Gyroscopic Investing

moda0306 wrote: I still think it's too risky for somebody who is anything but very above water on their home to invest in REIT's.  I think most renters and very solid-balance-sheet homeowners could consider it an option in a tax-deferred account (high dividend rates).

• A lot of people have poor credit after going through foreclosure and can't qualify for a mortgage for at least a few years.
• A lot of people don't want to catch a falling knife and buy a house when prices continue to fall.
• A lot of the excess inventory are badly damaged homes that need to be either completely torn down and rebuilt or gutted and remodeled.  Foreclosure homes are usually trashed and stripped before the owners leave.
• There are feedback loops involved where foreclosures and shadow inventory further depress the market, causing more foreclosures as people walk away from their homes, which creates a vicious cycle.  You need people to feel confident in the economy and confident in their jobs, as well as confident in the fact that house prices will rise, before they are willing to invest in the market.

1. What was important was the physical home and the homeowners—the families—who occupied dwellings, not the monetary values of either the property or financial paper that secured it. The financial paper and the speculation around it were crushing both the home and the homeowner; balance had to be restored, and the speculative, inflated values of mortgages written down.[3]

2. The government would not bail out the old mortgages, but would instead move to take pressure off the homeowner, by underwriting and insuring new mortgages issued at low rates appropriate to such Federally insured paper. This would take pressure off the banks and halt the foreclosures.[4]

3. Credit is what makes the housing sector go, and the community-based credit-issuance system of the S&Ls as dedicated lenders for home mortgages had been destroyed by allowing the predator commercial banks into the henhouse. The commercial banks had to be thrown out of the market and kept out, while a Federally regulated and insured S&L system had to be reborn and expanded.

4. This reform of housing credit had to be accomplished in the context of an overall government-directed reform and control of the credit markets and banking. Only the government could force this reorganization; to assume that the banks would, of their own free will, do it themselves, was ludicrous. In their world, the people with power and money, keep their money and steal from anyone they can; that is why they would, sooner or later, once again destroy the thrifts, unless the government prevented it.

Every loan situation was handled by the HOLC on an individual basis, with its agents making personal visits and helping clients organize their lives. Acting from the perspective that the only real basis for repayment came from the ability of the client and his family to survive and prosper, the agents used their wide discretionary powers to help clients find work, to collect insurance claims and pensions, to attract tenants for rentals, to qualify for public assistance, and even to locate foster children that could be taken in for a fee.

Most HOLC mortgages were offered at the then-unheard-of rate of 5% or less, up to 80% of the assessed value, which often meant rewriting loans for more than the orginal amount of the imperiled loans. They were directed mostly at single-family homes (although technically, its loans were available to units housing up to four families), with values under $20,000.[9]

One year after it opened for business, the HOLC, which was allocated $200 million by Congress as start-up capital, with the authority to issue $2 billion in government-backed, tax-exempt bonds, received applications from 40% of all mortgage holders, and accepted half of them. As FDR had intended, the main beneficiaries of HOLC activity were people with incomes of between $50 and $150 per month—people who, had they been left to the private market, would have lost their homes. By establishing that government loan assistance must go to the people who needed it the most, and not to those deemed "good risks" by insurance companies and commercial bankers, the HOLC helped FDR re-establish the banking principles that he had seen the S&L community bankers practice to great effect.[10]

Despite being widely criticized by Wall Street, the HOLC remains a remarkable success story. Its loans, including mortgages which Wall Street bankers thought unwritable, had the same minimal failure rate as the "prime rate" loans issued by those banks to its best customers.

Wall Street never accepted, nor could it ever accept the principle that the Federal government could create and supervise a dedicated housing lending system. However, with FDR's great popularity, while he was alive the bankers were reduced to carping on the sidelines, and criticism of the occasionally inefficient administration of what were generally popular programs.

It is clear from initiatives taken towards the end of World War II—such as the "Economic Bill of Rights," which identified the right to decent, affordable housing as a basic human right, and the "GI Bill of Rights," which authorized the provision of funds to make homeownership more accessible to returning servicemen and women by offering a VHA-administered program that would subsidize and reduce down payments on new home purchases—that Roosevelt remained committed to using government-directed credit to expand housing opportunity. However, while the VHA program went forward and programs for public housing committed to before FDR's death were fulfilled, no expansion took place.

FDR's legacy remained the dedicated credit mortgage system, anchored by the S&Ls; it was that system that Wall Street targetted, becoming ever more relentless as the time and emotional distance from the New Deal and the Great Depression grew. For example, there was widespread belief in the widely circulated charge, more recently thoroughly discredited, that the HOLC, and indirectly, the S&L mortgage system, were responsible for racially inspired lending that red-lined and destroyed America's inner cities.<[13]

By the late 1960s, despite its great success, the final assault on the S&L system was launched, aimed at its destruction. The first, small but significant step, was taken when the Johnson Administration's Comptroller General required the Bureau of the Budget to count the scores of billions of dollars of mortgages held by Fannie Mae as a government expense and liability, rather than an asset; this, despite the fact that failure rates on these loans were minuscule. The action immediately ballooned the Federal budget deficit in the middle of Johnson Administration's escalation of the Vietnam War. The President's advisors urged him to spin off Fannie Mae as a government-sponsored quasi-priviate entity, owned by shareholders, and with a small but symbolic line of credit direct from the U.S. Treasury. This set Fannie Mae, which could now lend to any mortgage lender/broker, effectively in competition with the S&Ls that it had been created to serve.

Under the Nixon Administration, this split-off of what had been a dedicated re-lending agency for the S&Ls, into a private competitor for the same market, was formalized, and in 1972, a Milton Friedman-inspired scheme created a new re-lending agency, the Federal Home Loan Mortgage Corporation, or as it is more commonly known, "Freddie Mac." The Friedmanite new wrinkle to the process is that "Freddie" was allowed to purchase loans and resell them in the markets, thus opening the housing lending market to "securitization."[14]

Fannie and Freddie soon supplanted the S&Ls as the principal mortgage lenders, as funding mortgages through loosely regulated mortgage brokers became the "quick and dirty" route to mortgage lending, rather than trying to mobilize deposits, as the highly regulated S&Ls did. Where the S&Ls long-term-fixed-rate, government-insured mortgages were once the "gold standard" of bank assets, the S&Ls soon found themselves in a deliberately set up competitive vice, in which their assets were declared by an insane market to be liabilities. When interest rates fell, borrowers refinanced their mortgages with the cutthroat low-rate lenders, taking assets away from the S&Ls; when interest rates rose, S&L depositors demanded higher rates or dividends on their money, threatening to take, and often taking their money elsewhere; to keep depositors, the S&Ls now paid more money out than they were taking in on their mortgages—a surefire ticket to banking oblivion.

Starting in the mid- to late-1970s, the cry came up for the total dismantling of the now "obsolete" S&L dedicated lending system, including in the Fred Hirsch book for the Council on Foreign Relation's "1980s Project," which included the end of the S&L system as part of its proposed "controlled disintegration" of the financial system. The new Fed chairman Paul Volcker, implementing the Hirch thesis, jacked up interest rates to stratospheric levels in excess of 20%, and the S&Ls now were induced to demand the end to the legislation that made them different from other banks, thus asking for their own ultimate extinction.[15] With support from many S&Ls, the Congress passed the 1980 Depository Institutions Deregulation and Monetary Control Act, which laid out steps towards the total elimination controls on interest rates that banks and S&Ls could pay, and authorized S&Ls to take on checking accounts: FDR's dedicated lending system had been kicked to the side of the road, soon to become banking "road kill."

Deregulated, and now in competition with Wall Street's banks and others, the S&Ls soon became insolvent. Wall Street moved in for the kill by kicking open the doors of the S&L industry to some of the more sleazy members of the banking profession, while stuffing down the throats of the desperate S&Ls, high-yield financial "toxic waste" such as junk bonds and speculative real estate developments. The FHLBB, now under the control of Heritage Foundation-type deregulators, sanctioned by the Garn-St. Germain Act, allowed for accounting shenanigans that avoided the recognition of losses, and allowed for the wild expansion of asset bases even as the S&Ls plunged deeper into insolvency. New sleaze-balls and outright crooks borrowed money to purchase bankrupt S&L charters, thinking that the Federal guarantees on what remained of their mortgage base and accounts meant, no matter what mess these crooks created, that the government would bail them out.

While the most noxious of these crooks were sent to jail, this amounted to a coverup of what had actually happened—a vendetta against President Roosevelt's S&L home-lending system and its principle of regulated, dedicated lending, had destroyed a workable system. All that remained was for its carcass to be sold off, with taxpayer help, to the banks who had let loose this destruction. That was handled through the so-called Resolution Trust Corporation, following a script written for it in 1985 by the Heritage Foundation to put the obsolete S&Ls out of their misery.[16]

By 1987, with the S&Ls at death's door, the way was cleared for the new Fed chairman, Ayn Rand cultist Alan Greenspan, to unleash the greatest debt-farming scheme in history, using mortgage-backed bundled securities to flood the housing market with wave upon wave of speculative credit, jacking up the price of housing, and creating the housing bubble which is now collapsing. None of that would have been possible in the regulated climate for housing and the dedicated lending system created by FDR.[17]

TripleB wrote: I made my move today and put a chunk of VP money into EQR. I looked through several apartment REITs and decided this was the one I wanted to start with.

The 10-Ks of some I researched were ridiculous. One had most of their properties in Michigan. Another had a subsidiary that served general contractor functions to build new apartments.

EQR looked solid from a business operations perspective. I didn't do a full financial analysis from the 10-K because there's enough volume that I believe the market has done it for me, and the stock is efficiently priced. Also, I don't have I-Banking experience so I can't perform such analysis well.

My VP is currently:

30% EQR
30% BRK.B (Berkshire Hathaway)
10% VNQ (Vanguard's REIT Fund)
30% High Yield FDIC insured Savings

moda0306 wrote: I'm not trying to rain on anyone's parade here, but looking at the income statement of EQR, it appears they are obtaining $270 of net income for every $1,996 in revenues (aka, rents). See link.

http://finance.yahoo.com/q/is?s=EQR+Inc ... ent&annual

If this deleveraging process begins to take its toll on rents (due to the opportunities afforded by homeowners with too much house and too little money to keep kids living at home, or take on renters), then let's assume for a second that rents drop 5%... I don't think this is unreasonable to presume could happen.

A 5% drop from $1,996 would bring it down about $100, wiping out 37% of your distributable income, all other things being equal.  It appears they're leveraged at an interest rate of about 4.8% into about 2/3's of the book value of their building.  If their net income drops 37%, that value of the building (if that's even the FMV) could drop into a zone where securing cheaper financing isn't possible.  The self fulfilling nature of deleveraging crisis could even hit the value of highly leveraged apartment complexes.

Regardless of any self-fulfilling crises that could hit this fund (I really don't see that happening), you're still investing in something where 13.5% of rents collected are all you're walking away with in earnings, and that leaves it extremely exposed to lowering rental rates.