Financing

Frogs Rent

November 28, 2018 By Rick Jarvis

For most homeowners, I think it is going to be difficult to let go of the last few years.

‘Our house appreciated $75,000 in 5 years!’
‘Really? Our house went from $300,000 to 400,000 in 4 years!’
‘Not bad, but ours went from $150,000 to $400,000 in 3 years!’

Unfortunately, we won’t be saying that as often as we used to anymore.

A Return to Normal Appreciation

Being a homeowner, especially a first-time homeowner, has been a lot of fun for the past 5 years. The rate of appreciation has been substantial for most everyone in the post-bubble market. No matter where you live or what you bought, if you signed the closing statement in 2012, you are up anywhere from 20 to 40% in the years since.

But as we approach the end of 2018, we can expect to see future appreciation rates on housing return to the norms of the 1990’s and early 2000’s. And for those who know nothing about the good old days, I am talking about 2 to 4% in any given year (and yes, I realize how boring that sounds.)

That said, imagine if all of this topsy-turvey upsidedown-ness hadn’t happened, or even if prices had fallen over the last five years. Would you have been better off if you hadn’t bought at all?

The answer is simply –– nope.

Why? Because renters always lose in the long run.

Boiling a Frog

There is an old adage about boiling a frog (and no, I have not done this before so don’t call PETA). But it goes like this: If you put a frog in a pot of boiling water, it will immediately hop out. But if you put a frog in a pot of cool water and then put it on the stove, the temperature change is so gradual that the frog will stay in until it is too late.

And for this reason, frogs rent.

If you’re a renter feeling upset because I just compared you to a frog, don’t. For many, renting does make sense. Temporary situations, an uncertain future, recovery from a financial catastrophe, etc –– these reasons all make sense.

But if you are going to be here for a while, are trying to make a smart investment, or are otherwise in a position where you could own but don’t, then you are exhibiting frog-esque characteristics.

Tracking Rents

Zillow, for all of its warts (see what I did there?), has managed to aggregate a lot of really good data and they make it available if you know where to look. And besides tracking housing values (for which they are primarily known), they also track rents.

Take a look at this (use the drop down menu to find RVA, or to look at other markets):

Since 2011, rents in Richmond VA have gone up from an average of $1,179 per month to $1,391 per month. That’s nearly an 18% increase if you are scoring at home. And that chart is for the Richmond region as a whole. Areas such as Shockoe, Manchester, and Scott’s Addition are up by a much larger percentage.

Now, let’s think about the other side of the equation. Do you know how much of your mortgage you would have paid off in the same time period? If you had a 30-year mortgage at 4.5%, you would have paid off anywhere from 10 to 12% of your mortgage in the same time frame.

So even if your home had not grown in value by a single percentage point, owning would mean your payment would have remained the same, your debt would be 10 to 12% lower, and you would have also picked up a nice little tax write-off for the interest you had paid (but please consult your tax advisor to find out how much the Mortgage Interest Deduction would have saved you.)

It doesn’t take a math major to figure out that a fixed payment, lower debt, a nifty tax break, and the potential to eventually not have a house payment once your mortgage is paid off are all pretty good things.

Ribbit.

Elective Renting is a Poor Strategy

The housing market is rapidly putting the finishing touches on its post-bubble recovery and is approaching a time where housing appreciation will revert to the more normal rates of the 1990’s and early 2000’s. The promise of steep appreciation will not be what makes housing the sole reason for ownership as we move into the next decade.

Instead, the reason that housing will be one of the best assets you can own will be related to the reason it has always been a great asset –– its long-term value as a part of your portfolio will dwarf the short-term savings associated with renting.

So don’t fall for the ‘well, I should have bought 5 years ago so I should wait for the next bubble to pop’ logic. You will be far worse off.

Don’t believe me? Ask your landlord.

Getting Out of the Pot in 2019

So as 2018 comes to a close, be thinking about the fact that you will soon be getting a note from your management company notifying you of your new water temperature … errrr … rental rate for the coming year. If the landlord does their job right, the increase won’t make you leave –– it will be just enough to make you grumble, but stay.

Interest rates are beginning to edge up after years of staying below trend and house prices are still creeping upwards, too, albeit at a slower pace. Waiting for prices and rates to drop to 2012 levels again is simply not a winning strategy.

Is it getting a bit warm in here? Or is it just me …

Things I Have Been Thinking About

September 26, 2018 By Rick Jarvis

For those of you who follow the blog, you know that most times it is a pretty deep dive into a topic usually related to inventory, pricing, or strategy.

Today’s blog is not one of those. This is a shallower dive on a few different topics that we’re keeping tabs on right now. I hope you enjoy!

Facebook and Fair Housing Laws

Facebook just got nailed for violating Fair Housing Laws.

Yep, good old Facebook can’t seem to get out of its own way lately.

Their ad targeting platforms are so good that they give anyone the ability to include — or exclude — any group based on every imaginable demographic, geographic or psychographic attribute. So if you would like to advertise to everyone except a specific religion, sex, familial status, race, or age, Facebook makes it possible.

The same vehicle that was supposed to connect us all and provide a forum for discourse actually provides really awesome tools to do the exact opposite.

Irony.

Opportunity Zones

Much like Historic Tax Credits were all the rage in the 2000’s, the Federal Government’s new Opportunity Zones have developers and investors extremely excited.

The basic gist of the program is that if you purchase a property in a designated ‘opportunity zone,’ it exempts exposure to the capital gain tax, either partially or wholly, depending on how long you hold it. And while all of the details are not fully fleshed out, it also appears that the opportunity zone program will also make it easier for partnerships who use the 1031 Tax Deferred Exchange technique to break up without penalty.

In layman’s terms, Opportunity Zones provide powerful incentive to free up a ton of capital currently trapped due to tax reasons and deploy the proceeds into areas that need a little push to jumpstart the revitalization momentum. Great idea, right?

In theory, yes.

But what is funny is that they used 2010 Census data to determine where the Opportunity Zones should be. Guess what? Scott’s Addition, with rents now approaching $30/SF, is in an Opportunity Zone.

Yes, there are many needy areas that will benefit greatly from the program. But Scott’s Addition? Really? Whoever was in charge obviously didn’t sign the bill while on the roof of The Hof, while playing shuffleboard at Tang and Biscuit, while drinking a cider at Blue Bee, or having a meeting at Gather, or an IPA at Ardent, or over dinner at Brenner Pass …

Classic.

The 2020 Census

The 2020 census is right around the corner and I think everyone wants to know what the population of the City of Richmond will actually be. We have heard estimates that the growth rate has been anywhere from 2 to 5% per annum, depending on which study you read.

From the 1970’s to the 2000’s, the City’s population was either declining or flat. When your population isn’t growing, the supply of housing, office space, and retail space can remain constant. But when your population begins to grow, you have to start thinking about the impact that has on demand for space.

Fast forward to today and you have roughly 230,000 residents in the City –– which is not as many as the 250,000 residents of 1970, but when you consider that the average number of people per household has dropped by an entire person, we might already have a housing need greater than we did in 1970.

And for a city that has no legal authority to expand, Richmond has to make due with what it has. That can pose a big problem.

Right now, developers are repurposing almost any available property they can find into residential apartment space. And while that has helped provide a solution for the renter, it has shifted the burden to office, retail, and industrial spaces, especially as the business climate has improved. If the Scott’s Addition rental rates are any indicator, the shortage has already begun…

And for anyone who has tried to purchase (not rent) an ‘affordable’ home in Richmond, you know how difficult that has become, too. In the last 5 years, homes priced below $400k in the Fan, Museum District, Jackson Ward and Church Hill have increased by $30/SF and marketing times have been cut by more than half.

Affordability is already wreaking havoc on the residential market, and it seems to be now bleeding into the commercial market as well.

Lastly, A Clean Bill of Economic Health

Last week, a bunch of (arguably) smart people got on a stage in Richmond and said that the economy is strong nationally, as well as regionally.

That makes me feel good because most economists believe that this growth cycle has already surpassed any previous growth cycle in our history.

The fact that we are already in uncharted territory should make everyone nervous, except that it doesn’t. Everything looks pretty solid.

All I can add is that the housing factors that caused the crash in 2008 simply do not exist right now. So if a crash is imminent, it will not come as a result of the housing sector.

So if it all falls apart tomorrow, you can’t blame residential real estate and shady mortgage practices this time!

That’s All, Folks…

So that is it for now.

You may now return to your regularly scheduled programming.

How to Start a Bidding War

August 5, 2018 By Rick Jarvis

Asking Price Means Everything and Nothing at All

Question — of the last 1,500 sales in the City of Richmond, do you know how many closed exactly at the asking price?

Answer — only 268!

So basically, 6 out of 7 times, the price paid and the price asked were not the same. I sincerely doubt that there is any other industry that operates this way.

Our Expectations

If you think about it, what does price really mean in real estate, anyway? According to the numbers above, 82% of the time, price only serves as a mere suggestion and offers no guarantee that what you want for your home is what you will get for your home. As a matter of a fact, there is a 43% chance you might actually get more, if you price it correctly.

For the astute seller, that can be a huge advantage.

When we go to the grocery store, we don’t negotiate for a price of milk. And when we go to the mall, we don’t negotiate the price of a pair of jeans.

So why then, does the asking price for a home and the closing price so rarely equal one another? Because each home is unique and that makes the market highly imperfect.

What Auctioneers Know

For the astute seller, that can be a huge advantage.

I once had the pleasure of watching an auctioneer analyze a potential purchase of unsold condos in a project that was struggling. Their company specialized in buying large swaths of unsold properties at a discount, and then reselling them using advanced auction techniques that drove pricing back up to a level where it earned a tidy profit for their company.

If I can get three (or more) people in the same room that want the same thing, then I get above market value and I get the most seller friendly terms.

It was the following statement that resonated with me — ‘If I can get two people in the same room that want the same thing, I always get market value for the asset. But if I can three (or more) people in the same room that want the same thing, then I get above market value and I get the most seller friendly terms.’

It was a remarkably simple and powerful observation.

Price Determines Behavior

Far too often I have seen sellers use the logic that pricing a property high gives them room to negotiate down and still receive their best net price.

What ends up happening when a home is priced above its value:

The people who need to see their house never end up seeing it because they feel that they cannot afford it.
The people who can afford it aren’t interested because the home doesn’t have the necessary features.

Think of it this way – imagine a 4 bedroom home with 2.5 baths and a 1 car garage priced more like it has 5 bedrooms and a 2 car garage. The buyers who can afford it won’t look at it because it lacks the 5th bedroom, and the buyers who need 4 bedrooms won’t even see it because it is above their budget.

So what ends up happening? A series of price reductions follows and the opportunity to create competition for the property is squandered.

So what ends up happening? Buyer traffic is low and urgency is non-existent. Typically, a series of price reductions follows and the opportunity to create competition for the property is squandered.

Multiple Offers Means Competition … and Possibly, Escalation

As a seller, the goal is always to have multiple offers submitted on your property – the competition amongst the buyers generates a really good price and seller friendly terms.

12 offers on one house. Do you think the seller got some friendly terms?

Competition amongst the buyers generates a really good price and seller friendly terms.

In many of the hotter markets, a multiple offer scenario generally means that several of the offers will contain an ‘Escalation Clause.’ An escalation clause basically says that the offering price will rise to the level of the next highest offer and then exceed it by a stated amount.

So when you have multiple offers with escalation clauses, they end up creating their own little auction. More often than not, competing escalation clauses drive the offers not just above the asking price, but substantially above the asking price.

Remember, Offers Contain a Price AND Terms

When it comes to making (or accepting) an offer on a piece of real estate, the contract that binds the buyer and seller contains about 2 paragraphs on price, but another 10 pages that discusses the terms. Financing terms, inspection times, personal property, contingencies, title, settlement dates, possession dates, closing costs — all of these items (and more) are a part of the purchase agreement and can drastically change the overall value of the contract.

[ You can read a lot more about writing winning contracts here ]

While you may not think about an inspection and its impact on price, when the buyer is willing to absorb the first $5,000 of any inspection items found, a shrewd seller will understand how that clause alone can impact the proceeds that they are likely to receive.

In other words, it is always about more than just price and knowing how to create the pressure on the buyer to offer the best price AND terms, is critical in maximizing the value in the offer.

Summary

Creating a bidding war is not possible in all scenarios. Properties that are unique or highly priced have a limited buyer pool and creating enough competition to cause a bidding war is difficult.

Don’t let a price discourage competition for your home. Do everything you can to encourage it.

But in areas where buyers are prevalent and inventory low, competition should be leveraged. A property that is both priced correctly and marketed correctly (as well as in pristine condition) will will result in a competitive scenario. And a good agent can help you not only find the perfect price to get multiple parties interested, but bring it to the market in such a way that all interested parties feel compelled to act immediately.

When the market competes, you not only get the best possible price, but you also get far more favorable terms.

Don’t let a price discourage competition for your home. Do everything you can to encourage it.

The Inventory Divide, and Why it Matters

May 17, 2018 By Rick Jarvis

A Home is an Asset

For those who know me, I’m not about the ‘house of your dreams’ narrative – I am pretty objective in my approach. I want my clients to understand the underlying value of what they are purchasing and not allow emotion to override logic.

Statue of Liberty — America is the land of opportunity, right?

That said, I fully acknowledge there is a powerful emotional aspect to buying a home. Regardless of whether it is your first, third, or even the twentieth home, each connect you to a specific period in your life. Selling a home feels like closing a chapter, and when you buy one, a new chapter begins.

Sticks, Bricks, and a Vehicle for Wealth Creation

In the simplest sense, a home is nothing more than a stack of sticks and bricks on some dirt that keeps your stuff dry …

Yet despite the emotional attachment, in the simplest sense, a home is nothing more than a stack of sticks and bricks on some dirt that keeps your stuff dry. While we want to attach value to the colors of our walls, the shape of our exterior, and the brand of our appliances, in the grand scheme of things, housing is no different that any other asset whose value goes up or down given economic conditions.

And 2007 through 2011 notwithstanding, owning a home has created more wealth for the masses than any other asset class in history.

This is what has me worried.

No Crash on the Horizon

To begin, I am not worried about another crash. I have lived through two of them (1987 – 1992 and 2007 – 2011), and the current market looks nothing like the last two that crashed.

The current market looks nothing like the last two that crashed …

In both of the prior crashes, the economy was overheated and there was a tremendous oversupply that had been created to try to keep pace with a dizzying demand.

Currently, the economy is solid, employment is high, inflation is still shockingly low, and while the world is never fully at peace, there is relatively little global unrest (at least compared to prior periods) – and inventory is at all time lows.

Is there a correction coming? I think that some are beginning to predict a slight pullback at certain price points in 24 to 36 months. But I firmly believe that a crash is not imminent.

The Housing Divide

A home is quickly becoming an asset that only the wealthy can afford …

No, my worry is as follows — the price of housing is at the precipice of exceeding affordability for the average American, preventing an entire segment of the population from ever having access to home ownership.

[ And this recent article in The Atlantic seems to back the same narrative – especially Section 6 ]

In effect, a home is quickly becoming an asset that only the wealthy can afford, and, over time, will lead to a deepening of the divide between the ‘haves’ and the ‘have nots.’

Take a look at this chart.

Never has the discrepancy been greater, and I think that is a tragedy.

The blue line represents home ownership levels. In other words, what percentage of the population owns their own home.
The green line represents the median price of a new home.

Notice a trend??

Pricing is accelerating despite historically low ownership levels. The obvious implication is that as prices rise, fewer people will be able to buy – and we can see this playing out right before our eyes. Right now, due to a host of factors which we will touch on below, housing prices are increasing at a rate that is pushing ownership beyond the reach of far too many people.

Never has the discrepancy been greater, and I think that is a tragedy.

Time to Build More, Right?

An economist would argue that the problem will solve itself: As prices rise, more producers will be attracted to the market and supply will increase.

But that simply isn’t happening.

Take a look at this chart showing the number of new homes being built:

Again, notice a problem?

Despite the fact that housing is undersupplied and pricing is accelerating, we are still drastically under-supplying a market that desperately needs relief.

The Problem is Systemic

The problem is about price AND location …

Perhaps the underlying problems were already manifesting themselves as early as 2000 and we simply didn’t see it as the rapid price increases were masked by a insanely lax lending standards. But the issues are more than visible now.

Effectively, the problem is about price AND location. We cannot add supply at anything approaching a reasonable cost, and we absolutely cannot do so in areas where the populous wants to buy.

Issue One – Construction Costs are at an all time high

Building costs are through the roof (no pun intended.) Construction material costs have skyrocketed and the construction labor market pool simply isn’t there, causing extreme wage pressure.

When your material costs are up 30% and your labor pool down 50%, costs spike. And I don’t see an quick solution.

Issue Two – Governmental Mandates Mean Higher Costs

The collective increases become substantial – and the end user ends up footing the bill!

Each bill that is passed to make housing better is done so with good intentions – I honestly believe that. No one wants the US to build substandard and inefficient housing – AND no one wants to see another financial crisis, either.

However, each time Congress, the state legislature, or our local board of supervisors adds another layer of regulation, the cost to build a home goes up.

Each increase in the building code or protection baked into the financial markets is done so with the aim of increasing the quality, safety, accessibility, and energy efficiency of our housing stock. But with each mandate comes increased expense. A percentage point here and an increased fee there never seems like a lot on its own, but over time, the collective increases become substantial – and the end user ends up footing the bill!

Issue Three – Demographic Shifts

Demographics show a population that increasingly wants to live in cities. Urban schools are getting more funding, the commutes are shorter, public transportation is expanding its reach, and the entertainment districts are improving. But yet, the city is the hardest place to build houses.

An incredible 20,000 people came to Richmond in 5 years – and we built a mere 854 houses for them

To give you a sense of the problem – per the 2010 census:

The population in the city of Richmond increased 9.3% from 2010 to 2016, or by roughly 20,000 residents.
In the same time frame, MLS tracked 854 new home sales within the City of Richmond.
- Stated differently, 854 new homes / 20,000 new people = 4.2%
For comparison’s sake, Chesterfield built just under 5,000 new homes in the same frame, or closer to 17% of their need.

Somehow, I don’t think 4.2% of the overall need being satisfied by new housing is going to fix the problem.

Issue Four – Gentrification

If you really want to see a mind-blowing statistic, look at these screenshots straight from the Richmond MLS.

The northeast section of the City of Richmond (Highland Park, North Church Hill, Union Hill) is in the midst of one of the most rapid price increases in the history of the city.

Inside of this zone:

This happened to prices in 5 years:

While that benefits some owners, it leaves many others wanting.

The New Normal

It is easy to build another million dollar home on a cul-de-sac in the latest community 10 minutes further out than the last one – but that is not the cure.

Am I saying that everyone should own a home? Hardly. We tried that once (2007) and it didn’t seem to work out very well.

But I do believe that a housing model in which ownership is reserved for only the elite is an equally dangerous model. America is the land of opportunity and when the idea of owning a home becomes an unattainable pipe dream, that is not a good answer either.

Look, it is easy to build another million dollar home on a cul-de-sac in the latest community 10 minutes further out than the last one – but that is not the cure. We have got to solve the need for reasonably affordable / attainable housing in neighborhoods that aren’t 45 minutes from the urban core.

The next generation of potential homeowners deserves the same opportunity as prior generations did to use housing as a fundamental way of building wealth. Everyone wins when our population has the ability to determine their own financial destiny.

Rates are Rising – Here’s What it Means

March 28, 2018 By Rick Jarvis

Jarvis Grandchildren: ‘Grandpa, please tell us a story about the way real estate used to be!’

Grandpa Jarvis: ‘Let me tell you a story about 3.5% 30 year fixed mortgage rates …’

Jarvis Grandchildren: ‘Ooooooooo, 3.5% 30 year fixed mortgage rates?!?’

Grandpa Jarvis: ‘Yep. 3.5%. Some people even got 2.9%.’

Rates are Headed Up – For Good

As I write this in the spring of 2018, the recent job report states that the economy not only added 200,000 jobs, but wages rose at their fastest rate in 8 years.

And just so you realize:

Low unemployment tends to lead to wage increases
Wage increases tend to lead to more disposable income
More disposable income tends to lead to more money to spend
More money to spend tends to lead to inflation
Inflation tends to lead to higher long term mortgage rates

Take a look at the correlation:

As you can see, even as the unemployment rate (the blue line) began to fall in the years following the collapse, wages (red line) didn’t really begin to trend upwards until the latter part of 2015, and even then, only negligibly. The most recent jobs report indicates that wages are starting to rise, a trend that is predicted to continue for some time.

So What Does it Mean for Housing?

Not much … yet. And as a matter of a fact, I am not unhappy to see the rise happening.

Why? Because it means the economy is healthy and people see positive things on the horizon. Trust me, I would rather be in a world with healthy economies and 6 to 7% long term rates than one teetering on the brink of collapse with 3.5% rates.

As we discussed in our 2018 Predictions only a few months back, we predicted a rate rise in 2018 and went into some detail about the implications. Effectively, if we are all making more money, then a slight rise in the cost of borrowing is not something that will cause the market to collapse. And furthermore, as long as credit standards remain reasonable (and consistent) then the risk of a ‘2008, The Sequel’ is quite low.

Home Prices Will Still Rise

Expect housing values to continue to rise, especially urban and affordable, due to a complete, thorough, absolute, and total lack of inventory. As the millennial generation begins to exit their downtown rentals and enter the buying market, affordable urban markets will continue to be starved for inventory.

Expect some of the upper end suburban markets to see slowing price gains due to the fact that homebuilding is finally cranked up again, mitigating some of this inventory shortage.

Think ‘Strategic Finance’

Remember, it is the long term rates that are the ones that have more room to rise. The 3, 5, and 7 year adjustable rate mortgages will still give buyers options a point or two below the long term rates, offsetting any rate increases.

But that said, it is time to get a little more strategic about how you finance your home. Gone are the days of just taking a 30 year mortgage at 3.5% simply because it is a no-brainer to do so. Thinking long and hard about how long you expect to stay in the home will become a key ingredient to making the correct mortgage decision.

But it does feel like we have come to the end of an economic era – the end of the 4% 30 year mortgage. And while I will be a little sad to see it go, it indicates much better times are on the horizon.