Wednesday, October 25, 2006
I am getting a little off track, but this is something I have wanted to blog about for a long time. Thanks to Keith over at Housing Panic, "The Housing Bubble Blog with Attitude" I have been inspired to write about this subject. Here is the link to his post and to one of my favorite blogs:
His post is in response to the Countrywide CEO Mozilo, who was compensated $160 mil last year. Now I am no friend of the Real Estate Industrial Complex (REIC). I am almost positive there will be Enron like hearings in the near future in regards to fradulent real estate practices. My post however is in regards to all executive compensation and how populist regulation can have the opposite effect. The problem with over compensation is a result of the proliferation of stock options. However this is only a symptom of the real disease which was the cause and effect of liberal "tinkering". The main source of the problem is a law that was passed by President Clinton & his Democratic congress in 1993. As with most liberal policy it sounds good on the surface and means well, but of course had the opposite effect. Did you know that currently companies are prohibitted from deducting any salary of $1 mil or more? Well in 1993 congress passed the law, which is now part of section 162(m) of Internal Revenue Code, in response to the public uproar of compensation paid to top execs. This effectively created a boom of stock options for execs & employees (mostly execs). Plus congress exempted incentive-based pay from this law and the IRS ruled that option grants was incentive-based pay. This is why there is more excessive compensation than ever because companies can pay them for "free", by just issuing out more stock. Most executive compensation is well over 80% stock options. Big fund companies and fellow executive stockholders rarely complain about these options. Now if the liberals didn't tinker & regulate then most of the compensation would be in the form of salary and be put on the balance sheet for everyone to see. Leave it to the government to screw it up.
The countrywide CEO is a prime example of what is wrong with the system. Pump up the stock or ride a bubble and then cash out and let some other poor sucker deal with it. Coincidence with the internet boom, you bet. That is why congress needs to abolish the law on executive compensation. It seems ass backwards, but it's the obvious solution.
Sunday, October 22, 2006
This post is a counter to all of the hype surrounding the real estate “investing” world. It is now almost commonplace to hear ordinary Americans looking at real estate as an investment instead of a place to live. What they don’t realize is the deck is stacked against them in regards to costs & returns. Real Estate has suddenly turned into a one stop shop for all things including an ATM/Bank, children’s college savings, retirement account, etc. Well here are my problems with single family home dwellings as an investment properties (multiple properties) for most Americans.
- Operating/maintenance costs are high: This is probably the most significant overlooked cost for investors. Yes there are interest & tax expenses and yes they are tax deductible, but it costs money. Plus your interest rates are going to be higher because the home is non-owner occupied. Then you have the choice of having a management company or yourself taking responsibility of your tenants and their needs. There is a cost which can range from 15-30% of your rental income. Or you can utilize your time and liability risk to do it yourself. Remember not all tenants are created equal and a horrible tenant can become an absolute nightmare and sap your time. If you bought an older property, be prepared to dole out some cash for major repairs.
- Buying costs you time and money: This is also underestimated because most folks believe the costs are taken care of by the seller. Guess again they are some hidden ones. Most notably an agent will have a conflict of interest to only show their broker/companies listing. This can lead to paying more for a property. Also there is the costs of your loan which can range anywhere to 1-3% of the sale. The time spent buying house can be substantial when considering: looking at all properties, haggling with the seller on price & contingencies, and getting all of the inspections & paperwork done.
- Selling costs you time and money: Here is what really gets you when you decide to finally sell your investment property. You will be looking at an agent’s fee of close to 4-6% off the sale to get listed and marketed. God forbid you have to sell in a market like 2006-‘07 or you can add closing costs to that fee too. Then of course there is the time and energy to get your house in shape and to show it constantly. Another little known issue is your house just got a couple years older, while newer and better houses are entering the market.
- No capital gains tax breaks for non-owner occupied homes: This is the most glaring issue, especially for flippers. This will literally eat what ever profits you have left after the aforementioned costs. Your capital gain is going to be taxed at ordinary income rates. This means you’re going to be taxed at federal & state level from 25-46% on your gain depending on how much you income and if your state taxes you.
- The returns are mostly based on extraordinarily high amounts of leverage: For almost everybody you have to be leveraged with a down payment of around 20%. In an up market that can turn a 5% home value increase to a rate of return of 20%. Well guess what happens if the home value goes down 5% when you want to sell? Now you have a 20% loss. Hmmm your value goes down 10% and you’re looking at 50% loss on your money. But housing always goes up right? According to Yale Professor Robert Shiller prices have only increased at rate of under inflation of 3%/yr. (the long term data is very difficult get a reading on because houses were much smaller in the 1950’s compared to now)
Again I am not advocating that nobody should invest in real estate, but that people need to realize that there are better investments out there instead of a 2nd or 3rd home. I believe real estate investing becomes more attractive if you are a real estate agent, mortgage broker, contractor, etc. because you are able to get some rebates into your investment. Also if this is your primary job, you do it on a daily basis, and you have the time to invest. Most folks are not able to dedicate adequate time to real estate because they have a regular job. A house is a place to live and homeownership is great for that. So lets all keep that in prospective.
Tuesday, October 10, 2006
The idea behind a democratic nation, is that it should be reflective of its people. This is the case in regards to the United States and her people. However when it comes to American spending habits this is definitely an unwanted correlation. Why? Well for one thing the monthly US household savings rate have been negative multiple times over this last year (savings rate of -0.4%). This data is tracked over at the Commerce Department's Bureau of Economic Analysis. The worrisome issue is that our Federal Government is on the same path. However how can you blame one without blaming the other for financial mismanagement. Here are some statistics on the US public debt in terms of Gross Domestic Product or GDP , according to the CIA Factbook.
- The United States Public Debt: 64.7% GDP (2005)
- French Public Debt: 66.2% GDP (2005)
- British Public Debt: 43.1% (2005)
- Swedish Public Debt: 50.4% (2005)
- Chinese Public Debt: 24.4% (2005)
- Japanese Public Debt: 158% GDP (2005)
- Bangladeshi Public Debt: 44.5% GDP (2005)
What do these statistics tell us? For one our debt level is the same or worst then some of the major European nanny states. We have 3x the public debt of that of China one of the emerging super powers. Japan on the other hand has 1.5x more public debt then we do in the US. Forshadowing??? Well Japan was put into difficult economic times in the early 1990's with a stock market crash followed by a major housing crash and then subsequent deflation. Remember they went into deflation with massive governmental expenditures & a central bank cutting interest rates to effectively zero! What can we learn from this is that Japan went to a more socialists slant with heavy deficit spending on social & government programs. They have been in a 15 year slump and only when former prime minister Koizumi put forward real reforms aimed at pro-business and the break up of the giant governmental institutions have they shown signs of life.
We are most likely in for some troubling economic times due to a variety reasons including a debtor society. The government in our case is really representative of its people. However usually people in rough economic times cut spending and so should the government. Government rarely cuts spending and either cuts taxes or raises them. Why is it so wrong for them to cut frivolous spending? American consumers will likely cut its frivolous spending on Hummer's, plasma TVs, and granite countertops. SO I would hope the government will cut its frothy bureaucracy and little used social programs. This investment mercenary isn't holding his breath....
Friday, September 01, 2006
Here is an excerpt from the Wall Street Journal 8/27 by Scott Patterson:
"If businesses move to pay out more of their earnings, investors will reap a windfall. But corporations have increasingly been either hoarding their cash or using it to buy back shares. The rate of dividend increases has recently shown signs of slowing down, while share buybacks are surging, says Mr. Silverblatt of S&P.
In the second quarter, companies in the S&P 500 put more than $116 billion into buybacks, up 43% from a year ago. Dividend payouts were up 11.1% from last year, to $54.5 billion. "
Be afraid, very afraid. Look at all the stock buybacks from a lot of the major US companies. Most recently the $3 Billion buyback from Boeing. That is an important signal because it shows that companies don't want to invest, take on risk, or extra capacity. Why? Because they feel there is going to be a major economic slow down and are preparing accordingly. They are hunkering down for the winter my friends and so should you.
On the flip side this why being a shareholder of a stock can be advantageous. Buybacks & dividends are the benefit of being one and is the company's way of giving back and rewarding your investment.
Source: wsj.com, 8/27/2006
Tuesday, August 15, 2006
This curse is the dilemma that we live in currently. The go-go days of the 90's are over. We now live under the threat of World War III with Islam. In my humble opinion it has been ongoing in which we are reminded constantly like last week's foiled British airline bombing. What does this have to do w/ investments? America is still living with the mind set of the 1990's. Everyone is living in a dream world where you can get rich quick whether it was the tech boom, housing boom, commodities boom, etc. Folks are spending money way beyond their means and living paycheck to paycheck. The margin for error is getting slimmer by the minute.
An alternative way to invest in these times can be the variable annuity w/ living benefits. The beauty of this investment is that you can invest in mutual funds within the annuity and the insurance company will "insure" your investment. There are essentially two layers of protection that they can give you: Death Benefits & Living Benefits. Death benefits are utilized by those that are looking for estate planning techniques for their heirs. My focus today is on the living benefits that can guarantee a certain rate of return for a specified time. Two riders that can help protect your investment are known as the guaranteed Minimum Income Benefit (GMIB) and the guaranteed Minimum Accumulation Benefit (GMAB). I am going to use the GMIB for an example: John Doe, a 50yr old, puts $100,000 in a Variable Annuity and elects the GMIB rider. The rider in this example will guarantee a rate of return compounded 5% for the next 15yrs. So lets say when Mr. Doe at age 65 decides to retire and his account loses money and is only valued at $80,000, he's screwed right? No because the GMIB account is at $200,000. That's the beauty of this type of investment. If the markets in the future react like they have always done in the past you will never have to use this rider, but it is there for reassurance.
So what's the catch? There are a few of them.
- This annuity and rider will cost you 2-4% in fees. Finding one w/ low fees is paramount and these extra fees might be worth letting you sleep easier at night.
- The rider's protection will only last for about 10-20yrs or only give you a maximum of 200-300% appreciation. That is why annuities are better for your 45-60yr old demographic.
- You must give up liquidity and keep you money with the insurance company. If you leave the company the benefit goes away. People needing the money within 8-10 years should look elsewhere
- In order for the benefit to be activated you must annuitize (take distributions) which locks you into the contract permanently.
- The guarantee is only as good as the insurance company. If the company goes belly up you may not get that guarantee, so invest in big highly rated companies.
- The US stock market has never lost money in any 15 year interval since 1926. Do you really need the protection?
I still believe and invest in capital markets, but for those that are more risk averse and don't want the low returns of cash or CD's this is a viable alternative. Please look at the find print (prospectus) and shop around to interview brokers & advisors. Since there is so much fine print your going to have to really go out on the ledge and trust in who you go with. Use your gut feeling and if they don't mention the downsides runaway! If you have a question feel free to leave a comment about it.
Monday, July 31, 2006
The Los Angeles Daily News has come out with a new article about California foreclosures increasing 104.4% from a year ago. Granted the foreclosure rates were abnormally low over the last couple years, but nevertheless, it is the trend I am following. Follow the link below:
These are dangerous numbers that are trending upward at a rapid pace. Here is a perfect example of a mercenary in the article:
"While the nation's foreclosure rate has certainly shifted into a higher gear since last year, low unemployment and home price appreciation in most housing markets have held foreclosures in check," Saccacio said in a statement.
The company forecasted a slowdown in foreclosure rates in its first quarter report and now expects that if the summer delivers its typically high number of home buyers, rates won't increase too rapidly.
This mercenary Saccacio is the CEO of RealtyTrac.com and guess where his interests are.... The spin that this fella tries to put on these horrible numbers is amazing. I think we already know what the summer has brought and that is less buyers and more inventory. Expect housing to continue its decline with a few hopeful bounces in the process. Unfortunately these bounces will only hurt more homeowners because it will give them the false reality of future increases.
A common question that I have come across is: "where do I get access to the foreclosure market" or "when is the best time to go after foreclosures?" Well my answer has been that you need to wait for a large sustained glut of foreclosure inventory. When I mean "sustained" it has to be at least 2yrs and when I mean "a glut of inventory" it needs to 5x larger then normal. Why? Well the reason people can make money on foreclosures is because the banks own the house. Banks are definitely not in the business of holding, buying, or selling property and will unload a house below a depressed market value. Right now house flippers and real estate "investors" have the foreclosure market relatively saturated because they see this as the next great thing. Go ahead and do a web search on foreclosures to get an idea of what I am saying. Remember in foreclosure auctions your buying the house as-is. There is some risk in this with termites, mold, foundation issues, etc that can make your new acquisition worthless.
Article Source: Los Angeles Daily News
Saturday, July 29, 2006
Rumor has it that there are votes in the house for a potential increase of minimum wage from $5.15/hr to the proposed $7.25/hr. I know the intentions can be good, but this will have a major effect on the weakening economy in the form of slowing growth and fanning the flames of inflation even further. Legislation like this are what can be the straw that breaks the camel's back. I think the timing for this is very troublesome. Plus states like California already have increased their minimum wages and plans to further increase it.
High wage inflation can have devastating results when mixed into the economy as a whole. Especially during this time when we see inflation rising in almost every indicator: headline, core, CPI, PCE, unit labor cost, wage costs, ECI, etc. I hate to be so negative, but we are entering a time of Stagflation (stagnant growth - high inflation) and possible recession. Expect a bumpy ride for at least the next year, the question of how long and bumpy remains to be seen.
Thursday, July 06, 2006
There has been a lot of talk of the housing market bubble and when it will pop, etc. I do not have a crystal ball, but I will say this, the market in the next 2-3yrs in for a major correction. Unlike the liquidity of the stock market the housing market is slow to move and we will not see the repercussions until really 2007. We are seeing the beginnings with a massive increase in inventory. I have put together some numbers over the last year to show how the interest rates are going to contribute to this correction.
Last year at this time:
- Fed rate was at 3.25%
- ten year treasury bond was at 4%
- prime was at 6.25% (Adjustable Rate Mortgage based on)
- 30 year mortgage fixed rate was at 5.5%
Now today these numbers have changed drastically:
- Fed rate at 5.25%
- ten year treasury bond at 5.25%
- prime at 8.25%
- 30 year fixed rates at 7% (APR)
So what do these numbers mean to you? Unless you're a finance nerd like me, then this means absolutely nothing. So let's put it in terms we all can understand: How much is this going to cost me?
Last year if you were looking to buy a $500,000 home with 20% down:
- $400,000 loan amount
- 5.5% 30yr fixed
Now another way of looking at that number is what with today's rates of 7% would the payment of $2,271/mo get you house wise?
- A $341,348 mortgage or
- $426,685 house instead of a $500,000 house
- That's a 15% decline in purchasing power!!!
Has your job given you a raise 15% in the last year? For most American wages have been stagnate over the last 5 years. If you have an ARM loan depending on several factors you're going to have 16-20% decline purchasing power. Let's see what happens if you go 100% financing:
- $400,000 5.5% fixed loan
- $100,000 6.25% Interest Only Equity Line
With today's rates lets see what $2,792/mo gets you?
- $341,348 1st mortgage
- $75,758 2nd
- $417,106 house instead of a $500,000 house
- That's a 17% decline in purchasing power!!!
The market has yet to price this in to the real estate market, but when it does you can expect a minimum 20% decline over the next year or two. These numbers a just based on the increase of rates, they don't even take into consideration the froth of the market and the unusual appreciation over the last 5-7 years. The numbers don't lie.
Saturday, June 10, 2006
Here is what central bank rates have been doing over the years. You can really see how low the US went in comparison to the rest of the other countries. And why the years of easy money is now taking effect in the form of inflation. Like a giant oil tanker that takes a long time to turn, the fed has a similar feel for the delayed reactions when it comes to raising & lowering rates.
Image Source: WSJ.com
Sunday, June 04, 2006
There have been a lot of questions & guessing on what the future holds with respect to inflation and whether the Fed will continue to tighten. I feel it is necessary to put my two cents in and cover it by an angle that nobody else has seen. My opinion is that inflation is here and will be with us going forward. We have been blessed to have a 20+ years of low inflation brought on by Ronald Reagan's reforms and Fed Reserve Volcker's monetary tactics. Their successors have more or less followed the same path that those two had set forth. The fiscal path of less taxation & government and pro business & globalization of George H. W. Bush, Bill Clinton, & George W. Bush. Also the monetary path that Greenspan and now Bernanke have followed is an aggressive and occasionally activist Fed chairmanship that fought inflation hard. So why are we not in perfect harmony with a philosophy that has had such great success? One would think there would be no need to worry about inflation because we know how to fight it. Well like our bacteria friends that can stay contained for some time, all it takes is an opening. And they, like inflation, expose the host's weakness at a torrentual pace. A trifecta of events has converged to create a gaping "hole" for inflation to come through. These three factors are a maturing globalized economy, Bush's fiscal policy, and Greenspan's monetary policy.
During Reagan's time the framework of a globalized economy came to America. Japan was putting pressure on the US economy with cheaper better built goods and technology. Taiwan and parts of east Asia were major manufacturing hotbeds. The US economy adapted and the economies were working together where made in USA was no longer as essential. George H. W. Bush pushed for NAFTA and Clinton followed through with it. Clinton also "opened" up China to the west and into a major trading partner and manufacturer. The technology & information revolution brought the world closer together and allowed for aggressive competition. Businesses were able to utilize technology into coordinating raw materials, parts, manufacturing, shipping, wholesale, and retail into effective supply chains that were a part of global landscape. Prices during the 1980's-present were being pushed down by technology and finding cheaper labor. From Japan, Taiwan, East Asia, parts of Latin America, South Korea, Eastern Europe, China, and India capital would find the cheapest labor. However with these emerging market economies GDP growing by leaps and bounds wage pressures have followed suit. Has the developed world lost its sources of cheap labor? In the short term yes. You look around the globe and parts of Latin America, the underdeveloped and unstable world of Africa, and the politically backward and anti-growth Middle East economies have a long ways to go before they can be fully integrated as a partner (not just an exporter) in the global economy. Suddenly a factor of keeping inflation low is no longer in the equation.
George W. Bush's major tax cuts have been a major and effective economic stimulus that has helped rescue a free falling economy. However the cuts were not followed by any real cuts to government programs and spending. So in a sense a flood of money entered the economy financed by the treasury department and foreign treasury holders. The administration has caused the twin deficits to form which has been at the heart of the trouble the value of the dollar has been having since the turn of the century. I am always in favor of putting more money in individuals hands then the inefficient and bureaucratic government, but there needs to be cuts too. This major influx of cash was efficiently put into the consumer wallet and began the multiplier effect. By itself the policy is solid, but with the other two major factors it creates a perfect storm.
Alan Greenspan in 2001 saw a weakening economy pumped up by a giant peace dividend and a stock market bubble. He began his quest of lowering the federal funds rates from their high of 6.50% and living up to his "Greenspan Put" he pushed them lower and lower. With the weakened economy, the upheaval of September 11th occurred and Greenspan began throwing everything including the kitchen sink at the economy. In one year the rate had gone from 6% to 1.75%, by mid 2003 the federal funds rate was at 1.00%! Many other central banks around the world followed suit by cutting their rates. Not until June 2004 did Greenspan start a gradual rate increases that we have been on for the last 2 years. With the Federal Funds rate at 5% rates are closer to their normal habitat, but the fact is the US and the world had years with a major influx of liquidity. Not only did it cause a glut of liquidity, a red hot housing market spurred on by low rates flooded the economy with even more money. It easy to Monday morning quarterback Greenspan's decisions now; he made these decisions in trying times. The fact remains that it would appear that he left rates too low for too long causing inflation to have a place to roost. The scary part is compared to other central banks the US early on had been more aggressive in raising rates and tightening then most of the world. With our integrated world this leads to more and more liquidity.
Going forward from this analysis it is easy to get depressed or mad at the three factors, but on an individual basis they are good practices for the economy. The fact remains that there is too much money chasing too few goods. This is seen with the increases of prices of hard assets like commodities, real estate, etc. Do I expect inflation to return to 1970's level probably not, but do I expect it to remain low like the past 20+ years, doubt it. In the short term I expect inflation to hover around 5%, where it goes from there is really up to Ben Bernanke. Does he care about keeping inflation in check or will he try to please the economy and stop raising rates. The first would most likely cause a real recession and the later would cause a stagflation scenario after awhile. I would prefer Bernanke becoming an inflation hawk regardless of the consequences. My worry is if he uses the technique of breaking the back of inflation and it has little effect because of the world liquidity glut and leaves the US economy in the gutter and a inflation still running a muck. I, like many others, do not envy his position and the pitfalls at every decision Bernanke makes in the near term. As your investment mercenary I feel it is important for my readers to be cognizant of the consequences of Bernanke's decisions and what led up to them. I think most pundits either don't think inflation is an issue or understand one or two of the reasons for its cause in 2006. Again a maturing globalized economy + Bush's tax cuts + Greenspan's monetary policy has led to a real and present danger of inflation that must be dealt with at any costs.
Thursday, May 25, 2006
7. Financial Advisors/Planners: These mercenaries are obliged by regulation to ensure they are held to a fiduciary obligation, but as with all professions there are bad apples that hide behind their credentials.
6. Bankers: For better or worse they can only offer their bank's products, but they all have different payouts so watchout.
5. Attorneys: Competent attorneys are crucial and can be a great help in protecting you & your assets, however use caution because more litigation = more fees and remember to shop around for a good one.
4. Stock Brokers: These mercenaries have taken a beating since the late '90s when they were at their peak. Most are glorified salesmen that follow orders from the top when it comes to investments and aren't afraid to charge a hefty commission, but the good ones can have the potential to make you a lot of money.
3. Realtors/Real Estate Agents: These folks are primed to take a beating that will be similar to the one stock brokers took after the tech boom. Currently realtors are playing to investor's greed and pushing a losing investment (in the short term). When the market normilizes after the boom & bust period they can help bring value to an important avenue of investing. I will pay good money to see one say at this point that a client should wait to buy as prices come down.
2. Insurance Salesmen: These folks can offer a necessary product to prevent some risks associated with life. Their track record as shifty mercenaries has been seen well documented in their long history. And they have never been afraid to sell overpriced unnecessary insurance to those of niave nature.
1. Mortgage Brokers/Loan Officers: These newly esstablished #1 dangerous mercenaries can screw you in many different ways without your knowledge. Home loans are highly regulated, but to those that do not have a financial or loan background can lose their shirts in hidden cost and exotic loans. Exotic loans to non sophisticated buyers who are unaware of their consequences will cause much hardship in the coming years. These guys are in the zero sum game of loans and all they care about is closing a deal. I have worked with them in the past and they can be very dangerous.
This is the current form of the list and will be updated w/ new revelations & comments as they come. Again all 8 mercenaries can be great assets to have, but be cautious when dealing with them.
Wednesday, May 24, 2006
This is a debut of an new investment blog which hopefully readers will find informative and helpful in the dog eat dog world of investments. I hope to cover most methods of investment that interest myself & other bloggers which will give you further insight. As the name entails most people that will help in advising like brokers, realtors, bankers are essentially mercenaries. Like past warfare, mercenary soldiers with no allegiance were paid to fight battles for kings, states, and nations alike. In modern civilian life these warriors have weapons of information, corporate backing, and market insight available for hirer for a certain fee or commission. Similar to their past brethren these mercenaries can have ulterior motives and can be unpredictable. However if chosen & motivated correctly these mercenaries can be an crucial to the success to those who employ them. I too am a mercenary, but I will be working for free and will try my best to guide you to investment success and away from disaster.