The future of interest rates …
Interest rates are a big deal for real estate investors … for many reasons.
The first and most obvious reason is because interest rates are the price of the money you borrow to invest with. Higher rates mean higher payments and less cash flow.
Of course, even when you pay cash for your properties, your tenants probably carry consumer debt … car loans, credit card, and installment debt …
Higher rates mean higher debt payments for your tenants, so less of their monthly budget is available to pay you rent or absorb rent increases.
Also, your property values, exit options, and liquidity are all affected by interest rates.
Higher rates mean buyers have less capacity to bid up comparable properties … and fewer buyers can afford to buy your property when you’re ready to sell.
For these reasons and others, most real estate investors and their mortgage advisors pay very close attention to interest rates … especially when financing or re-financing.
But there are other very important reasons for real estate investors to care about the future of interest rates …
Interest rates are a barometer for the health of both the currency and the overall economy.
Last time we looked, most real estate investors transact and denominate wealth in currency (dollars for Americans) … and your rental properties, tenants’ incomes, and overall prosperity all exist inside of the broader economy.
So the potential for big changes to either the currency or the overall economy matter to real estate investors just like they do to paper asset investors.
In fact, based on the amount of debt most real estate investors use, interest rates are arguably even MORE important to real estate investors.
We’re just a couple of days away from our Future of Money and Wealth conference … with nearly 400 people coming … and right now we’re thinking a lot about the dollar and interest rates.
Peter Schiff is speaking. Peter wrote Crash Proof in 2006 and released it in 2007. Back then, he loudly warned of an impending financial crisis whose roots would be in the mortgage market.
Sadly, back then we didn’t know Peter, and we didn’t read his book. Then 2008 happened, and we were blindsided by the financial crisis.
So now we read more … a LOT more.
We make time to listen to people like Peter Schiff, Robert Kiyosaki, and Chris Martenson. And we work hard to share them with our audiences.
A very interesting book we just finished is Exorbitant Privilege by Barry Eichengreen. He’s Professor of Political Science and Economics at Cal Berkeley.
Eichengreen published Exorbitant Privilege in 2011, which means he probably wrote it in 2010.
Keep this in mind as we share these prophetic excerpts from Chapter 7, “Dollar Crisis”…
“What if foreigners dump their holdings and abandon the currency [dollar]? What, if anything, could U.S. policymakers do about it?”
“It would be nice were this kind of scenario planning undertaken by the Federal Reserve and CIA … it would have to start with what precipitated the crash and caused foreigners to abandon the dollar.”
Note: Eichengreen probably didn’t know at the time that James Rickards, former attorney for Long Term Capital Management (the hedge fund at the center of the near financial meltdown of 1998), was participating in precisely this kind of planning, which Rickards describes in his book Currency Wars, published a year after Exorbitant Privilege.
Back to Eichengreen’s prophetic 2011 commentary …
“One trigger could be political conflict between the United States and China. The simmering dispute over trade and exchange rates could break into the open …
“… American politicians … could impose an across-the-board tariff on imports from [China].”
WOW … Eichengreen wrote that at least 7 years before this March 22, 2018 headline from CNBC:
Trump slaps China with tariffs on up to $60 billion in imports: ‘This is the first of many’
Back to Eichengreen in 2011 …
“Beijing would not take this lying down.”
China to US: We’ll match your tariffs in ‘scale’ and ‘intensity’
Eichengreen in 2011:
“Or the United States and China could come into conflict over policy toward rogue states like North Korea and Iran.”
If you’ve been following the North Korea drama, you probably know this one’s been back and forth.
Last summer, China seemed to side with North Korea. Then they tried to take a neutral position.
But recently Kim Jong Un paid a secret visit to China. Of course, no one really knows what that was about.
But based on recent trade policy it seems the U.S. isn’t sucking up to China for help with North Korea. So maybe the U.S. and China disagree on North Korea?
Now STAY WITH US … because the point of all this is … according to Eichengreen …
China’s relationship with the United States and the U.S. dollar has a DIRECT impact on the future of YOUR money, interest rates, and wealth.
And if you’re like most Main Streeters, you may not completely understand the connection …
… just like we didn’t understand what Credit Default Swaps had to do with our real estate investing in 2008 … until everything suddenly imploded …
… despite reassurances from the wise and powerful man then behind the curtain of the Federal Reserve, Ben Bernanke.
And the point here isn’t Iran, or North Korea, or tariffs, or trade wars … it’s about whether China gets upset enough with the U.S. and opts for the nuclear option …
Eichengreen in 2011:
“… China [could] vent its anger and exert leverage … by … dumping [Treasuries] … would send the bond markets into a tizzy … interest rates in the United States would spike. The dollar would crater … could cause exporters, importers, and investors to abandon the dollar permanently.”
Obviously, there’s a LOT more to this topic than we can cover today.
Our point for now is that way back in 2010-11, Eichengreen envisioned a scenario in which conflict with China could create a dollar crisis.
As you can see, today’s headlines are living out his concerns.
When you read Eichengreen, like Jim Rickards, he talks about things reaching a tipping point … where everything happens fast.
We lived that in 2008 and it was NO FUN. But that was only because we were on the wrong end of it. While we got slammed, others made fortunes. They were informed and prepared. We weren’t.
So be cautious of normalcy bias and complacency when it comes to contemplating the possibility of a dollar crisis.
Better to be prepared and not have a crisis … than to have a crisis and not be prepared.
Until next time … good investing!
More From The Real Estate Guys™…
- Sign up for The Real Estate Guys™ Free Newsletter and visit our Special Reports library.
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The Real Estate Guys™ radio show and podcast provides real estate investing news, education, training, and resources to help real estate investors succeed.
When worlds collide …
Real estate investing is a VERY different approach to wealth building than paper asset investing. You could say they’re two different worlds.
But the paper world has far more impact on real estate investing than many real estate investors realize.
And when those worlds collide, it’s often a painful shock to real estate investors.
The 2008 financial crisis is a perfect case in point.
When the paper world started securitizing mortgages on Main Street real estate, and then created derivatives from those securities in order to place HUGE paper bets in Wall Street’s casinos …
… when the bets went bad it decimated Main Street real estate. MANY surprised real estate investors were CRUSHED.
Of course, central banks around the world fired up printing presses and papered over the whole mess … reflating stocks, bonds, and real estate.
Those who got in the game AFTER the crash … or got in position BEFORE the crash … have ridden that reflation wave to build big fat balance sheets.
So it’s all good … right?
But there’s been some tremors in financial markers which make us think it’s a good time to check our financial earthquake preparedness.
And those early warning signs are in the PAPER world …
You’ve probably noticed the stock market’s been jittery. Which is actually great for real estate … because more people are interested in it, and rightfully so.
But the stock market’s gyrations have baffled many financial TV talking heads.
Earnings are up, they say. Jobs are up. Hourly wages are up. Unemployment is down. Taxes are down. It’s all good … they say.
And YES … all those things are good. Good for stocks. Good for real estate.
But … the dollar has been falling … against gold, against the yen, and certainly against Bitcoin.
What might that mean?
It could that a weak dollar (in spite of a strong economy) means … for whatever reason … big dollar holders are selling.
Our friend Simon Black recently wrote an interesting piece on this topic.
But understanding the causes and opportunities is a BIG discussion … so we’re dedicating two full days with top experts to dig into it.
We realize compared to shopping for properties, negotiating deals, arranging financing, and getting properties prepped for sale or rent … all this financial jabber isn’t very exciting for real estate investors.
We get it.
We spend most of our time chasing opportunities as well. Offense is fun. And most of the events we promote focus on building wealth through real estate.
But twice a year, at our annual Investor Summit at Sea™ in the spring, and the New Orleans Investment Conference in the fall …
… we bring the worlds of real estate, paper, and commodities all together to compare notes, and get outside our real estate paradigm.
At the very least, we learn new things, meet new people, discover other interesting investment opportunities … and have a good time.
That’s a good investment right there.
Of course, if we pick up just one great idea, relationship, or insight that helps us avoid a problem or grab an opportunity sooner … it’s a GREAT investment.
We found the BEST real estate deal of our lives … at a conference. Just sayin’…
Until next time … good investing!
More From The Real Estate Guys™…
- Sign up for The Real Estate Guys™ Free Newsletter and visit our Special Reports library.
- Don’t miss an episode of The Real Estate Guys™ radio show. Subscribe on iTunes or Android or YouTube!
- Stay connected with The Real Estate Guys™ on Facebook and our Feedback page.
The Real Estate Guys™ radio show and podcast provides real estate investing news, education, training, and resources to help real estate investors succeed.
When it rains, it pours …
If you’re a mass consumer of financial punditry as we are, you’ve probably heard the term “black swan”.
In the context of investing, a black swan is some completely unexpected event that has a substantial impact on financial markets and investors …
… like back-to-back mega-hurricanes which wreak many hundreds of billions of dollars of damage.
Even as the millions of affected people are working through the enormous task of sorting through the damage and cleaning up the mess …
… investors far away from the stricken areas are assessing the potential ramifications of these huge and unexpected events.
As we discussed in a recent broadcast, there’s certainly opportunity and a role for investors to play in helping these areas bounce back from disaster.
But it could be the affliction isn’t purely physical.
Consider this recent CNBC headline …
Harvey’s hit to mortgages could be four times worse than predicted—and then there’s Irma
“As many as 300,000 borrowers could become delinquent on their loans after Hurricane Harvey …”
“The sheer volume of homes hit by Hurricane Irma will likely cause an increase in mortgage delinquencies as well …”
The article references a report produced by Black Knight Financial Services … so we took a look and found these notable excerpts:
“More than 3.1 million properties are now included in FEMA-designated Irma disaster areas, representing approximately $517 billion in unpaid principal balances.”
“Harvey-related disaster areas held 1.18 million properties – more than twice as many as with Hurricane Katrina in 2005 – with a combined unpaid principal balance of $179 billion.”
That’s $696 billion of mortgages that could potentially go bad because property owners are underinsured, have negative equity, or are owned by displaced people in financial distress.
For context, according to this 2007 article from Associated Press:
“Subprime mortgages totaled $600 billion last year [2006], accounting for about one-fifth of the U.S. home loan market. An estimated $1.3 trillion in subprime mortgages are currently outstanding.”
In other words, the value of outstanding mortgages on ONLY those properties inside the disaster areas is over half of what the TOTAL of ALL subprime mortgages were leading into the 2008 financial crisis.
But, you say, all those mortgages aren’t sub-prime. Prime borrowers wouldn’t walk on their mortgages … potentially triggering another debt crisis … would they?
Of course, no one knows what property owners affected by the CURRENT crisis will do … or how helpful banks and the government will be this time …
… but thanks to a research report by the National Bureau of Economic Research, we know the REAL reason people defaulted on their mortgages during the 2008 crisis was … lack of equity.
“ … data show that the crisis was not solely, or even primarily, a subprime sector event.”
“… but … a much bigger and broader event dominated by prime borrowers …”
“Current LTV is a powerful predictor of home loss, regardless of borrower type.” (LTV is loan-to-value)
“… the role of negative equity remains very powerful.”
Basically, people who own underwater properties (no pun intended … okay, maybe a little intentional) are more likely to walk on their mortgages.
So if that’s true, and these afflicted area properties lose substantial value, it’s possible the next “storm” will be a surge of bad mortgages … to the tune of hundreds of billions of dollars.
In other words, it’s not just the mortgages on PHYSICALLY damaged properties, but ALL properties in the region whose values are dragged down …
… the way prime borrowers’ properties were dragged down by sub-prime borrowers’ foreclosures in 2008.
Does this mean another bad mortgage fueled financial crisis is looming?
That’s hard to say. If Wall Street has once again levered to the moon and issued trillions in derivatives against these mortgages, then things could get ugly.
However, this potential crisis is different than last time …
One major problem leading up to the 2008 financial crisis was household debt service payments as a percent of disposable personal income was sky high.
Back then, borrowers across the United States were tapped out.
Sub-prime borrowers were at the margin. So when teaser rate loans reset higher, mortgage payments became unaffordable and sub-prime borrowers defaulted.
But these defaults were scattered over many markets because it wasn’t a geographic problem … it was demographic. So MANY markets were affected.
When prices fell, they took the values of prime borrowers’ properties with them … and prime borrowers began to default too … not because of affordability, but because of lack of equity.
Each new default put more downward pressure on home values, eroding more equity, and drawing more prime borrowers into default.
Today, at least according to this chart from the St Louis Fed, debt service to income is much lower.
Of course, if interest rates rise, wages fall, or inflation erodes purchasing power, once again, borrowers at the margin could default … and that could trigger widespread defaults and collapsing prices.
But that’s a worry for a different day.
As far as the fallout from these hurricanes, our bet is defaults and falling values are likely to happen primarily only in the affected areas.
However, we also suspect any spike in defaults is likely to be mitigated quickly because of the lessons gleaned from 2008.
Lenders know playing hardball with distressed borrowers only makes the problem worse. We’re guessing they’ll be much more flexible with loan workouts and short sales this time.
And because this is a physical disaster, not a financial disaster … government aid is likely to be fast and generous … at least on behalf of homeowners.
Plus, Uncle Sam knows if they don’t put out the fire fast, it could quickly spread and burn up their banker buddies. We doubt they’ll let that happen.
Better to bail the bankers out BEFORE an implosion by helping afflicted property owners and preventing price crushing foreclosures.
So … with all that said, we think there could be some serious TEMPORARY downward pressure on prices …
…and opportunities for private investors to step in with fresh funds, pick up some bargains, and help distressed property owners out of untenable situations.
That’s because owners of investment properties may not get the same level of help as owner-occupants. They’ll need to turn to private capital for assistance.
Fortunately, both Houston and most of the affected markets in Florida were strong investment markets before the disasters.
And in spite of the horrific damage, most of the basic market fundamentals remain unchanged. So when rebuilt, they’ll probably solid investment markets.
Even better, these areas are likely to see a spike in economic activity as money is invested in reconstruction. A lot of money will be pouring into these regions.
So we’re watching these areas carefully … because when the window of acquisition opportunity opens, it may only last for a short while.
Until next time … good investing!
More From The Real Estate Guys™…
- Sign up for The Real Estate Guys™ Free Newsletter and visit our Special Reports library.
- Don’t miss an episode of The Real Estate Guys™ radio show. Subscribe on iTunes or Android or YouTube!
- Stay connected with The Real Estate Guys™ on Facebook and our Feedback page.
The Real Estate Guys™ radio show and podcast provides real estate investing news, education, training and resources to help real estate investors succeed.
What every investor MUST have to thrive in a downturn …
They say the U.S. “recovery” began in June 2009. And though it’s been one of the weakest recoveries in history, it’s also been one of the longest.
Today, we have record high stock prices and record high debt. (Coincidence? Perhaps.)
Common sense alone says the probability of a stock market correction and economic recession are growing every day.
As we learned in 2008, real estate investors don’t always escape Wall Street disasters unscathed.
And while we enjoy and hope for continued sunshine, experience says it’s a good idea to pack an umbrella … just in case.
So what does that look like for real estate investors?
We think there are three things every investor MUST have in order to thrive in a downturn … and really, these apply to ANYONE who wants to be in a position to profit from bad times when they inevitably come.
Cash
When financial markets seize up, cash is king. Or better stated, liquid wealth which isn’t dependent on a counter-party is REALLY useful.
But deposits in a bank can be frozen or seized. And if the bank AND the institution guaranteeing the bank fails, you could even lose ALL your savings.
We know. It seems extreme. But it’s not unprecedented. And the whole point of preparing is to imagine a worst-case scenario.
Cash is valuable in a financial crisis because the prices of quality assets often get dragged down by the collapse of the garbage assets. Crashes can be indiscriminate.
Think about 2008. When mortgage-backed securities collapsed, they took high quality real estate, stocks and other assets with them.
Back then it was possible to buy properties way below replacement cost … IF you had cash … because there was no credit available. Lack of credit created the problem … AND the opportunity.
So in a worst-case scenario, where bank deposits are even just temporarily frozen, cash OUTSIDE the banking system becomes VERY valuable.
Of course, if Central Banks start printing currency to re-inflate the system, there’s also a risk that your cash loses some purchasing power. Think Zimbabwe for a worst-case scenario.
So some investors think it’s a good idea to diversify liquid reserves to include non-cash liquid stores of value … such as precious metals like gold and silver … also OUTSIDE the banking system. Now you’ve mitigated risk from both a banking collapse, a credit collapse, and a currency collapse.
Relationships
It’s been said your network is your net worth. The idea is relationships are an important asset. It’s true in good times … and even MORE true in bad times.
Relationships with the right people … people with specialized knowledge, a strong network of their own, and resources (including the aforementioned liquid reserves) … can open up all kinds of opportunities for you.
These are people you can barter with, borrow from, partner with, and call upon for ideas, advice, and introductions.
A wise investor is ALWAYS investing in developing strategic relationships. That’s one of the primary purposes for our annual Investor Summit at Sea™
It’s hard to quantify the ROI on your financials, but any accountant can tell you good will is worth a lot … and in a financial downturn, your network could be worth a FORTUNE.
Sales Skills
We often say, “You either know how to generate revenue or you have to work for someone who does.”
But in down times, jobs are harder to come by. When you know how to sell, you’re able to create a job for yourself … and also for others.
And in bad times, there’s more talent available needing work. So in some ways, it’s actually easier to build a great team coming out of a recession.
To generate revenue, recruit and lead a team, negotiate favorable deals, and get into and stay in important relationships …. you’ll need sales skills.
Professional salespeople know sales isn’t a personality type or genetic pre-disposition. Salesmanship is a learned skill … like welding, computer programming, or accounting.
We actually consider salesmanship to be an essential survival skill … one well worth learning. Robert Kiyosaki says, “Every entrepreneur needs to be able to sell.” We agree.
Diversification
This may not be what you think …
When most investors hear “diversification” they think asset allocation … spreading your investments around to various asset classes so if any one goes down, it doesn’t take down your whole portfolio.
“Professional” financial advisors like to call real estate an asset class … like stocks, bonds, currency or commodities.
It’s a rant for another day, but for now we’ll just say real estate is ALL those things in one … except with a lot less paper or exposure to market manipulators.
The kind of diversification we’re talking about is structuring your financial life to avoid over-exposure to any single aspect of the financial system.
This is the voice of experience talking …
Heading into 2008, our businesses and investments were ALL heavily dependent on credit markets. And when the credit markets seized up, so did our businesses and investments.
We THOUGHT we were diversified.
We operated an educational company, a mortgage brokerage, a real estate brokerage, a radio show, a real estate development company … and even a publishing business.
On the portfolio side, we owned a variety of real estate product types including single-family homes, apartments, office buildings, and resort properties … in several different U.S. states, and three foreign counties.
Pretty diverse, right?
BUT … the common thread for almost all of our ventures was a very high dependence on credit. We were overexposed to the credit markets.
It was a bad structure. Then the financial crisis came and the structure collapsed. VERY no fun.
The lesson for us and for you … take a GOOD look at your financial structure.
What are you dependent on? Is there any ONE thing which could unravel it all?
Our good friend Simon Black at Sovereign Man says, “If you prepare for a crisis which doesn’t occur, how are you worse off?”
Or to paraphrase Les Brown, “Better to be prepared and not have a crisis, then to have a crisis and not be prepared.”
We say plan for and enjoy the sunshine, but always pack an umbrella … just in case.
Until next time … good investing!
More From The Real Estate Guys™…
- Sign up for The Real Estate Guys™ Free Newsletter and visit our Special Reports library.
- Don’t miss an episode of The Real Estate Guys™ radio show. Subscribe on iTunes or Android or YouTube!
- Stay connected with The Real Estate Guys™ on Facebook and our Feedback page.
The Real Estate Guys™ radio show and podcast provides real estate investing news, education, training and resources to help real estate investors succeed.
Fed or Foe? Two Valid Views on the Federal Reserve
What is the Fed? Friend or foe? Love it or hate it, the Federal Reserve of the United States is arguably the most powerful financial force on earth.
Fed policies affect interest rates, prices and credit…not just in the United States, but around the world. Ben Bernanke and Ron Paul have two very different answers to the question, “what is the Fed?”.
Former Fed chair Ben Bernanke has been touring the country promoting his memoir The Courage to Act. Co-host Russell Gray stopped by a San Francisco Commonwealth Club meeting where Bernanke was speaking…just to hear what Big Ben had to say for himself.
Meanwhile, host Robert Helms sat in on a Simon Black Sovereign Man conference featuring long-time Fed critic, ex-congressman and multi-time Presidential candidate Ron Paul.
Then we sat down with the microphones and chatted about what we heard and how it relates to real estate investors.
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In the studio to reflect on the very valid, but polar opposite views of Ben Bernanke and Ron Paul on the Federal Reserve…
- Your very valid host, Robert Helms
- His in-need-of-validation co-host, Russell Gray
Long time listeners know we aren’t raving fans of the Federal Reserve system. So we confess that right up front. We’re a bit biased when it comes to answering the question, “what is the Fed”?
With that said, we’re huge believers in “getting a 360” when it comes to studying any topic…and especially one as important as the Fed. In fact, in our Recommended Reading bookstore, we feature several books on what is the Fed.
Some, like G. Edward Griffin’s iconic Creature from Jekyll Island, view the Fed as a nefarious creation of elite collectivists intent on world domination. Scary stuff, if true.
Others, like David Wessel’s In Fed We Trust, heap kudos on the Fed…and Ben Bernanke in particular…for saving the global financial system with bold action in 2008.
Obviously Mr. Bernanke concurs…as he named his memoirs, The Courage to Act.
What is the Fed?
That’s a loaded question in itself. The standing joke is that the Federal Reserve Bank is not federal (i.e., it’s not a governmental agency, but rather a private company), is not a bank, and it has no reserves.
But for sake of this discussion, suffice it to say that the Federal Reserve Bank is the United States’ central bank.
The Fed issues the currency (those green pieces of paper with pictures of famous dead politicians on them)…called Federal Reserve Notes (FRNs). You probably refer to them as “dollars”, but that’s technically incorrect.
Of course, that opens up a HUGE can of worms about the difference between currency (FRNs) and money (dollars – which used to be specific amount of silver and gold). But we won’t go there….at least not today.
So as you can see, right out of the gate … “what is the Fed?” is complicated topic. But it’s one worth studying when you consider what Henry Ford (the guy who created the Ford Motor Company) said…
“It is perhaps well enough that the people of the nation do not know or understand our banking and monetary system, for if they did I believe there would be a revolution before tomorrow morning.” – Henry Ford
Why would he say that?
Well, since Mr. Ford is no longer with us, we can only speculate. But the gist of the comment is plainly understood.
Obviously, he felt the citizens would not be happy if they knew how money and banking worked.
And that’s exactly what Ron Paul thinks.
Ron Paul has been an outspoken critic of the Federal Reserve for the four decades he served in Congress.
He wants the Fed audited. He wants the Fed more transparent. He wants the Fed accountable.
Ron Paul wants the Fed ABOLISHED.
Yet other people are convinced the Fed is an essential part of the U.S. financial system.
The Fed is the Bank to the Banks
If you’ve ever seen the movies It’s a Wonderful Life or Mary Poppins, you’ve seen a run on the bank.
This is when depositors come wanting their money back, but the bank doesn’t have it.
That’s because the banking system business model is fundamentally flawed. A bank borrows short by paying you interest…at least they used to…on your demand deposits. The means you can pull the money out any time you want…as in “short” notice. They, they lend long…like a 5 year car loan or a 30 year mortgage.
So the amount of actual cash on hand is very low compared to potential demands on cash (withdrawals). The number is something less than 5%.
No wonder they run out of money!
The idea of a Central Bank (like the Fed), is to give the banks somewhere to go when they run out of money. It’s like a payday loan for banks.
So when a bank doesn’t have enough money to satisfy customer withdrawals, they can go to the Fed and borrow. Later, when they get some money in from new deposits or loan payments, they can pay it back.
Obviously, we’re WAY over-simplifying this. But that’s the basic model.
The Fed Creates the Currency Out of Thin Air
So where does the Fed get the money to lend?
It prints it.
Bet you wish YOU could do that. But you can’t. So don’t try. It won’t end well.
When Panic Strikes…
When the 2008 Financial Crisis struck, financial markets froze up. It’s a long convoluted story, and if you’re super interested, then you’re a sickie like Russ, and you’ll enjoy plowing through ALL of the books in the Banking and Economics section of the bookstore.
The short of it is that major banks, insurance companies and investment houses all ran out of money…at the same time.
How could that happen?
Leverage.
Wall Street created trillions of dollars of faux financial assets called “derivatives”. Basically it’s debt secured by debt secured by debt secured by debt. Get it?
Even though there were BILLIONS of dollars in the financial system, they were holding up MANY TRILLIONS of dollars of debt.
And when the sub-crime…oops…sub-prime…crisis hit, some of that debt went bad.
Normally, that’s not a big deal. Which is probably why Ben Bernanke assured the world the sub-prime contagion wouldn’t spread.
Famous last words.
In fact, it spread like wild fire.
That’s because when the sub-prime debt went bad, it set off a daisy chain reaction of ALL the derivatives (debt secured by debt secured by debt secured by debt…secured by sub-prime mortgages).
And each layer had a margin call. So when the sub-prime loan went bad, the value dropped relative the derivatives backed by it, so the bank that pledged it as collateral got a margin call.
That means they need to put up cash. Except they didn’t have enough.
So they tried to sell some of the derivatives they had to raise cash. But no one wanted to buy them. Seems the word on the Street was the paper (debt) was bad.
Now, in a “no bid” environment, prices were in free fall. Margin calls were everywhere. More and more derivatives were hitting the market with no bid…leading to more margin calls, defaults and widespread panic.
Ben Bernanke to the Rescue
It’s a big long story…but the short of it is this: Ben Bernanke printed over $4 trillion dollars and started buying up all the bad debt.
The Fed put a “bid” under the market to stop the margin calls.
Then they made huge emergency loans to private businesses. Like the $80 billion loan that saved AIG Insurance.
They allowed Goldman Sachs and other investment banks they liked (then Secretary of the Treasury Henry Paulson was the former CEO of Goldman Sachs) to become deposit banks so the FDIC fund could be raided…oops…used to save them.
Lehman Brothers wasn’t smart enough to get their CEO into Treasury, so Lehman went bust.
So Ben Bernanke had the courage to act. And according to people like David Wessel, Richard Duncan and Bernanke himself…Ben’s bold action saved the financial system.
Good job.
Who Broke the Financial System?
Ron Paul, Peter Schiff and other critics of the Federal Reserve System claim that the entire problem was originally caused by Federal Reserve activity in the years and decades leading up to the financial crisis.
You can (and should) read more about that in Peter Schiff’s books, Crash Proof 2.0 and The Real Crash.
Who Cares?
Hopefully, when it comes to understanding, “what is the Fed”, YOU do. After all, the Fed’s decisions impact every aspect of the economy including interest rates, employment, wages, cost of materials, availability of credit and more. All those things directly affect you, your tenants, the value of your savings, and the price of your properties.
But we make distinction between politics and investing.
We have an opinion about how things SHOULD be. Sadly for us, things aren’t that way. You may have your own opinion and you may agree or disagree with us.
That’s okay. It’s what makes the world go around.
But when it comes to investing, whether we like the Fed or not, and whether or not we agree with the Fed, politicians or each other…what matters is making sure we understand what is the Fed and what’s happening so we can try to anticipate likely outcomes and position our portfolios to roll with the flow.
Will there be inflation or deflation? Will interest rates rise or fall? Will employment improve or weaken? And on and on and on…
The Elephant in the Room
So just like being locked in a room with a huge elephant which could EASILY CRUSH YOU…
So, what is the Fed? It doesn’t matter if you think the Fed is evil and is trying to destroy you…or if the Fed is just a big, lumbering oaf…
If you’re on the wrong end of it, you get CRUSHED.
So pay attention to the Fed. Try to see if from all angles. And when it moves, make your adjustments to make sure you’re safely positioned.
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10/24/10: Big Profits without Wall Street or Tenants – How Private Investors are Making Money from the Financial Crisis
When an economy burns down, the landscape is charred and the financial food chain is disrupted. Viable businesses starve for funding, while investors hunger for 
return. The normal eco-system has broken down and sources of capital and investment opportunities aren’t where they’re supposed to be. Everything is in disarray and the ensuing uncertainty breeds fear.
But it also brings opportunity.
Sadly, after an economic forest fire, most people focus on what’s burned. They hang around the old Wall Street and banking feeding grounds, waiting for things to grow back and settling for low returns or grubbing for hard to find funding.
But others are able to find new pastures simply by looking past the beaten path and seeing where the new opportunities are growing green in more fertile soil.
We found a guy who’s doing something so brilliant that we decided to dedicate this episode to cultivating our understanding of his model.
Plowing through the conversation in the studio for this adventure in broadcast excellence:
- Your show host and real estate Yogi, Robert Helms
- Co-host and Boo-Boo bear, Russell Gray
- The man with the Smokey voice, the Godfather of Real Estate, Bob Helms
- Special guest, investor and real estate entrepreneur, Ron Black
A few episodes back, Ron Black called in and seeded our minds with the awareness that in today’s charred economy, conventional banking is failing to feed the needs of both savers and borrowers. Interest rates paid to savers are too low. Access to loans for consumers and business is too tight. Even well qualified borrowers are having a hard time finding the funding needed to grow the economy.
For investors in the past, long term appreciation has proven to provide plenty of financial timber for building a strong retirement. Just buy stocks and real estate, water them faithfully, and in time they grow into mighty oaks of equity. But today, the economic forest has burned down – and while those who plant now will likely have some big trees in 20 or 30 years, what if you don’t have that much time?
For baby boomers, the last 10 years of buy and hold stock investing has been disappointing at best. The Dow hasn’t grown. It’s even worse for retired folks trying to live on interest income when yields are low single digits. When you’re living on interest, if rates go from 4% to 2%, you just suffered a 50% pruning. Ouch.
When it comes to personal finance, conventional financial planning models are struggling to adapt. The whole system is designed to sell stocks and bonds through the Wall Street machinery and to park money in the banking system. Then these “experts” take your money and (as we’ve all now sadly discovered) they do all kinds of risky things, most of which the average person doesn’t understand, can’t control and probably wouldn’t approve of.
Conservative individual investors have been gravitating more towards dividend paying stocks. These stocks are typically issued by big companies with solid profits (or at least as solid as they can be in a fragile economy). With yields of 6-8% and the opportunity for long term capital gains, we understand that this looks “good” compared to whatever green shoots are peeking out of the charred landscape of traditional Wall Street offerings.
Of course, if times get tough for the dividend paying company, they may choose to reduce or eliminate the dividends. Or, perhaps they’ll incur debt or distribute vital reserves to continue to pay dividends when they really can’t afford it. If this happens, you can bet the stock price will drop, which makes an exit in favor of a better offering potentially expensive. Buy high and sell low is not a winning formula.
What about high yield bonds? Money for top quality corporate borrowers is pretty cheap right now. The best companies are sitting on piles of cash waiting for the economy to stabilize. They hardly need to borrow and wouldn’t pay much to do so. So high yield bonds are likely to carry substantial risk. Plus, are you ready to trust the Wall Street credit rating agencies again? You know, the ones that gave sub-prime mortgage backed securities a trip A rating? We’d rather go for things that we can see and understand.
Then there’s high interest savings accounts and high yield CD’s. But remember, today’s definition of “high interest” is maybe 3-4%. Whoopee. Plus, the better rates mean locking the money up for years.
So the conventional investing trees are pretty bare right now.
The problem with the Wall Street model is that investors are too far removed from the actual investment and have so little security if something goes bad (does that really happen?), that even in the good times, it’s still risky. The only reason it doesn’t feel risky is because Wall Street insulates you. Plus, all the slick marketing is intended to make you feel like giving your money Wall Street and the banks is not only normal, but your only choice.
With so much retirement planning marketing built on the Wall Street model, most people don’t have any idea where to find another option – or even what it would look like. And when they do, those Wall Street paradigms pop up and prevent people from seeing that low risk, high yield, short term, cash flow investments are possible in today’s market – specifically because the Wall Street systems have broken down.
In this episode of The Real Estate Guys™ Radio Show, our special guest Ron Black describes how he identified a void left by the breakdown of the traditional mechanisms for matching investors with yields. Best of all, his model cuts out Wall Street and the banks (after all, they’re really just high priced middlemen) and gets the investor very close to their actual investment.
The bottom line is that double-digit high yields are currently available on short term, secured investments which are easy to access and understand. It’s something anyone can do in today’s market to supercharge their portfolios, whether seeking current income or long term growth of principal. Think of it as Miracle Gro for your portfolio.
You’re gonna like this show!
The Real Estate Guys™ Radio Show podcast provides education, information and training to help investors make money with their real estate investments.
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8/8/10: Don’t Say I Didn’t Warn You! Peter Schiff Reveals How He Predicted the Crash
WHO KNEW the crash was coming? Lots of people have been reverse engineering the causes of the financial crisis. It’s easy(er) to be smart when operating from hindsight. But when someone gets it right for the right reasons BEFORE the event occurs…well, that’s just impressive.
Peter Schiff is one of the few guys who called it way in advance. Not only that, but he put it in writing in his 2006 book Crash Proof (the updated version Crash Proof 2.0 is now on our recommended reading list).
Even more impressive is that Schiff appeared on a whole host of TV shows sounding the warning. But people literally LAUGHED at him, as you’ll see in the 10 minute video below. And there are many other videos of Peter aggressively debating all kinds of people – including next week’s guest on The Real Estate Guys™ Radio Show, Steve Forbes.
Featured on this week’s episode:
- Your host, Robert Helms
- Co-host, Russell Gray
- Fund manager, economist, author and outspoken commentator, Peter Schiff
Politics aside (Schiff is running for the Republican nomination for Senate in Connecticut – with the endorsement of Steve Forbes!), considering what Peter predicted and what actually happened, how can you not be at least curious? It was that curiosity that had us go to Las Vegas for Freedom Fest in July, where we were exposed to many economists who follow the Austrian school of thought. There isn’t any way in a blog post to explain all we learned, but a recommended homework assignment is to review the major tenets of the Austrian viewpoint versus Keynesian. We think you’ll find it very interesting, if not highly enlightening!
What we’re really interested in is being able to best anticipate macroeconomic influences that are likely to impact the value of our real estate, the strength of the jobs market, the growth of wages (which fuels growth in rents); and the cost and availability of loans. We don’t care if you’re Democrat, Republican, Libertarian, fans of rap or a drinker of light beer (okay, we find the last one a little offensive) -if you have something to say that proves true and makes sense, we’re interested. Peter Schiff is a guy that has proven true and seems to makes sense.
So for this entire show, we ask Peter to tell us to our face how he knew the crisis was coming and what’s going to happen next. Based on his track record, we think he’s a guy worth listening to. Check it out and let us know what YOU think!
The Real Estate Guys™ Radio Show provides ideas, perspectives and resources to help real estate investors succeed.
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Part 1: Report from the National Association of Realtors Conference
This is Russ. I just got back from 3 days in beautiful San Diego where I attended the NAR Annual Conference. Robert drew the short stick and had to go to Belize to handle some business. Poor guy.
In case you don’t know, the National Association of Realtors is the world’s largest trade association, boasting well over a million members. Pretty good for an industry that’s been at the epicenter of the “world financial crisis”.
I noticed the AP reported on FHA Commissioner David Stevens’ speech at NAR. They said that Stevens told the Realtors “that concerns the agency is headed for the same financial trouble that snared Fannie Mae, Freddie Mac and the subprime sector are unwarranted.”
Really?
I didn’t hear the speech because I was more interested in what people on the front lines were thinking and feeling about the market. Besides, we’d already commented on our observations about FHA in two previous blog posts: Are We Going to Lose our Fannie? and Hey FHA! Your Fannie is Showing. You can find those in the Clues in the News category.
Why should you care about FHA? As quoted in the AP article, Stevens said it best, “Without FHA there would be no (housing) market, and this economy’s recovery would be significantly slower.”
The surest sign there’s trouble is when a bureaucrat comes out and tells your there isn’t (“Pay no attention to that man behind the curtain!” ). Especially when all evidence says there is. It’s even worse, when the “no problem” evidence provided is (again, from the AP article), “the agency has $31 billion in capital – $3.5 billion more than it had a year ago.” But (and it’s a big one), how does that compare to the number of loans insured? The AP article says that FHA has insured nearly a quarter of ALL new home loans made this year.
Consider these recent FHA related reports:
11/10/09 MiamiHerald.com – “FHA moves to boost condo market – The FHA recently announced more lenient, albeit temporary, underwriting guidelines for condo projects”
11/12/09 DSNews.com (reports to the mortgage default servicing industry) – “The FHA told Congress and reporters Thursday that its cash reserve fund had deteriorated to $3.6 billion – the lowest it’s been in the agency’s 75 year history.”
11/13/09 Wall Street Journal – “The FHA’s Bailout Warning – Whoops, there it is. – Critics of Fannie Mae & Freddie Mac were waved off as cranks and assured that the companies would not need a taxpayer bailout right up until the moment that they did.”
11/14/09 AP – “FHA Boss: FHA is not the new subprime” (this is the article written at the NAR conference that I opened up talking about). Hmmmm……I’m having déjà vue all over again…again.
Not to be redundant (okay, maybe a little redundant), but Supply and Demand only work when there is capacity to pay. If 100 people are starving and there’s only 1 Big Mac for sale, one would think that the price would get bid up, right? But that assumes (dangerous word) that those people have the capacity to pay. If they don’t, the price won’t rise.
The lesson? Stevens is right (for now) that FHA money is a BIG part of housing. If it goes away or is tightened, then there will likely be a dip in prices as less people can compete for available properties. Does that mean stay away? Not necessarily.
Eventually, private money (and there’s lots of it!) will make its way back into mortgages. Why? Because it’s profitable and real estate is real and the demand for it is forever. But until the sands stop shifting, private money will stay away. It’s no fun to play a game when the rules keep changing. As long as private lenders think they will have to compete against government (taxpayer) subsidized non-profit lenders, and/or that legislators will impede or negate their rights to recourse under the contract (i.e., stop a foreclosure or force a modification), then private money is going to stay away.
And who can blame them? But, (oops, my opinion is showing), even though all this government tinkering is designed to lessen the pain (ironically caused by government tinkering), it will also prolong it. But I guess private money is coming to the rescue one way or the other, since taxes take private money and funnel it into housing through the government via bailouts. Not my first choice, but that’s the way its working right now.
For joe schmo investors like us, bread and butter properties in highly populated markets with good transportation, education and economic infrastructure still make sense – as long as they cash flow and you’ve got reserves to allow you to own for 10-20 years. Because when private money does come back and is added to all the new money we’ve added through stimulus, it’s very conceivable that prices will go up. But if you have positive cash flow, amortization (pay down of today’s cheap loans over time), and tax breaks, you will still look good in 20 years. And who doesn’t want to look good in 20 years?
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