[docteur]

Why are smart money managers like Bill Miller (Legg Mason Value Trust) and David Einhorn (Greenlight Capital) out buying up homebuilders?

Miller, who has outperformed the S&P for 15 years in a row, has been buying like crazy and now owns 15% of Ryland; 11% of Beazer; 9% of Centex and 8% of Pulte. Einhorn owns 10% of MDC Holdings and is it’s second largest shareholder next to the CEO.

Talk about going against the herd. I read somewhere that Einhorn thinks MDC is worth about 2.5 times more in share price than where it is now trading. BS? Or do they know something we don’t?

Is it because homebuilders are trading at dirt cheap multiples of earnings, have low debt to capital ratios and are swimming in cash from the huge runnup in housing prices over the last few years?

If you just look at homebuilders from a value standpoint, they look pretty darned good with many showing trailing PE’s less than 7. William Lyon Homes – WLS – is trading around 4.5 and it’s CEO just upped his offer to purchase all the outstanding shares by about 7.5% – from 93 to 100. Why?

I just have to ask myself: What are all those cash rich homebuilders with strong financial statements going to do with all that cash? They sure aren’t going to stop building (or selling homes), are they?

Sheesh…now I’m really confused 🙂

[docteur]

Here is a place to hedge against just about anything and not risk a whole lot of capital. The instruments are called hedgelets and can be found at

http://www.hedgestreet.com/

It is a great place to test some of your investment ideas without risking the farm…wait, there are no farms left. They’re all housing subdivisions…

[docteur]

Your take on inflation is a good one. How does it impact your personal budget, your bottom line? There are so many ways to calculate the real impact of it, I guess the best gauge is the impact increasing prices have on you and your family.

And yes, you still do have your principal, which is 50% of the investment battle! Remember, the most important rule of investing…Protect thy Principal.

Let’s say you lose 3% to inflation per year, being fully invested in short term T-Bills for three years, waiting patiently for a good idea to surface. And then you hit on one and over the next couple of years, you gain 30%. I’ll take that risk anytime.

Anyway, while you are waiting and given your conservative nature (as is mine), I would stick with BRK-B (great for buy hold investors), index funds and again, short term treasuries (all relatively liquid).

However, if long term interest rates ever get lofty again, (if I remember right, in the early eighties the 30 year T-Bond hit about 15% and I believe prime was north of 20%) I’d jump in for the long haul because that kind of consistent return ain’t bad (the key word being consistent).

I guess all I can say is keep doing what you are doing. Again, no one has all the answers. Trust yourself and your own particular investment style will lead you to another great round of investment ideas.

And don’t sell stuff that is still heading north until it starts going south. Trying to anticipate markets is real, real tough. I just let the trend emerge and hope that I have caught the bulk of the move. Sell the bad stuff, not the good stuff (like your current index funds).

Anyway, it sounds to me like you’re doing pretty well on your own so far and I’d say the best advice you can take is from your inner self. Trust your gut. It’s gotten you this far without any major financial disasters and the more savvy you become, the better you’ll do.

[docteur]

I think Chris stated it pretty elegantly via his actions in the market. He waited until it was clear to him that is was time to pounce and he did. Then losing 3% per year to inflation turned into gaining 19%+ because a good idea surfaced and he acted on it. He was patient until it was time to act.

You have to stalk an investment idea. Lie in wait until you can cull one from the herd. Don’t invest just because you think you are losing via inflation. One good investment idea can make that loss up tenfold.

Besides, if you go into short term treasuries, you are not losing (if you believe the government inflation numbers) you are simply parking your money. When it comes to investing, patience is the most valuable virtue you can have.

It is far better to wait until you are absolutely sure, then back up the truck. Gains are made in short bursts, when the timing is right and you have the certainty of your actions. Wait for the opportunity to show up…and when it does, you will be ready.

As far as your alternatives go, BRK-B is probably the only one I would consider (I am pretty conservative) and the only reason I would consider it is they have lots and lots of cash! They can weather some pretty bad financial storms or some pretty bad investments (WB has made some horrendous mistakes in his career but his good ideas have far outweighed his bad ones).

The bottom line for me is there is tons of conflicting information out there. Again, nobody really knows for sure what’s going to happen. Nobody. You just have to trust your gut meter (after due consideration of all the alternatives) and go with it.

Like Little Big Man said “Sometimes the magic works and sometimes it doesn’t.”

[docteur]

I also think now is the time to be in cash. I believe the solution to this quagmire we find ourselves in, which took a long time to create, will also take a long time to unwind. It will be accomplished through a balancing act of slowly raising interest rates (to give folks time to accomodate) on the one hand and an attempt through other measures to soften the fall of real estate on the other.

I think we will have a soft landing but on a very long and slippery runway and it will seem like an eternity until we finally stop skidding. And all the while the passengers will be wondering: Are we going off the runway? Is the plane going to explode? Are we all going to die?

I once read that the folks who survive plane crashes are the ones who go over all the possible scenarios they can think in their minds of before they even take off. People who do that are prepared, people who don’t just freeze when tragedy strikes and sit in a daze for several seconds because their minds have nothing to grab onto to create a solution to the problem before them. And it’s those few seconds of non action that is their demise.

None of us knows what’s going to happen but as long as we continue to discuss as many possible scenarios as we can along with solutions, we will be prepared and will survive whatever befalls us – whether it be a crash, a hard landing or some other unknown scenario.

Whatever happens, I believe it will happen slowly at first and then pick up momentum but hopefully at some point, a trend (a way out) will emerge that we all can take advantage of. Right now there is still a lot of uncertainty in the air and where there is doubt, I say just get out (of the stock market, commodities and real estate).

Cash is king because the solution to our dilemma isn’t clear…yet. But continuing to discuss the various scenarios and rehearsing what we would do in any given situation, is the best way to survive until something clearly starts to unfold.

[docteur]

Agreeing to pay rent up front or enter into a lease usually can secure a discount…your landlord obviously isn’t interested in that. Other ways are agreeing to do the repairs and maintenance (as opposed to the landlord paying for it – sort of sweat equity rent). Other than that, I can’t think of other ways to secure a discount.

In answer to your other post, if you keep exchanging, you’ll never pay taxes and you can crank out some of your profit/equity via financing. But if you sell, you get hit with recapture and taxes.

[docteur]

Just a quick comment here, then I have to hop off to a Family Easter celebration…

I have always believed that profits aren’t profits until you book em. Until you sell and have the cash in the bank its just more BS. Equity can evaporate faster than you can imagine and most people calculate their equity incorrectly. They just subtract debt from market value. Well, what about selling costs and taxes (that can steal up to 50% of your equity, depending on the quality of the gain — long or short term – unless you do a 1031 exchange.) Real net worth is cash (liquid and/or cash flow). The rest is just BS until you convert it to cash or cash flow.

I once heard an intersting concept that totally ignored the proverbial “net worth” calculation. It was called being “infinitely wealthy”, which means you have enough cash flow to live the way you want, without having to work and that continues indefinitely. For some its $ 50,000 per year, for others it might be $ 1,000,000 per year (or more, which is hard for me to imagine). You should determine what is it for you and then create it. The process of doing that is a good one and in most cases you will create more than you need, then you can share your wealth with others who might be less fortunate than you.

In answer to your other question, if you enter into a one year lease, yes any new buyer would have to honor that lease, unless the seller or the buyer bought you out of that lease, which is a pretty rare occurance in residential real estate.

If the house went to foreclosure, the lenders rights would trump the lease because they are senior to the lease. If your landlord gives you a year lease, he probably intends to keep the property as leased properties are hard to sell (unless it a great lease for the buyer and its a rental). If he doesn’t, he wants to sell, and that’s always the risk you run being a renter. Always secure a lease if you intend to stay for a while and if negotiated correctly, you can actually lock in some discounts on the rent…

[docteur]

Shakespeare said it best “Me thinks the lady doth protest to much” (or something like that).

Too much cheerleading means they are trying to convince me of something that just isn’t so. That type of activity comes from a growing feeling of desperation. I think those ten see that things are slowing down and they have to ramp up the hype in the coming months as their income beings to fall. They are trying to “sell” you on the notion that the market is still strong. My BS meter goes crazy the louder the cheerleading becomes.

When a market is roaring, no one needs convincing. Most people know it. So, the louder they cheer, the more suspicious I become. And brokers are great indicators of market activity because they can sense the slowdown, as they are right in the thick of it. The phone rings less, the listing don’t sell, negativity creeps in, so they all work hard to keep one another “up”.

I have held a brokers license for 30 years and sold one house about 29.9 years ago. I just couldn’t take it. The emotional roller coaster of selling that little dump in OB almost killed me. Yikes!

When there are parallels between cheerleaders and salespeople, well, the home team is losing and no amount of screaming and yelling is going to make it otherwise.

The beauty of dealing with public buiders is there is no convincing necessary – the numbers and the market are non-emotional. It is what it is (and is of course subject to interpretation) but a good broker is simply a facilitator (in the commercial realm anyway).

And now that I think of it, most good brokers in the residential realm (earning north of $ 1 million per year and I know a few of them) try to list quality properties at a fair price, then no cheerleading is necessary. They are what I call “quiet professionals.”

“Just the facts Mam”…that’s what really sells me anyway. Regarding those ten brokers, I guess the fact that you said “every single one of them was a cheerleader” was very telling of the state of mind of residential real estate brokers. I think the fear is definitely creeping in and the best indicator of a market is the feeling we get in our gut when someone is selling us something, no matter what it is…a hard sell is just that, a hard sell.

[docteur]

Bugs – you nailed it. A deal isn’t done until you cash the check and even then, there is always the possibility of a stealth lawsuit. It’s a very risky game – thanks for the acknowledgement.

I have seen big builders walk from hundreds of thousands of dollars in “hard money” at the last minute. I used to sell land to those guys and more than once, I watched a huge commission evaporate because a deal went sideways.

One bad loss can wipe out years of profits and conversely, one good deal can set you up for life. The trick is knowing when to quit…

[docteur]

Ok, now the sale makes a little bit more sense. However, he still has to finish his final approvals in May or June, which could be a bad time if this market really starts to erode and folks become gun shy.

I remember the last downturn in the early 90’s, I lost ten million dollars in profits (and a lot of my investment capital) as my buyers bailed out of land escrows one by one over a horrible 90 day period (I thought it would never end). It can happen with lightening speed and takes on phenomenal momentum when everyone decides its time to exit.

Most of those in the market today have never really experienced that kind of downturn, where the fear takes on a life of its own and drives folks to make desperate, irrational decisions. We aren’t there yet, but an old land guy like me that’s been through two previous downturns can sense it in the air…kinda like when the weather starts to change just before a tornado hits…it’s not too far off.

Back to your landlord, remember, being in escrow is a hellova lot different than closing (as we all know) and your landlord’s buyers may get squirmy and just bail out of the deal. Then your landlord will have lost momentum and will have to start all over to find another buyer, in a rapidly decaying market. (Due diligence on a land deal can take 90-180 days, depending on how complicated it is and that is a lifetime in a falling market). I sure hope he got a very large, non-refundable deposit.

Again, land entitlement (subdivision) has a long lead time (in California anyway) and if you don’t hit the market just right (selling on the way up) you can lose your rear or if you are well capitalized, you can hang on through to the next market, which could be a ways down the road, but that scenario seriously compromises your return on investment (and can oftentimes make it negative).

Buying raw land and securing entitlements used to be the best way to make money in real estate, but only for those who understood the process and carefully calculated the risks (which very few people do). I have seen a lot of folks lose their shirts in this business, including old pros like me.

There just are so many unknowns and cities and counties, not to mention the federal and state resource agencies (the environmentalists), are constantly changing the rules while you are going through the process. Oftentimes the yield you thought you could get at the beginning of the process is way less (or none at all) when you get to the end of the process.

In the old days, I typically wouldn’t even look at an entitlement deal unless I could earn at least 40% IRR (return being commensurate with risk). On my last deal, I captured a 60% compounded rate of return on my capital but was in that deal for 16 very long and scary years. Fortunately, my timing worked out because Lady Luck was on my side. I had many a sleepless night over that one though.

It’s an incredibly risky proposition to start an entitlement process at the end of a market run (where we are now) because you are buying overvalued land and trying to add value in a falling market (essentially swimming up stream). You must start the entitlement process after a market has bottomed and is on it’s way back up (again because of the long lead times) because you may get to the market too late and miss your profit window. In the land business there is a very fine line (dictated by timing, which is often dictated by luck) between being a hero and being an idiot (I know, I’ve been both).

Lastly, thanks for the great links. I can tell you are an intelligent woman with an insatiable curiosity but you temper that with having your priorities in the right place (family first). And please, don’t let your participation on this website wane, I really enjoy your insights and opinions on all the subjects you address, not just the real estate market.

[docteur]

I think you nailed it in your comparison to daytrading. It’s relatively easy to seucre entitlements (low barrier to entry) in Las Vegas and what you are seeing are the last lemmings to go over the cliff.

Unlimited or easily subdivisible land has no real value and a market can become saturated quickly when amateurs are entering the market (and your friend quitting his day job is a huge red flag that’s its time to try something else).

Only when there are major constraints (politically, environmentally or physically) does land become more valuable.

[docteur]

Yeah, you can still make money in real estate. But it’s a lot harder to do in a falling market, than in a rising market and the risk is much greater. And you have to add value via the subdivision process, through vertical development, etc. Just buying and waiting for appreciation will not cut it anymore.

I think your landlord is dealing in special situations and because land in Riverside is topping, he may have just caught the tail end of the market. It’s going to start falling in value and those kinds of deals will be harder and harder to come by.

I am the guy who retired off my last land deal (after 30 years in the business and lots of risk as well as going bust a few times, I walked away with a boatload of cash) but believe me, I would never tell anyone to go into the land business at this point in the game, because it is far more difficult in California than it has ever been.

First off, the entitlement process is incredibly onerous and environmental constraints add a lot to the risk and cost of subdividing land. Your landlord is basically doing a flip or bought a piece already entitled. There is no way he would have been able to get subidvision approvals that quickly (unless he did a down and dirty parcel map, which is four lots or less, not a major subdivision, which is five or more lots).

His homes down south were purchased after a special situation (sort of like a mini-market crash but with a local flavor) but if this market tanks on a national scale, those “good deal” homes are going to turn into alligators pretty quick.

As an aside, I think Kiyosaki is a total fraud. I knew him years ago and he was an absolute flake. He doesn’t know dink about developing or investing in real estate. And that story you posted about the guy who wants to pick up deals in Carlsbad that ran in the Sunday Union (I read it too) and invests with a guy named De Voos (SP?) — well I read his book too and threw it out, it was such dribble. What a load of dung that thing was.

If you want to know more about Kiyosaki, De Voos or any of the hundreds of other real estate scammers out there, go to the link below and read what John Reed has to say about him/them. (Read is an honest, tell it like it is, real estate investor and writer with impressive credentials and his books tell the truth about this business):

http://www.johntreed.com/rateseminars.html

Also, if you haven’t already, you should read my post at the link below, which contains information from someone in the land acquisition and development business, working for a very large public builder:

http://piggington.com/almost_20_000_on_mls_in_sd#comment-1385

Lasty, I really enjoy your posts and your candor in admitting that sometimes you may get a little too aggressive in your predictions. You are just trying to sort this all out, as are all of us. I mean who knows what is really going to happen?

At least your prognostications are based on lots and lots of individual research — I have no idea how you have so much time to read, let alone post — I am retired and can barely keep up with this website.

Real estate has been wonderful to me but I think it’s time has come to an end (for the little guy anyway) for the next decade or so (at least in California and maybe the rest of the US).

Having said all that, if you are going to invest in real estate, I would find reasonably priced apartments (multifamily) with realistic cap rates or lots of rental upside. Again, John Read will tell you the truth about buying those kinds of properties. As for me, I’m in short term treasuries (30-90 days) and will remain so until a clear trend emerges and it’s time to start buying again (which could be years).

[docteur]

Hi Chris,

Great post. Thanks for your insights and for the kind words.

I too bailed on the market before it tanked but I haired out early, in December of 1999. I took a nice profit but didn’t have any huge positions. I told everyone I knew to get out, but alas no one really listened to me (the froth and mania was unbelievable but not near as bad as this real estate market), except my personal trainer at the time, who left the market with 10 times his annual income (I put him in QCOM options).

Many of my friends literally went bankrupt riding the market all the way back down. My brother-in-law, who was in Dell Computer at the time, rode a two year, $ 180,000 profit all the way down into a dark hole (buying on the dips), resulting in a $ 30,000 loss. I warned him three times to sell but he wouldn’t listen. (I was trading options, futures and currencies at the time, because my primary business, real estate, wasn’t doing all that well).

I am 100% in cash now (but looking at taking some small positions in index funds, ETFs and Bershire Hathway – B, but short term until I see a real trend) because even though the stock market is trying to move ahead, I think this housing bust is going to have far, far reaching consequences and impact everything but the absolute most conservative of investments, resulting in any short term gains in the stock market being compromised by a much larger force (maybe even a world wide depression). I think a lot of folks are going to get hurt badly, not just in the US, but worldwide. Quite frankly, the current world financial situation scares the crap out of me.

I sold my last large development project in early 2004 to one of the largest public builders in the US, just after I started to see what I perceived to be small cracks in the market. Flush with cash, they made me an offer I just couldn’t refuse. At first I thought I had sold out too soon as the market continued to climb after I sold, but now I see the timing was perfect (pure luck). If I was to sell that same project today, I would probably receive $ 20 Million less (about half of what I sold it for) due to huge cost and fee increases over the last two years and the general slowdown in the market. As you know, it’s always good to sell on the way up, not on the way down.

I structured the sale so that I pay no taxes until I am a very, very old man and maybe not at all if I die before the contract is due (this was done through a series of trusts and a private annuity agreement, which will ultimately benefit my children). So now I am sitting on a huge amount of cash, am completely debt free and am patiently waiting for a good investment idea to surface and when it does, I’m backing up the truck (but not before I share it with members of this website). I am totally willing to wait as long as it takes and it may take several years (as you know, patience is a huge virtue in the world of investing).

I am clear that it wasn’t intelligence that blessed me but sheer luck of being in the right place at the right time. (I have been in the wrong place at the wrong time twice before in my life and lost everything I built up as a young man not once, but twice). But the wisdom gained via my mistakes has made me realize that it is much better to be conservative with your capital and focus your investments, as opposed to taking huge risks. The cardinal rule is capital preservation. The second rule is don’t get greedy, you’ll never go broke taking a profit.

The bottom line is this website is a great place to learn and share knowledge that comes from many perspectives. I am truly humbled by the members’ willingness to share their experience and insights in this real estate market (and other markets) and blown away by the level of intelligence and candor shared in the forums. (Sheesh, there are “experts” out there charging $ 500 – $ 1,500 an hour for information not half as useful as what I find here). Hopefully, we can all help one another to gain more knowledge during the uncertain times that lie ahead, helping to keep us and our families safe from financial ruin.

Finally, in response to one post that stated wealthy people wouldn’t waste their time on this website (paraphrased), I say wealthy people spend 99% of their time researching and planning and 1% of their time implementing. This website has broadened my perspective enormously and I sincerely thank all of you for sharing your insights, data and opinions.

Anyone with wealth who doesn’t continue to listen and learn and remain open to new ideas is a fool and is someone who is soon to be painfully parted from his/her cash. Believe me when I tell you this, those of you who visit this website are miles ahead of the general population in your knowledge of financial matters and some of you will be the captains of capital tomorrow, or at the very least, financially secure. This is a very exciting place to be!

[docteur]

SDBear –

Index Fund Advisors (“IFA”) has an excellent website that will give the visitor a specific education on index funds (www.ifa.com).

IFA handles Dimensional Fund Advisors (“DFA”) products and charges a “fee” to monitor your holdings. (Only certain Registered Investment Advisors [“RIA”] can sell DFA products, as they are not available to the general public — see http://www.dfaus.com).

There are less expensive RIAs who will “manage” your portfolio of DFA funds, and the least expensive I could find was Dr. Steven Evanson, a brilliant guy who also uses Vanguard products (www.evansonasset.com) Spend some time on his site. He has over a billion dollars under management and apprears to be a very fair and honest person (based on what I have read on his site and via other comments from clients of his).

Obviously, picking a manager and a group of funds to invest in is a personal choice. A pretty good site that I have found to compare DFA and Vanguard products is http://www.altruistfa.com/dfavanguard.htm

After lots of research, I have concluded that DFA and Vanguard are the best funds out there and I prefer most of the DFA funds over Vanguard, but both are excellent choices.

I guess the other thing to look at when comparing fees/costs is the net return after fees, which granted is sometimes very difficult to determine. Sometimes (albeit rarely) higher fees are charged because of a better mix, higher quality management team or some other factor that produces a higher net return, all things considered.

I know of several CTAs that charge as much as 25% of profits (one charges 50%) to manage accounts but they oftentimes return from 20%-40% per annum (pretty risky stuff but surprisingly consistent). Quite frankly, I don’t mind paying high fees if I can secure high returns, regardless of the investment vehicle (and that includes real estate) but most of the commodities stuff have standard deviations that make me dizzy, so I stay away from them.

I like Treasury Direct because it is simple to use and I never go out longer than 90 days. Besides I am a simpleton at heart, and I am merely parking money for a short time, always looking for my next real estate investment, which is where I have created 99% of my wealth. In a good market, you can’t beat the leverage you can get with real estate.

Having said all that, investments cycle and I think real estate is riding downhill so I am slowly moving into other investments besides treasuries (but still staying liquid by using products like index funds, ETFs (short term) and equities (Berkshire Hataway, series “B”).

I cannot help you on the GSE question.

[docteur]

OK. Detached home sales. But again, are we talking absolute volume, dollar volume, or something else?

And is the comparision of increasing sales 90% to 70% or 90% of one month (could be any number) to 70% of the previous month (could be any number). I am still confused. Maybe just point me to the website or source of information. Thanks.

[Author]

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