On October 19, 2012, The Norris Group proudly presented I Survived Real Estate 2012. An expert line-up of industry experts joined Bruce Norris to discuss perplexing industry trends, head-scratching legislation, and the outlook for real estate in the coming year. Over $77,000 was raised to benefit Make a Wish and St. Jude Children?s Research Hospital. This event would not have been possible without the generous help of the following platinum partners: ForeclosureRadar, the San Diego Creative Real Estate Investors Association, the Investors Workshops, Invest Club for Women, San Jose Real Estate Investors Association, Frye Wyles, MVT Productions, and White House Catering. Lean more about the panel and how to attend at isurvivedrealestate.com.
Bruce welcomes Rick Sharga and Sean O?Toole to the panel. Rick is probably the most quoted person in the big scope of the real estate industry. He has been quoted for the last 8 years, some from RealtyTrac and mostly just recently from Carrington. He is the executive vice-president of Carrington Holdings Company, LLC and one of Bruce?s friends in the business. Sean O?Toole from ForeclosureRadar is a good friend of Bruce?s, and they had spent some time recently in Washington D.C. He is the owner of ForeclosureRadar, but prior to launching this business he was a buyer at the trustee sale steps. Prior to this he was a computer progeny back in high school.
Bruce began by discussing with Rick the new world with which we are contending. Bruce asked him what Carrington?s business model is. Rick said it?s hard to explain since Carrington is involved in just about every aspect of the single-family residential real estate business. The company started as a hedge fund back in 2003. They bought a mortgage servicing platform when New Century went bankrupt in 2007. They bought their servicing business and created a property management business. After this they created real estate brokerage business. Now they are also doing mortgage originations. They work with anything from investing in loan portfolios all the way through selling, maintaining, and renting properties. They have 16 different business units operating under the Carrington family. Bruce asked if they are all located in California, to which Rick said they have two businesses that manage the investments that are actually in Connecticut. The title business is located in Plano, Texas, while everybody else is in Southern California.
Bruce said Rick?s interest in the space of single-family homes emerged much earlier than other people. Their CEO had the notion back in 2006 when the company invested in pools of subprime loans, which we all know performed really well. They had a couple of foreclosures, and the business model at the time was to foreclose on the property, list it, then keep discounting it until it clears. He had a really revolutionary thought that we should maybe hang onto some of the properties, rent them out for a while, and see how that worked. This started back in 2006 when they were renting their own portfolio properties and building out a network of property managers in about 35 states. This allowed them to subsequently start renting out properties on behalf of Fannie Mae, and they have been the largest rental property manager for Fannie. They have probably rented out and managed over 15,000 properties in the last few years.
Bruce asked Rick if he thought his business model was viewed by some of the people who joined him as being new and they had never seen anything of that size in the single-family business prior. Rick said the big shift happened when they raised almost half a billion dollars through their partners at Oak Tree to go out and buy vacant REO properties, convert them into rental units, and hold them for the next 5-7 years. They would then manage these properties as rentals. Rental units nationally are occupied at 97%, which is an all-time record. Rental rates are going up, and we have somewhere in the neighborhood of 6-10 million displaced potential homeowners who either don?t have a down payment, weren?t qualified for a loan for several years, or they have opted to stay out of the market as buyers for the time being.
Extensive research suggests that most people still prefer to live indoors. They are doing on a national scale what everyone else has been doing individually for years now. They are trying to provide a place for people to live who either cannot or do not want to buy a property right now. The big difference is nobody has done it on a broad base national scale. This is the ultimate mom and pop small investor kind of operation. 12% of rental units nationally are single-family units. Most of them are managed and owned by somebody on a local basis, so they are trying to extend it a little more broadly.
Bruce asked when Rick says his exit is going to be 5-7 years out, he wondered if this is market driven and he sees now being a good time based on the market. Rick said their model is a little different from the other investors. There was one this week who announced they were pulling out already. One company that produced 300 properties up in the Bay Area amazingly enough did not get the returns they expected since they overestimated the returns. They were rewarded with price increases. Rick saw a hysterical article in which the headline read, ?Investors Learn the Price of Hubris.? Rick thought to himself that they didn?t learn anything; they just made a healthy profit on the flip more quickly than they thought. They thought their model was a hybrid and they were looking at a relatively low annual return, somewhere between 4 and 8% a year depending on the market and with home price appreciation. They are very selective. They are looking at the Inland Empire, but they are not looking everywhere in the Inland Empire. They are looking at almost neighborhood level in the same way that others do and at markets they think will appreciate over time. There are a couple other investors out there who are trying to scale up rapidly, and they are the ones messing up the market right now.
When you see properties selling in Phoenix for 120-125% of the list, it is these people coming in and flooding the market with cash. They are trying to get it to scale so they can form a REIT and use this REIT to refinance what they just purchased using debt. Their yields automatically increase. Rick talked to someone about this at a recent conference, and Rick asked the guy why he was knowingly going in and overpaying then financing it using leverage to improve his yields. Rick told him they had just gone over this, and the other person agreed with him but it just wasn?t on that scale. Regarding a REIT format, Bruce wondered if the property was going to stay a rental once it goes into rental status and becomes part of that REIT. Rick said it will stay rental, but not forever. Depending on how you structure the REIT, you can ultimately sell off some of these properties. However, you do not sell them off in large groups because you need the cash flow. The cash flow is what makes the REIT work. You need a certain number of properties in the REIT active at any point in time in order to make this happen. A lot of this is new for Rick since he came from RealtryTrac and used to count the number of houses in foreclosure and is now dealing with structured financial products. The SEC will knock on his door and tell him he cannot talk about this. It is a whole different model they are looking at right now, and it is very different from an individual investor perspective and what Rick?s company is looking at doing.
There are already people talking about securities, so now they are going to create new security products. Rick said he had been saying to the press that they cannot do that because there is no history. There is no track record of performance of nationally-scaled single-family rental units and how they are going to perform. You have to ask what your vacancy rate is, what you are going to pay for maintenance, what it costs you to manage 38 properties in a given geography as opposed to 38 rental units in one facility. There is not enough history to accurately gauge this, but Rick is sure the rating agencies will come up with something that they stamp AAA and then it will all be safe.
Bruce asked Rick if he recognizes that collectively Rick and his company are market makers. Rick said he believes what they are seeing right now from a pricing perspective is to a certain extent an investor-driven recovery. However, the institutional investors cannot take all the credit. They are not buying nearly as many properties as a group that individual investors are buying as a group. In this area Rick?s company is still outnumbered. When you go into Phoenix, which is now oversaturated, you see everyone now running into Atlanta and recently Las Vegas. This is very scary because the demographics and the market conditions are so different in that market than the other markets to where it does not make any sense.
There are three different sources for properties that you can purchase. There is new home development of which there has been virtually none of over the last five years. There is existing home sales, which are limited since between ? and 1/3 of all homeowners who are upside-down do not or cannot sell their property. There are also distressed properties, which are technically existing homes that are put into a different bucket. Sean can attest that we have seen foreclosure activity slow down to a crawl over the last couple years. All three of these things are lower than normal, and there is a limited amount of inventory available. At this precise moment in time Wall Street came in and gave $8 billion to spend on REO properties. Rick said they had only bought a few hundred properties at this point, and they are blessed by having a very patient investment partner who understands their model and their approach. Rick said this is clearly a race the tortoise is going to win. They are not going to go out and over pay or underscore on yields. They are going to buy the properties that meet their model, most of which are bought from individual investors, and they are going to be in this for the long-term.
One of the misconceptions is that you are buying big pools of properties that no one has access to or big note pools. Bruce wondered which one of these is true. Rick said there is actually a syndicate in South America who puts together these on-the-side bulk deals that nobody knows about. Rick made sure everyone knew there are NO bulk sales. There has been so much hue and cry over how bad bulk sales are. Rick said he was not going to argue with anyone in the room, but mathematically you cannot make an argument that suggests that anybody should be selling properties off in bulk discounts right now. There has been one bulk sale from one of the GSEs through the FHFA where slightly over 2,000 properties were announced in the sale. It took over a year to execute the sale, and not all of the deals had been done yet. In a year they have probably seen almost 1,000 properties move.
Rick said they are probably going to sell between 4 ? and 5 million properties this year. For anybody to get their knickers in a knot over 1,000 homes over that period of time just needs to get a life. There has been one major bank that has conducted two bulk sales where the total number of properties included was 600. There is a lot of discussion about this, but the bottom line is that most of the institutional investors are out buying thing off of the MLS. They are buying it from individual or small investors who are selling off their pools at higher prices than what they paid. In a couple cases, we are seeing some of them starting to go into trustee sales. They have opted not to do this at this point, but there are companies that are going in and doing this and there really aren?t any bulk sales.
Bruce wondered about note sales. Rick said these are a whole different model, and the reasoning and methodology for handling them is very different. They have spent over $1 billion this year buying nonperforming loans. The bad news for anybody waiting for REOs is that less than 20% of those loans will go to foreclosure. The intent is to recap, and this is one of the few cases in Rick?s industry where everybody?s interests are aligned. Their investors will actually get the best financial return if they are able to take a nonperforming loan and modify it into a performing loan. The second best financial return is if they can convince the borrower that if they do not qualify for a modification or simply do not want to do one to instead do a short sale or deed in lieu. When they have exhausted every alternative they go to foreclosure, which is the worst financial return for them. There are some companies who are not doing much business right now, and a different model they use is to buy the nonperforming loan, immediately foreclose on the borrower, then try and flip the property. Rick said this is not their model, and 80% of the properties involved in the note purchases they do are either modified or go out by way of short sale.
There is now another option they did not have a couple years ago as an industry. Of the 20% that they do end up foreclosing on, they will take a look at the ones that might make sense for the rental markets. When you buy a pool of nonperforming loans, you do not get to select exactly which loans and exactly which markets. Therefore, not all those properties really fit that business model anyway. It is a much better resolution for borrowers, communities, and the housing market since they are removing a lot of what would be distressed inventory. This keeps prices stabilized, and in a lot of cases it keeps borrowers in their homes. Bruce said it is really on a scale they would not be able to participate in anyway since they would have to see multiple states within a day or two. Rick said the issue is we are buying properties in these states with these pools they would not normally view. It takes over 1,000 days to execute a foreclosure in New York, and as an investor you would not necessarily want to buy a property in New York. However, if it is part of the pool, it means you are going to get a lot of properties in California, Texas or somewhere else. This is part of the deal and you have to deal with it.
Bruce continued his discussion with Sean O?Toole. Sean said long before that he did not think shadow inventory would end up crushing the market and showing up in big quantities. Yet, that rumor is still alive and well and we are still waiting for it to happen. It is eminent, but now it is after the election or the first of the year. Bruce asked Sean what the banks own right now, if it is less than a year before, and if the pace is likely to go up or down. Sean said bank-owned inventory right now is around 64,000 units in California. This is about a 30% decline from a year ago. It is still taking the banks on average about nine months to solve that inventory, but it is less than 8 months of inventory. There is actually a shortage of REOs, and Sean said he thinks any REO agent can attest to this.
Bruce asked if the lenders are going to think it is okay to be aggressive and go after the people who are delinquent. Does this look like their model? Sean said the problem is the model changed in September 2008. When they announced TARP, everybody thought it was about loans to the banks, but really what it was about was supporting the mortgage market, buying mortgage-backed securities, and not forcing banks to sell these properties at these distressed prices. Before September 2008, if a home was 90-100 days delinquent, depending on the regulatory agency the bank had to foreclose. The regulators enforced this, and you had to move the thing through the process. They changed the rules at this point in time, which was probably good given the fact that we were running out of money to bail out the banks. The other thing they did was they changed how banks had to account for their assets just in time for the banks to pass the solvency test. Instead of having to mark them down to their current market value, they can mark them to a model that theorized that most of these would pay off someday and their losses were only 5%. Most of the bank-earning reports are usually gaining these loan-loss reserves. By lowering the loan-loss reserves they report positive earnings. The bottom line is the game has completely changed and it is not in the banks? best interest to foreclose or even move these things through the process.
Bruce asked Sean if he agreed on his presentation at the beginning of the event. Sean said he agreed, but on one chart that showed how much he was saving on payments versus rents was true in Riverside and San Bernardino. However, it was not true in Orange County. We are in different places in different parts of the market. Sean said he thinks Riverside overcorrected, and we now have a yield-driven market and not a comp-driven market. Bruce said what he thinks is interesting and something he has to be aware of as an investor is you have an oversupply of buyers with an FHA qualifying loan limit since they can now get an FHA loan. You have to be sure that the price range is inside that loan limit, or the demand is not there. In Riverside you cannot say a $900 grand house is going to do really well when it does not have a lot of buyers since this is not where the bulk of the people are looking. This is a concern.
To find out more, tune in next week for I Survived Real Estate 2012, part 4. The Norris Group would like to thank their gold sponsors for supporting the event: Adrenaline Athletics, California Property Solvers, Coldwell Banker Pioneer Real Estate, Elite Auctions, For Investors By Investors, In a Day Development, Inland Empire Investors Forum, Inland Valley Association of Realtors, Investor Experts, Inc., Keller Williams of Corona, Keystone CPA, Las Brisas Escrow, Leivas Associates, Mike Cantu, Northern California Real Estate Investors Association, Northern San Diego Real Estate Investors Association, Personal Real Estate Magazine, Pilot Limo, Realty 411 Magazine, Real Wealth Network, Rick and LeaAnne Rossiter, Southwest Riverside County Association of Realtors, Jon Risinger Photography, Sonoca Corporation, Spinnaker Loans, uDirect IRA, Wilson Investment Properties, Tony Alvarez, Westin South Coast Plaza, and Winning in Tough Times, LLC. See isurvivedrealestate.com for the video from the live event.
For more information about The Norris Group?s California hard money loans or our California Trust Deed investments, visit the website or call our office at 951-780-5856 for more information. For upcoming California real estate investor training and events, visit The Norris Group website and our California investor calendar. You?ll also find our award-winning real estate radio show on KTIE 590am at 6pm on Saturdays or you can listen to over 170 podcasts in our free investor radio archive.
About Bruce Norris
Bruce Norris is an active investor, hard money lender, and real estate educator with over 30 years experience. Bruce has been involved in over 2,000 real estate transactions as a buyer, seller, builder and money partner.
Tags: Aaron Norris, bruce norris, Carrington Holdings Company, ForeclosureRadar, i survived real estate 2012, industry trends, Nixon Library, real estate outlook, REIT, Rick Sharga, SEAN OTOOLE, shadow inventory, the norris group
Source: http://www.thenorrisgroup.com/blog/news/i-survived-real-estate-2012-part-5-305/
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