The Glass IS Half Full

The “new, post-bail-out era of real estate” is how Cheryl Johnson describes things going forward amidst the “collapsing global financial markets” in Back At The Ranch. In a comment to Friday’s edition of the Radio Mortgage program Brian Brady and I co-host, the optimistic view I have for real estate practitioners was gently questioned.  I believe the exact quote was “I thought you were starting to sound like NAR spokesmen”… a particularly disheartening comparison on a number of levels.  The truth of the matter is this: I believe we are entering one of the greatest real estate opportunities in years – maybe decades.

The idea is two-fold:

• Consumer credit has collapsed and will not be coming back any time soon.  That means store credit, car loans, credit cards, home equity and so on have stopped flowing.  The bailout package did not make a dent in this secondary level of credit.  Financial institutions (those that are left) are hoarding cash; when they finally do trust enough to poke their heads out, consumer credit will not top their list of “things to finance.”
• Real estate mortgages have gone vanilla.  Similar to Henry Ford’s sentiment when he said: Any customer can have a car painted any color that he wants… so long as it is black.  We have Fannies, Freddies, FHAs and VAs – you can have any mortgage you like… so long as it is a conforming government loan.  BUT, these vanilla loans are being served with gusto.  Money for these loans is flowing though the pipeline and the valves are wide open.

So, what does this mean?  It means the government wants to see real estate serve a function it has come to perform so well: propping up a sagging economy.  The government is pumping money down this pipeline and will continue to do so.  Combine that with the lack of consumer debt and you only have one place where people can spend: real estate.  The demand created by cheap money and even cheaper homes is causing volume to increase in many of the hardest hit areas.  According to the NAR (I know, I know), pending home sales recently increased by 7.4% – the largest increase in close to seven years.

In many of these same areas home prices have breached their fundamental values, driving investors back into the market for the first time in years.  This confluence of ready money, pent-up demand and over-sold values should make real estate an increasingly appealing investment and create great opportunities for those in the industry who know how to capitalize.

(There is one caveat: this opportunity is capped by the conforming loan levels.  I discussed this in more detail here, but the salient point is this: make sure your focus is either within the limits – lower is better – or comfortably ensconced within the luxury/cash market.  The gray area between the two is going to flatline.)

(This post was first published here.)

Filed under: INVESTORS, POLITICAL & ECONOMIC FOLLY, REALTORS , Radio Mortgage, Real Estate Future

How Wall Street’s Meltdown Helps Main Street’s Housing

Just for fun, let’s imagine a possible silver lining to the complete melt down on Wall Street.  In this scenario, the next big shoe to drop will be access to consumer debt.  No one is going to extend car loans, credit card debt, retail debt and so on.  But this may not be all bad for our industry.

Imagine John & Mary Homeowner talking about their day.  John says gas prices are up and his long commute is killing them.  They need to buy a different car.  “But no one is lending money for new cars,” Mary replies.  John decides that if he can not have a better ride, he will have a better destination.  “Let’s add on a nice deck for me to enjoy after my long commute.”  Mary smiles pleasantly and reminds John that no one will extend an equity line for home improvement.  Exasperated, John suggests they just buy a jacuzzi and settle for some easy relaxation.  But Mary points out that no store is offering credit, so large purchases are largely impossible.

What do you suppose John and Mary do?  What about next Sunday, out for a drive, when they see a nicer home, closer to work, with more square footage – and they realize they can own it for the same payments they are making now.  What happens when the only money available is purchase money? Thanks to Fannie & Freddie (and FHA, VA) home loans will be plentiful while every other kind of debt will disappear for a while.

Supply and demand… the meltdown might be just what we needed.

(This post was first published here.)

Filed under: BUYERS, INVESTORS, LENDERS, POLITICAL & ECONOMIC FOLLY, REALTORS, SELLERS , bailout, Real Estate Future, REALTORS, Wall Street

Pricing Analysis is Greek to Me

I think most of us can agree that real estate agent, as a profession, lacks ”street cred”.  The reputation for our industry is not high and I say this despite the reputable people I meet here and elsewhere.  Two ways to effect a change in that perception are: raise the bar of competition and adopt a better model.  Sometimes we can do both.

In a recent post called It Takes More than Comps to Beat the Competition, I introduced a pricing model based on how assets are valued in the securities industry.  As a former stock broker and options trader, I can tell you that the methods employed in the real estate world for valuing assets and advising clients are rudimentary.  A more thorough understanding of what a property is worth and a framework for better understanding what that knowledge suggests would not only help us to do our job better, but it would separate those that use the tools from those that do not.  Adopting a better model de facto raises the bar of competition.

A Quick Primer
From a securities standpoint, price is rarely the sole motivation behind a buy or sell.  We are usually trading volatility or time or both.  An asset’s value then, is affected by these two items.  This is evident in real estate too.  Good agents take these factors into account when they do comps, but we are generally lacking the common language and function for applying them.  By adopting a better model, we gain these tools.

Volatility
Let’s use options as an example: an options contract is valued in relation to the underlying stock.  This valuation is called its delta.  On a scale of 1-100, a delta of 100 means the options contract might as well be stock.  It is traded, hedged and valued as if it were the underlying stock.  A delta of 20, on the other hand, means the options contract is very unlikely to approach the value of its underlying stock.  It has only a 20 percent chance of holding value.  I would therefore trade, hedge and value it quite differently.  Now a delta of 50 suggests the potential for the contract to eventually carry the full value of the underlying stock at 50/50.  Here’s the important thing to remember: as volatility increases, deltas move toward 50.  What does that mean?  It means that the more volatile the market, the less sure I am what the outcome will be.  At a very high volatility, virtually all possibilities move away from the extremes of “sure thing” and “long shot” to become 50/50.

As the real estate market started to scream upward, property values skyrocketed and equity became more and more of a “sure thing” (in trading lingo we were “in the money”).  Yet in reality the delta of these homes was dropping.  The steeper and more frenzied the rate of appreciation, the less sure we could be of our homes true value in the future.  By the end of the run-up, deltas had to be approaching 50.  As chinks in the credit and lending armor began to appear, deltas would have dropped below 50!  The only way to capture this equity was to close out the position: i.e. sell your home.  The real estate market is liquid, but not that liquid.  If you had not planned on selling your home (and at any given time the majority of people do not), there should have been little confidence in the paper equity that had built up.

Time

The time frame our clients are looking at obviously affects the valuation of a home.  From a buyer’s perspective, the longer they plan on staying in a home the less concerned we become with temporary price fluctuations in the market and the more concerned we become with proper financing.  Real estate, for the most part, is a cyclical, appreciating investment.  Time works in our favor to “heal all wounds”.  The cost of money, however, is not so forgiving.  Time compounds our debt-based mistakes in the same way that compounding interest corrects them.

From a seller’s perspective, their short term and long term goals affect their decision making as to whether to sell and the length of time they can afford to be on the market impacts their pricing.

Bring it All Together
In preparation for meeting a client, begin by assessing and understanding all four values of a property: the BREAK-UP VALUE, the INTRINSIC VALUE, the FUNDAMENTAL VALUE and the UTILITARIAN VALUE (go back to the post referenced above for more on these concepts).  Once a snapshot of pricing has been provided (and that’s all it really is, whether using a more comprehensive four-value view or basic “comps”) there is one more step: provide an analysis for the prices – put them in a framework.  What is the volatility of the current market and what is the time expectation of your clients?

When volatility is high in an appreciating market, home values are increasing but the delta is dropping.  Obviously it is a great time to sell.  But it is your understanding of how low delta is getting that dictates how aggressive your pricing should be.  If volatility is high in a depreciating market, values are dropping but at some point deltas begin to rise indicating a good time to buy.  How fast delta is rising dictates how aggressive to be on your offers.  Low volatility leads to balance and a high degree of confidence in the outcome of buying or selling.  Combine this with your clients’ time expectations.  The further out in time we go, the lower the overall volatility.  An assets true delta becomes clearer and therefore the decisions easier.

Once you have done the four valuations and assessed the two factors, your buying clients will make informed, rational decisions (even while missing out on some of the run-ups) that should leave them little chance of a foreclosure.  Your selling clients will know when prices are out of line and how aggressive they should be in their marketing and price reductions.  You will even create arbitrage opportunities: is the volatility in one area greater or less than than the volatility in another?  This is an obvious benefit to your investor clients but it goes a long way to helping home buyers make a rational decision too.  If you are creative enough, it should impact your listing side marketing too.  Think about it…

Whether your client is interested in buying or selling is secondary.  The purpose of that meeting… that job interview, is to get hired.  When all is said and done, sitting down with such a thorough analysis gives you an edge in advising your clients.  Not every client will understand all that you present, but you might be surprised.  Dumbing down real estate makes us look foolish.  Many of your clients are having these exact conversations already with their financial planner, stock broker, HR rep or even the neighbor next door.  More importantly, they are hiring you because you understand it.  That is called job security.

Providing thorough expertise on what home prices are, why they are moving and how your client should react will not change the market value of a property – but it will most assuredly change your value.

(This post was originally published here.)

Filed under: BUYERS, INVESTORS, MARKETING, REALTORS, SELLERS , Arbitrage, MARKETING, Property Value, Real Estate Future, Volatility

How Do You Find Real Estate Success in Disbrokeration?

The real estate industry is a never ending source of change and excitement.  I can remember only two years ago coaching agents on what disintermediation meant, how it was affecting the mortgage industry and how it (and the internet) would affect their success.  I was never too worried that the mortgage broker would be eliminated, but some agents were more than a little concerned about their future.  As it turns out, agents are embracing the internet; they are alive and well and thriving.  So, is there a problem?

No, disintermediation is not a problem: but disbrokeration is.  Teri Lussier, blogger extraordinaire, recently posted a thoughtful article on BloodhoundBlog.  I certainly found it thoughtful.  I have been gnawing on the state of the current real estate brokerage system like a hungry dog with his last bone.  I have speculated that the current Broker based system is outdated and weathered beyond its useful life.  I am quite sure I am not the only one to have said this.  But how do we play this out?  What happens, or what is happening, as this model fades away?

I believe the new model is in place, we are just not calling it that yet.  Going back at least twenty years to when I was first licensed, the existing Broker model seems to be based on a simple premise: work hard as an agent and eventually, if you have the desire and the money and the wherewithal, you will create or purchase your own real estate shop.  You are then the Broker and you hire agents to represent you in dealing with clients who wish to buy or sell a home.  In many ways it was a grand retirement plan.  New agents counted on the Broker for everything from an office to phones; from training to accounting and from organization to guidance.  In return the broker kept a hefty portion of the commission.  It was rare for an agent to even reach 50% as it was the Broker who had taken all the risk, fronted all the bills and established him or herself as successful enough to own a brokerage in the first place.

But times change and the intermediary that is now serving less and less of a function: the Broker.  The internet has given the agent unfettered access to the buyers, sellers and available inventory.  The fluid nature of the business dictates that agents brand themselves now, making the need for a big name obsolete.  Pricing structures and commission splits have driven training out of the picture at most of the brokerages.  As a matter of fact, very few agents receive anything for free and those that do are likely “loss leaders”: top producing agents that are there not to make the brokerage money (quite the contrary); they stand as a beacon for recruitment and a large marketing tool for the rest of the agents.  Brokers are now engaged in the lowest common denominator: “putting butts in seats” and profiting on the first few deals before the revolving door swings another agent through.  I am not judging this.  As long as everyone knows up front what they are getting it is a legitimate model of business… just not a very good one.

So what is the future model of the real estate industry?  I believe there is nothing future about it.  We already see it in just about every large brokerage now.  It is commonly called The Super Team.  It looks like this: one or two agents are the named agents.  Beyond the named agent(s) there may be nothing more than a part time administrator; or there may be multiple buyers’ agents, listing agents, lead coordinators, customer service managers, marketing directors and so on.  What makes them unique is the fact that they all work for the named agent(s).  They may bring in some business of their own (and the splits on that business may be higher) but the primary responsibilities of those that work on the Super Team are to benefit the team and the named agents(s).  For instance, the buyer’s agents are charged with handling the prospects that come to them on behalf of the team. They need not worry about marketing or creating business.  In return their splits are usually less than 50%.  A listing specialist may also be on a lowered commission due to the direct feed of clientele, or they may be on a straight salary.  Most of the other parts to the team are salaried (and possibly incentivized with bonuses).  The entire team operates to enrich the named agents; to help them in their mayoral marketing – to help them become mayor for life.

Sound familiar?  It sounds a lot like the brokerage model of old.  Only there is no longer need for a gatekeeper.  If someone on the team decides they are ready for their own team, away they go.  For those who excel at real estate but have no interest in the commission lifestyle, they have found a cozy home.  It is the brokerage business of yore, but made streamlined, agile and appropriate to the long tail markets in which agents must now thrive.

Here is the best part: the Super Team has no interest in the “putting butts in seats” model because they are already rainmakers.  The only butts they want in seats are people who can get the job done and build the team name.  This model is based on the purity of profits rather than the bloat of over-rides and middlemen.  This model embraces training because turnover costs the named agent(s) money in lost transactions.  This model embraces new forms of marketing and can move quickly to opportunities.  This model is an evolution that must always happen.  As information becomes more readily available there is a natural progression: middlemen go from providers to gatekeepers to restrictors (chokepoints as Greg Swann calls them) and eventually they just become unnecessary.

While this post has gone well beyond the recommended daily allowance of verbiage, I will add two more quick benefits of this model.  One, it provides for greater specification of work, which in a free economy usually leads to greater efficiency and better pricing.  Two, it requires a lot less agents to take care of the same number of clients.  Without the constant requirement to feed the revolving door, the education level, experience level and quality level of the real estate industry as a whole improves.  Are you ready for the Super Teams?  They’re coming to a neighborhood near you soon…

Filed under: DISBROKERATION or "The New Model", LIFE THAT POPs, MARKETING, REALTORS , Brokerage, Disbrokeration, Real Estate Future