Saturday, January 22, 2011


When I meet with a realtor for the first time and they ask me what I am looking for, I tell them "turds".

Yes, their reaction is probably not a lot different than yours - but it does make an impression.

The wonderful thing about turds is they are yucky and smelly and no one wants to be around one - but soap and water fixes turds.

Real estate that has been mismanaged creates opportunities:

- It can almost always be bought at a higher capitalization rate (lower price) than "perfect" real estate, even when considering the additional investment required to bring it up to speed

- The cosmetic renovations "turds" require give an investor the opportunity to add disproportionate value to the property. for example skuffed up "ugly" walls can be painted with colors and trim that make the room more special than a "perfect" white box room that sells for top dollar.

- Sometimes the problems that make a property a "turd" require specialized knowledge or creativity that prevents competing investors from even participating in the opportunity.

One of my wisest teachers, Peter Fortunato taught me, "use what you've got to get what you need to get what you want". Looking for investments that you can craft into investments that meet your criteria instead of those that directly do so, will open many opportunities that you would otherwise never see.

Gravity of Neighborhoods

Over the past 6 months I have spent at least one week a month scouring the Mid West for specific neighborhoods to invest in.    I have been investing in real estate in one form or another for the past 30 years.  This is the first time I have amazing investment opportunities in single family homes.

In the course of driving through many neighborhoods in many cities I had an observation & insight that, for me, is quite useful.   Neighborhoods that consist of architecturally ornate homes seem destined to one of two extreme plights.   The fortunate ornate home neighborhoods retain high net worth owners and, at a very great cost, are maintained and often improved.  On the other hand, the architecturally ornate neighborhoods that lose their wealthy benefactors all seemed to have fallen to being or fast becoming slums.     The weight of gravity - i.e. the cost of maintaining those significantly ornate properties, is beyond their economic means.    And after gravity begins the process of pulling them down, the process is, I believe, irreversible.

What does this insight afford me in terms of making investment decisions?  First, if I find a property that "works" from an financial perspective in a gravity laden  neighborhood, I need to strongly consider whether I can maintain it moving forward, but more importantly can my neighbors maintain their properties.  If they can't, I will get sucked into the hole that depression will make.    Secondly, there are neighborhoods that have housing stock that is not highly ornate - homes that are far more practical from a maintenance and upkeep perspective.   All other things equal, I feel that they present a fundamentally much better investment venue.   

Wednesday, January 19, 2011

The 2 Best Predicators of Investment Success

If you could pick the best two predicators of an investment's success what would they be?

I would choose track record & incentives - give the right manager/promotor the right incentives.

Who is the right manager/promotor? Someone who has a proven track record in a specific niche investment arena and I trust after having met them. It is that simple.

What are the right incentives?

If you did compensate the promotor before the investment created profits, what incentives would you be giving that promotor?

An investment in which you pay fees, profits and costs from the initial investment (i.e. before the investment creates any profits) is called "front loading" ((

How much does a "front loaded" investment have to make just so the investor can break even?

It is my opinion, and I think just good common sense, that an investor should always evaluate:

1) How much front loading is built into an investment? Keep in mind that promotors use very "creative" and often very deceptive names and accounting methods to hide those front loaded fees. That is one of the biggest challenges of reading and digging through legalese laden information to even get to what the real fees are.

2) How exactly does the promotor get compensated? Taking a monthly percentage of managed funds does give the promotor the incentives to keep the investors happy over the long term but it provides an immediate incentive to sell more investments irrespective of performance.

3) What is the promotor's track record? If you can't get direct and substantiated answers to this question, what is that telling you?

An ideal investment would have a promotor that has a very strong proven track record and a investment structure that compensates subject to performance.

The Glass Ball - The Future of Real Estate

In 2005 I shut my real estate lending/investment company down.  Almost everyone told me I was crazy except for my Dad.  Real estate was "going through the roof."  It was the second time in my career I "pulled the plug" and was told I was nuts - years later my critics asked if I was prophet - how I knew the bubble was about to burst.

Am I a prophet?  Hardly.  It was extremely simple and easy to know.

Capitalization Rates aka "cap rates" are the single best measurement of both the value of a given investment as well as where we are in the investment cycle. It is a simple ratio that takes the Net Operating Income (NOI) i.e. the cash that a property produces and divides it by the investment in the property.  It has been called a measurement of "cash on cash return" - what return you would get if you purchased a property for cash.

Read more about capitalization rates:

What does this have to do with being able to see the future of where real estate prices are going?   All markets cycle.  They go up.  They go down.  They Go up.  They go down.  By looking at the relationship to interest rates and cap rates you can get a very good idea where you are at any given point in the cycle.   When interest rates are lower than capitalization rates, you are somewhere in the Fear/Buy zone.  People are afraid which makes them sell and it is a buyer's market.  When interest rates are higher than capitalization rates you are somewhere in the Greed/Sell zone.  People are over confident and the market doesn't warrent the over confidence - it is the time to sell.  How far they deviate tells you how far into the respective zone you are.  The further you are into either of those two zones the less stable prices are.  When prices drop so far that there is a tremendous "spread/profit" to be had by purchasing property, there will be a strong correction and prices will go up.  When prices are rise to the point that cap rates are significantly higher than what properties are yielding, there will be strong corrections to bring prices down.

Extremes are driven by either greed or fear.   Both create amazing opportunities.  When the market is in the "greed zone" it is an amazing opportunity to sell.  People are paying more than works economically and that is a very good time to "go to cash".  When the market is in the "fear zone" that is an incredible time to buy.  Opportunities to buy at high yields give an astute investor cash flow.  If one's investments are cash flowing they can wait for a long time (forever) for the market to eventually run its cycle, go into the greed zone and capitalize on the insanity that always eventually prevails.