Mass Foreclosures in Canada`s Future

[Jack]

QUOTE What is the obsession with appreciation or depreciation TODAY or within the next year?Are you of the belief that real estate will continue to depreciate for more than 12 - 24 months?If not, then why be so concerned about it. Our plan extends out at least 5 year.I`m pretty confident that our properties will appreciate significantly by then.So, you loose 10% by purchasing today.Obsession? Not an obsession.

My point is that because real estate is usually purchased using leverage, price declines are bad and magnified. Leverage is great when things are on the up, but it`s a real killer when things are on the decline.

You ask why I`m so concerned about it? OK. Let`s run some numbers. You buy a condo in Calgary for $200,000. Here`s a 5-year pattern of what may or may not happen in the marketplace over that period:

2009: -6%
2010: +2%
2011: +6%
2012: +5%
2013: -2%

I`d call that fairly realistic, yes? So, starting with a condo purchase for $200,000 in December of 2008, you`ll wind up with a condo worth $210,000 5 years later. Whoopee. This translates to a whopping annually compounded return of 0.98%, 5% gross. Any investor with half a brain would want to slash your tires with results like that.

Now, let`s do another comparison. Same condo, same price, different results:

2009: +2%
2010: +4%
2011: +9%
2012: +1%
2013: +2%

In this case, you wind up with a condo worth $238,238, which translates to a much better annually compounded return of 3.56%, 19% gross.

Points:

1) Declining prices do matter (unless yield isn`t important to you).

2) This is why I`m not buying in relatively unaffordable places like Alberta, B.C., and Saskatchewan (general term, I know, but you get the point). One or two years of declining prices really kills your investment`s performance.

 

[tbarcier]

QUOTE (KimFranz @ Dec 11 2008, 08:10 PM) There are quite a few "ifs" and "coulds" in that original article that was posted - maybe that should be your first clue that no one really knows what it going to happen...

Kim

Exactly, read the second paragraph. It`s like saying "JACK WILL DIE TOMORROW!....if he has a heart attack. However, since he is young and healthy, this probably will not happen"

 

[RedlineBrett]

You mentioned leverage in your post and you forgot to add it at the most important time!You aren`t computing the total return based on the actual cash the investor put in... but on the total amount. So your numbers would be correct if the investor *paid cash* for the condo.Lets say your 5 year market performance numbers do in fact occur, and the condo is worth 210k in year 5.Let`s also say that this investor put 20% down (40k) when they bought.Well they`ve then made 10k on their 40, for an overall return of 25% or an annualized return of 4.6%/yr.

Not great, but if they have done it properly they will have also been paying off a loan and achieving cashflow every month. For many investors this is much preferred over maybe 8% on a mutual if you`re lucky...

Add in the fringe benefits of having an asset indexed against inflation, better taxation options and the 4.6% looks a lot better!


QUOTE (Jack @ Dec 11 2008, 06:24 PM) Obsession? Not an obsession.

My point is that because real estate is usually purchased using leverage, price declines are bad and magnified. Leverage is great when things are on the up, but it`s a real killer when things are on the decline.

You ask why I`m so concerned about it? OK. Let`s run some numbers. You buy a condo in Calgary for $200,000. Here`s a 5-year pattern of what may or may not happen in the marketplace over that period:

2009: -6%
2010: +2%
2011: +6%
2012: +5%
2013: -2%

I`d call that fairly realistic, yes? So, starting with a condo purchase for $200,000 in December of 2008, you`ll wind up with a condo worth $210,000 5 years later. Whoopee. This translates to a whopping annually compounded return of 0.98%, 5% gross. Any investor with half a brain would want to slash your tires with results like that.

Now, let`s do another comparison. Same condo, same price, different results:

2009: +2%
2010: +4%
2011: +9%
2012: +1%
2013: +2%

In this case, you wind up with a condo worth $238,238, which translates to a much better annually compounded return of 3.56%, 19% gross.

Points:

1) Declining prices do matter (unless yield isn`t important to you).

2) This is why I`m not buying in relatively unaffordable places like Alberta, B.C., and Saskatchewan (general term, I know, but you get the point). One or two years of declining prices really kills your investment`s performance.

 

[tbarcier]

Now lets say it goes the other way and now you have lost 10k after 5 years. If you invested properly and you were cash flowing 150 per month, you are out 1000 bucks. Now dont forget to add the mortgage paydown. So after year 5 my $160,000 mortgage at 4.99% for 25 years is now $141,590. So I take my loss and sell at $190,000, pay off my mortgage and walk away with $48,410. Maybe I`ll buy it back at $195,000, hmmmm.

 

[VicChung]

Jack, you are right that prices have gone down. I am worried as well as I had purchased a couple of properties in 2007 and value has gone down. However, as a business owner, I understand that there are good years and bad years. Most businesses lose money for the first fews years (ranging from 1-3). In real estate, you cash flow and you eventually come out winning.

In the case of real estate, after 25-40 years, properties are paid off and if your cash flow is good, the business survives the bad years and manages to become profitable again. In this case, your business is almost guaranteed to succeed. In your case, you are 26 years old. By the time, you reach 60 years old and if you had 10 properties at an average rent of $1800, you will have a cash flow of $18000. Where else can you get that kind of return?

Nothing is guaranteed!!! I believe we are in for a rough ride, but in mid-term to long-term, the economy will improve.

 

[ZanderRobertson]

Another scenario:1)You reasonably suspect a market will continue to depreciate so you wait until prices slide further, closer to the bottom2)1-3 years pass and you decide it`s time to buy as the market is bottoming and the "financial meltdown"/recession is over3) You take all that cash you`ve been hoarding over the past 3 years and buy... 2/3 properties
4) Now the market`s on the way up and you`re trying to acquire during a time of rising prices

5)You`re out of cash and every day that passes you`re kicking yourself for not acting during the buying season

6) You`ve purchased 3 condos for 200,000 and now the total value of your holdings is $600,000. Your equity stake is 120,000

7) The "crazy" investor who went about his/her business buying in times of depreciation has 9 condos with a total value of $1,800,000. Since they were able to negotiate with motivated vendors they bought at very similar prices to you. Total equity stake: $270,000

8) You have 20% of 600,000, they have 15% of 1,800,000





QUOTE (Jack @ Dec 11 2008, 06:24 PM) Obsession? Not an obsession.

My point is that because real estate is usually purchased using leverage, price declines are bad and magnified. Leverage is great when things are on the up, but it`s a real killer when things are on the decline.

You ask why I`m so concerned about it? OK. Let`s run some numbers. You buy a condo in Calgary for $200,000. Here`s a 5-year pattern of what may or may not happen in the marketplace over that period:

2009: -6%
2010: +2%
2011: +6%
2012: +5%
2013: -2%

I`d call that fairly realistic, yes? So, starting with a condo purchase for $200,000 in December of 2008, you`ll wind up with a condo worth $210,000 5 years later. Whoopee. This translates to a whopping annually compounded return of 0.98%, 5% gross. Any investor with half a brain would want to slash your tires with results like that.

Now, let`s do another comparison. Same condo, same price, different results:

2009: +2%
2010: +4%
2011: +9%
2012: +1%
2013: +2%

In this case, you wind up with a condo worth $238,238, which translates to a much better annually compounded return of 3.56%, 19% gross.

Points:

1) Declining prices do matter (unless yield isn`t important to you).

2) This is why I`m not buying in relatively unaffordable places like Alberta, B.C., and Saskatchewan (general term, I know, but you get the point). One or two years of declining prices really kills your investment`s performance.

 

[Jack]

QUOTE You aren`t computing the total return based on the actual cash the investor put in... but on the total amount. So your numbers would be correct if the investor *paid cash* for the condo.The point that I was trying to get at was that declining prices do matter. If you think the market`s set to drop, maybe it doesn`t make sense to buy. Again, contrast the returns:

Scenario A, involving the environment of price declines:

-$40,000 initial investment; $50,000 5 years later.
-25% Gross ROI
-4.56% annually compounded return (most important metric)

Scenario B, involving the environment where prices don`t decline:

-$40,000 initial investment; $78,238 5 years later.
-96% Gross ROI
-14.36% annually compounded return

So this is why, in my opinion (which, as Thomas Barcier said, is probably not worth much given my lack of a track record in real estate), I`m staying away from the Alberta`s, the B.C.`s, and the Saskatchewan`s, as they`re probably quite susceptible to pull-backs in prices given their relative expensivity. And, as I`ve shown above, even 1 or 2 bad years in the market can be a real killer to your investment`s performance. I don`t imagine that a JV partner would be rushing to do another deal with you if all you got him was 4.56% over 5 years.

 

[egambling]

QUOTE (tbarcier @ Dec 11 2008, 05:39 PM) Unless you own a large portfolio, I don`t feel you are qualified to make such a statement.

You don`t need to actually own a large portfolio in order to be qualified to figure out how potentially devasting it could be, financially, if an investor is highly leveraged during a severe bear market. And as REIN members, are we not taught how to be highly leveraged?

Example, does this senario look familiar to anyone out there:

Borrowed from HELOC (personal residence) to use as downpayments for a couple properties; financed balance with a mortgage

Bought more properties using JV partners` money (probaby from a HELOC); financed balance with a mortgage

As soon as you got enough equity build-up in these puppies, you took it out and used it as downpayments to buy even more properties, etc.

Now, we are seeing house prices 10% to 20% down (and who knows how low it will go), unemployment rising, credit markets tightening, and in general the economy contracting, etc.

What will happen to your portfolio if your JV partner(s) decide to pull their money out, because they`ve lost their job or the bank calls in the LOC, or they get spooked, etc. and you can`t find any willing investors to replace that money? Would you be forced to sell at a big loss?

Or how about when your mortgage term is up and the value of your property is less than the mortgage?Don`t be suprised if the bank refuses to renew your mortgage at all, if they see your portfolio is too risky. Don`t kid yourself in thinking that this could never happen to you.

Be careful out there

Elaine

 

[RedlineBrett]

QUOTE (Jack @ Dec 11 2008, 10:18 PM) as I`ve shown above, even 1 or 2 bad years in the market can be a real killer to your investment`s performance. I don`t imagine that a JV partner would be rushing to do another deal with you if all you got him was 4.56% over 5 years.

But how does the 4.56% look compared to the opportunity cost?

Presumably these funds have to be put somewhere... either in cash, GICs or some other type of investment.

Not fair to crap on 4.56% if *the whole market* is performing poorly. 4.56% with relatively low risk (cashflowing property in a growth corridor) might look like a gem compared to the latest biotech, O&G, banking or commodities play...

If you aren`t investing in AB real estate where is your money going? You`re obviously on a bit of a mission to open the eyes of the AB RE drum-beaters. So if you aren`t putting your money here I`d love to know where the greener pastures are...

 

[tbarcier]

[quote name=`egambling` date=`Dec 12 2008, 12:30 AM` post=`45083`]
You don`t need to actually own a large portfolio in order to be qualified to figure out how potentially devastating it could be, financially, if an investor is highly leveraged during a severe bear market.

Yes, you do. I am sorry but I will not take advice from someone who has not been in the trenches. If Don Campbell did not own any real estate, would you listen to him? Don and Russ own large portfolios, are they panicking? I don`t know, maybe there are, but I doubt it. There are way to many so called "experts" willing to give their opinion, who`s is worth listening to? Numbers can be tweaked anyway you want. I keep seeing posts based on appreciation only, nothing about cash flow or pay downs. It is investing, yes there is risk.

 

[MonteDobson]

QUOTE (ZanderRobertson @ Dec 11 2008, 10:44 PM)
Another scenario:



1)You reasonably suspect a market will continue to depreciate so you wait until prices slide further, closer to the bottom



2)1-3 years pass and you decide it's time to buy as the market is bottoming and the "financial meltdown"/recession is over



3) You take all that cash you've been hoarding over the past 3 years and buy... 2/3 properties



4) Now the market's on the way up and you're trying to acquire during a time of rising prices



5)You're out of cash and every day that passes you're kicking yourself for not acting during the buying season



6) You've purchased 3 condos for 200,000 and now the total value of your holdings is $600,000. Your equity stake is 120,000



7) The "crazy" investor who went about his/her business buying in times of depreciation has 9 condos with a total value of $1,800,000. Since they were able to negotiate with motivated vendors they bought at very similar prices to you. Total equity stake: $270,000



8) You have 20% of 600,000, they have 15% of 1,800,000




Zander,



I love it...great perspective!! As I mentioned before, RE moves very slowly compared to the stock market, so I totally agree that if you wait, you will lose out in this spectacular opportunity that is sitting right in front of us. It takes guts to cut thru the crap and seriously take action, but markets cycle and IT WILL GET BETTER. I simply don't understand the logic of trying to "time" the market and buy at the bottom, whenever that may be...it is simply impossible!!



WHO CARES if you can buy the same property 6 months from now for $10-20K less...for one are you going to buy 20 properties that month when the so-called bottom hits?? Or think about the year 2013-15 when your sitting on 20 properties in which values have recovered nicely, the tenants have paid down your mortgage, and you have received some handsome cashflow along the way!!



Either that or you run to Winnipeg/Regina/St Johns etc today because Money Sense magazine and all the papers says it's the place to buy and is going up next year by X%. Then it will be flat to down for the next 3-5 years as all of the speculators run to that market for some quick cash and then start to unload. I know I've got my 5-7 year goal in mind and you simply won't find a better time than now to take advantage of these fantastic deals!!



We bought numerous properties in Alberta in 2006-07 and of course I'm dissapointed that values have dropped. That being said, even in those extreme bull market years, we bought at or below market value, we stayed true to the system, bought for cashflow and have shown our JV partners a minimum 10-15% return on their money over the past couple of years. Not bad considering their RRSP's have dropped about 20-30% and will take at least 5 years to get back to pre-recession values.

 

[tbarcier]

QUOTE (C2Ventures @ Dec 12 2008, 03:15 AM) Zander,
I love it...great perspective!! As I mentioned before, RE moves very slowly compared to the stock market, so I totally agree that if you wait, you will lose out in this spectacular opportunity that is sitting right in front of us. It takes guts to cut thru the crap and seriously take action, but markets cycle and IT WILL GET BETTER. I simply don`t understand the logic of trying to "time" the market and buy at the bottom, whenever that may be...it is simply impossible!!

WHO CARES if you can buy the same property 6 months from now for $10-20K less...for one are you going to buy 20 properties that month when the so-called bottom hits?? Or think about the year 2013-15 when your sitting on 20 properties in which values have recovered nicely, the tenants have paid down your mortgage, and you have received some handsome cashflow along the way!!

Either that or you run to Winnipeg/Regina/St Johns etc today because Money Sense magazine and all the papers says it`s the place to buy and is going up next year by X%. Then it will be flat to down for the next 3-5 years as all of the speculators run to that market for some quick cash and then start to unload. I know I`ve got my 5-7 year goal in mind and you simply won`t find a better time than now to take advantage of these fantastic deals!!

We bought numerous properties in Alberta in 2006-07 and of course I`m dissapointed that values have dropped. That being said, even in those extreme bull market years, we bought at or below market value, we stayed true to the system, bought for cashflow and have shown our JV partners a minimum 10-15% return on their money over the past couple of years. Not bad considering their RRSP`s have dropped about 20-30% and will take at least 5 years to get back to pre-recession values.

So... you have a good sized portfolio and prices have dropped yet you are still buying and not panicking, hmmmm. Sounds like someone I would like to take advice from.

 

[Jack]

.

 

[Jack]

QUOTE Not fair to crap on 4.56% if *the whole market* is performing poorly. 4.56% with relatively low risk (cashflowing property in a growth corridor) might look like a gem compared to the latest biotech, O&G, banking or commodities play...

You`re right, good point. It does depend on the risk-free rate in the market, which is usually measured as the yield offered on a T-Bill. That said, those are usually around 4%, although they`ve been dropping lately as more people are putting their money there as it`s essentially a safe haven.

I agree, though, about comparing performance to other vehicles in the market.

QUOTE If you aren`t investing in AB real estate where is your money going? You`re obviously on a bit of a mission to open the eyes of the AB RE drum-beaters. So if you aren`t putting your money here I`d love to know where the greener pastures are...

I`m on no mission at all, my two properties are both in Calgary, so, of course, I want it to rebound as much as anyone else does. I just don`t like what I`m seeing from the numbers - affordability, CPI, WTI, tax hikes, etc. It`s hard to say how long it`ll take for home values to rebound back to where they were in 2007, but most signs are pointing to a slow recovery.

 

[Jack]

QUOTE Numbers can be tweaked anyway you want. I keep seeing posts based on appreciation only, nothing about cash flow or pay downs. It is investing, yes there is risk.

Cash flow and pay-downs are wiped out by transaction costs and taxes when you sell (and then some).

 

[Jack]

QUOTE WHO CARES if you can buy the same property 6 months from now for $10-20K less...
YOU should! Is that something you ask your investor? I showed you a few posts back why it makes a big difference in the investment`s performance if you have a down year or two. You`re talking about a 4% return vs. a 14% return, in the example that I gave.

So if you don`t care about a 3X better performing investment, then, sure, go buy now with the knowledge that prices are probably going to decrease some more in the near future.

 

[MonteDobson]

QUOTE (Jack @ Dec 12 2008, 06:31 AM) YOU should! Is that something you ask your investor? I showed you a few posts back why it makes a big difference in the investment`s performance if you have a down year or two. You`re talking about a 4% return vs. a 14% return, in the example that I gave.

So if you don`t care about a 3X better performing investment, then, sure, go buy now with the knowledge that prices are probably going to decrease some more in the near future.

Once again, you have missed the point. You CANNOT time when the bottom will hit!! The goal is to ACQUIRE income producing assets!! You are investing for the LONG TERM!! Markets will RECOVER!! And values WILL GO UP over time!!

 

[Lucas]

QUOTE (Jack @ Dec 12 2008, 06:21 AM) You`re right, good point. It does depend on the risk-free rate in the market, which is usually measured as the yield offered on a T-Bill. That said, those are usually around 4%, although they`ve been dropping lately as more people are putting their money there as it`s essentially a safe haven.

I agree, though, about comparing performance to other vehicles in the market.



I`m on no mission at all, my two properties are both in Calgary, so, of course, I want it to rebound as much as anyone else does. I just don`t like what I`m seeing from the numbers - affordability, CPI, WTI, tax hikes, etc. It`s hard to say how long it`ll take for home values to rebound back to where they were in 2007, but most signs are pointing to a slow recovery.

Another note on RE as a preferred investment vehicle:

With RE the investor has the option to ADD value to their investment at any time (ie. distressed properties made nice, additional suites, modify the zoning, condominiumiztion etc.). This value-added process can be quite lucrative AND hands-off if the right relationships are forged (renovators, Realtors, city council people

).

For example, Jack purchases a distressed townhouse in SW Edmonton for 172k...already approx. 14% lower than the last solds in that complex. Jack hires Lucas Fausak to manage a kitchen renovation as well as a cosmetic facelift with a 2 week timeline and a 10k budget. Jack does not leave his city (except during the buying trip) and Lucas proceeds to handle ALL the details re: the renovation. Once the renovation is complete, Jack hires an Edmonton PM (can`t think of any off-hand I would recommend) who finds a renter within a month and the investment starts its course.

Jack now has a townhouse that would likely sell fairly quickly for 210k (Renovated TH in decent complexes are still selling for this...btw they were selling for closer to 300k at the peak) that generates positve cashflow (depending on taxes, condo fees et al) and he has approx. 10k to 15k in pre-tax profit if he sold immediately...but why would he? He already generates cashflow and he has an upgraded TH in a Top 10 town.

Amid al the turmoil, there are still opportunities out there to position yourself for profits in the short and long term. Being creative is key...

Lucas

 

[GarthChapman]

According to an article I read yesterday, 3% of Canadian homeowners with mortgages currently have Total Debt Service ratios above 40%. At worst that may double over the next year or two. Much of that is caused by consumer debt like car leases and credit card debt. That consumer debt will go into default way before their mortgages would.

Significant, but nothing like what is happening in the USA.

 

[JordanRich]

QUOTE (Lucas @ Dec 12 2008, 12:34 PM) Another note on RE as a preferred investment vehicle:

With RE the investor has the option to ADD value to their investment at any time (ie. distressed properties made nice, additional suites, modify the zoning, condominiumiztion etc.). This value-added process can be quite lucrative AND hands-off if the right relationships are forged (renovators, Realtors, city council people

).

For example, Jack purchases a distressed townhouse in SW Edmonton for 172k...already approx. 14% lower than the last solds in that complex. Jack hires Lucas Fausak to manage a kitchen renovation as well as a cosmetic facelift with a 2 week timeline and a 10k budget. Jack does not leave his city (except during the buying trip) and Lucas proceeds to handle ALL the details re: the renovation. Once the renovation is complete, Jack hires an Edmonton PM (can`t think of any off-hand I would recommend) who finds a renter within a month and the investment starts its course.

Jack now has a townhouse that would likely sell fairly quickly for 210k (Renovated TH in decent complexes are still selling for this...btw they were selling for closer to 300k at the peak) that generates positve cashflow (depending on taxes, condo fees et al) and he has approx. 10k to 15k in pre-tax profit if he sold immediately...but why would he? He already generates cashflow and he has an upgraded TH in a Top 10 town.

Amid al the turmoil, there are still opportunities out there to position yourself for profits in the short and long term. Being creative is key...

Lucas

I have read this entire post and find it to be very useful as it brings about converstation`s that address`s both the good and the bad in investing and real estate.

Please continue to stir the pot, it creates excellent discussions and will produce great results.