Kelly Kitchens

Today when I ordered my coffee the server filled my mug with boiling water, dumped it and then hand dried it. I used it to warm my hands before I filled it from one of their hotpots. It was a little thing but it gave me a warm-fuzzy. It's the same with those old fashioned milkshakes. They're mixed in those frosty stainless containers and there's always enough leftover for one happy refill. You might call it a cold-fuzzy but the point's the same - it's the little unexpected pleasantnesses that separate the good from the great.

If you’ve ever purchased a Macintosh computer, you know that opening it is a tactile experience. I think it’s a fairly accepted principle that using the Macintosh is quite enjoyable in it’s own right but Apple doesn’t leave anything to chance – even the wrapping.

It seems that other companies are starting to catch-on now as well. I purchased a Flip video phone this week and tearing it open was very Apple-esk. Yes it’s a really cool device that will help my listings look better than the competition but the initial experience of opening it wasn’t overlooked.

It’s no different in real estate. When a prospective buyer enters a dark, stale home their initial reaction is nonplus; but when they walk into a bright, fresh home with music playing in the background and good smells they can’t help but be affected.

Photos may seem like a small thing but many homes never get looked at simply because the photos on the Internet are lackluster. Now more than ever it’s the little things that matter – not only in electronics and real estate but in everything.

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Between 2000 and 2006 the borrowing power of a typical homeowner more than tripled. How could that be, you ask. The short answer is that the Federal Reserve which has little or no accountability to any branch of government created an overabundance of money.

Two polar opposite schools of economics have long competed for dominance in the world’s economic systems. The Austrian School asserts that the only real currency is gold or currency backed by gold and that it alone can keep government from tinkering with the supply of currency and it’s purchasing power. Sadly this theory has never won-out, always resulting in the devaluation of currency. The result 100% of the time is the absolute destruction of the circulated currency and the economy where that currency is circulated.

As more dollars chase fewer goods, prices rise and thus the purchasing power of the preexisting currency erodes. Governments sponsor intellectuals promote the theory that gives them the most control over the populace and that theory is clearly Keynesian. During our recent economic meltdown President Obama recently stated in a speech that there is a clear consensus among economists that we must “insert whatever you wish.” The point is that the clear consensus he’s speaking of are Keynesian Economists.

The Keynesian Theory of Economics believes we mere mortals can calculate exactly how much money should flow through the economy. At least that’s their claim and they support the creating of it out of thin air – Fiat – from nothing. Though governments have always bilked their citizen’s wealth through fiat money, John Maynard Keynes validated their bilking with his theories of macroeconomics and the business cycle.

It matters not if a theory is true or false if it just garners a consensus among a country’s economists and the story is told often, the general public will ultimately be duped into believing it and it’s components are soon adopted as public policy. A case in point is the fallacy surrounding global warming. To any inquiring mind, the science behind global warming is at best suspect and at worst simply a conspiracy to destroy more of our civil liberties and impoverish the American people.

THE NUMBERS

In 1945 homeowners held an equity positions in their homes nearing 85%. In 2006 that number had dropped to 42%. It is commonly known in the mortgage industry that if someone’s debt-to-equity ratio on their home drops below 67% (1/3) it’s just a question of time before they default.

It didn’t seem to matter to those meting out loans. Everyone was blinded by irrational speculation and why not – as money becomes worth less and less (worthless) the only game left is speculation. The Fed created the condition and politicians pushed lenders to make loans to anyone with a pulse.

Lenders don’t inventory their own loans. Instead they’re sold off in pools to Wall Street investors. Irrational exuberance driven by easy money caused this crazy phenomenon we now know as the real estate bubble.

In 2003 housing prices began growing exponentially – so much so that suddenly borrowers couldn’t qualify for loans on many properties because they had become too expensive. As a result exotic loans became necessary for the feeding frenzy to continue. These loans are now referred to as sub-prime loans.

These sub-prime loans also called Private Label Mortgages (those securitized by Wall Street) represent 15% of all mortgages, but account for 51% of the seriously delinquent mortgages.^*1

Borrowers and lenders alike were assured there was nothing to worry about however because housing prices would go up forever. Everyone told themselves that if it became difficult to make the payments there was a simple – take out a 2^nd or 3^rd mortgage. If it became too much of a problem the ultimate answer was simply to sell the home for a profit; in fact this was to be the vehicle leading to prosperity and wealth. The gig was up however when the bubble finally burst in the second quarter of 2006.

There are some lessons to be learned and some immutable laws that should be understood here^*1:

Immutable Law #1

If you offer people a lot of money to do something, no matter how foolish, unethical or illegal, a large number of them will do it.

Corollary #1: The greater the promise of easy money, the greater the number of people that will participate in the activity.

Corollary #2: The people engaged in such behavior will rationalize it and genuinely believe that what they’re doing isn’t foolish, unethical or illegal.

Immutable Law #2

Bad behavior leads to bad consequences.

In a nutshell that’s what happened and there’s a lot more bad things coming down the pike. So what’s currently going on and what can you do about it?

THE BAD NEWS CONTINUES – WHAT’S GOING ON RIGHT NOW

Fully 1/3^rd of homes have no mortgage at all on them. In other words, they’re owned outright with no debt. The remaining 2/3^rd of homeowners however have only a 12% equity position. A further decline of 10% would leave these homeowners with essentially no equity in their most valuable asset – their homes. I believe a further decline of 10% in home prices is likely.

RealtyTrac estimates that fully 1/3 of the homes on the market nationwide (1.5 Million) are bank-owned. This doesn’t even account for the homes that are somewhere in the foreclosure proceedings. Credit Suisse predicts an additional 6 million homes will be foreclosed upon by the end of 2012. Do you see why I believe a further 10% decline in prices is likely?

The percentage of non-foreclosure homes on the market is dropping. While that may sound good there’s little reason to rejoice. The abundance of foreclosure properties and their low prices is keeping the inventories of non-foreclosure properties from ever coming onto the market. Why put your home on the market and compete with the foreclosure property next door.

It’s even worse than it seems – banks know if they unload their entire inventory all-at-once, severe price drops will result. It’s simple demand and supply economics. Therefore they’re holding back much of their inventory and releasing it more slowly, over time. The pundits in the industry are calling this held-back inventory – Shadow Inventory. Sounds evil doesn’t it?

Right now there’s a large inventory of high-end homes but as you might imagine there’s not a corresponding demand for them. Sales are so low in many areas that the depletion timeframe is incalcualable.

There is some good news. Most of the foreclosed subprime loans are behind us. Unfortunately however there’s a new wave of problem loans looming on the horizon. Specifically, we’re about to see a wave of foreclosures in Prime Mortgages, Alt-A, Jumbo, Home Equity and Option Arms.

During the Great Depression unemployment reached a 25% high. Not surprisingly the Bureau of Labor and Statistics now calculates unemployment rates in such a way as to hide realities. They’re tell us our unemployment rates are currently only a paltry 10% but if we were to use the same measurements as they did in 1929, our current unemployment rates would be approaching 22 percent.

There are a huge number of people who have either stopped looking for work altogether because they can’t find a job anywhere near their previous income levels or they’re taking low-paying temporary employment (under-employed).

Consider this – Interest rates are at a surreal ultra-low rate because the Fed is buying it’s own treasury bonds to hold rates down. This fiasco cannot continue and the result will ultimately be an increase of interest rates, possibly similar to the rates of the early 1980’s. If you don’t remember those days, rates were in the 20% range. Just imagine what increase of even a few points would do to the real estate market. A real estate fund called T2 Partners, LLC who compile data on the future direction of real estate predicts another 10% reduction in real estate prices from their levels in Q1 2009. This isn’t a bad thing, of course, for people who can’t currently afford homes even at their already 40% discount over the highs of mid-2006 but what about the folks who see the equity in their homes disappearing daily? What will they do?

Roughly ¼ of home owners are underwater and that percentage will grow as interest rates creep up and prices continue to decline. There is a direct relationship between interest rates and values. As rates increase, values decrease because monthly payments go up. Banks are supposedly renegotiating mortgages but they’re not reducing the principle amount owed, just the interest rates for a short period of time. This keeps the bank’s equity position intact but most people aren’t fooled. Even though homeowners are financially able to make their mortgage payments, they’re nonetheless dropping their keys off at the bank and walking away from their homes. Their rationale – why should I continue to buy a home at a hugely inflated value when I can go down the street and buy the same home for half the price. Prices have dropped 40% since their high in mid-2006^*2 and the stigma of defaulting has virtually disappeared in our society. We are truly living in a time of uncharted waters.

Ben Bernake stated that the recession is very likely over but he’s deluded. The recent spike in home sales over the spring and summer months may be the mother of all head-fakes and are not indicative of a true or lasting recovery. Remember we have interest rates at 50-year lows because of the Fed’s trickery, there’s an $8K first-time homeowners tax credit in place and there’s a boatload of foreclosure bargains to be had. What do you think will happen to the housing market when these artificial conditions evaporate? I find it more interesting that even with all of these false incentives in-place we’ve only seen a slight bump in sales.

The T2 report predicts we’ll see price levels at 50% of the highs of mid-2006 – in other words another 10% decline in prices. They predict this bottoming-out to occur mid-2010 – but what if they’re too optimistic? What if the current economic predicaments that I mentioned above cause prices to cascade even further?

Lastly we’re just now starting to see the beginning of the collapse of the commercial real estate market that is likely to be as devastating to banks as the residential collapse.

I know I’ve painted a pretty dower picture? So what’s likely to happen in the housing market and how will it affect you? Firstly, there are some spectacular opportunities available. These bargains however may not seem all that amazing one year from now if prices continue to decline.

One year ago, I helped my investor friend buy a home for $512K that cost almost $1 million to build. At the time we thought we were getting a great deal. As we look back now however, we find it has dropped in value by at least $100K. The house next to it cost $760K to build and just sold for $276K – almost 1/3 of it’s original purchase price in 2006.

What Can You Do About It?

The lesson to be learned when looking to purchase homes is to select those with a lot of cushion. The price had better be below what otherwise would be consider as market value. If so you’re far more likely to come out on top and there are a lot of properties on the market that fit this description. They may not be pretty but that’s where the opportunity lies – especially in homes that can be bought at sheriff’s auction. Auctions however require you to have cash in-hand the day of the auction – no bank loans.

There’s a lot of money to be made for those in the know. Investing in real estate, while not for the faint of heart, isn’t rocket-science either. The opportunity is in the short-run – buying homes with enough cushion that they can be flipped and sold quickly for a profit before the market cascades further. As mentioned, there are plenty of homes like this in the market. It simply takes study and the help of an intelligent Realtor (hint – me) to help you find the right properties.

I hope I haven’t made it seem like I have all the answers and know exactly where the market is headed. I have drawn my conclusions based upon logical information and a lot of personal study but the one factor I can’t really account for is inflation. The government is inflating the supply of money at a break-neck pace. Will that have an effect on housing prices? Probably. Can it overcome the other negatives in the marketplace? Certainly not in the long-run. Even if the decline in housing prices can be halted (and who’s to say that’s even a good thing), the catastrophic effect of price inflation upon our economy cannot be underestimated. As I’ve said, we are truly living in unprecedented times. One thing will remain constant however – people will always need homes to live in. In the short-run there’s opportunity for investors and folks looking for personal bargains, especially in higher-end homes.

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1 – Statistics taken from “An Overview Of The Housing Crisis And Why There Is More Pain To Come.” T2 Partners, LLC

2 – Statistics taken from “The Webb Reports” Jere Webb

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I’ve only been a Realtor® for a few years. Previously I owned an Apple Computer store and so you might think I’m technically inclined. I not. I was too busy running a store to get caught-up in the technology and it’s no different with real estate, or at least it shouldn’t be.

The list of technology available to us Realtors® is immense but nothing is so important as a really good database. Without a systematic way to stay in-front of clients and track leads (even during busy times) it’s virtually impossible to keep a pipeline loaded. A good database resolves that problem.

Sure when it’s not busy there’s time for prospecting but I’ve found the key to uninterrupted sales is a pipeline that’s continuously replenished on it’s own via a campaign and the engine that runs that campaign is a good database. That’s why when my mentor suggested getting a monthly subscription to the number one Windows database for Realtors I pulled the trigger and anted up the required $50 per month.

For me however it proved to be less than functional, because I spent far too much time futzing with the database. The tool itself was getting in the way. I labored on that program for six months before ultimately reverting back to the simple programs that came built-into my Macintosh laptop. There were, of course, limitations to these simplistic programs. Basically I was doing everything manually with my address book, calendar and to-do list. I was staying in-front of people but and I wasn’t tracking anything. I knew there had to be a better way so I began to look for solutions in earnest.

That’s when I came across a $49 database program called Bento. It integrates at a system level with all the programs that come on every Macintosh. My built-in programs – the address book, calendar, to-do list and email already have plenty of integrated functionality but they don’t have what’s found in a good CRM (Customer Relationship Management) data bate. Bento on the other hand does, and it integrates beautifully with Apple’s built-in programs. If I change one record in Bento, the same record gets changed in my address book transparently and visa versa. And here’s the kicker – these built-in programs also sync with my iPhone.

I’m going to add a bonus bite here that goes beyond the point I’m trying to make about databases and yes, I’m aware I might alienate everyone who doesn’t have an iPhone. Nevertheless here it is – I’ve tried (as in owned) every smart phone on the market and compared to the iPhone, they’re all crap and that’s being generous. If you don’t believe me, talk to anyone who owns an iPhone. It’s a life-changing tool. Nothing else even comes close. Best of all, there’s a sweet little Bento application for my iPhone that integrates with it’s sister-database on my laptop. Pretty cool hugh. OK, back to databases.

I consider myself a bit technically challenged but Bento couldn’t have been simpler, even for someone like me. All I did was watch a few short (5 minutes total) online tutorials and soon thereafter I’d built my own database. Bento users have a place on the web where they can share templates. I simply downloaded the template, modified it to suit my needs and soon I had everything necessary to take my real estate career to the next level. Best of all I was able to customize the database for the way I do things.

Let me give you a for instance. As I begin my day this morning I open Bento and generate a list of everyone I’m suppose to contact for the day. I see I’m suppose to contact Bill Jones about a listing that I’m writing-up next week so I decide to drop him an email. From within Bento I simply click on a button next to Bill’s email address and immediately I’m taken to my Apple Mail. After sending the email I decide I may want to remember what I wrote to Bill so I drag the email to the appropriate field in Bento. This enables me to link back to this email straight from within Bill’s record. I also decide to setup a reminder to call Bill later in the week. Since Bento integrates with my to-do list I simply type a reminder and assign a date to it. Later that week when I’m sitting in Starbucks I look at the to-do list on my iPhone no-less and am reminded to call Bill. I make the call and afterwards type a few quick notes on my iPhone about the conversation. I’ve also created a field in Bento to track these conversations. Next I schedule a follow-up call in Bento that will also show up in my to-do list. So whether I’m using the built-in calendar that came on my Mac or if I’m in Bento, I see the to-do item. Even better, it doesn’t matter if I’m on my laptop or my iPhone because just like my built-in applications, Bento runs on both devices.

Do you see how simple life can be? Yes, as far as I’m concerned simplicity trumps feature rich every time. Even if you’re technically inclined, should you really be futzing with a complicated program or might it not be better if you were filling your pipeline?

By the way, Bento does have a few limitation but the work-arounds are simple and don’t limit me. Yes in my mind, less is more. That goes for the iPhone and the Macintosh as well. Sadly Bento only runs on the Mac so if you’re a Windows person you’re out of luck. By the way I run both Windows and the Mac Leopard operating system simultaneously on my Mac.

Now I have a set of tools that elegantly integrates into my everyday life – personal and business. It’s profound and it’s almost like breathing – you just don’t think about the tools anymore. Everything just happens as a consequence of the way I work and what I’m about. What’s more, it’s yielding dividends in spades.

For the fourth time I'm reading Fiat Money Inflation in France. This book details the fall of France in the 1800s due to it's failed monetary policies which were caused when they abandonded gold backed currency. I am struck by the similarity of what was being said by the pundits of their day and what is being said by our modern-day pundits.

Their crisis was blamed on all the same culprits of today - mostly greedy investors and lenders. Greed in general as a motivating factor is often blamed but in reality people make decisions they perceive to be in their self-interest. It's only in retrospect the blame-placers come along and it's always the greed of others that they finger.

Our current Secretary of the Treasury, Henry Paulson blames bad lending practices. This seems like a plausible explanation but how could that be? Lenders are regulated to the Nth degree. Currently there are 317 regulations they must comply with and loan recipients had to fall within strict Fannie Mae or HUD guidelines.

While subprime loans and fraud play a role, they are not the main culprits. Lenders use risk-assessment to evaluate the credit worthiness of their applicants but even subprime and stated income applicants received loans based upon the liberal policies of the federal government. It was the government whose policies led to an abundance of money to loan out and lenders were only too happy to comply. Why? Because they perceived it was in their best self-interest.

Through various mechanisms the Fed can contract or expand the money supply. This is the history of fiat money (created out of thin air). The money supply is always expanded. So it was the lending practices dictated by our federal government predicated on ever-higher housing prices that created our crises. Given the abundance of money, this expectation was not unrealistic.

We enabled the Fed to artificially control the supply of money long ago when we abandoned currency backed by gold. Once politicians understand they can spend more than they bring in simply by expanding the money supply, the supply of money will inevitably increase. It increases both to pay for the things they've promised and to create an artificial stimulus to make it seem like our economy is vibrant and growing. In reality though there is a displacement of wealth. This displacement travels from people who in previous generations embraced the art of thrift to those who now speculate. That is exactly what has been happening in real estate for many years.

It's very simple. If you have a $1000 in a bank account and the Fed suddenly increases the money supply by 26% (which is what they did between 2001-2005) then effectively the purchasing power of your $1000 went to $740. Yet had you decided to speculate and invest your $1000 in something with a limited and unchanging supply (real estate for example) it's likely your $1000 would have at least remained on par with the increase in money supply and thus increase in value to $1260.

Correctly, you often hear that real estate is a good hedge against inflation. So why did the real estate bubble pop? It has to do with the word "correction". Our continuing expansion of the money supply has created a nation of speculators - speculators in the stock market and real estate. People correctly ascertained that saving is foolhardy. It's in their best interest to put their money where it will be leveraged and exceed the rate of inflation. Sooner or later though there's got to be a correction. Real estate prices increased at twice the inflation rate for 10 years prior to our current problems.

Banks made loans based upon the assumption that real estate prices would continue to increase. Homebuyers properly assessing the situation have begun to realize they are making payments on properties now valued far below the mortgages they owe on them.

The agreement homeowners have with their banks is that the bank can have the house back should they stop making the payments and this was a rational response to the decline in the value of homes.

When investors who purchased mortgage backed securities started to realize that the collateral of the homes which backed their securities was no longer enough to cover their investment, another crises ensued - the mortgage backed security crises and the insurance companies that back these securities. There has been a ripple effect that has affected the stock market and consumer confidence.

What does all this mean to the average homeowner? We're in the midst of a correction. Understand this and you can position yourself to weather the storm and even take advantage of the circumstances. The actions you take will depend upon your personal circumstances and real estate can play a major role in becoming financially free.

Excluding a total collapse of the market, I believe home prices have leveled off. There's never been a better time to buy a home. Interest rates are still very low and you can find bargains galore.

Though we have considerably more home inventory now than three years ago, the number of transactions is greater than three years ago. People continue to need housing and they are taking advantage of the bargains in the market place. If you're a seller that means you may have to take less for your home than you had anticipated. If however you're also a buyer, one who is upgrading, the hit you'll take on your existing home will be more than compensated for by the savings you'll realize in the purchase of a new home.

For example, if the market value on your $250K home has dropped by 10%, you'll sell it for $25K less than a few years ago. Here's the key though. If you're buying a new $400K home at a 10% discount, you're saving $40K. That means you're still better off by $15K.

What is the overall arching lesson to be learned then? First off, people act in their own rational self-interest and that's perfectly OK, as long as their actions aren't coercive. This is exactly what buyers, investors and lenders have been doing since the beginning of time. Secondly we must be astute observers of the signs of the times and as much as possible position ourselves to benefit from an uncertain market.

The fact that we ever gave government the power to artificially manipulate the supply of money is a curse upon us. We have, in fact, placed our trust on the government above our trust in the free market. It's as if we could somehow thwart the law of gravity and expect it to obey us. The result is the arbitrary and unjust displacement of wealth. By any other name this practice is called stealing. It's coercive, evil, penalizes thrift, rewards speculation and is simply wrong, wrong, wrong. The blame for our current economic crises then must be squarely placed upon the shoulders of government and even more upon us for placing our trust in the workings of men rather than the (God-ordained) free-market.