Bruce Norris is joined this week by Rick Solis. Rick wears a lot of hats. He is an investor, an appraiser, hard money lender, a landlord, and on occasion, he puts on his teacher’s hat.
Bruce asked what Rick’s least favorite thing is out of everything that was just mentioned he did. Rick answered that it was being an appraiser, which surprised Bruce. Rick said he does this to pay the bills, but when the other things give off enough cash flow he usually does not do the appraisal. Rick said he stopped doing appraisals from 2004-2008. In the next stretch after things mature, he may be able to exit the appraisal definition and possibly even the landlord definition. Rick said he probably dislikes the landlord duty even more than the appraisal. The appraisals are a challenge, and he used to enjoy them a lot more before 2006.
Bruce asked what has changed and if this change has continued into today. Rick said the main changes are that the lenders are so skittish now that they are back in their 2008/2009 mentality. The requirements for the appraisal are a lot more time-consuming, and it seems that no matter what they get they are never satisfied. Rick used to spend four hours on an appraisal report, give them 3-4 comps, and everybody was satisfied. Now he spends close to 7-8 hours on way more comparables, documentation, and photographs. Despite all this, they are still not excited about it and want more.
Bruce wondered if there was a review process that could trump his appraisal pretty easily. Rick was actually talking with an underwriter about this since he wanted to find out, and she said that on every transaction they do they get an automated appraisal done on the computer. These are similar to what Zillow does, although a little better quality. They get to double-check the appraisals, and if there is too much of a disparity between the computer-generated report and the appraisal report, then they order a review appraisal. A lot of times if the first appraisal going in is not extremely strong with 9 or 12 comps, then a lot of the time the review appraisal will come in low and squash the deal. If the review appraiser comes in low, he must be right. Rick said this is not just the case with the review appraiser, but it is also the lowest appraiser in the transaction who is right. If they have multiple appraisals and a review appraiser, the lowest person wins.
This is not the case with the AVM (automatic appraisals) since these are double-checked. However, with the AVM there are also comparables with which the underwriters will review and question them. This is a huge red flag. Bruce wondered if they are mostly concerned about the possibility of them buying back loans if they go into default. Rick actually asked his underwriter about this also; and what she said was after the loan ends up at its final destination, at various times throughout that transaction they will also pull a computerized AVM appraisal. At any point during that time if there are issues, then it does come back on the original lender and appraiser. She said this is not as big a concern for them right now because property values are increasing. This means the AVMs 2-3 months from now will be higher than the AVMs today. It is not as much of an issue now, but in 2008-2011 it was an issue.
Bruce said he would imagine prices going up is going to start affecting a lender’s relaxing standards. Rick said this was what occurred last time. Bruce said it has also happened every time he is aware of, but this time we almost have the only lenders available are Fannie, Freddie, and FHA. Bruce talked to another gentleman when he was trying to understand the ability for an FHA borrower to be qualified. He has a company that is stricter than some other companies. Even though they work with all FHA loans, they have a source where they go to where that company does loans that others won’t do. This is driven by the fear that they may have to buy back the loan, not that FHA would say no to the loan. It is all about how many of them they are going to have to hold for the duration of the loan. Enough of those buybacks will put a small company out of business. Their credit line is being used up solely on existing loans instead of collecting points.
When you have price increases, it seems like that solves most of our problems. Bruce asked Rick what he is seeing as far as price movement and if it is more uneven than normal. When he is appraising properties in a market before it is moving up, it seems like it floats most boats at the same time. Bruce wondered if this is happening or if things are skewed. Rick does not do a lot of the high-end things, but on the low side it is all moving up and moving up fairly rapidly to even 3% a month. In some areas he is even seeing huge shifts. Moreno Valley just did one, and the closed sales are at 175, and they all closed. Everything in escrow was around $10-$15 grand higher than that, and they all went into escrow relatively quickly. This makes Rick think they are going to close fairly close to the listing price. The few active listings that are available are even way higher than that at $200,000+. He is not even talking about 2,000 square feet anymore, but rather 1300-1500 square feet. The active listings are literally close to 20% higher than the ones that closed in March.
At the last bootcamp where Rick helped out, Bruce happened to pull Moreno Valley $150 and under. In, for example, the thirty-day period there was 90 closings in that price range, there were 130 pending and 12 available listings. This is less than a week’s inventory. Bruce does not know how many of these pending sales are going to close, but when you have 12 available listings then you are going to start moving to the next available price range, $175-$200, pretty easily. The 12 all seem like they are much higher than everything else, and they are just either waiting for the market to catch up to what they want or are waiting for somebody to get so desperate that they are going to pay it. The other thing strange about one done in Moreno Valley was that out of the six comparables, four of them were cash sales all at high end values. It was worth $175, and they were paying $175 in cash.
Bruce asked Rick if he happened to notice which investors were local and which were wearing a hedge fund hat. Rick said he did not, although Bruce thought there would have been some of each. However, Bruce thinks the majority of them are being bought by private people as opposed to hedge funds. Rick worked out some comparables, one in Torrance, the second an individual out of Arizona, and the third a private family out of Temple City. What is the most interesting is that these are all far away and not even local.
When Rick says he is required to have 9-12 comps, Bruce wondered if this is commonly available at this point. Rick said he is actually not required to have this many; but they are only required to have four or five. The nine comps he uses for comparables allow the appraisal goes through the transaction with no issues and nobody comes back to him. There is no review appraiser that is going to put that level of effort into smashing the appraisal or cutting the value. You can usually get by with 6, but if there is any question, it is a top of the market sale, and you are having trouble justifying the transaction, then he will put in a couple additional pending sales. He can then document the ones that went into escrow in a week, the listing prices, how close they are. He will then go the extra mile, which costs an extra hour or two with each transaction to make sure the appraisal does not have any issues down the road. If he does not do this, then there is a good chance the people will come back at him and make him spend the extra hour or two anyway.
Bruce asked Rick if he sees a lot of price movement in Moreno Valley, specifically $200,000 and under, then is this true for Moreno Valley at $400,000. Rick said no, and it seems like $200,000 is the cutoff right now. However, it probably will not be the cutoff by the end of the summer. Bruce said something interesting they run across a lot in the boot camps is that you have a 1500 square foot house selling for $200 grand and a 2200 square foot house selling for $230. All of a sudden, you end up asking how much the extra square footage is worth. It usually comes down to $20-$30 a foot. Rick said he has seen this many times, especially in all of the low income, lower-priced areas. The bigger houses usually price around $230; but if you want an even bigger house that is around 5-6,000 square feet larger, then it may go up $10-$15 grand.
The other possibility is getting the standard home where the more the market is willing to buy in that area, the less you get back. Bruce does not remember this holding true in years where you really had established bull runs. In the years 2003-2005, it seemed the square footage was bonused a lot larger. Rick said this is supposedly true in the years 2003-2005; but in going back to approximately 1989, in most of those years they were either gradually dropping or flat. During those timeframes, square footage is not worth as much. Rick said that during the boom times people are willing to pay a lot more.
Bruce thinks the next price range that will have that experience will be the bigger homes and that investors will move to some of that inventory. It would not be a bad plan to loan up on everything now while you do not have to pay a whole lot extra. You could then get a premium for it 2-3 years from now. The only drawback is that it costs a lot of refloor and repaint it every time a tenant moves out. This is the downside of the bigger properties.
It will be interesting to see what builders end up building this time. The rumor was they were going to build a scaled-down house, but he doubts it. Rick thinks there is a huge demand for things that are below 2,000 square feet from 1200-2,000. He says the land, permit fees, and everything the government adds on is so expensive that they really cannot build a 1400 square foot house and make it work. However, there is huge demand for this if they can. The profit at the end of the day is what they are going to look at and ask why they would build a 1300 square foot house when they can build a 3,000 square-foot house. The lot with all the permits and everything costs the same $150 grand for them, whether it is a large house or small. You can see that this will probably not change if they can sell it.
What it will do is delay the timeframe for them to be able to start it. You cannot pencil these homes, yet as far as construction costs you are only getting $20-$30 a foot or less. For the extra 1500 square feet it is hard to build this. This is kind of a shame since there is a huge demand, especially for the 55+ crowd, for a 1-story house or condo that is less than 1800 square feet. When that type of inventory hits in an area where a lot of that type of borrower wants to live, they go on a huge premium. This is especially true if it is a 1-story condo. This will sometimes sell for $50 grand more than a much larger two-story unit right next door. He especially sees this in Glendora, Upland, Claremont, and other areas where the retirees with no children want to live. They just do not build this anymore since this is a product with a huge demand.
Bruce wondered about the Moreno Valley inventory and where it all was a year ago. Rick said it was 30% lower, possibly even more. He also wondered what would be the equivalent price range in Corona where you are having the explosive movement, and then you top out to where the movement is not so great. Rick said Corona is doing well also, but he does not think prices are escalating as rapidly as Moreno Valley. When he did his last comparable in Corona, it seemed like they were going up closer to 2% a month. Everything in Moreno Valley looked like three. This is on everything lower-end in Corona; he is not talking about a 4-5,000 square foot mansion but rather everything below 2500 square feet.
With the square footage he just mentioned, they recently bought a property at a trustee sale they thought was $400,000 six month ago. They bought it for $325,000, but they had a difficult eviction that was going to take six months. They listed it for $500, and it went pending with two all-cash offers in one day. What’s funny is this is like what a quadrant four bonus is: it is anything that takes more time.
Rick owns a fair amount of properties in the High Desert, mostly Hesperia and some of Victorville. Bruce wondered if any of the hedge fund activity affecting his ability to collect rent as far as higher rents go. Rick said they have not been able to raise rents since they started buying in 2009. Lately in the last six months, they have had to drop them and have noticed that there is a lot less tenant selection. When something goes up for rent, instead of having fifty interested people he may have ten. The quality of this ten is pretty low since they are a lot worse than they were ten years ago. When drives through this area either to buy something or look for vacant houses on which he can write numbers, he notices a lot more rent signs than he did a year ago. Since last summer it has been a lot more challenging, and there are no rent increases coming in the immediate future. Just like Moreno Valley, prices up there have also been rapidly escalating.
Bruce asked Rick what he thinks the main cause is of all that is going on with properties. Rick said he thinks it is similar to Moreno Valley in which they have been rapidly escalating. Bruce wondered what the main cause is, to which Rick replied it is a lot of investors flooding in trying to get whatever they can. He does not think there are a lot of owner occupants up in Hesperia as well as in Moreno Valley. There are a lot of cash buyers paying retail, some even paying a little more than retail.
Bruce asked Rick if he thinks inventory levels will be radically different a year from now. He doesn’t think so since it seems like inventory fluctuations are slow. They may be a little higher than now. Once people who started buying in 2009 and 2010 realized they had enough equity to sell what they had instead of living in what they just barely qualified for in 2009, selling it, walking out with a big chunk of cash, and buying something they really want that they will start buying. This is when things are really going to start picking up and prices start going through the roof. A lot of times Bruce hears others say that when those people that are upside-down receive equity from selling, then there is going to be a block of inventory. However, in the next minute they will also become buyers. Rick was surprised that the realtors are not out in force. If he was a real estate agent he would be knocking on every door in Moreno Valley, Fontana, Rialto, of anybody who bought anything between 2008 and 2011. These people all have equity now. This may not be the exact area they wanted to end up with, but they at least ended up with starting somewhere so they can have enough money to move on elsewhere. They all have $40-$50 grand to work with and the rates are lower, so they probably get the same payment for a much nicer home in the area they want.
Rick did very few appraisals prior to last month, in fact almost none to where it was a double transaction. In this situation somebody was selling to buy something else. Prior to 2006, almost 100% of the sales he did were this exact situation. The owners have mostly been short sale along with a lot of investor resales and first-time buyers. There are not too many REOs anymore. On the hard money loan side, Bruce wondered if the private sellers are catching up to short sales. Rick said it almost seems like 1/3 REO, 1/3 short sale, and 1/3 private party.
Bruce asked if Rick saw similar price movements in LA and Orange County. Rick does not work these areas as much, but with the few he did it seemed like it was not as rapid as Moreno Valley. This is usually the case with the higher-end things. The lower-end things in Moreno Valley will just shoot up like crazy. Everything in LA County seems to be 1 ½ – 2% a month for the entry-level housing. This is still at 18-24%, which is amazing. Rick never thought he would live through another time period like this in his lifetime. Rick is really betting that Bruce is right, and he was really happy to hear his opinions. Bruce said what is important is he does not really draw conclusions and then try to prove them.
Rick bases a lot of decisions on inventory levels. When he sees that inventory is tight and everybody is scrambling to buy something, he gets very excited. Bruce wondered when the last time Rick saw these kinds of inventory levels was. He answered that it was almost never, although possibly 2006. Back then we had already spent all of our room as far as affordability. It seems we have a long way to go before we get to anywhere near the house payment of 2006. This is an interesting point he makes because it is important to realize that this is where it could be over. However, we usually take a long time to get there. It will be very interesting to see how long it takes us this time. Rick said it seems right now they are going up as rapidly as they were going down, which is amazing. They were dropping 3-4% in 2008-2009, and now it seems they are going up at that pace. What happens is you have people who build equity at very quick paces to where they can become move-up buyers. This is when things get really good for the realtors, the title companies, escrow companies, everyone. This feeds on itself when afterwards everybody goes out and starts buying things and it begins to pick up more.
For the research on the report he is writing, Bruce looked through the history of magazine covers. It always lags what is next, but in 2005 you had a picture of a guy hugging his house on the front of one of the magazines. This was exactly how we felt about real estate, and Rick is glad to see people are feeling the same way now. They just came out with the first “Real Estate is Back,” so we are not hugging it yet but it won’t take long at all before we do. This is especially true with all the social media we have and the way everyone talks with each other. They are starting to find out how difficult it is for their family and friends who are looking to find things, and we are trying to get out at the same time.