patrick.net

For those that are truly bored this weekend I'd heard CNN is running an hour long special Saturday at 2:00pm called "Mortgage Meltdown". Could provide some much needed laughs while nursing a hangover!

In their pre-view they sighted 7 signs of predatory lending with the usual cast of characters, high fees, pre-payment penalties etc. What I found interesting is that #7 was with the high kickbacks to MB's a LOT of people that were actually qualified for convetional financing wound up getting slammed into sub-prime loans anyway! (Well duh!). Welcome to Sub-Prime Amerika!

The whole idea of being "put out in the street" because your LL got a "Crazy loan" (which "The Other" *didn't*) and you didn't buy "many many years ago" (such as "The Other" did back in 2003) is really clutching at straws!

Who will be worse off? Some guy with a foreclosure (or two) on his credit report or the renter that has to move? I'm willing to bet that properly handled if you really did like the home/area you'd be in a pretty good place to make the bank an offer significantly lower than what the specuvestor paid. Besides I'm pretty sure most folks that post here and rent are smart enough not to enter into a business arrangement with the likes ofCasey Serin for crissakes!

I'm surprised most let that 11th. hour last ditch effort slide! (Well it IS the holidays).

SFwoman2 writes:
I’m not denying that there isn’t a large population of engineers in the Bay Area, but I don’t think I am surrounded by them. Based on the stats from the Burea of Labor Statistics, it’s about 1 in 10 employed in the valley is an engineer/computer/math geek.

How long does it take to turn 1/10th of the housing stock around?

Ha Ha writes:

Patrick, are you seeing increased ad revenue from the blog from this exposure?

Nope, the traffic for patrick.net barely moved after the WSJ article. Here's the traffic graph.

I guess that's because of the holidays.

Patrick

My husband has many engineers working under him at his company. He says the average pay for his engineers is around $90-$100k.

Patrick,

Actually I wouldn't worry about it all that much. When the holiday "glow" wears off and the sobriety of the anemic last chance cash out re-fi sets in the traffic will be there. Like Robert Cote' says, a last furious round of musical chairs and then...... the pain.

Ha Ha,

Good stuff. That is David Rosenberg of Merrill Lynch right?

Oh and don't forget that the seller in addition to paying my closing costs and 1 years golf membership also has to remember to come by once a week to feed the squirrels!

Casey gettin' a taste of his own medicene eh?

JasonSimcha Says:

> I’m a psychotherapist intern working for a non-profit
> working with homeless young adults in the East Bay.
> None of us there (Even the fully licensed clinicians/
> managers) make anywhere near $75k.

If you are good at working with screwed up kids you can make a lot more if you set up shop on the Peninsula and work with all the screwed up kids who’s hard working parents don’t have time for them (but have plenty of money to pay top dollar to a shrink). My best friends sister is making about 3x what you are making specializing in screwed up teens…

When I was a kid going to public school in the early 70’s none of the Mom’s had jobs and most of the Dad’s were home for dinner every night. Today many of the Peninsula kids will go months without ever even seeing a parent (who will pay a lot of money to try and fix the kids so they don’t feel guilty)…

Our latest real estate SSOTW (sob story of the week, per DinOR) from CNN/Money:

http://money.cnn.com/2006/12/28/real_estate/help_home_for_sale_Otts/index.htm?postversion=2006122814

"Help! Home for sale - the Otts
The housing slump has made moving on up more difficult for this Wisconsin couple."

Well, the housing slump has hit the trailer home crowd. And yet again, a phenomenon I don't understand, these people are screwed because they decided to buy a new place before selling the old place. When will this idiocy end?

I've just returned from an unplanned (and unfortunate) trip back East, and I'm also now very busy making up lost time on a year-end project (to be delivered in Feb 07 now, lol). So I'm only partially engaged here.

A couple of points:

Real-dollar value of rent, or alternatively rent yields, are historically LOWER than real-dollar PITI, or alternatively ownership carrying costs. The only way the claims to the contrary are true is if (a) one places a high value on the built-in real options associated with renting; or (b) one interprets "affordability" to not be a cold quantitative measure but instead a "normalized" measure. For example, the debate vis-a-vis two income households today versus early decades.

But, as a purely quantitative exercise, rent is less than PITI, except in areas afflicted by secular unemployment, like much of the Midwestern rust belt or many rural agricultural towns today.

And to the recent troll/bull/provocateurs: It's really quite simple guys (girls) -- people cannot buy that which they cannot afford. Endith the recent orgy of easy credit and mispriced liquidity (in terms of risk premiums), and thus endith the false high in nominal house prices. I'm seeing a home today in Larkspur priced at about $2m, which sold for about $800K only 20 months ago. I'll offer maybe $899K if I really really really like it. If another chump buys it for $2m, I'll wait and buy it from him in a year for maybe $919K, after he realizes he cannot service his $8~$9K per month real cost of ownership without the latest optionReverseNegativeAdjustableSoldToChina(tm) mortgage product.

skibum,

How in God's creation could you STILL have payments left on a what? $32,000 loan after 6 years? O.K, whatever. How far out will they go on a mobile home finance? What were the payments? $124.36 a month?

@theotherside

SP you are WRONG AGAIN: the devil is in the details:
1- The only thing that stands between YOUR CHEAP RENTAL and HAVING YOUR FAMILY on the street is the willingness/ability of your landlord not to default….

Thank you for proving you lack any credibility, whatsoever. If your landlord defaults you, as a renter, are protected for a statutory time period from forced eviction. In most areas I've ever lived, that period actually increases in the case of an owner-default. Plenty of time to find somewhere else to move, even if it is a pain in the ass. Further, you as renter have a financial claim against the owner if you are expelled before the term of your legal lease agreement (although if he/she's bankrupt it may be hard to collect, but few defaulting landlords actually go BK).

My current landlord thought about selling his shoddy Mill Valley McMansion last Spring. When he asked for my cooperation in this, you know, showing and stuff, I responded with an agreement from my lawyer suggesting a compensation rate structure for my inconvenience. He balked, was pissed off, but not so much so as to not sign another lease with me.

Who has the leverage again?

BTW, the tower in Stevens Creek and De Anza is EMPTY … just look at the tower in the evening …

HaHa,
Do you mean the condos next to the Cypress Hotell and Symantec? We pass by there often. Have you noticed how many "For Sale" signs there are at the entrance? There seem to be more and more each week.

are you seeing increased ad revenue from the blog from this exposure?

Nope, the traffic for patrick.net barely moved after the WSJ article. Here’s the traffic graph.

that might go a long way towards explaining why the dot coms dot bombed... dark fibre, anyone?

JasonSimcha said:
I have no other choice but to rent earning only 40k/year. I do put money away in my agency’s 401k that is set to get a 10% return this year. I have a small savings account earning 5% interest. And I have a mountain of student loan debt that will need to be repaid at some point.

With the coming recession demand for my services will skyrocket. The only issue is that this society places such a low premium on mental health, as if it’s not important. Who pays for the services, and how much?

I've been looking at retraining with a DipCounselling or else finishing Honours/Masters psych degree. You do wonder whether it's worth 6 years of higher education and student loans to buy a low-paying and uncertain 'professional' job -- 6 years will also get you a medical degree, and 3 years in liberal arts a plum govt job if you play your cards right.

Fortunately, the Federal govt here has just started paying psychs the same way they pay MDs, as of November, forking out up to $120 ph for a consult -- this should change the entire terrain of private practice. This is effectively a huge 'govt grant' for mental health -- half of which problems are caused by financial stress, workplace problems, etc...

Randy H Says:
My current landlord thought about selling his shoddy Mill Valley McMansion last Spring. When he asked for my cooperation in this, you know, showing and stuff, I responded with an agreement from my lawyer suggesting a compensation rate structure for my inconvenience. He balked, was pissed off, but not so much so as to not sign another lease with me.

Who has the leverage again?

Randy, do you have a little pine table next to the kitchen? :P

(Or maybe a pine baseball bat)

Congratulations on the well deserved accolades!

Hilarious stuff from Realty Times:

http://realtytimes.com/rtcpages/20061229_askrt.htm

Ask Realty Times
by Peter G. Miller

Question: I just signed the contract on a new house 10 days ago and gave $10,000 as an initial deposit. The builder has lowered the price of the property by $30,000. How can I get that new price for my signed contract house. Can I cancel the contract or ask builder to lower the base value on the existing contract or compensate me with $30,000 worth of upgrades?

I'm first time home buyer and I thought I made a good deal last week and now the price is even lower. I do not want to lose $30,000 on the house. What can I do?

Answer: Imagine if you had a contract with the builder to purchase the home for $300,000. Imagine that a week later the builder raised the price to $330,000 and people were willing to pay that amount. Would you then march into the builder's office demanding to pay an additional $30,000? What would you think if the builder came back and asked if you would accept a $30,000 price increase?

You have a contract which reflects the best price and terms you could negotiate at a given time. You can certainly ask the builder to modify your agreement, but generally I would expect little or nothing to happen. For specifics, show the agreement to a local real estate attorney to see if you have any leverage in this matter.

yes, alan greenspan is a criminal...

speaking of The Australian, DinOR might like to read this: Trillion-dollar baby promises a secure future | Business | The Australian

Mike Says:

"...My advice: leave Cali…"
_____

Not bad. That's pretty good advice.

How about this suggestion: bring a big tube of lube when you bend over and grab your ankles to kiss your Bay Area McMansion goodbye because there's sure to be another aggressive realtwhore right on your tail...

Ha Ha Says:
I appreciate your GUTS to call a spade a spade
I mean how many people in USA can call Alan Conman, er. Greenspan a CRIMINAL …

Mainly because I'm in a different jurisdiction with no fear of prosecution. Ha ha! (So long as I never set foot on US soil, cos Alan will be the first waiting there with a writ for me...)

Besides, I have a different outlook...

SP Says:

The poor flipper...who burned his fingers on this one did not even get to live in the thing, but got to pay $7500 a year in property tax for the privilege of losing $85000 (plus transaction costs).
_____

Psychologically-speaking, it sounds like a bad case of financial masochism.

Realtwhore needs to check himself into Agnews State Hospital and get some immediate psych-ward attention.

Perhaps a shot of Thorazine in the a-- might snap him out of his psychotic state and back into at least a modicum of sanity/reality.

theotherside ,

You only have the leverage to move out, but as you say “it is a pain in the ass”…

but again if he is really one of those FB’s, it seems clear that the only thing that stands between YOUR CHEAP RENTAL and HAVING YOUR FAMILY on the street is the willingness/ability of your landlord not to default….

How many times do I need to have this argument? We really need a Patrick.net regulars/authors FAQ. Here goes...

* You are wrong; you know what they say about assumptions.
* Landlord is not a FB. He built this place in Tam Valley circa 1998. He carries a mortgage slightly higher than my current rent, as best I can tell.
* Landlord was holding onto this place to give his son or daughter, neither of which want apparently (I think both live on East coast now).
* I have more leverage than 'moving out'.
-- If landlord forces me out before the lease termination and without contractual justification, I can sue him, and he believes I would.
-- Landlord sold me a lease extension option, which I exercised. He did so during a period when he believed rents were stagnant and falling (spring 05). I can stay here, contractually, until spring of 08.
-- He will pay a potentially steep cost in sales price of his home if he tries to sell it out from under us without our cooperation. Renters can make a home seem quite unappealing, especially when inhabited by a young child and elderly disabled mother.
* Sure he can sell, but he's already demonstrated that he thinks he can get something like $1.8m for this house, which is probably $0.5m more than anyone would offer today, even if not for tenants.

(go read about mental accounting in previous threads or my site, if you don't believe why the landlord's psychology will prevent him selling)

Landlord is not a professional business-operator, like FAB or Zephyr. He is a hack who thinks owning a few homes and renting them out is free money. Because of this he mis-prices things like cash-flows and asset values. He would, in fact, be better off selling out from under us even given the discount he'd pay from my obstinacy (or better yet he could pay my hold-up ransom for my cooperation -- which roughly equals my cost of moving).

What else...., oh being on the street...

I could repeat legal and practical reasons why this is not the fact, but let's leave it at this: I could buy this house for cash (but I wouldn't ;) ). No one is going to be sleeping in the street. I'll just offer to prepay FAB 2 years rent in cash with the right to re-rent it if I vacate early, for a 3BR unit in one of his buildings if things get that desperate. And...I'll still come out ahead in net present value dollars.

What do you do for a living again? Just curious.

I'm a little late to the party, but I wanted to say congrats to Patrick. Glad to see Patrick and this blog receive some well deserved attention. As word of mouth spreads, I sincerely hope more people visit this site and benefit, as I have, from the exchange of stories/information that's posted daily on this board.

As a side note, I couldn't resist commenting on the quote from Mr. Lereah gave when asked about the blog that was dedicated to him.

"Mr. Lereah says he doesn't object to the blog. 'There are people who believe it's the end of the world' for housing, he says. 'They blame me for being positive."

Blame you for being positive?!?!? Please. I guess in Lereah's world pushing certain facts about the market while showing a conscious disregard for other facts means you're being positive. In my world, this equals a half truth and makes you a complete lier. Lereah is simply a shill who will say and do anything to keep his pockets (and others like him) lined with cash.

Anyway, congrats Patrick. Keep up the good fight.

theotherside,

How do you feel about being ignorant to the concepts of "opportunity cost" or "time value of money"?

Seriously, go pick up something easy to read, preferably with lots of pictures, like Kenneth M. Morris: The Wall Street Journal Guide to Understanding Personal Finance, Fourth Edition.

It's not really all that hard: The landlord's cash flow is NEGATIVE. That means less than zero. That means it COSTS him money to rent me this house.

Even if he was making positive cash flow (that means greater than zero), that still doesn't mean he's making money. You see, if he's making say a 5% return on his money he's still losing money because he's not making enough more than the risk-free rate of return (that means money market or t-bill rates) to compensate him for his risks.

And I'm ignoring all the carrying costs of ownership he incurs in and above his simple mortgage (even if he does cheat on his taxes by claiming he lives here).

Oh yea, that's another piece of leverage which I, and many others renting McMansions from hacks, have over our landlords. Piss us off and we'll just tip off the IRS about all the fraudulent home mortgage interest deductions (and people who cheat on mortgage deductions seldom report their rental incomes either).

@theotherside

Think of it like this. He wants $1.8m for this house. He offered to sell it to me privately for that.

I say no, and rent it for a couple years. Let's conservatively say that costs me $120K.

Wow! I'll lose $120K for nuthin, you say. We'll ignore how wrong that is for them moment and roll with it.

Do you really think I couldn't buy this house for less than $1.68m?

No, your line of reasoning only works if you assume that HOUSES ONLY GO UP IN PRICE.

What is your line of work again? I'm more curious than ever now.

Btw, I already created a model which proves you're full of shit. I extend you the same offer I have to every other of your ilk: find the flaws in the numbers and I'll loudly and widely publish the revision.

@theotherside

This is my last attempt to enlighten you.

Those calculations are flawed. The holding period is not 30 years, that is merely the term of the mortgage obligation. The average for NorCal is about 5 years. I defaulted the Bubblizer to 7 to be conservative.

Less than 10% of owners will sell their homes with 100% "equity"; that is, they have a loan to pay off.

The devil is in the details. You have to consider all the opportunity costs, not just the ones which prove your point.

Please, educate us all as to which opportunity costs within The Bubblizer are inappropriate.

You see, the flaw in your logic, and all others like you, is you fail to project forward. The Bubblizer tells you not whether buying is good or bad. It just shows you what selling your home in year X (default is today + 7) means to the guy buying it. You have to ask yourself, "can he really afford to buy it from me for that amount so that I break even in net present value dollars?"

Unfortunately for you, your above calculations mean that said future buyer will need to pay more than 100% of his income to afford your house in 2013.

But wait, you say, there will be inflation! Pretending for the moment that price inflation = wage inflation, that also means real-rates also go up. So as inflation rises, so does the nominal return on renter's risk-free savings.

What makes you think a home is a risk-free vehicle anyway? Especially in California. Please share some of whatever you're smoking over there.

...and, what is it you do for a living again? Are you ready to come clean? Given your bad math skills, yet apparent lack of awareness of such, I am forming a guess.

@theotherside

On your 2nd post above,

Dude(tte), there is an exponent in TVM calculations. Try again. Exponents make a big difference.

I ran your first set of numbers, making an assumption that the subject's annual gross income is $100,000/yr (which is in line with a $500,000 home).

Buyer is paying 32% of PITI in housing.
Buyer is paying 1.12 more to own than rent (assuming a $2,400/mo rent).

Buyer *must* earn an implied annual return of 11.25%
-- or 110.88% total return over 7 years
Selling the home for $1,054,381 in 7 years in order to simply break even.

The greater fool he thinks will buy this house will be paying 70% PITI to housing, even assuming his salary inflates at exactly inflation over those 7 years. He'll need a $954,381 mortgage, have to pay $7,280 in PITI.

A quick distribution of possible home price drops during this period leaves the buyer with a conservative distribution of outcomes:
5% chance he earns +$200,000
75% chance he loses -$100,000
50% chance he loses -$200,000
20% chance he loses -$250,000 or more

This is all the case simply because the house is overpriced. Let me repeat that for you, since you're a bit slow on the uptake. The house is overpriced.

You see, when you buy an overpriced asset, you have to make the assumption that someone else will pay increasingly more for it in the future in order for you to sell it for a break even.

We call such a scenario an asset bubble.

theotherside

I don't hide the fact I have an MBA. And you do what for a living again?

Your analyses are wrong. I await your quantitative disproof. As you have seen, I am agnostic about numbers, and very receptive to corrections in the model.

Remember, you're the idiot who claimed that a negative cash flow is profitable to a rental operator. One need not an MBA to discern the ludicrousness of that statement.

...That is, unless one is overcoming some serious biases or misinformation, like the kind distributed by those who sell homes and their respective "licensing" regimes.

You know, we have *professional* rental income property operators as regulars here. Why don't you run your proposition by them?

Randy H and theotherside are constrained by their own paradigms about the buyers in the transactions.

Between India and China there's almost half the world's population, even the tiny percentage that makes up the elites over there is a massive number of rich people, and that's not even including the ones in Singapore and Taiwan. They buy their kids engineering degrees so they can buy their kids into an H1 visa, and so they can all move to California or Vancouver.

All those figures both you guys are arguing about are petty change for the rich Asians who've driven up and will hold up the prices in the west coast cities. They're not following your logic because they don't have to.

sybrib

The "Monied Immigrant" theory is worse than the "you can make money by renting out a place below your costs" theory.

Show me this immigrant sourced asset price factor data. HSBC went looking for it, as have others with lots of resource, knowledge, and vested interest in the subject. Unfortunately, monied immigrants barely move the needle in the US, even in California.

I think you're stuck in some paradigm that doesn't realize the scale of housing stock. It's big. Really really big. Big enough so that even if every single Chinese/Indian engineering grad turned H1B visa worker in Cali was purchased a house by papa, it still wouldn't come close to explaining current valuations.

What does explain current valuations is simply a mispricing of risk; specifically mortgage debt risk, which has cause there to be way too much money chasing too few homes. But liquidity easily gained is also easily lost, as we're seeing occur now before our very eyes.

Well Randy H your comment doesn't match what I see in Evergreen district, nor about my H1-turned greencard colleagues who reside in Cupertino. (San Joaquin Valley maybe, where thanks to Patrick.net, a relative of mine was persuaded NOT to join an investor partnership for Merced properties).

But I hope you are right. Even though I own my residence here, I have been hoping for a regression to the mean for a long time. There's too many distortions here that need to be corrected.

First genuine duke-it-out bull I've seen for a while now.

Randy H. definitely has Theotherside beaten in the Spelling Bee competition.

theotherside,

You win. "Finance for Dummies" -- yep, that's all I suffered, and I'm in way over my head. I'll email HSBC and let them know their economists and financial wonks are just a bunch of grad school idiots too, being that I (quite openly) simply adapted my model from their work (fully referenced).

Riddle me this, again, so I understand in the fog of my mind:

How, exactly, does one make a profit when they rent out their house for _less than their mortgage_ without assuming house prices continue to rise (and quite a bit at that)?

Maybe I'm just a bit too old to have been blessed with this new math.

And now that we've fully demonized my academic and professional background, would you finally care to share which sacrosanct discipline you practice professionally?

Anyways, I'm off to find "Black Litterman" in the index of my Idiots book...

Or if you want, to quote the very COOL REMARK from FRIFY (December 28th, 2006 at 2:45 pm)

ie, these numbers are just made up….

And here I thought FRIFY contributed to the very model you're talking about. Maybe his physics degree is flawed as well. Anyways, things Bayesian are usually lost on those insistent upon ex post reasoning, so this is pointless.

Submit your comments to the model on my site, which I'll leave unedited so long as they follow my stated rules (basically, be civil). If you find quantitative errors or improvements, they'll be incorporated and you'll be fully credited. Email me if you need the password (which is why I know you haven't even looked at the model yet, because you can't see all the formulae without the password).

Randy H,

I have enough of a financial education to recognize that that you are a master of that subject, and I consider your bubblizer a work of art.

Thus your comment, "How, exactly, does one make a profit when they rent out their house for _less than their mortgage," is puzzling to me.

In the mid 90's I bought several houses and rented them out. Even pre-bubble, I had a slight negative cash flow. My plan was to keep these houses long enough so that I could sell half of them to pay off the mortgages on the ones I kept. Thus I would have an income to supplement my retirement 20 years away.

Point is, if you have a minus $100 cash flow on a house, you are buying that asset for $100/mo. Granted, you need a real job in the mean time to put food on the table, but over the long term, renting for less than the costs can be profitable.

Also, LandLord and Tenent can be win-win. Even in normal, non-bubble times, there is an advantage for some to be renters. Most of my tenants rented for 3 years or less. They did not want to buy because short term job assignments, new to the area and wanted to look around first, women who did not want to but because future hubby would have a house, etc.

HeadSet

Of course you are correct about the idea of a payback period. Having negative cash flows for a term is very common in any NPV planning. I would have been encouraged by our latest visitor had (s)he engaged in that kind of debate. Mainly because this is where the actual numbers we were talking about fall apart.

We weren't talking about reasonably priced assets with reasonable cash flow schedules. We were talking about dramatically overpriced assets with large early negative cash flows. For every dollar you go in the red in year 1, you have to earn 1+(1-[1/(1+r)^t]) dollars in the future in positive cash flows. So the more you bleed early, the more+more you're banking you'll make later.

And with these prices today, so vastly exceeding real rent yields, it would take usually many decades to simply have a NPV of $0. I think FAB has said as much about multi-unit buildings and even commercial space he's looked at in the past year or so.

No, the assumption (s)he is making, and put into every set of hypothetical numbers, is that houses will not lose any net value over the term. (S)he cleverly put in a big drop, but made sure that the final settlement was still appreciated at inflation from purchase price. Sure, if we're not in a bubble, then go ahead and rent it out for $1000 less than your mortgage, and enjoy; inflation will cure the rest. Lop a modest 15% (in terms of this crazy market that appreciated 150% in many areas in 24 months) off the purchase to sale nominal price, and see how well that NPV looks...