In today s apartment investment market, investors are buying at cap rates in the 4% to 5% range. The

Financial bubbles are inflated gatlinburg motels by investors who pile into an asset class with flawed assumptions. gatlinburg motels In most cases, these investors have unrealistic expectations for future appreciation and wouldn t want to own the asset based on its cashflow alone. Such is the case with stocks, bonds, land, houses, tulips, and even gold. At some point, investors question their original assumptions on appreciation and start to sell. Of course, this causes any appreciation to stop, and even more speculators decide to exit. Further selling causes prices to fall which prompts even more selling that culminates in complete market capitulation and a crash in market pricing. As surely as the sun rises and sets each day, once an asset class becomes coveted for appreciation alone, a crash is inevitable.
The federal reserve has lowered the cost of borrowing to near zero. As a result, there is plenty of cheap debt available to financial managers to invest. These managers are under increasing pressure to obtain returns, so they bid up the price of all financial assets in pursuit of higher yields. This inflates all asset classes, which is apparently what the federal reserve wants.
The cash returns on all cashflowing assets has been steadily declining due to all this cheap debt searching for a home, and financial managers gatlinburg motels have been forced to accept ever-more optimistic assumptions in order to justify their acquisitions. One of these assumptions is the future sales price. In other words, financial managers are starting to expect higher and higher rates of appreciation in order to make their deals work, and as I pointed out above, it s the assumptions on future gatlinburg motels appreciation that lead to asset bubbles.
Investors in cashflowing assets prefer those asset classes because they are less prone to wild fluctuations in value at least in ordinary times. However, we are not living in ordinary times. I first studied real estate finance in the early 90s. Cashflow assets like apartments or office builders were valued based on their current cashflow. At the time, the general rule of thumb was that you borrowed 80% of the money at 8%, and the 20% equity was supposed to obtain a 12% return to compensate for risk. Investors would create what s known as a stablized first-year proforma with these parameters to establish a market value for a cashflow property. Future appreciation was generally not considered gatlinburg motels because at a 12% discount rate, the profit ten years out had so little additional value that it could be ignored.
After 30 years of falling interest rates and cap rates less than half of what they were when I was in school, investors are accustomed gatlinburg motels to what s known in the industry as cap rate compression. What investors found over time is that while they were buying based on an 12% yield, their future buyer would proforma an 8% yield, so properties were appreciating much more than their original proformas anticipated. The appreciation greatly contributed to their returns . And since this has gone on for such a long time, the expectation of future appreciation became gatlinburg motels part of everyone s proforma, and before they realized it, cashflow investors became speculators gatlinburg motels all because the distorting effect of federal reserve interest rate policy.
In today s apartment investment market, investors are buying at cap rates in the 4% to 5% range. Their proformas have overly aggressive assumptions gatlinburg motels of rent growth and occupancy, and most importantly, they assume they will sell out years from now to an investor who will accept a 3% cap rate . Based on their experience of the last 30 years, their assumptions of cap rate compression are reasonable. But are they really? It is reasonable to assume investors ten years from now will accept even lower cap rates? This is the bubble forming.
So why are investors funding these deals? These guys are not stupid, they see conditions I just described, but they fund the deals anyway. Why do they do it? Because the federal reserve has pumped so much cheap debt into the economy that they don t have any better alternatives . It s the same reasoning that has financial managers buying longer duration bonds, which are also in a bubble.
The people who put together these deals make money two ways. First, they take 1% off the top, which in an environment of 4% yields makes many deals hard to pencil gatlinburg motels out. When cap rates are 10% taking 1% is only 10% of the cashflow, but at 4% their fees are 25% of the cashflow. Despite this obstacle, many deals still get funded. The remainder of the manager s compensation comes from profit (or IRR) at the back end. If these managers do not perform gatlinburg motels as they projected if they can t get the cap rate compression they counted on they won t make much if anything at the back end. I think it s likely that many of these managers who are riding high today will be greatly dissappointed when the apartment bubble bursts and the huge payout they are expecting on the back end fails to materialize.
The chart below shows the capital offering for REITs on the right axis and trading volume on the left axis. From 2008-2009, public REITs were large net sellers, as their share prices dropped and they sold off assets to maintain their LTVs, accounting for 20%-25% of all apartment sales by dollar volume.
This means that it s gotten pretty hard to outbid a REIT that has set its sights on buying an apartment property. Dividend yields are only in the threes, so it s okay for a REIT to pay a cap rate that s in the fours .
How long other investors will be competing with REITs depends on where public gatlinburg motels apartment REIT pricing is headed. Over the past three years the stock prices for REITs have had a compound annual growth rate of 28%, compared to 13% for the S P 500. Is this perhaps a sector bubble , or just a bounce back from the recession?
Remember earlier this month Fannie Mae reported record profits ? The federal reserve gatlinburg motels s reflation of the housing bubble has much to do with that. The GSEs are not taking such large losses on their bad loans, and in some cases, they are profiting from their foreclosures. Today s featured property is one such example.
The Ponzis that used to own this property extracted about $150,000, but they left money on the table. They could have extracted more at the peak, but they probably thought they were being prudent by only cashing out $150 large. As a result, the total loan balance was less than peak pricing, so once Fannie Mae took the property back, they are going to resell it for a profit.
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Gain a competitive advantage over other buyers. By locating distressed properties -- before they hit the MLS -- you can discover where tomorrow's REOs and short sales will appear. Most of these properties are not listed on the MLS, but they will be soon. Research properties in advance and get a jump on your competition. Don't miss out on another deal because you couldn't act quickly. Use this tool to your advantage!
The green and blue properties have owners who are not paying their mortgages. They may be offered as short sales, or they may go through gatlinburg motels foreclosure and become REO. Either way, they will also likely be available on the MLS soon. Find your next home!
I look at the Dow, I look at home prices, and it makes me wonder.. Could this just be the deflation of the dollar bubble? Maybe just the front end of it? If all that money were going into food and energy. . . running up prices there. That makes me cringe.
The federal reserve will keep printing money until the dollar collapses. That s the only event that will put enough pressure on politicians and the federal reserve to do something. As long as China maintains its currency peg, the dollar is supported at an artificially high value, and the inflation we should be getting here in the US is instead exported to China through their currency peg. China is allowing us to keep printing money with little or no consequence because they are absorbing all the consequences over there.
Commercial loans on these apartment buildings are tricky. Many of the multi-family loans have balloon payments usually due after 10 years. The building might cash flow right now, but how about when the note is due? What happens if mortgage rates are 3% to 5% higher then. Those higher mortgage gatlinburg motels rates will also affect gatlinburg motels the property values.
they usually have enough cash to significantly pay down the loan balance, mitigating the higher future interest rate. they re not happy with the opportunity cost or the lower returns but rents and valuations are rising currently so future risk is downplayed.
The ongoing weakness of the American economy has led to stubbornly high unemployment and sub-par growth. The effects of fiscal austerity—a sharp rise in taxes and a sharp fall in government spending gatlinburg motels since the beginning of the year—are undermining economic performance even more.
Indeed, recent data have effectively silenced hints by some Federal Reserve officials that the Fed should begin exiting from its current third (and indefinite) gatlinburg motels round of quantitative easing . Given slow growth, high unemployment (which has fallen gatlinburg motels only because discouraged workers are leaving the labor force), and inflation well below the Fed's target, this is no time to start constraining liquidity.
The problem is that the Fed's liquidity injections are not creating credit for the real economy, but rather boosting leverage and risk-taking in financial markets. The issuance of risky junk bonds under loose covenants an