Monthly Archives: October 2007

Great Places To Live Aren’t Always Great Places To Invest — Take San Diego — Please

I’m allowed to talk about San Diego. I’ve lived here for over 40 years. Went to school here. I’ve raised two kids, who still have many of the friends they had in elementary school. I love living here, and frankly, haven’t seen anywhere I’d rather live. I am a San Diegan. Everyone says they live in Paradise, but when compared to San Diego?

Get real. la fonda balcony view

We’re polite about it, but we know in our heartswe really live in Paradise. :) Incredible beaches to the west — great getaways in Mexico to the south — the desert to the east, along with some gorgeous mountain towns — and north? We don’t talk much about that direction. Is anyone bragging lately about their cool trip to L.A. recently? Right, didn’t think so. :)

Our county is a testament to how long we’ve been around. Newer areas abound in the north and south. Our Gaslamp area downtown is now used by cities around the country as an example of what’s possible. The Coronado Bridge is world famous, as is the Hotel Del. We have homes designed and built by Sears, and homes built for the mega-wealthy which are worth $20Mil +.

balboa park

How ’bout Balboa Park with all its incredible museums and art? Or the best zoo in America? Or the Wild Animal Park? Or Sea World? Anyone been to our bay lately?

Those reading this as San Diego residents are saying (many loudly I’m sure) I’ve not even done justice to summarizing why it’s so cool living here — and they’re right.

Though we take it for granted, much of our everyday lives are experienced surrounded by scenes found in vacation postcards. There are so many spectacular views in our town, it’s a constant challenge not to be smug about it. We’re so spoiled here.

Our weather is fodder for Jay Leno’s opening monologue. I remember one night, when he was making fun of TV weathermen here. He said, “Tomorrow, we can expect 72? with light offshore breezes and clear blue skies with cotton candy clouds. Tonight — mostly dark. Back to you Mark!” :)

My son and I both live in what’s known here as the East County — western side. I’m 20 minutes from breakfast on the Pacific Beach strand with a view of the beach and the waves escorting surfers in a never ending cycle of perfection.

Our drive to the office is 15 minutes if we hit traffic — on the days our presence there is required. :)

sdsu trolley stop

My daughter also lives in the same part of town, and is currently finishing up her degree. (3 semesters to go!) She walks five minutes to the trolley, which drops her off inside the campus.

Don’t think I’m saying we don’t have our problems. Unless you’ve been living in a cave the last couple weeks, you know Paradise here gets, ah, interrupted from time to time. Putting a positive spin on our recent wildfire(s) experience — when Paradise is threatened, it allows us to realize what we really have here.

Bottom line? For San Diegans — Life Is Good.

In the last few years though, part of our Paradise has been permanently deleted.

Invest in San Diego income property the last 40 years? You’ve done very well. Up times, down times, yer still way ahead of the game. The first fourplex I ever sold was for under $100,000. A client today is waiting for escrow to close on his fourplex — a few bucks under $1 Million!

What sane investor, whether pursuing capital growth or reliable cash flow, pays a million bucks for four units? Look, if the rents were $2,500 a unit, it’d work. They’re just over half that. I won’t bother to do the numbers. Suffice to say, 35% down kinda defeats the whole growth agenda thing, know what I mean, Verne?

Cash flow? That down payment gets you $0 pre-tax cash flow.

Ask the seller of the million dollar fourplex if he’d buy his own fourplex for 20% less than his buyer has agreed to pay. He’ll laugh out loud, as long as the buyer isn’t in the room. :)

Wanna buy a rental house in San Diego? That idea leaves funny, and goes directly to sad. 50% down brings you a break even cash flow position. Pretty enticing, eh?

If you’re sitting on a lot of equity in San Diego, or own some income property here, you’re nodding your head in agreement.

“There’s a whole ‘nother world out there”, as Great-Grandpa used to say.

That San Diego duplex you’ve owned since 1999? What’s it worth today, $500-750,000 or so?

Would you even contemplate buying it today for 80% of today’s value?

I thought not. stop sign

You’re lookin’ at the blue skies of San Diego, and not paying attention to the sign telling you to stop investing here. It just doesn’t make sense no matter how convoluted the logic gets.

I have a solution for you — and you do need a solution, whether you realize the problem or not. :)

If you’re investing for capital growth, or cash flow — San Diego is your problem.

Your current plan calls for you to keep that small SD rental property?

Growth? In the next 10 years you will have cost yourself at least $500,000 by staying here.

Cash flow? You can’t imagine the income you’re literally throwing away by not trading outa here. If you currently have $250-500,000 in net equity, are you cash flowing $25-50,000 yearly?

Of course you’re not. In fact, you’re not even coming within shouting distance of that kind of cash flow.

Do you want to?

Call me — I know how, and it ain’t rocket science. :)

What Separates One Great Region From The Others?

It’s never just one thing, it’s a long list of tasty morsels, like a great meal. Here’s my recipe for a great growth region stewlamb stew — my real estate investor’s wish list.

Before you we start mixing the ingredients, there’s an assumption of long term movement in prices. This doesn’t mean there won’t be downward blips. More simply put, it means down the road, prices will be up on the chart.

Solid job market — diversified — and growing.

Low vacancy rate, coupled with growing tenant demand, and dwindling supply. (One can always hope.) :)

Rent levels allowing for prudent leverage, while ensuring the investments will be self-sustaining.

A predictably increasing population — with a median age younger, rather than older, if possible. university of texas

At least one university, but the more the merrier. I believe there’s a direct correlation between median educational level and a region’s general quality of life. Higher education almost always equals higher median income.

Several different communities within the region — with their own distinct, unique identity.

A climate without extremes. We an stand hot, but not 118?. We understand winter is cold, but let’s try to stay above 0? OK? Spring and fall are pretty cool everywhere — a lot better in some places.

We really like areas with, relatively speaking, very low crime. If our 20-something daughters can walk the streets safely at night, we’re good to go.

golf course

Outdoor recreation opportunities. Golf courses — hiking & camping — water sports — you get the idea. Several outdoor recreational choices should be within 20-60 minutes drive time.

Culturally, there would ideally be great nightlife everywhere. Theater, clubs, fine restaurants of all kinds, concerts in large and intimate venues, standup comedy, and all the rest you and I would love to have available.

longhorn stadium

Sports — It never hurts to have at least one local team to root for. As long as the fans are into it big time, it’s a major plus. Sports teams tend to become a common denominator shared by diverse groups.

Although not required for success, a region known for its friendly and welcoming atmosphere is better than the alternative. :)

It would bring to mind San Diego — around the mid-1980′s or so — yeah, that’s the ticket. :)

From what I’ve seen — first hand — this region exists — and they call it Austin.

Don’t miss it — the current window won’t last forever.


Loan Terms — Appreciaton — Capital Growth Is What Matters Most

At this very moment, somewhere in the country, there’s an investor making a decision between two or more properties, based almost, if not entirely upon what they think the appreciation rate will be. If all other factors are equal, this isn’t a problem usually.

However, if the financing is fixed rate in one area, and neg/am in another — well, you have much more to consider. Things aren’t necessarily how they seem — even if you’ve done all the numbers to your satisfaction and checked ‘em thrice, you could be making a common mistake.

Neg/am loans are part of an investor’s tool bag. They’re not the best thing since sliced bread, nor are they Satan’s loans. They’re to be used when the circumstances are right, and that tool is called for. In growth areas like San Diego for example, when prices were going up like a NASA launch, they were the perfect way to afford twice the property.

Twice the property multiplied by double digit appreciation rates = a pretty cool upward modification of yer net worth.

Those days are over for awhile — and nobody knows for how long. Betting on high appreciation rates for the foreseeable future is, to use a real estate technical term — stoopid. :)

Back to choosing between two properties in two areas with different financing.

Both properties will be acquired using 10% down payments — are in growth regions — with great locations. Operating expenses of 35% will be used for each.
easter bunny

Note: This is an illustration. You surely won’t infer from it I’m predicting there will be regions appreciating at 10% yearly for the next five consecutive years. I believe that’s plausible — just like it’s plausible the colored eggs my kids used to find on Easter, were hidden by a big bunny.

Choice #1 — Appreciation: 10% annually for the next five years. Price: $225,000 Rent: $1,450 monthly

Choice #2 — Appreciaton: 5% annually for the next five eyars. Price: $225,000
Rent: $2,200 monthly.

#1 requires a much lower loan payment, because the rent just won’t cut it with 10% down — if our investor insists on putting 10% down. He either uses a neg/am loan, or has some pretty significant negative cash flow, or walks away. His net operating income just won’t service a fixed market interest rate.

#2 can support a 7% interest only loan, (including added mortgage insurance) with its net operating income. It will cash flow roughly $100 monthly, or as I tell my clients — let’s just call it a break even and call it a day.

Neg/am minimum loan payments are based on what I’ve always called their cartoon rate. That rate these days, for an investor non-owner occupied property, will run around 2-4%. interest rateHowever, the real or indexed rate, the rate you’re really paying, is 7.75%.

Let’s use one of the currently more popular loans. Cartoon rate = 2.375% Real (indexed) rate = 7.75%.

That’s a 5.375% spread. What does that mean to the investor you ask? In dollars, it means the first 12 months will result in the following.

Remember, the price was $225,000 with a 90% loan — $202,500.

Now take the difference between the cartoon rate and the indexed rate (5.375%) and multiply it by the original loan amount. #1 will have an increased loan balance of roughly $10,900 after the first year. Based on the purchase price of $225,000 — the appreciation rate that year needed to be 5% for the investor to be ahead by less than $500.

In other words, his capital growth rate doesn’t even begin, until his investment property appreciates –above the 5% rate. That’s fine if, for whatever reason, you believe the property will rise in value sufficiently. There are many areas of the country, currently moribund, that will resume their growth as their particular region emerges from this correction.

Neg/am loans will still be of value in those regions — but only if the investor believes in its future growth.

In 1996, San Diego had been sickly for almost five full years. It was, literally the worst stretch I’d seen in my career, hands down. Still is by a long shot. chuck e cheeseThe current correction in comparison? A 1st grader’s birthday party at Chuck E. Cheese. Really.

I had faith in this region’s fundamentals. Investors, in my judgment, could make use of neg/am loans then, because the fundamentals said supply/demand was on our side, along with the job picture, and several other factors. This opinion turned out to be correct.

I don’t think that about San Diego any longer, nor do I expect to ever again.

That said, there are many regions for which I harbor expectations of growth, just as I did a decade ago for San Diego.

Now #2.

It breaks even or trickles a little cash flow. The loan is interest only, so nothing’s happening to the loan balance — either way. (Take deep breaths Chris, it’ll all come out well in the end.) :)

It appreciates at half the rate of #1. Yet, the capital growth rate of our investor is 50% the first year. After five years, his property value would be about $287,000 or so. If they decided to execute a tax deferred (1031) exchange at that point, their net proceeds would be just less than $62,000.

Soooooo, in five years, if the investor chose #2, his capital growth rate for the five year holding period would have been, give or take, over 22% annually — at only a 5% yearly appreciation. This doesn’t count cash flow or tax savings through depreciation, which of course moves that figure up.

scale time and money

All this to demonstrate this: Investors chasing appreciation, need to seriously weigh carefully whether the neg/am gamble is worth it. Time and money must always remain central to any investment analysis. In order to choose #1 I would have to believe the appreciation figures, over the long haul, would be impressive. Of course, growth regions aren’t known as growth regions because they have poor fundamentals, right?

You better hope so.

When, back in the day, I used to teach cash flow analysis, and all that goes with it, students would ask me how I decided which property was better over time. That’s always been easier than you might imagine.

Our policy is simple: If the analysis is fairly even, pick the safest. How hard was that?

If the decision isn’t which one, but whether the client should do something, or nothing, we view it this way: If the analysis shows us the move will yield only marginally beneficial results, we tell them to pass. The policy is to give a go signal only if it’s truly a no-brainer.

Marginal moves just don’t make sense.

As enticing as some investments can be, there are times when solid analysis shows them to be mediocre — or marginal. Learning to discern what area to choose, isn’t always about the highest appreciation rate, or the lowest loan payment.

If your agenda is growth, paying attention to your capital growth rate is numero uno on any list you wanna make. I realize this sounds the same as saying grass is green, and the sky is blue. The difference is, you don’t confuse grass and sky.

Investors seem to think, at least sometimes, that appreciation and capital growth are synonymous.

Big mistake. Appreciation does not equal capital growth — contrary to popular opinion.

Investors paying attention to appreciation to the detriment of capital growth — are destined to learn what really matters.

It’s a lesson you don’t want to learn the hard way.

Cash Flow Makin’ a Chump Outa You? Trading Tomorrow’s $20 For Today’s Chump Change? Stop It!

This is one of my all time favorite posts. The principle espoused is maybe the most misunderstood in all of investing — especially when it comes to real estate. Investors, are a little like baseball pitchers. They fall in love with cash flow, much the same as pitchers can fall in love with a particular pitch. There are times to throw the 98 MPH fastball, and a time to throw anything but a fastball.

It’s all about timing, not surprisingly, much the same as real estate investing.

The other reason I’m reposting this, is I’ve kinda hit the wall, what with all the goings on the last week or so. Nothing a good night’s sleep won’t solve, but especially after not writing for a night. :) I’ll be back in the saddle tomorrow, as it doesn’t take much for me to power back up.

Remember, this post is one of my favorites for a reason. Falling in love with cash flow early, can make your retirement’s cash flow a major disappointment. For Boomers especially, cuz we’re the generation closest to retirement these days, disappointing retirement cash flow is not a happy thought. Duh. :)

I’m goin’ to bed. :) Hope you get a little something out of this.

Today I’m addressing the investor interested in growing their net worth through real estate. I’m not talking about those who are investing solely for the benefit of monthly cash flow. Furthermore, there is much room for folks to disagree with what they think the #1 most abused principle might be. I think it’s this one. I’m sure it’s a frequent hot topic around the family fireplace in your home, right?. :)

Regardless of the passage of time, one of the constants remaining firmly implanted in many investors’ mindset is the idea that an investment property without abundant cash flow is to be avoided at all costs. The problem inherent with that school of thought is rooted in a few related principles, plus the difference between today’s realities and Grandpa’s memory of the way ‘it used to be’ — which in reality means to Grandpa, ‘the way it should be’.

The Principle in play: To the extent you go for growth you retard cash flow — and vice versa.

A very simple way of saying pick one. You want more cash flow in a particular region, you must begin with a larger equity chump change
position. If you wish for your capital growth velocity to be greater, you must, to the extent prudent, increase leverage. Also, put enough oversized down payments into several properties, and before you know it, the guy who isn’t chasing chump change cash flow has bought a couple extra properties — using the same capital amount you did.

Notice how this isn’t rocket science. As a matter of fact, a principle of Purposeful Planning calls for the aggressive avoidance of growth inhibiting behaviors when capital growth is your investment goal. :)

Before we continue with our regularly scheduled post, a word from one of our loyal sponsors.

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Please don’t allow me to give the wrong impression here. The ‘there must be cash flow school‘ is just as valid as any new approach or thinking. After all, who would argue against having cash flow, if that’s all you were talking about, right? An investor won’t go wrong limiting themselves to buying only cash flow properties.

They will however limit the size of their menu, eating cakeas properties offering both leverage and cash flow, (regions for that matter) are few and far between. Consequently, those who insist on having their cake and eating too, will find themselves spending the majority of their time looking, instead of doing. That’s fine and dandy if you don’t have much capital. If you’re trying to spend a couple hundred grand using low downs while demanding cash flow — hunker down good buddy, cuz yer in fer a buncha lookin’. :)

Your also in for a less rewarding retirement.

This wasn’t as nearly universally true a short while back.

For example: Clients in San Diego were consistently using great leverage while enjoying a modest cash flow up until as late as 2002-03. Up to 2000 it was possible in most of the area. Now? In San Diego using leverage to a break-even is anything bought with less than a 30% down payment. This is why I’m telling SD income property owners to move their equities to lower priced growth regions. They’ll acquire more property with far superior leverage, while gaining more actual capital growth dollars — but with the exact same net equity. There’s simply no argument, objectively speaking, for staying in San Diego with our real estate investment capital.

Here’s the point.

There are enough growth regions around the country that allow for decent leverage. There are precious few that allow that leverage and reward you with cash flow. If you’re an investor wanting growth you’re not concerned with cash flow.


Let’s say you’re a married couple in your late 30′s to late 40′s, tahiti sunsetand earning a total of $75,000 yearly. Unless you’re living up to your eyeballs, (which means you haven’t managed to save any real money anyway) what do you care about cash flow? You need to grow your net worth as big and as quickly and as prudently (capital P) as you can. Don’t lose sight of your main goal and keep your eyes on the prize: Retirement income.

What is cash flow?

All cash flow, in the final analysis, is simply a yield on capital invested. If two investors put a million and two million bucks respectively into an investment upon retirement, yielding 8% — they both make 8%. The difference, of course, is the guy with twice as much capital is now sitting in retirement with twice as much monthly income. Duh. So by stressing over cash flow when your main goal is, or at least should be, growth, you’ve sacrificed future retirement income. You want to be the guy with the two mil, right? Right.

Ah, now I have your attention. :)

The lesson is to grow your net worth like crazy — then just before and in anticipation of retirement — convert your energy to obtaining cash flow — yeah, like crazy.

Let’s get this boiled down to where we all live — dollars in our Levis.

Over the long haul — I’ve seen investors literally cost themselves from $1-3,000,000 in net worth by making just this kind of mistake. It’s not that hard — when your mistake is compounded and repeated over a couple decades. Let’s take the midpoint — $1,500,000. At just a 6% yield — chasing cash flow to the extent you’ve consistently retarded your capital growth — your retirement income has been reduced — forever — by $90,000 a year. What?!! Yep — $90,000 every year. And you lost it because you were chasing chump change during the biggest earning years of your life.

Imagine the guy next door getting to live on almost a million bucks more over his first decade of retirement — just because he didn’t chase chump change cash flow while he was earning well over what he needed to live very comfortably.

The only benefit I’ve ever scene from a growth client chasing cash flow, is their ability to brag about it at their neighbor’s backyard BBQ. :)

They won’t be bragging when it comes to adding up their retirement cash flow — and isn’t retirement when they really wanted needed it?

Yeah, I thought so too.

My Buddy Brian Brady At The ‘Q’ — Already On the Move to A Different Neighborhood

Brian does my San Diego loans, my Texas loans, and is about to come to the rescue on a couple loans in Boise. The only business he’s conducting now though, is monkey business.

Yesterday afternoon he got outa Dodge, which in his case was Solana Beach. He doesn’t have a clue about the status of his home. And in a phone call we just concluded, he said he wasn’t concerned either way. Wow.

brian brady

He’s open for whatever comes his way, including losing his home, and relocating his family elsewhere in San Diego. That’s why I like Brian so much — we think so much alike.

He got up early this morning, having spent the night in the Qualcom Stadium (hence, the ‘Q’) parking lot. Wanting (needing?) a change of scenery, he headed into the stadium, and BSed his way past a couple of guards, and into one of the luxury boxes. Having acquired a nice hot cup of coffee from the folks up there, who by now accepted him totally, he went to the outside portion of the box, sat down, and enjoyed an hour or so of quiet reflection, while enjoying the view down to the field.

My kinda guy.

Compared to what a couple mutual friends just endured, the sudden and tragic loss of a young man in a traffic accident, this makes the potential loss of property, even your home, seem merely irritating by comparison. In a phone call with these friends, this is exactly what Brian talked about with our friend — who lost the above mentioned young man just a short couple weeks ago.

Brian also said he’s moving what he laughingly refers to as his ‘house’, a kinda sorta tent. It’s missing about half a dozen parts, and looks, he says, like a scene from a Hooverville camp in 1930′s. Seems the parking lot has already developed different ‘neighborhoods’.

He’s moving his house over to the guys with all the college alumni stickers — on their RV’s. As a Villanova grad he’ll fit right in. As he might say, “Hey, I are a alumni”. :) He may even come upon some neighbors or business buddies. I half expect him to be eating a perfectly made BBQed cheeseburger for lunch — while explaining loan programs to a new borrower. :)

Perspective — Values — Spirit — Situational Awareness

Quintessential Brian.

Again — Thanks for your prayers, and keep ‘em coming. This ain’t over yet — not by a long shot.