Let’s say you buy a residential investment property for $150,000 using cash. You fully expect to get a renter, but first need to make some improvements to the property. So, being as smart as you are, you postpone financing the property because you should undoubtedly be able to get higher loan proceeds after you enhance value to $200,000 – right? Most lenders will not advance more than 75% of the original purchase price for the “Cash-Out Refinancing” of investment properties – until at least 12 months after the purchase. This means that you cannot get a loan based on value during that time frame, unless you obtain the loan from a “portfolio” lender (a lender who can maintain the loan on their own books without either selling it to FNMA or having it guaranteed by FHA). Nothing wrong with getting a portfolio loan, but they are oftentimes more expensive.
The government enforced this idea in order to prevent the flipping of homes. Before the housing crisis, investors were bidding up the price of homes via quick cash closings, only to turn around and either quickly selling for a higher price or financing virtually 100% of the price right after closing (there were several lending programs that made it easy for them to do so). Thus, the government wanted to prevent NON-owner occupant borrowers from continuing the same flipping practices – mainly in order to avoid purchasing or guaranteeing a loan secured by properties with inflated values.
Commercial Real Estate (CRE) represents an attractive asset class.
Here are a few of the obvious reasons for some reinforcement:
– Inflation Protection (with contractual rent increases, CRE can offer the perfect inflationary hedge
– Long-Term Capital Appreciation (according to the National Council of Real Estate Investment Fiduciaries or NCREIF, CRE returns have outperformed the S&P 500 since the late 1970’s – ignoring the correction of property values in 2008-09)
– Low Return Volatility (CRE can lead to more predictable, recurring cash flows – especially well-located properties having a stable roll-over schedule of creditworthy tenants on longer-term leases)
– Diversification (CRE returns generally have a low correlation to stock and bond returns)
And for those of you who just can’t stay out of the stock market… Although 2013 was an exceptional year for the S&P 500 (32.7% return), equity REIT’s in 2014 are likely to outperform last year’s abysmal 2.7% return. The threat of interest rate increases weighed heavily on the REIT sector in 2013, but these returns should improve with the focus now leaning on company earnings – which should lead to additional demand for space in markets with limited supply.
I recently had the pleasure of appearing on a radio show entitled “The Art of Investing”, hosted by Art Espinoza. Having known Art for quite some time in the Vero Beach community along the Treasure Coast of Florida, he asked me to discuss what’s happening in the real estate market, who the primary borrowers of real estate capital are, where I see interest rates going, and a variety of other related topics.
Art has been a respected financial advisor and wealth manager for 28 years, and has offices in Vero Beach, Florida and Brookfield, Wisconsin. His show, “The Art of Investing”, is broadcast every Saturday morning at 9:30 am on WAXE 107.9FM and 1370AM, or on iHeart Radio: http://www.iheart.com/live/WAXE-1079-FM-1370-AM-4788/
Art kindly asked me to make regular appearances on his program, and I look forward to sharing real estate industry dialogue and exchanging topical ideas with listeners in the future.