[quote=LuckyInOC][quote=davelj]So, how do the lenders go about “valuing” the collateral underlying this “investment”? Why, they just look at what other folks are willing to pay for similar collateral… potential cash flows be damned! Wouldn’t it be be smarter… maybe, just maybe… for the lender to take into account what the house would rent for in case, god forbid, the lender ends up taking back the house? Market rents aren’t that hard to find for most houses. (Ask yourself: How difficult is it for you to figure out roughly what you should be paying in rent for a typical 2,500 square foot house in X area of San Diego? With Craigslist and other free online services – which are pretty blunt instruments – it’s not that tough. And that’s for the non-professional. Appraisers have access to all sorts of rent and market data not available to the general public.)[/quote]
Davej, Don’t banks factor in income (i.e. Rents) when providing loans for commercial residential properties? Don’t banks factor in the rental income for a SFR rental property? I agree with you, they should factor in the affordability of the homes based on rents.
Lucky In OC
PS: I just realized the spell checker on this site does not understand ‘affordability’ – kind of ironic when most of the users do…[/quote]
Indeed they do. Which was exactly where I was going. What I’m suggesting is that SFR appraisals should add this commercial “cash flow” element.
Now, that doesn’t mean it will be all sunshine and puppies. After all, CRE gets valued improperly all the time (particularly in this cycle) because the cap rates applied are too low (and/or rents decline). But the percentage losses on individual CRE loans that go into foreclosure tend to be smaller than on SFR loans (these days, at least) because the CRE loans (1) required equity (generally 20%), and (2) were appraised using a cash flow approach, which limits to some extent how crazy the appraisal can get (relative to SFRs).
In fact, I submit to you that had SFR appraisals had a rental component during the “naughties,” the bubble would have been MUCH smaller, say 1/3 of what we ultimately witnessed (or less). Because once you tie the value to rents – which didn’t go crazy to the upside – you limit the insanity of the appraisal, by definition. Add in a “normal” down payment requirement and – voila – very little bubble.
