Don’t Believe Everything You Read. . .

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June 1979
Vol 1 No 10

After a couple of months on the road, I’ve just finished wading through a few hundred clippings, articles, and investment letters. Everyone seems to be trying to forecast the future in terms of his or her favorite investment medium. I must confess that my own personal crystal ball has been in the shop for several months. Oh it told me WHAT was going to happen, but it didn’t tell me WHERE or WHEN. I decided to go back to using my head and common sense in deciding how to invest. After all, there’s no “bad” or “good” news per se. there’s just “NEWS”. We see it as bad or good only in terms of the way it affects us personally. By maintaining our perspective and planning rational responses in advance we can prepare to take advantage of almost any turn of events.

For example, I’ve been reading lately about the real estate crash. Yet I find it difficult to find anyone who is willing to sell me his home at a price below that which he paid. Even referees in bankruptcy seem to want houses to sell at a profit. Oh I’ll admit that many people are selling their homes below their anticipated profit levels on soft terms. Perhaps real estate “crash” really means a crash in seller’s day dreams. Doesn’t it make more sense to evaluate the investment market in terms of our own local and personal situation rather than to depend upon “experts” in faraway places who at best can only make general observations about the market? Putting it another way, my job is to inform you of alternative opportunities in the market. Your job is to use my input in the way it will best help you to meet your goals within your own capabilities.


LET’S GET BACK TO FUNDAMENTALS –WHERE THERE’S LIFE, THERE’S HOUSES. . .

Before you automatically believe “NATIONAL STATISTICS” generated by various news media, be certain they apply to you. Normally real estate news relates to marketing or building activity. These are both affected severely by interest rates which in turn are controlled by supply and demand. THESE AFFECT SPECULATORS DIFFERENTLY THAN THEY DO SFH INVESTORS! Speculators typically buy with high leverage on short term loans expecting to make a profit through resale or refinance on a market rise. Developers and builders are both speculators and they along with real estate sales people lose during periods when buyers can’t afford to pay high payments. Economic depression, high interest rates, high prices, or a combination of those can wreak havoc with speculators in real estate. That’s been happening for the past couple of years, hence “real estate crash” stories.

SFH Investors see the reverse side of the coin. When people can’t buy houses, they don’t quit living in them! They’ll pay to rent as nice a house as they can afford. As the supply of affordable housing dries up, competition for decent housing heats up. A classical supply/demand situation causes rents to rise. As government moves in to ease the situation, it usually makes it worse. Subsidized housing and rent controls are a favorite. They just aggravate the housing shortage as legitimate investors are driven out of the marketplace. New housing construction stops and apartments are converted to condominiums, taking more rental space away from those who need decent housing. Condo moratoriums and court rulings favoring tenant rights merely drive investment capital out of the market into more favorable situations.

Landlords tend to receive a lot of bad press as a result of economic slowdown, but their rents rise and vacancies decrease. When the real estate news is darkest, landlords often experience their greatest net operating profits. In Los Angeles the newspapers are making a lot of capital out of a notorious slumlord brought to bay. This is unfair to legitimate landlords who’ve been providing shelter when no one else will do it. As investors who’ve risked capital, they’re entitled to a return. Demand from USERS for good housing drives up the value of their houses. So does inflationary government policies. So does their increased rental cash flows. The message: for SFH investors, BAD NEWS IS GOOD NEWS. During inflationary periods, house values pace the CPI. And in recessions, rents rise dramatically. SFH are the ideal double edged hedge in areas where households are growing. Demographics rather than economics control their performance.

Now let’s put those headlines into perspective. In 1977 the hottest markets in the United States for single family houses were San Diego and Orange County, Calif. and Washington, D.C. In 1981 houses in these areas continued to increase in value, but at rates from 8% – 14% rather than at their former rate of about 2% per month. This was during a period when almost every other investment alternative was losing money except Treasury Bills! Speculators who over leveraged SFH with high interest rate loans lost money. So did Builders, Brokers, and Developers. So did S&Ls. But not SFH investors! The bottom line remains: SFH investments, held for the long term with feasible financing continue to outperform any other alternative in terms of tax-sheltered income and growth!

EUROPE’S SFH INVESTMENT HISTORY PARALLELS OUR OWN WHEN IT COMES TO FUNDAMENTALS.

For two weeks prior to my addressing the International Investment Conference in Paris I poked around some nearby areas looking at real estate. In general prices have increased at about the same rate as the United States. Rents are comparable to those in major population centers in America. There isn’t enough housing to go around. Interest rates and prices are the culprit. Government has tried all the standard ploys with no success. Financing ranges from about 14% for a 25 year variable interest rate loan in England to lease/options being advertised by a tract builder in France. In Italy a 10 year level pay loan based upon 20% of the value of the house is standard. So is a 20% inflation rate that has driven prices beyond the reach of most citizens. In most of the countries visited, foreigners can purchase property only with great difficulty – or not at all. This contrasts with the U.S.A. where we sell property wholesale to anyone who can pay for it. Perhaps the Europeans recognize the dangers inherent in surrender of their country to aliens for profit. We could learn something from them.

THIS MAY BE THE FINAL OPPORTUNITY FOR MOST AMERICANS TO BUY THEIR HOMES.

Why aren’t people buying homes today? They can’t afford the down payment and the monthly payment at the prices they must pay. Only 8% of American citizens can afford the average priced house in the USA. Most people couldn’t afford the house they live in if it had to be purchased on today’s market! As soon as interest rates drop, we can expect the market to turn – right? WRONG! Look at the figures and see if you agree. It is estimated that 7 million buyers would enter the market if interest rates were to return to 9% for home mortgages. Suppose though some miracle President Reagan was able to pull it off and interest rates were to drop to that level. Where would we get all those houses? We can’t build communities fast enough.
Unleashed pent-up demand would make the housing market resemble that which existed in San Diego and Orange counties in 1977. House prices increased by 25% per year. It would happen again, but look at the results. Today, at interest rates of 16% a $60,000 loan on a $75,000 house would require payments of about $1000 per month with taxes, insurance, and utility costs added in. At 9% that same house would carry payments of $684 or thereabouts. If that same house increased in price because of market demand at 25% for 2 years, the payments would rise to $1140 per month based upon the same math as above. We’d soon be back to a market situation in which few could afford the costs even at 9%. This is what has happened in Europe. It could well be the fate of America.

When we combine all the converging factors of high costs, limited supply, lowering of average savings, government competition for long term capital and credit, and the possibility that the Supreme Court may soon outlaw assumptions of existing low interest rate loans, house ownership by average citizens may become a thing of the past. When one takes a long look at the “new” mortgage plans being offered by banks, they look a lot like the loans being offered in the 20’s and 30’s. We were a nation of renters then, and we may well become one again! Landlords and homeowners could be the elite.

SEVERE CRACKS ARE BEGINNING TO APPEAR IN FINANCIAL INSTITUTIONS – BEWARE!

Cash flow, short term credit, bad loans, dis-intermediation, competition for deposits have turned financial markets into a battle ground, bloody with red ink. It affects all of us. The thrift industry, S&Ls, are thinly capitalized at best with only about $27 Billion in total net worth. They are losing it at an annual rate of $5 Billion per year. With little experience in handling negative interest rate returns they are trying to expand their range of services to gain entry into the consumer credit field. Each month we are seeing more reported failures of thrift institutions. FSLIC has done a remarkable job in forcing shot-gun mergers and depositors so far haven’t been hurt.

Commercial Banks are having troubles of their own. They too are faced with the need to expand or to die. They are merging, buying up defunct lenders, and moving into new markets through holding companies. They face a formidable foe in the form of the Money Market Funds and the Financial conglomerates such as Prudential, American Express, Sears, and Merrill-Lynch. The entire financial picture is becoming blurred. Now more than even is a time for caution. Here are some of the reasons.

Mergers of strong banks with weak ones often merely create one big weak bank. When lenders face massive withdrawals of deposits, it creates a domino effect within the industry. For example, should the Treasury Department require banks to impose a withholding tax on interest earned, there could be massive dis-intermediation of funds to Money Market Fund accounts, Bonds, or Commodities – or even foreign currency accounts. Such as move has been proposed. It could have dire effects. Banks for some time have been raising money using “buy-backs”. In effect they sell their “paper” at discount to other banks, money-market funds, etc., buying it back at a price to assure a high yield. This is the same thing as having a balloon note due on a certain day. If depositors take their money out of the bank, the banks could default on their buy-back agreements.

Like a stone thrown into a pond, the ripple effects could be enormous. Once the scramble starts for credit, the stampede can easily follow. As lenders seek funds they call commercial loans. They dry up operating lines of credit, adversely affecting businesses. Major corporations seeking short term financing are unable to refinance their own commercial paper. Defaults might shake public confidence in the Money Market Funds that invest heavily in this paper. A run on the $200 Billion in un-insured deposits could cause bankruptcies of some funds the same way they did with R.E.I.T.s in the mid ‘70s. A liquidity crisis of major proportions could be triggered by a single false step at high levels of government, industry, or financial institutions. Don’t get caught.

As we said on page 1, knowing how to avoid trouble is the key to success. If you are holding savings in banks, savings & loan associations, or money market funds who invest heavily in commercial paper, you’d be in a much safer position in T-Bills or Money Market Funds who invest exclusively in U.S. Treasury obligations backed up by the full faith and credit of the United States Government. Deal direct rather than through banks to be certain your money has actually been received and receipted by the Treasury or the Federal fiscal agent. Call them. They’ll tell you what to do.

A final note: In the past few months we’ve seen astounding levels of personal and business bankruptcies. This impacts directly on your mortgages, lease/options, equity sharing, partnership deals as well as the ability of your tenants to pay rents. Take the time to thoroughly investigate the credit and solvency of anyone with whom you engage in business of from whom you purchase mortgage paper. When someone goes broke most of the paper created, secured or not, will be worthless. This includes leases too. Remember what happened when W.T. Grant defaulted on all those leases? Currently we’re involved with a bankruptcy action in which Options are being questioned as fraudulent transfers even though they were purchased years prior to the filing date. Be cautious.


IN THE POTPOURRI DEPARTMENT. . .

Greg Adams, publisher of House Traders, ($18.00/year) reports he has completed negotiations with a National Insurer of houses to provide blanket coverage. Write him care of P.O. Box 1631, Bowie, Maryland 20716 if you’d like to save up to 41% on insurance. Let him know the location, price, construction, etc. and number of houses you have. Greg also reports success with getting qualified tenants to sign 12 separate checks for each year, postdated to reflect monthly rents. Each month he deposits his rent when due.

A recent poll showed Houston, Tucson, Dallas-Ft. Worth, Tulsa, Austin, Phoenix, Beaumont, El Paso, Las Vegas, and Ft. Lauderdale as the cities with the best growth rate potential for the ‘80s. All are “sunbelt”. More significantly, half are in TEXAS!

As a result of a recent swap of mortgage instruments, some 500,000 or son non-assumable loans now held by the Federal Home Loan Mortgage Company (Freddi Mac) are now assumable despite paragraph 17. Check on any problem purchases to see if they qualify.

In Switzerland, the government charges a 35% tax on interest earned. There is little economic growth and low inflation. Germans and Japanese don’t tax interest on savings, dividends, capital gains and their economies have been post war miracles. . .

At long last, the Society of Real Estate Appraisers has recognized that the financing methods employed in property transactions vary the value of the property. Now they’re trying to establish standards to take this into effect in setting property value.

Looking for another investment location? Here are some overlooked towns with long term potential in the West. Beaverton, Oregon; Casper, Wyoming; Flagstaff, AZ; Grand Junction, CO; Helena, MT; Reno, NV; Ogden, UT; Roseville, CA; Roswell, NM; and Vancouver, WA. All are roughly between 32,000 and 100,000 in population.

The National Taxpayers Union reports that we’re now over $11,000,000,000,000 in debt. That’s $138,223 for every taxpayer. Each day $1.65 BILLION IS ADDED TO FEDERAL PENSION LIABILITIES ALONE. $119,821.84 PER MINUTE is spent just to pay the INTEREST.

Attorney Karen Wood, 12345 Oxnard, St. North Hollywood, CA 91606 has been recommended for preparing Land Trust documents in California. Roger Krogen reports that she has done the necessary research to conform Illinois Land Trust to California law. You can call her at (213) 980-9013. Mention the CommonWealth Letters.

OOPS! Last month we showed our CommonWealth Letter Vol. 4, No. 7 to be APRIL. In fact, we’d already published the April edition. This should have read MAY. Please note that this month we’re back on track with JUNE.

The President’s Commission on Housing has recommended that Federal housing funds be cut off from cities that continue to enforce Rent Controls. HUD has rejected the proposal which would affect some 200 cities, but offers no solution for more housing.

 

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