what most say is losing.

When real estate goes up in value, the herd gets in to profit. A few years ago, people scrambled for the opportunity to participate in lotteries for unbuilt houses in Las Vegas. Today, you can have as many of those houses as you want. When the bubble burst, the herd left town.

What Humphrey B. Neill and I both advise: don’t follow the herd. Be an independent thinker. Be ahead of the herd. Professionals study trends, and then take a risk. They commit to taking the uncommon path, and usually do well by doing so. Real profitability is only available when people are willing to do the opposite of what everybody else is doing. Following the masses won’t work, because once the masses have figured it out, the value is gone.

A long time ago, I fashioned the chart you see at the beginning of this article. When you look at the activity and the opportunity that’s available, if you do the opposite of what others are doing, it’s very obvious where you’re going to be successful.

Admittedly, it’s hard to do. It takes independent thinking. People follow the crowd because it’s safe. It stems from our earliest instincts, when, if we stayed with the crowd, we didn’t get mauled by the sabre-toothed tiger.

Right now, companies and investors of all sizes all over America are playing it safe by sitting on lots of cash. When interest rates start going up, as they inevitably will, real estate activity will pick up as well, because the herd won’t want to be left behind. I’m confident that DBNR is uniquely positioned to take advantage of what’s going to come in the future, and I submit that the time to be contrary is now. A rising tide lifts all boats, as they say, and those who wade in now will find themselves riding a tremendous wave later.

This is another in an occasional series of profiles of DBNR Investments customers. Click here for more.

Who knows why people end up living in the wrong part of town? Maybe they’ve just finished picking up the pieces of a long, financially debilitating family illness. Maybe a divorce diminished their resources. Maybe they were laid off and had to move to economize. It doesn’t matter. It happens.

I postulate this because I don’t know how DBNR prospect Kurt and his family ended up in the wrong part of Indianapolis. All I know is that he lives in a downtrodden apartment house there with his wife and two sons. It’s not a safe place. He’s called the police multiple times about drug dealing and prostitution he’s seen there. He’s almost been mugged a couple of times. And it seems to be getting worse. He’s installed deadbolts and other security devices, at his own expense.

The apartment owner is no help, but worse, neither are the police. They’re actually tired of him calling them. They’ve come right out and said that they can’t keep sending out patrol cars about threatening situations, rather than actual crimes. They’ve gone so far as suggested that he move.

As it happens, on his way to work as a scheduler for a construction company, Kurt passes by one of the properties we own. As it also happens, Kurt’s done more in construction than just work as a scheduler. He’s built houses from the ground up.

He’s also just the kind of person we like to work with. When he called, I asked him to send copies of a pay statement and his driver’s license so I could confirm he was who he said he was. I briefed him on how our process works, and it was clear that he’s an intelligent guy with a good income, but not a lot of savings. I told him to go by the house to see whether it suited him. Other people had gone to look at it and we’d never heard from them again, so I was interested to hear what someone with Kurt’s background would report.

He did indeed call back. As it turns out, while Kurt seems reliable, the house doesn’t. He could only get into the kitchen and one bedroom, because parts of the roof have fallen in, and some of the walls have disconnected from the ceiling. The house was buckled in the middle and the floors creaked with every step. He said it was in horrible shape, and it would take a year and at least $40,000 that he didn’t have to get it in shape.

We’d encountered problems like this before, so I got out a map. Sure enough, the property was within a half-mile of the Ohio River. I’m pretty confident that at some point in the past, the property flooded, and the foundation has rotted.

The only other property we have in the Indianapolis area was too far from Kurt’s work. (This is the downside to having properties spread randomly across the country; we’re not competing with ourselves by selling distressed properties, but we also don’t have a lot of inventory to offer an interested prospect.)

Is that the end of the story? No siree. DBNR’s goal is not just to make a profit; it’s to help people like Kurt who want to get out of bad neighborhoods and get into their own homes. I know several wholesalers who have properties in that area, and I’m going to see if I can find someone who can match him with a property. DBNR may not make any money off of Kurt, but he will help us fulfill part of our mission.