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Is It Time to Buy Residential Real Estate?

Contrarian Profits — Mon, 20 Jul 2009 18:00:00 +0000

You’re probably wondering why a bearish newsletter like Notes would recommend buying real estate. After all, we’ve just experienced one of the severest real estate crashes in history.

House prices are in the gutter. Taxi drivers the world over are bemoaning the fact. And you can’t open a newspaper without reading about homeowners “upside down” with their mortgages.

Of course, it’s because of the almost universal hatred of real estate that we feel it may be worth investing in right now. Here at Notes, we believe that being a contrarian investor is the best way to make money in the markets. And that means being greedy when others are fearful and fearful when others are greedy.

The Wikipedia entry for contrarian investing defines a contrarian as someone who “attempts to profit by investing in a manner that differs from the conventional wisdom, when the consensus opinion appears to be wrong.”

A contrarian believes that certain crowd behavior among investors can lead to exploitable mispricing in securities markets. For example, widespread pessimism about a stock can drive a price so low that it overstates the company’s risks, and understates its prospects for returning to profitability. Identifying and purchasing such distressed stocks, and selling them after the company recovers, can lead to above-average gains. Conversely, widespread optimism can result in unjustifiably high valuations that will eventually lead to drops, when those high expectations don’t pan out. Avoiding (or short-selling) investments in over-hyped investments reduces the risk of such drops. These general principles can apply whether the investment in question is an individual stock, an industry sector, or an entire market or any other asset class.

Our motto here at Notes is much simpler to understand. As far as we see it, you’re either a contrarian or a victim.
Underground investor Steve Sjuggerud reckons it’s now almost time to buy residential real estate. This from Friday’s DailyWealth:

I track three main indicators to tell me the “health” of the residential housing market. They’re all pretty simple to understand… and two out of three are incredibly good in their timing (the third is a good judge of value). Let’s look at ‘em, one by one…

First up: The number of new homes started by builders. After “housing starts” hit a bottom, home prices tend to bottom six months to a year later. Importantly… Housing starts are at a record low right now.

Builders start too many homes (when the blue line goes above 2,000) in good times. Prices peak soon after. In bad times, builders start too few homes (when the blue line goes below 1,000). A bottom in home prices follows.

Based on this chart, housing prices could bottom soon… possibly in the next 12 months.

Second: The supply of homes available for sale. This indicator is typically called “months supply.” But it’s really a ratio of the number of houses available for sale divided by the current rate of sales per month.

A high supply of new homes on the market causes prices to fall. (It’s simple supply and demand.) Once the supply of new homes peaks and starts to come down, home prices bottom and start to rise.

Today, the supply of new homes is near a record peak, and it’s coming down. So a bottom should come within the next 12 months.

Lastly: Housing “affordability.” People buy homes when they’re affordable. In technical terms, homes are “affordable” when the median family’s income can afford the mortgage payment on the median home at current mortgage rates.

Right now, homes are more affordable than ever, based on this ratio.

Since houses have fallen so quickly in price and mortgage rates have fallen to record lows, housing affordability is at record levels. This is a great “value” indicator for housing… and value is great now.

Housing is not like the stock market. Cycles in housing move slowly. So we can wait on an uptrend to “confirm” the housing market is back before we move in.

We’re lucky here… we have a few good “leading” indicators, with good track records. Of course, my indicators could deteriorate from here. But right now, they’re at record levels and showing signs of improving.

It’s not time to buy residential real estate… yet. But the time is darn close.

If you own rental properties and are looking to unload them, you may get a nice tax break out of it, says tax expert Raife Neuman.

- Do you have a loss? A loss occurs when you sell for less than your tax basis – the price you paid for the property, plus improvements, etc. If you have been claiming depreciation on the property, it lowers the basis.
- Section 1231 loss. If you’ve owned the property for more than a year than you can claim the best kind of loss – a section 1231 loss. This loss can be deducted against all other income – and if large enough, could completely offset your tax liability for the year.
- Don’t forget passive losses. Passive losses are deferred on a property until it generates a net positive income or you sell it. Don’t forget to claim these if they have been deferred in the past

Although several years ago selling a rental property at a loss would have been unheard of, the “times they are a changing.” Bill Bischoff of SmartMoney.com goes over the basics of selling a property at a loss:

Buffett: US Recession ‘Will Not Be Short and Shallow’

Contrarian Profits — Mon, 19 May 2008 18:19:21 +0000

President Bush insists the US economy is in a “downturn,” but legendary investor Warren Buffett warned today that the US is in a recession — one that will be more severe than most people expect.

“This will not be short and shallow,” said Buffett on CNBC. “I think consumers are feeling gas and food prices and not feeling they’ve got a lot of money for other things.”

Speaking about the ongoing US credit crisis, Buffett said: “I think there will be rippling secondary, tertiary effects … It is really more an effect of the residential real estate bubble, which led to the credit crunch in some degree.”

Jean Claude Trichet, president of the European Central Bank, shares Buffett’s negative outlook about the health of the US economy. This from a BBC reporter who recently interviewed Trichet for a radio documentary:

What is the prognostication of the wily M Trichet, who has had a ringside seat at every international financial crisis since the mid-1980s? Well I pressed him and pressed him, and he pointedly refused to say that the point of maximum danger is behind us. All he would say is that we are experiencing an “ongoing, very significant market correction.”

Which, given his record of calling the credit crunch rather more astutely than the Fed or the Bank of England, isn’t conspicuously reassuring.

“We think that investors betting on a quick turnaround in the U.S. financial sector are setting themselves up for a massive hit. There is a lot more bad news to come,” says Manraaj Singh in Profit Watch.

“What we need to remember about the current financial crisis is its roots in the U.S. sub-prime debacle. Huge numbers of people bought houses that they couldn’t really afford with money that they didn’t actually have in the hope that house prices would just keep on rising. They didn’t.

“Simply put, the health of the US financial system is closely tied to the performance of the property market. And I believe that things are going to get a lot worse on that front, which rules out any quick and sustained recovery in the US financial markets.”

California Man Losing 9 Homes Admits Real Estate Investment a ‘Mistake’

Contrarian Profits — Mon, 12 May 2008 12:39:29 +0000

The housing crisis continues to drag on and drag down the US economy. This piece from Reuters says it all:

A California man who has defaulted on nine homes and expects banks to foreclose on all of them, forcing him into bankruptcy, says he now considers it “a mistake” to have invested in the real estate market.

Shawn Forgaard, a 37-year-old software company project manager, bought one home for his family to live in and nine more as investments. He stands to lose all the investment houses in the mortgage meltdown but says he has come away wiser from the experience.

Frogaard’s modus operandi, it turns out, was to put 10% to 40% down on negative amortization (’neg-am’)loans — the kind where the payments do not cover the interest so that a borrower’s balance grows over time.

At least the now bankrupt project manager is philosophical about his losses. Apparently, he knew he was “sitting on time bombs,” with the loans. He even knew “the market was going to go soft and I knew that property values would decline.” Froggard’s only miscalculation, by his own account was that he didn’t anticipate a downturn “of epic proportions.”

While residential real estate is in the dog house, Brian Hunt in DailyWealth says the market likes commercial real estate market again.