Let’s Play Musical Chairs (Again)!

Back in the glory days of 2007 and 2008, prices for commercial real estate were hitting all-time highs. The yields on those properties were at all-time lows. At that time, I remember hearing investors from all over the country talking about how they were getting ridiculously high offers on properties they owned. I also remember them asking this question: “But if I sell my properties, where would I re-invest the money?”

Then in February 2007, Equity Office Properties (EOP), managed by the legendary Sam Zell, sold its portfolio of office buildings to Blackstone for $39 billion. This to me was a sign of the top of the commercial real estate market at the time. When the wise men sell, it’s probably a sign of the peak.

Blackstone immediately started selling off properties out of the portfolio to other investors. A large investor purchased eight buildings for around $7 billion on the same day they closed with EOP. The large investor clearly hoped to turn around and sell these same buildings to somebody else at an even higher price.

About this same time, I started hearing huge investors refer to the market as “a game of musical chairs.” That is, as long as the music keeps playing, everyone wins. But when the music stops, there won’t be chairs for everybody.

Fortunately, in the 560 speeches I have given since April 2008, I haven’t heard any reference to musical chairs. UNTIL LAST MONTH. The market for commercial real estate in many parts of America is absolutely on fire again.

Here are some facts and quotes I have collected from the Wall Street Journal in the past four months:

  • Urban office building prices in the first quarter of 2014 were 11.3 percent above their 2007 peak levels.
  • Blackstone is selling five high-rise office towers in Boston. They sold $9 billion in office properties in 2013, up from $1.8 billion in 2012. Blackstone has $80 billion in real estate assets under management.
  • According to their CEO Leon Black, Apollo Global Management is “selling everything that is not nailed down.” Their real estate group had $9.1 billion in commercial real estate under management at the end of June.
  • Carlyle Group sold $3.1 billion in assets in the first quarter of 2014 and purchased $1.1 billion in new deals. CEO William Conway was quoted as saying, “The world continues to be awash in liquidity, and investors are chasing yield seemingly regardless of credit quality and risk.” Carlyle has $43 billion in real estate assets under management.
  • Winthrop Realty Trust is liquidating the company. The company specialized in buying and selling distressed commercial properties. CEO Michael Ashner said, “I don’t see real relative value in the real estate space. Margins have compressed.”
  • Commercial mortgage lending standards are easing as well. The Journal reported that more than 25 percent of new commercial mortgage backed securities (CMBS) had a loan-to-value ratio above 75 percent. This is up from just 5 percent in 2010. Twenty-two percent of CMBS loans in the fourth quarter of 2013 were made on properties with additional subordinated debt, up from just 10 percent a year earlier.

Over the past five years, I’ve told a lot of people that I would mention it if I ever heard a reference to musical chairs . . . that this would be a sign of moving closer toward the top of the market for this new cycle. Clearly the music is playing again. Listen carefully.

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Media Should Come With a Warning Label

I have mentioned to audiences for several years now that if you are watching Fox News or MSNBC for more than seven minutes a day, not only are you wasting your time but you are also causing yourself mental and emotional damage. I watch a lot of CNBC, and it is subject to the same issues.

One problem with the media is that they try to make everything into a crisis. Another is that sometimes government and businesses use the same media to gloss over real problems and pretend they don’t exist.

For example, back in 2008 the Federal Reserve tried to convince Americans that the problems in the credit market were contained in the subprime residential lending market. That was completely untrue and was designed to keep the public from panic. Unfortunately, if you were an investor and made decisions based on this announcement, you would have lost a lot of money.

Just 15 months ago the fixed-income market dropped dramatically because then-Fed-Chairman Bernanke mentioned the word “taper.” He suggested the Fed could begin to withdraw from purchasing Treasury bonds and mortgages in the near future. Interest rates on Treasury bonds and residential mortgages went up quickly and sharply. The commentators worried on the airwaves that rates could go up substantially by the end of 2013 and into 2014 as the Fed ends its intervention in the bond market.

They further speculated increased rates could really hurt the housing market and impact the value of commercial real estate. All of this was eventually a flash in the pan. Rates actually have fallen since the turn of the year. Another red herring.

For the past five years, “analysts” have been screaming about coming runaway inflation. By showing half of a story, they can build that case. Yes, the Fed’s balance sheet has increased by trillions of dollars. But what you never hear in the news is that the massive decline in the velocity of money has offset any inflationary pressure in consumer prices. Here is another example of how investors who were swayed into buying gold at $1,900 per ounce were poorly served.

In early 2014, commentators explained that U.S. stocks were going up for several reasons. One was that Europe “had turned the corner.” Europe was supposedly on the rebound and would soon be buying goods and services from U.S. firms. But at the same time, Mario Draghi with the European Central Bank was sending an entirely different message. By lowering interest rates on reserves to an unprecedented negative rate, he was clearly signaling that Europe was far from turning any corner.

Financial and general news broadcasts continue evolving into a propaganda outlet for people to influence behavior of others who don’t have the time or the skills to ferret out the truth. Currently it seems that if you can make some outrageous “forecasts,” you can be a famous media darling for 15 minutes. If your lucky guess turns out to be right, then you could be famous for several years.

What is the takeaway here? Take everything you hear coming through media channels with a huge grain of salt. The urge to offer sensational “news” appears to be overwhelming. In an era of declining newspaper and magazine readership and declining TV ratings, the urge to produce continuous crises is understandable. If there isn’t a crisis brewing, Americans would prefer to do something else with their time.

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Wall Street Landlords

Just a few short years ago, Wall Street took its first look at buying homes to rent out for income. Large institutions like pension funds, real estate investment trusts and insurance companies have invested in commercial real estate properties for decades. But investing in thousands of single-family houses was unprecedented at the time.

Initially, the concept was that these large firms would buy up thousands of distressed houses that were in various stages of foreclosure. The plan was to buy them at a large discount, fix them up and rent them for income.

Because there is always some “crisis” in the news, the fear at that time was this: What if these large investment firms buy up thousands of homes and then decide to sell them? When they put a large inventory of homes up for sale, won’t it depress the housing market and wipe out the housing recovery?

Here are the biggest players in this market in the United States, based on the number of homes they owned at the beginning of 2014 (according to the Wall Street Journal).

Wall St Landlords

A recent Bloomberg article estimates that private equity firms, hedge funds and other financial giants have bought nearly 200,000 rental homes in the past two years.

It appears that the institutional appetite for single-family homes is waning. Prices have risen dramatically in many markets, and bargains are much harder to find.

So what about the fear that these behemoths will stampede the market into a decline when they decide to unload these properties? That fear is pretty much unfounded. These companies have found another way to get their money back by selling bonds backed by the rents they earn from their houses. It’s like a small investor who pays cash for a property and then gets his investment out of the property with the proceeds from a mortgage.

These houses will likely be held by these large firms for many years going forward. The pace of purchasing is likely to slow dramatically, but the urge to sell is probably a long way off.

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International Buyers of U.S. Homes in 2014 (Part 2 of 2)

Here’s the second post of my two-part series based on the National Association of Realtors (NAR) 2014 survey of foreign buyers of U.S. homes.

What Price Homes Do They Buy?

Approximately 46 percent of U.S. home sales to international buyers were for less than $250,000. Chinese buyers bought homes with a median price of $523,148; followed by the United Kingdom, $350,000; India, $342,857; Canada, $212,500; and Mexico at $141,071 (Figure 1).

Based on reported transactions, the mean and median prices of international purchases were higher compared with selling prices to domestic buyers. The types of homes purchased by international clients frequently are different from those bought by U.S. buyers (Table). For example, the international nonresident client (Type A) is likely to be substantially wealthier than the median domestic buyer and is probably looking for a property to purchase after having met essential living needs that establish the individual’s presence and standing in the community.

International clients, especially Type A, frequently pay all cash. About 60 percent of reported transactions were all cash compared with domestic all-cash transactions, which generally are 30 percent of the total. Mortgage financing tends to be a major problem for international clients because they lack U.S.-based credit history and Social Security identification. They also have difficulties providing documents required for mortgages.

What Deters Foreigners from Buying U.S. Homes?

Approximately 30 percent of the international clients cited cost, taxes and insurance as major reasons for not purchasing a home. Financing issues were a problem for 19 percent and immigration issues for 9 percent.

Prospective foreign clients did not understand the costs involved in purchasing a U.S. home, which could vary a great deal from their country of origin. Interestingly, 25 percent reported they could not find a property to purchase, the result of low home inventories created by demand in the strongest performing housing markets in the country.

Where Do Most Purchase Homes?

The U.S. international home sale market appears to be geographically concentrated. There is international activity throughout the country, but the top four states represent 55 percent of reported sales (Figure 2). When deciding where to buy a home in the United States, prospective international buyers consider:

  • proximity to their home country;
  • presence of relatives, friends and associates;
  • job and education opportunities;
  • climate; and
  • location.

The top four states in terms of number of foreign homebuyers as a percentage of total U.S. sales were:

  • Florida (23 percent),
  • California (14 percent),
  • Texas (12 percent) and
  • Arizona (6 percent).

Homebuyers from Mexico

Buyers from Mexico purchased approximately 70 percent of  foreigner-bought residential property in California and Texas. According to Realtor.com, the five markets of greatest interest to potential Mexican buyers are San Diego, El Paso, Laredo, San Antonio and Houston. Texas continues to be preferred by residential buyers from Mexico and Latin America (Figure 3).

According to the NAR survey, approximately 49 percent of reported purchases were in suburban areas and about 30 percent in central city or urban areas. Approximately 91 percent of reported purchases were residential properties, and 9 percent were commercial land or other purchases.

Of the residential properties, 84 percent were detached single family, and 7 percent were multifamily. Mexican buyers’ home purchases averaged $224,123 with an almost even split between mortgage financing and all cash — 54 percent and 46 percent, respectively.

Homebuyers from China

Approximately 51 percent of Chinese homebuyers bought residential properties in California, Washington and New York. Based on Realtor.com information, the five markets of greatest interest to Chinese are Los Angeles, New York, Irvine, San Francisco and Las Vegas. Approximately 83 percent of purchases were in suburban (46 percent) and urban (37 percent) areas.

Of the residential purchases, 70 percent were detached, single family and 22 percent were multifamily. The average price was $590,826 with about 76 percent of purchases being all cash versus 24 percent mortgage financed. Accelerated growth in purchases from China has been caused by existing distortions in the Chinese real estate market that make the market susceptible to large cyclical swings.

On the supply side, local governments’ reliance on land sales for financing and real estate development for growth can lead to excess supply. On the demand side, the market is prone to bubbles because housing represents a uniquely appealing investment opportunity given real deposit interest rates that are close to zero, significant capital account restrictions, a history of robust capital gains and favorable tax treatment. These factors have caused a flight to quality by Chinese residents.

As the global economy regains its momentum, the United States will continue to attract foreign buyers. The United States is the leading world economy; it offers private property rights complemented by strong institutions and a good quality of life for its residents.

international homebuyers table, part 2

International Hombuyers Fig1International Homebuyers Fig 2International Homebuyers Fig 3

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International Home-Buying Activity in 2014 (Part 1 of 2)

It’s time for the annual National Association of Realtors’ (NAR) survey measuring the level of sales of U.S. residential real estate to foreigners. There were 3,547 respondents to the 2014 survey, almost 200 more than last year. The survey was conducted from April 14 to May 14, 2014.

Information was gathered from Realtors on U.S. residential real estate purchased by international clients during the 12 months ending March 2014. The term “international client” refers to two types of purchasers.

  • Type A are foreign clients with permanent residences outside the United States. These clients typically purchase property for investment, vacations or visits to this country for less than six months.
  • Type B are clients who are recent immigrants (in the United States less than two years) or temporary visa holders who reside here for more than six months for professional, educational or other reasons.

How did the market do?

This year’s international clients bought an estimated $92.2 billion in residential real estate. That’s approximately 7 percent of total U.S. existing home sales of $1.2 trillion (see table below). Of that, $46.7 billion is attributed to Type A clients and $45.5 billion to Type B.


International sales were up $24 billion from the previous survey. A number of favorable factors influenced foreign demand for U.S. residential properties: stronger global activity in the second half of 2013, appreciation of the Chinese yuan and the British pound, the relative affordability of U.S. residential property, and international investors’ desire for higher returns and greater security. Chinese residents are also influenced by a flight to quality.

Why U.S. homes?

Approximately 56 percent of the respondents reported profitability and security are the main factors influencing the decision to purchase in the United States. Well defined property rights, strong institutions governed by rule of law, a world-leading economy, and a recovering housing market were also factors. Foreign purchasers seek U.S. property related to employment; to house children going to college; for investment and portfolio diversification; and for vacations. Recent immigrants view home ownership as an important accomplishment in their efforts to become established in this country.

What are the countries of origin?

Realtors reported purchasers from 61 countries. Five countries have historically accounted for the majority of the reported purchases: Canada, China (Peoples Republic of China, Hong Kong, Taiwan), Mexico, India and the United Kingdom. In the latest survey, these countries accounted for some 54 percent of the international transactions. At 19 percent, Canada still has the largest share of international purchases, but China has the fastest growing source of international clients, increasing from 5 percent of international sales in 2007 to 16 percent in 2014. Mexico increased from 8 percent in 2013 to 9 percent in 2014 but still was less than the 13 percent registered in 2007 (see figure below).


What are they buying?

Approximately 65 percent of international transactions reported are single-family home sales. In addition, about 39 percent of the homes are intended to be used as primary residences for longer than six months. About 42 percent of transactions were intended for primary residences for: international students enrolled in U.S. colleges and universities, recent immigrants, and professional and managerial employees of businesses and institutions who are in the United States on a temporary but extended visit. Nonresident foreigners who are limited to six-month stays generally expect to use the property for vacation or rental purposes and as an investment.

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How Have Prices Changed Over the Last 30 Years?

Wonder what has chewed up a lot of your personal income over the past 30 years? I’ve enjoyed working my way through several hundred pages of the Consumer Price Index (CPI) Detailed Report published each month by the Bureau of Labor Statistics. At just 117 pages, it’s a short read. A page-turner from beginning to end.

My favorite part is Table 25, which shows the historical price trends for a wide variety of products and services that Americans buy. Unfortunately, the table can be confusing to the average guy (me). I know you can’t believe that a government document can be hard to decode, but it’s true. You have to look at it for a little while to be sure you know what you’re really looking at.

For example, the chart tells you that the price changes are measured from 1982-84, unless otherwise noted. However, about half of the entries are “otherwise noted” and measure price changes from different time periods. Why this happens, I don’t know.

So, given that uncertainty, I wanted to see what kinds of goods and services I buy have gone up the most and the least since the early ’80s. That’s what Table 25 can do for you.

So what has gone up the most since the early ’80s? That would be tobacco and smoking products, which have gone up 798 percent.

Education is the runner-up, one of the fastest-growing categories of expenses over the past 30 years. No wonder students have incurred substantial debt during their years of scholarship.

  • College tuition and fees are up 651 percent.
  • Elementary and high school tuition and fees are up 612 percent.
  • Educational books and supplies are up 508 percent.
  • Housing at school, excluding board, is up 390 percent.

Health care has also been one of the biggest consumers of American income.

  • Hospital and related services are up 633 percent.
  • Outpatient hospital services are up 527 percent.
  • Prescription drugs are up 354 percent.
  • Medical care is up 335 percent.
  • Physicians’ services are up 260 percent.

Just living in a house or apartment has gotten more expensive as well.

  • Water and sewer maintenance is up 363 percent.
  • Garbage and trash collection is up 325 percent.
  • Cable and satellite TV and radio service are up 318 percent.
  • Fuel oil is up 277 percent.

If you like to travel, that has gone up too. But not nearly as much as education and health care.

  • Gasoline is up 217 percent.
  • Motor vehicle insurance is up 335 percent.
  • Airline fares are up 242 percent.
  • Hotel and motel rates are up 226 percent.

Clothes and furniture haven’t gone up much at all.

  • Bedroom furniture is up 34 percent.
  • Women’s shoes are up 29 percent.
  • Men’s apparel is up 27 percent.
  • Women’s apparel is up 20 percent.
  • Boy’s apparel is up 7 percent.
  • Girl’s apparel is unchanged.

So what has gone down a lot in price compared with the early ’80s? That could be categorized as toys and gadgets and electronics. How could that be? Because Americans no longer make any of these things. In the ’80s, we decided to outsource electronics to Japan. In the ’90s, we sent other manufacturing to Mexico. In the 21st century, we have outsourced almost everything to Chinese workers. Hence the prices fall.

  • Sports equipment is down 12 percent.
  • Clocks, lamps and decorator items are down 50 percent.
  • Toys are down 52 percent.
  • Audio equipment is down 61 percent.
  • Televisions are down 96 percent.

If you think these numbers are somewhat hard to believe, don’t worry. The way the government counts prices in the CPI, calculations have changed many times in the past 30 years. Most of these changes in calculation methods have resulted in a lower reported CPI.

Even so, the numbers still give you a general idea of what has consumed your income over the past 30 years and which items are more expensive in 2014 than they were in the early ’80s.

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Inflation Rate Low? It Depends on What You Buy

Want to pick a fight with a senior citizen? Just try suggesting to them that inflation is really low in this country. It’s amazing how even the most lethargic senior will come alive to discuss this topic.

We have all heard from the Federal Reserve that inflation expectations are “well anchored.” We’ve also heard how inflation has been running well below the Fed target of 2 percent for a long time now. In May, the Consumer Price Index (CPI) was 2.1 percent higher than a year ago. Sounds pretty low.

But suppose you retired at the end of 2008, about 5.5 years ago. Since you retired, you have been earning virtually nothing on savings accounts, CDs and annuities. But costs have been escalating substantially. Some more than others. Some MUCH more than others. Some things have gone down during the same time period.

From December 2008 until March 2014, the overall CPI has increased by 13.2 percent. If you are on a fixed income with a pension and/or Social Security, this means that your income buys only 87 percent of the stuff you bought when you retired.

Let’s take a look at some specific items to see how prices have changed since December 2008.

First let’s look at the stuff we eat.

  • Food we eat at home is up 9.5 percent.
  • Uncooked ground beef is up 30.6 percent.
  • Bacon and sausage are up 32.3 percent.
  • Eggs are up 12.5 percent.
  • Hot dogs are up 10.2 percent.
  • Ice cream is up 5.9 percent.
  • Carbonated drinks are up 4.6 percent.
  • Coffee is up 7.1 percent.

So the frugal retiree will need to stay away from steak, hamburger and bacon and go a little heavier on hot dogs, ice cream and soda pop.

Going to a restaurant has gotten more expensive too: up 12.3 percent.

Second, how about the cost of living at home?

  • Homeowners/tenants insurance is up 18.1 percent.
  • Electricity is up 9.7 percent.
  • Water and sewer service is up 35.4 percent.
  • Garbage and trash collection is up 14.6 percent.
  • Appliances are DOWN 9.2 percent.
  • Clocks and lamps are DOWN 27.5 percent.
  • Dishes and flatware are DOWN 25 percent.

Again, the frugal retiree is struggling to keep up with the increasing costs of electricity, sewer and water service, and insurance. But they can offset these financial challenges by buying a lot of clocks, lamps and dishes.

Third, how about traveling to see the grandchildren?

  • Gasoline has gone up 117.3 percent.
  • Tires have gone up 7.5 percent.
  • Car insurance has gone up 24.1 percent.
  • Motor vehicle registration/license fees are up 18.1 percent.
  • Airline tickets are up 31.7 percent.
  • Intercity public transportation is down 2.1 percent.

So forget about flying to see anyone. Driving is pretty expensive too. But the good news is that taking the bus is cheap. So retirees can redefine travel as seeing many new places in the local community on the city bus.

Fourth, how about the clothes we wear?

  • Men’s apparel is up 10.8 percent.
  • Men’s suits are up just 3 percent.
  • Women’s apparel is up 12.3 percent.
  • Shoes are up 8.8 percent.

Prices of clothes and shoes have gone up, but it’s still not an excuse to continue wearing that Members Only jacket that was the rage in the ’90s.

Fifth, how much have health care costs increased since December 2008?

  • Prescription drugs are up 19.6 percent.
  • Physicians’ services are up 14 percent.
  • In-patient hospital costs are up 41.6 percent.
  • Nursing homes and adult day care are up 19.5 percent.
  • Health insurance premiums are up 9.6 percent.

Unfortunately, there is no good news here. Health care costs continue to eat up a larger and larger portion of the budget of American retirees.

Sixth, what about the fun things we like to do?

  • Good news: televisions are down 67.2 percent.
  • Bad news: cable TV and radio services are up 16.3 percent.
  • Good news: the cost of pets and pet accessories are down 3.2 percent.
  • Bad news: the cost of pet food is up 8.5 percent.
  • Good news: sporting goods are down 2.5 percent.
  • Good news: cameras are down 28.3 percent.
  • Good news: toys are down 25.1 percent.
  • Bad news: admissions to sporting events are up 10.7 percent.
  • Bad news: newspapers and magazines are up 26.1 percent.
  • Bad news: postage is up 27.4 percent.
  • Good news: telephone services are unchanged.
  • Good news: personal computers are down 39.2 percent.
  • Bad news (for smokers): cigarettes are up 49.7 percent.

So what’s the takeaway from this analysis on the underlying price indices that make up the CPI? It depends on your lifestyle profile. Here are three that I’ve come up with based on price trends in America. I’m sure there are more.

RETIREE PROFILE ONE: “Living on the Edge”

If you are retired and like to smoke, eat bacon, read magazines, watch cable TV, take some medicine, visit a hospital occasionally, fly on airplanes and drive a car, your cost of living has skyrocketed in the five and a half years since you retired.

RETIREE PROFILE TWO: “The Mr. Rogers Style”

If you are retired and own a home, travel for fun and to see the grandkids, eat steak and hamburgers, watch cable TV, attend some sporting events, take some medicine and occasionally visit a hospital, your cost of living has also increased dramatically in the past five and a half years.

RETIREE PROFILE THREE: “The Frugal American”

The low-cost strategy to achieve the American dream is to never get sick and never travel by car or airplane. Always ride the bus, but just within your city limits. Focus your diet on ice cream, hot dogs and carbonated drinks. For a splurge, have a cup of coffee. Buy a new television, camera and computer every year, because the prices fall every year. Buy lots of clocks and dishes too. Stay away from the post office and magazines. Tell the kids to bring the grandkids to visit you. Let them pay the airfare and the gasoline. And whatever you do, DON’T SMOKE.

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Good News for Housing Market

Mortgage money is the lifeblood of the single-family housing market. Sure, there have been a lot of cash buyers in the market in recent years. This is an aberration, not the norm. Most Americans who want to buy a house need a sizable mortgage to make the purchase.

The availability of mortgage money to potential homebuyers swings like a pendulum. In 2006, the pendulum swung too far. It was too easy to get a loan. Buyers with poor credit and undocumented stated income could get a 100 percent loan. I was calling this phenomenon “a grand social experiment.” Unfortunately the experiment was a spectacular failure.

In reaction to the failure of the experiment, the pendulum swung too far the other direction. Dodd-Frank regulation was created to protect us from ever having a bad mortgage experience again. Unfortunately it took government regulators years to write the hundreds of rules that they deemed necessary. Now that a lot of the rules have been written, mortgages are still hard to get for many Americans. Of course, if you have a great job with substantial income and a sizable cash down payment you can still get a mortgage.

But what if you have some debt on a car or a student loan? What if you only have 3 percent for a down payment? That’s been a tougher story.

Well, some good news in the mortgage market means it is likely to be easier for a larger portion of Americans to buy a house in coming months.

The first piece of good news came from Mel Watt in the Wall Street Journal last month. Mr. Watt is the newly installed conservator overseeing Fannie Mae and Freddie Mac (FRANNIE). On May 13, he announced he is going to encourage FRANNIE to make more credit available to homeowners. He is going to encourage them to accept mortgages with smaller down payments. He is also going to encourage FRANNIE to provide banks with more clarity about what triggers mortgage “put-backs.” A put-back happens when a bank creates a mortgage loan, sells it to FRANNIE, and then the loan goes bad. Under some circumstances, FRANNIE can make the bank take the loan back. This has caused banks to be very risk-averse in making new mortgage loans.

The second piece of good news has to do with Connecticut Avenue securities. When Fannie Mae buys mortgages every day, did you ever wonder where they get the money? They sell bonds to investors and use the money to purchase mortgages. If bond investors are skittish about the risk of mortgage loans, they may not want to buy Fannie Mae bonds. So Fannie has to be very conservative in its decisions.

In a recent article, the Wall street Journal reported that Fannie Mae was able to sell risk-sharing certificates that enlist investors to pay for potential defaults on home loans guaranteed by Fannie Mae. They are called Connecticut Avenue securities because Fannie Mae has an office on that street.

Here is the cool thing about this second piece of good news. The riskiest of these securities are linked to home loans with as little as 3 percent down payments. And how did the sale of these risky securities go? It was oversubscribed by 19 times. That means that these investors would have bought a lot more of this paper. This tells us is that the bond investor appetite for riskier home mortgages with small down payments has grown substantially.

Here’s the good news. First, the head of FRANNIE is saying he wants to make home loans available to buyers with smaller down payments. Second, bond investors are saying they are keenly interested in buying parts of mortgages that have small down payments.

Expect to see more Americans buying homes with smaller down payments coming soon to a lender near you.

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Clear Sailing Rest of the Year

The Philadelphia Federal Reserve publishes leading indexes for each of the 50 states and the nation as a whole. Leading indexes are used to discern the future trajectory of the economy. The chart shows the index over the past 30 years.

As you can see, the index works pretty well. The shaded light blue vertical bars show periods when America was in a recession. Each of the previous three recessions were preceded by a substantial drop in the leading index.

The current index reading indicates that economic growth should continue to expand for the next six to nine months at least. Election year campaign rhetoric is about to flood the fruited plains of our country. There will be lots of talk about bad news. This is how politicians get elected. But underneath the rhetoric, the U.S. economy continues its path of slow expansion.

us index 2014

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Another Reason Mortgage Rates Will Stay Low in 2014

All the talk last year about how mortgage rates were going up because the Federal Reserve was going to stop buying Treasury bonds and mortgages was just that, talk. Since the Fed actually started to “taper” their bond purchases, mortgage rates have declined along with the rate on the ten-year Treasury.

There are two possible reasons for this decline in 2014:

  • Bond investors are anticipating very slow economic growth in the United States.
  • Bond investors are fleeing from troubled places like Russia, India, China, Brazil, Argentina and Venezuela.

After reviewing lots of charts of the various sectors of the U.S. economy, my conclusion is that the second reason is the most likely.

For years, Wall Street tried to convince us that “BRIC countries” were the only place to invest. Investor money flowed into Brazil, Russia, India and China. They were the darlings of Wall Street. Well, the bloom is off the rose for these countries for a variety of reasons.

The continuous failure of socialism is currently on display in Argentina and Venezuela.

Another theme promoted by Wall Street in the past six months is that Europe is “on the mend.” The thesis was that these countries would buy stuff from us and increase employment in America. I’m not sure where the thread of evidence was to support this notion, but I have heard it a lot this year.

All the while, “analysts” on business news shows were promoting this notion. Mario Draghi was talking a different story. He’s the head of the European Central Bank. He has been talking for months about how inflation is dangerously low in Europe and that if he had to he would deploy some heavy weapons.

Yesterday, he unloaded the financial equivalent of the “Little Boy” atomic bomb on the global marketplace. This bomb is a new policy of paying negative interest rates on excess bank reserves parked at the European Central Bank. In effect, this will punish banks for not having money deployed in loans or other investments.

In the United States, the Fed pays interest on excess reserves. There is a small, but positive, return for parking the money at the Fed.

Don’t let anybody kid you, the United States is still the beacon of economic growth in the current global environment. A lot of this growth has been artificially created by Fed monetary policy, and it remains to be seen how well our economy will perform when the Fed stimulus is removed over the next 18 months.

But for the time being in the global economy, America is still the prettiest pig at the trough. Money continues to flow into the American bond and commercial real estate markets. Prices are getting higher for both asset classes. Oh, I forgot to mention that stocks are at record highs as well.

Money will continue to pour into the United States until there is another alternative. The U.S. dollar is likely to continue strong, as China and Japan and now Europe are trying to devalue their currency to compete with America in the global marketplace.

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