BFP Management Blog

Archive: May 2010

A Gamble for Contrarians?

2009 saw the biggest quarterly decline on record for the US housing market but also saw stabilization at the end of the year. According to the S&P/Case Shiller national price index (in the chart below, 100 represents the average price of US homes in the year 2000), home values ended 2009 at the same level as they were in 2003.

 Chart 1

Blog 0510 #1

The data shows that people left the sidelines and purchased homes, lured by very low interest rates, the $8,000 tax credit and lowered prices. Our apartment management company saw a sharp uptick in tenants vacating to become first time home buyers.

Chart 2

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Source: Mortgage Bankers Association

While the government says that a recovery is under way (the economy is growing as measured by GDP), the Federal Reserve has stated that it is committed to a low interest environment for the sustainable future. Treasury Secretary Geithner said on March 23, 2010 that there is a strong economic case for “designing some form of guarantee by the government to help facilitate a stable housing finance market.” On March 26th, the Federal Housing Administration (FHA) rolled out a plan (see press release 10-058) to encourage lenders and mortgage bond holders to refinance/restructure existing homeowners in distress by offering to insure 3 – 4 million loans with a commitment of $50 Billion. It should be noted that the government has already purchased more than $1.4 Trillion in agency mortgage backed securities to keep interest rates at historic lows. It also injected $127 billion into both Freddie Mac and Fannie Mae to keep them solvent and has pledged unlimited aid.

Due to the government stimulus the housing market and potentially the economy has found a bottom but it may be short lived. Home sales are slowing and glut of houses for sale is building. Worse yet, both delinquencies and foreclosures are up.

While I think that the unintended consequence of the government’s Keynesian approach will be to delay the inevitable, there are some stats that are getting my attention. A few markets in the western US and Florida which enjoyed some of the highest appreciation are getting walloped. Chart 3 (below on the left) shows the gain in home prices from January 2000 to each respective MSA’s peak (note: the peak dates differ by MSA). Chart 4 (on the right) shows the home price decline in each MSA from its relative peak through October 2009. The MSAs are listed in the same order on both charts.

                          Chart 3                                                           Chart 4

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Sources: S&P/Case-Shiller

In the west, Riverside/San Bernardino, Phoenix and Las Vegas have seen significant price declines. To boot, they are also experiencing outmigration (Phoenix is still on the positive side but barely).

Chart 5

 Blog 0510 #4

Source: The Wall Street Journal

In Riverside, I know of a few funds that are buying single family homes at far below replacement cost, renting them and are realizing over 10% cash on cash returns. I have visited and analyzed the Inland Empire (Riverside/San Bernardino), Phoenix and Las Vegas markets. While all are distressed, the potential opportunity that intrigues me the most is Las Vegas. That city has experienced its first year of outmigration (-1,300 vs +54,000 during the boom) in a century. Equally important is the doom and gloom reports about the future of that once “can’t miss” metropolis. Spotting a time when the majority is writing off a city in the Sun Belt, with no income tax and relative affordability while the baby boom population continues to age (and a percentage of them will be looking for warmer climates) might make for a very interesting contrarian investment.

While I’m not yet pulling out my pen to write offers (given more declines are likely coming), I will be continuing to explore that market for houses now and apartments later. I will share my findings in future issues.

Kyle Kazan

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