In a reversal this week, Bruce Norris is the special guest this week. He is interviewed by Aaron Norris, his son and Vice President of the Norris Group. Bruce is the president and founder of the Norris Group and has been a real estate investor since 1980. During this time he has been involved in over 2,000 transactions. As an investor, builder, and/or hard money partner he is best known for his long-term market timing reports including The California Comeback 1997, The California Crash 2006, and he is the moderator for I Survived Real Estate. This is their award-winning show that has produced almost $350,000 since its inception in 2008.
Aaron said Bruce saved him a lot of money in the last decade. Aaron moved back from New York City in 2004, and Bruce told him to not buy anything. After he got out of debt and saved up his money for several years, he bought in 2011 at the bottom of the market in his neighborhood. He refinanced in late 2012, and it has gone up almost $100,000. Even when he was in New York Bruce snagged a property for him and held it for a while. He sold close to the peak, so Aaron came back with a chunk. He bought the house in 2011 for about half of what it was going for, and it was a new house they finished building in 2005. Bruce has done the same for a few people in the office. The scary part is imagining people having to make decisions based only on what you say.
Aaron asked if the current market feels like any of the other markets Bruce has experienced since he became a real estate investor. Bruce said it has not gotten here the same way, but it does feel like a full-blown comeback in the sense of the aggression of the price moves. This market has started this way rather than being ramped up to that point. Normally they ramp up, and there is a ramp-up period of statistics, job improvement, migration improvement, attitude adjustment. Everything goes in unison and dances along, then you have an explosion where we are all happy and all the news articles are positive. We have gone from 0 to 100 miles an hour, and it took six months. Aaron’s house went up $100 grand, which is a big percentage jump. A press release went out in December where Bruce predicted the 20% increase in the California median price. They got a little bit of flak for that online since people thought he was crazy, but it is also coming true much more quickly than people thought. Bruce was being conservative at the time, but it is interesting how quickly it has been happening.
The nice thing about looking at the charts they have is seeing how it stems from their own experience in the market. Bruce’s son Greg will sit down with him and show him what is happening in the market, and then they will buy a property and think they will have to buy it close to too high of a price. They think they will sell it in 4-6 months, and they end up selling it as is in 22 days and it ending up all cash. Bruce asked why this was happening, so they almost had to re-engineer and go backwards to see why it was happening. This was what was different. They normally had a sequence to a comeback that they breeched because of policies. This did not make it any less profitable; it only made it a surprise.
Aaron did some research before the show and looked at the timing reports Bruce had done since 1997. Right now he is currently working on his latest report California Comeback 2: Fast, Furious, and Dangerous. In 1997, Bruce wrote his first report at a time when everybody hated real estate. Aaron asked Bruce to share his story about how he got a platform to give this presentation. Bruce said one important person to him making this happen was Michael Carney at Cal Poly Pomona. He had his own real estate construction report, which had been around for literally decades. Bruce was doing all his research in college libraries, and he went to a company where you could have a hand-held printed copy of an appraisal. In an area were several reports from Michael’s company. At this time he had never met Dr. Carney yet, but he was able to access all his reports; and they were not only statistics but stories as well. He began reading them, and it was fantastic because it was like a history of California. He would read about what occurred in the ‘70s, and he realized the Japanese, for example, were just given permission to buy California real estate at this time. In essence, this was like inviting the hedge funds. This was extra demand and an impetus to price.
All these things played a role, but the original idea really came from the week that Aaron graduated. He bought him a car that cost $15.7 and a house two days later for $13.3. This was in 1995, and they had come up a market in 1989 that felt just like ’05. You could not do anything wrong, prices would always increase, and people were talking about a shortage of land. It is always the same story until it is not anymore. You go through that emotional high of 1989, and you get to the emotional basement at the end of 1996. The trick is if you are going to write a report that is of value, you must ignore the emotion, look at the statistics, and say we are now inevitably going the other direction.
The valuable part is calling it in advance. Bruce was glad they were saying things, although they did not get to produce a California Comeback document until they July. However, they have said things such as “real estate all in.” However, he was not saying it was going to move rapidly in price, but he did think it was a valid investment vehicle. Now that they have had price aggression, what is interesting is that when you a ’96, you have an emotional bottom and it does not feel like a good decision. It was just like how getting off in ’06 felt like an emotionally bad decision. You were having so much fun and almost did not want it to end, and you want to get just one more $100 grand out of it.
The danger is to let it all go back, and this is what happened to so many people. It took six months too long, and all of a sudden you were not going to sell when prices were declining rapidly. The replay of that is possible this time, and this is why the Comeback document really contains an exit strategy. Bruce does not think we will have time to write the exit strategy, but we are going to go up so fast to get mathematically done. The second interest rates change, this will be a big game shift. Bruce thinks we should really withhold that final chapter until the last hour of the day. Aaron warns people as they are marketing the report that it is for chart nerds only since there are some people who only want the end chapter and don’t care about the rest of his research. However, Bruce strategically gives them all the charts and sources, how he came to the conclusions, and then tells them to try to challenge what he has come up with in his research.
In the document being produced, the only chapter he does not have is the conclusion chapter because he has not seen all of the charts in one place. He cannot draw the conclusions until he looks at all the data. He has a good idea because he has done all the studies of the chapters. He thinks what makes the report special is that, first, there is no agenda. He is not trying to get somebody to do something because he tells them to do it and it is what he is doing. He likes sharing the methodology to where people can see how he does things step by step. Things have changed over time; and the things he thought were absolutely true can be trumped by policy. Aaron said it has been amazing how much has occurred and is still happening. This is why it is going to be interesting to see how much policy in place, Dodd-Frank that still has not been fully implemented, and the California Homeowner Bill of Rights. It is just layers.
The question then is how you know what will come next. Bruce said the uncertainty plays a role in people’s hesitation. Everybody’s opinion is that everything is coming back, and then you look at the number of subdivisions created in the first quarter. In Riverside in 2013, it was only 5. Normally what would be created would be 60, sometimes even 75-90. You are talking about making 5% of the subdivisions in a market where everyone is euphoric except for the people who have to take long-term risks. This is because of uncertainty. Is there going to be a Fannie, Freddie, an interest rate hike, will the Fed still participate, or will we have 20% down payments. There are still so many unknowns, but the bottom line is that when you buy a house right now you are locking in an interest rate that is at a ridiculous number, even going up a certain percentage.
You are seeing the public saying that it makes sense if they can only get something. Aaron said he is surprised the rhetoric has not changed yet since you have a lot of buyers who are completely pushed out because they cannot afford to compete with hedge funds and investors who can do all-cash or investors who have cash on hand. This is why some of the subprime programs existed in the beginning. Aaron is just surprised that the California Association of Realtors and the Center for Responsible Lending that they have pushed so hard onto the other side that you wonder what is going to be available for people in the lower income categories to even get into the market. Bruce, being a free market Republican, still says this is one case that feels like an IPO where the insiders get something for one price while the people on the outside get it for another. Bruce feels sorry for the person who is 21 years old, has to get an FHA loan, fights to get a property, and is paying $50 grand more now than he would have 5 months ago since he did not get an offer accepted.
There are many people making decisions. We have made decisions not to sell to the hedge funds. This takes private people saying they want some owner-occupant to buy the house. An article came out last week about the Carrington hedge funds exiting the market. They are managing 5,000 properties for Fannie, Freddie, Citi Bank, and all these properties are being turned into rentals. He wonders what the government is going to do with these, whether they will start releasing them or not. Aaron wondered if there was a deadline put on them, to which Bruce replied he does not think so.
However, in talking to Rick Sharga he thinks it is some years down the road and they really wanted to have that government pile of properties not be competition for the private sector. What then happened was we just have no inventory. In a way, it has been a very smart move since they are not going to lose a lot of money on those properties. As prices increase, they are going to have a lot less problem loans since the people who are upside down will have equity. Whoever thought of this and if it is really how they planned it, then it has been pretty genius. It has happened in unison with the buyers coming off the sidelines who were foreclosed on in 2008 and 2009. He doubts that they calculated the historic number of people they foreclosed on back then coming back and wanting back in. It was not genius foreclosing on so many people since that really set up the downturn. Now, you have the boomerang of those people being excess buyers on top of really strong demand anyway.
It will be really interesting to see if they decide to pull out and use the other hedge funds to follow suit. Bruce thinks if we put it in perspective, what is really important is that you have other groups who have shown up before who make up a certain percentage of the market. Sean O’Toole wrote a report that concentrates on hedge funds. They talked about where they bought, what price range they bought, how many they bought. All of a sudden you can put this in perspective and say you will move 420,000 properties in California of which they might buy 5%. You look and see that the number is not so humongous and think they may not have the same game plan or exit at the same time. Even if they did, Bruce is not impressed with their timing model.
Bruce was buying back in 2008 and 2009, and they bought in 2011 and 2012. He paid a lot less than they did since he was intending to hold. Bruce was not sure their exit plan was any better than their entrance plan. The company like Carrington decided to leave because the cap rate probably does not work to rent it and they just missed one of the greatest comebacks as far as upside price, and it is going to happen fairly quickly. At the end of the day, if they wanted a deal it would have been on the upside in price. However, they probably could not look at the model and say it cash flows. This is why he has never had them as a participant.
Aaron said it will be interesting to see the people coming out from underwater and how they feel about what they own. Will they stay put and be happy, or will they be eager to get out. Bruce thinks they have been through a lot of grief, and he does not know if you will be able to sell your property and replace it right away. He does not know if you will be able to net it enough to have enough of a down payment. He also does not know if they will want to go from owning to renting. If you stuck it out all the way through the downturn, then why would you become a renter if you have been current all this time? Logically it does not make sense and looks like things are going to be fun again. You can see them maybe wanting to sell and getting to another location, but they want to own again and have to wait until they have the down payment. This would make more sense.
Aaron said the timing report is around 250 pages and over 400 charts. In the back end they allow people to access all the reports. However, what does not make it into the report is even more interesting. The question is what the process is and how you decide what goes in and how much gets left out. You do have to make the cut, and what Bruce literally does is takes the table of contents for all past reports. He could cover up to 45 t0 50 topics. In a day alone he probably has 20, and other days he has covered two days. The California Crash was a very important document because he had to figure out the ending. The research papers show he does not have an agenda and use something that has a really cool title. Instead, he looks at the document and all the data and sees what is appropriate. Now that they have twenty chapters in a day and have a very educated audience, they know a lot of the process and has the other documents.
On top of each chapter is the question of why a particular chapter would be making the cut. This is important since this time there are now some chapters that are new and discuss the Fed. When you look at the Fed, they are going to be very instrumental in how this ends and whether it will end nicely or ugly. The odd thing is they have an agenda that is very different from California real estate. They have a national agenda, and the jobs reports have been disappointing. Our unemployment rate has gone down, and the only reason for this is people have become non-looking participants and have given up. They do not have a job, and they are still on unemployment food stamps.
Bruce had to look all the way back to 1970 where the Fed was very involved and look at the volatility of their changes from 1970 all the way to the present. He then divided this up into how many times a year they could change interest rates. When he taught, Bruce asked how many people had been in the business before 2007. It was not a large percentage and was around half and half. If you look up how many times the Fed could change interest rates a year and go back from recent experience, you see that they never change. You then find out they can change it 21 times. This is when you get shocked.
When Bruce and Sean O’Toole went to Washington D.C. to do research on interest rates and found out we were at the lowest interest rates in our life, to Bruce this meant a progression back to normal would be faster than any pace we have seen in our life. When the Fed decides to move, it is not going to be by an 1/8th of a point. Your mortgage rate could go from three to five in lightning speed. What is amazing in some markets is that you are still going to be paying less than rent. With the last chapter, we will literally play with the math and say that if we get to a median price where it is a little over $400, and we get to $500 grand and start handing it a 5% mortgage rate instead of 3 ½, you will bring about the end of the price rise more quickly and it will be safer.
His fear is you not doing it since nationally it does not look like you can raise interest rates yet and you still have to buy the paper you are buying to keep interest rates artificially down. Things do not get better nationally until California has a ridiculous median price on the backs of the interest rate. The problem is then really bad since we are isolated and have probably blown up in price. National policy will then do whatever it has to do while we sit here. Bruce agrees that it is a lot of fun, and we will ride it up until the point where we see that everything beyond this is mathematically all baloney. If it goes up anymore, he really does not want to participate and it feels like we are rolling the dice instead of investing. With all the proof sets we have, he feels like we can look at a number of different categories. Even these we have refined more and added new ones. This thing has always evolved, and he has always been surprised at the ending himself where he looks and says he would not have seen that happening. This adds another proof to it where you feel real comfortable.
The biggest thing about it is that it has such a long history and has availed so much information. Michael Carney has allowed Bruce to go into his archives that go all the way back to the 60s, and he has one copy of something he lets Bruce see. Bruce has been very privileged to look at everything Michael has and be able to put the history together. Now, there is 43 years of data; and what it boils down to is you taking a price chart. Whatever your assumption is, you can lay it next to the chart. If you think interest rates dictate price, then put the median price attached to that interest rate and see how much of a shock it is. The problem is that it is not a standalone answer.
You cannot say that interest rates went up and prices went up, so when interest rates go up prices increase. This is not always true, and neither is it the case with interest rates always decreasing. You then have to realize that interest rates are important in the way they affect another chart. You then see that affordability is really an important chart unless lending policies trumpet and let people go in buying who should not. The number that should have ended the run in price did not, and we went up 25% more from $500 to $600 on the backs of lending policies that have never existed. You then see that the way to make a comeback is employment, unless you pretend there is nothing for sale. Now your policies are saying to sell Fannie and Freddie, make partnership deals with loan approvals; and all of a sudden what should have been for sale is not. This is the hardest thing about predicting now in that it is intertwined in the next government policy.
Aaron asked if they were doing the moodometer again this year. Bruce said absolutely since the moodometer is not just statistics, but rather we count on people doing the same thing over and over again. Everybody does it, including the news media. One of the chapters is titled The Media Gets an Assist. This is based off the basketball term where players feed the ball. In this case, the ball is fed to the public, and you go from ominous pictures of homes floating underwater to 2005 where the house is being hugged. These are all emotional things and all play to your head as being a very comfortable thing. This is what the media does. They join the price aggression with more aggressive happy pictures. When this happens, people get off the dime and buy something. The volume of sales right now is down as far as it is. It is okay, but there is nothing for sale. We are getting price increases, but we could go up in volume a lot more. He is not worried about the hedge funds leaving since they will when it is mathematically not good for them. They will then be replaced with other people.
The only place it could really come out would be with the equity seller, and this person will be an equity buyer 85% of the time. You would have a temporary rise, and then they would buy another one.
Tune in next week as Aaron continues his discussion with Bruce Norris.
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