Friday, January 29, 2010

Hunkerin' Down for the Blizzard

I made the monthly trek to Wal-Mart this afternoon to secure my supply of Nicorettes. I completely gave up cigarettes over ten years ago using this product. Instead of being weaned from nicotine, I merely switched my addiction to the gum. They keep improving the product to the point where it tastes as good as real gum and my doctor says since no tars or carcinogens are present it [probably] won't kill me. But I digress.

While in Wal-Mart I noticed the line at the pharmacy was about 150 souls deep. It looked like a Soviet-era queue where Muscovites filed into any line they spied, not knowing what was being sold -- acting on their intuition-- if there was a queue, some scarce commodity must be at the head of the line. I heard an older gentleman complaining about the wait; his wife tried to soothe his grumpiness by noting a "big storm was coming" and people "did not want to be without their meds over the weekend".

Big storm? I knew nothing of this, so I whipped out my Blackberry smart phone to check the weather. It wasn't smart enough to find a signal way up there near Southern Shores inside of a big box store (folks up there don't like cell towers; they clash with the aesthetics of the remaining maritime forest they mostly destroyed to construct their town), so I went outdoors to get a signal. I hit the weather icon on the phone's screen. And there it was. A WINTER WEATHER ADVISORY displayed, scrolling in red. It warned of sub-freezing temperatures and the unimaginable prediction of 1" accumulation of snow and/or ice between the present and Saturday evening.

In these parts an inch of snow is serious business. Schools close, banks lock their vaults, and cable signals apparently freeze within the walls of their coaxial highways. Even the mighty ocean ceases to makes waves and whimpers it way out to the Gulf Stream, where the water is warm and now free of plastic bags. Mayors declare martial law and people become nervous. No one fears a Category 3 hurricane in these parts, but one or two inches of snow is well-known to result in local fatalities from starvation and isolation.

What to do? I did what any red-blooded southern man would do. I hauled butt to the adjoining Harris-Teeter, where the lot was already packed. It wasn't even 4:15 PM. I had a list in my car that I had gathered from the day before, but with a storm imminent, I knew I had to improvise and anticipate the worst. What if the roads were closed all the way into Sunday? Or, God forbid, Monday. I needed to act fast. Inventory was disappearing before my very eyes. But I had an advantage. Where I live in Nags Head, staples are things like bread and milk. In Southern Shores staples are Boars Head meats at the deli. The crowd there was large and becoming testy, fighting over the last of the organic- free-range honey glazed ham-with-no-added-antibiotics, so I quickly moved to the bread aisle.

Four loaves of bread. No…five. Not the time to be timid. Three gallons of milk. We needed some Del Monte Cut Green Beans. There were two cans left and some kid was reaching for them both. All that remained were the "no added salt" versions. My wife hates those (I have hypertension and she is trying to kill me to collect insurance). I needed to think fast. I asked if his mother had sent him to this aisle.

"Yes sir, she's in the deli laying in a supply of foie gras, so she sent me here to get green beans".

"Green beans and foie gras?" I asked.

"The foie gras is for my mom's golf caddy; he visits when daddy is on business trips. The green beans are for dad. He loves em!"

"Do you know salt is bad for you. It kills people. You don't want your father to die, do you?"

"Heck no ! My fifth-grade teacher told us salt was bad for you. Also fossil fuels, second-hand smoke, trans fats, Fox News and people called Republicans.".

"Here, take the low-salt green beans. Show your dad you care. By the way, can you point your mom out to me?" I had to see the woman who raised such a fine young man. I slipped the last two cans of "real" green beans into my cart.

Three dozen eggs and two tubes of Jimmy Dean's sage sausage and we were almost set for the storm. I thought about toilet paper, since we might be stuck for three or four days at home, but I didn't have any coupons and Reese's Cups were two-for-one.

My stock of staples filled, I moved next to the necessities. A possible two-day entrapment in the house required not just a bottle of wine, but one of those boxed wines that is the equivalent of four bottles. That would carry me through at least Monday night. Six "twin packs" of Edwards Key Lime Individual Serving pies, a case of Miller High Life, and three boxes of those pre-made wieners wrapped in pastry. And some more beer, just in case my neighbors forgot and were in need. We can't drive in one inch of snow, but we can deliver supplies to our neighbors. If we have snowshoes, L.L. Bean Gore-Tex jackets rated to -125 degrees and one of those big dogs that carry mini-kegs around their necks to guide us.

So, except for putting the chains on the tires, I'm ready for the storm. Bring on the snow.

Tuesday, January 26, 2010

Our Alphabet Monopoly--ABC

I am a curious person. I want to understand and experience to the fullest extent possible things that interest me. The top of my experience list includes food, cigars, wine, beer, travel and various types of what state law refers to as "spirits". It is the latter issue I address today.

Last night I was leafing through Wine Enthusiast when I came across an article on gin brands, including old favorites and many of the new boutique gins that are emerging on the coattails of the vodka explosion. Exotic new gins with monikers such as Whitley Neill London Dry Gin, Hayman's Old Tom Gin, Bluecoat American Dry Gin, Martin Miller's Reformed London Dry Gin, even an oldie but goodie, Old Raj. These new gins express differing styles from the large corporate offerings such as Bombay and Tanqueray, which over time all taste and smell like pine trees to my palate.

So, did I rush out to the ABC Store in Nags Head in search of these highly-recommended bottlings? Not on your life. Why? Because I would bet a year's salary that our state-controlled monopoly purveyor of distilled liquors doesn't carry a single one of these new offerings. And even if they did, the prices would be 25% higher than what I might pay in states where private stores sell liquor, such as Georgia or Florida.

The North Carolina ABC Boards have their own formula to determine the brands they carry. Brands must command a minimal level of sales or they are dropped from the retail list. It's called "de-listing". One can still buy those liquors—if you are willing to order an entire case. Otherwise, you aren't going to see a state controlled store carry a limited edition potato-based vodka from Idaho if it can't compete with Smirnoff, which claims more shelf space in our local store than Coke products occupy in Food Lion. On the other hand, if our current wine stores were allowed to add liquor to their inventory, they might well carry less popular and more exotic fare in order to cater to their customer base. And, if a town sported several private stores, it's likely buyers would eventually find the brand they seek as each store tries to differentiate itself from their competitors.

How does this work? Let the Wilmington Star explain:

The state's ABC Commission sets prices on liquor uniformly throughout the state, as governed by state statute. And on every delivered case of spirituous liquor approved for sale, there is an 80.8 percent markup from the distiller's price, in addition to other charges.

The distiller's base price for a case of 12 bottles of Aristocrat Vodka, for example, is $5.79 – just less than 50 cents a bottle.

Then a federal excise tax, distiller's freight charges and bailment charges for the warehouse storage are added, and that case's price goes up to $32.91.

Then the local ABC board tacks on a 39 percent markup that's used to generate profit, bringing that price to $45.74, and then state taxes, additional markups and another bailment surcharge bring the case to a total of $61.92. With bottle charges added and an 8 percent sales tax added, that's $5.67 per bottle purchased at the ABC store.

Bars and restaurants with mixed beverage licenses pay an additional $3.75 mixed beverage tax per bottle, but they do not pay sales tax since sales taxes are generated when drinks are sold at the establishments.

So, purchase a mixed drink made with Aristocrat Vodka and you might pay $5 per drink – just less than the price of Aristocrat Vodka by the bottle.

OK. Now we know why we have less selection and pay outrageous prices. But at least we know that under State control there's no shenanigans, no New York guys with bad Soprano accents bringing muscle down on the private liquor store proprietor. Or is there?

WCNC in Charlotte ran this headline two weeks ago:

Mecklenburg ABC Board chairman resigns

Wondering why he quit? The TV station says:

The resignation is the result of a controversy after the NewsChannel 36 I-Team caught Helms and dozens of ABC staff, family and friends at a $12,700 dinner hosted by a leading liquor distributor, Diageo Americas.

Now, this is likely an isolated incident. And no charges have been brought against the Chairman. But corruption is more likely to occur when the number of gatekeepers is small, and public-sector employees are no less immune to becoming captives of the industries they work with than private-sector employees.

The year is 2010. The system we run in this state is little changed from the days when the General Assembly authorized the ABC Board in 1937.

Next time, we'll discuss why North Carolina—in spite of growing tons of various grains has so few manufacturers of private spirits, as opposed to the vast number of job-creating, tax-revenue generating wineries and microbreweries.

Sunday, January 24, 2010

Broken Record

Can someone PLEASE take the needle off that scratched record called "One Trick Pony" that keeps playing the same verse over and over and over and over and over every single day. Enough already.........

Wednesday, January 20, 2010

Outer Banks Voice

Some time in the very near future, Rob Morris, former editor for the Virginian-Pilot's NENC operation will be launching a new local newspaper, the Outer Banks Voice. The link is here, but currently its more a template than a hard news site. That will change shortly. I plan to join Rob as partner in the venture and I expect to be fully involved by March.

As a result, I am unsure which direction this blog will take. It will likely evolve into more of a daily diary of life here along with some of my satiric stuff on life and national politics. As far as local coverage of politics and issues, I will most likely incorporate that content into the new newspaper. Of course, this will facilitate less stridency on my part in covering the news, but still offering opinions (and suggested solutions) in a tamer context. In short, it will be me without being totally me.

Plans are to cover articles more in-depth than what we currently witness and some other surprises that optimize the internet. And, we hope and need local advertisers to support the cause.

Stay tuned. Unemployed bankers may turn up anywhere!!!!

Sunday, January 17, 2010

Local Affordable Housing Projects: Rethinking Required

Federal, state and local governments have concentrated resources over the past two decades to expand home ownership within the cohort of people classified as "low to moderate" income households. Indeed, the subprime market and its none-too-rosy performance was the creation of "Fannie Mae" and "Freddie Mac", the two Government Sponsored Enterprises which purchased significant amounts of residential mortgages from banks and other lenders, in order to serve that exact purpose.

The primary driver for affordable housing options originated in academia. Sociologists, political scientists and economists consider home ownership as the primary vehicle through which American's build wealth. The theory runs thusly-- if home ownership is not achievable, low-to-moderate income families will not benefit from this wealth building process and in turn, remain trapped in a poverty cycle. Obviously, other factors contribute to the poverty trap, but lack of home ownership is high on the list of usual suspects.

Indeed, here are some concluisions from a U.S. Department of Housing & Urban Development website:

For many years the federal government has promoted homeownership as an important goal for low-income families. A primary motivation of this policy goal is the concept that owner-occupied housing can be an important means of wealth accumulation, particularly for those lower-income and minority families that are able to purchase homes.

In terms of lower income households, non-housing wealth accumulation is at best minor and, for minority families, often negative. Thus, over the nine year period of the study, owned housing is an important means of wealth accumulation. Indeed, the results may be broadly interpreted for lower income households as implying that housing wealth is total wealth.

These results tend to support public policies aimed at both increasing homeownership opportunities in general and those policies that focus on homeownership for lower income households. Even though homeownership is not a guarantee of successful wealth accumulation, in that a small percentage where all family types lose money on their homes is observed, in general household wealth appears to be positively impacted by homeownership. This conclusion is reinforced with comparisons to accumulation of non-housing wealth. Wealth accumulation for low-income and minority households, although low, experiences a major increase through home ownership. In this regard, current initiatives to increase low-income homeownership seem both desirable and valid. Moreover, this work suggests that policies designed to ensure that once households achieve homeownership, they remain homeowners (rather than reverting to rental tenure), and policies that enable families to transition to higher valued owned units over time will increase substantially their potential housing wealth accumulation.

And here we find the contradiction of affordable housing programs in Dare County. Even before the significant decline in the local economy, the lack of affordable housing was a chronic problem that has become more acute and expansive. The reasons are no secret; local land values and hence housing costs are astronomically high and well out of reach for middle class families much less low-to-moderate income households. Municipal restrictions on density and height of housing also contribute to higher prices. The recession did bring about one advantage—land prices declined significantly. At the same time, local and county government became more serious in helping facilitate new affordable projects.

The Town of Manteo made one such effort recently but has not been successful in attracting applicants. Reports are that they are now revisiting the program. If they want to know why the program failed, let's offer some observations. I am going to put the conclusion before the evidence in this case for those who prefer brevity.

The program eligibility as outlined below is fine and in line with federal programs directed towards affordable housing. The next two sections deal with how the houses are handled once the new owner takes possession. First we find that the intent is to keep these units as affordable housing units forever. Thus, any subsequent buyer will need to qualify under the same program as the previous purchaser. And, the price at which the house can be sold is restricted to the original sale price, adjusted for the cumulative inflation rate, plus the fair market value of any owner-made improvements.

Think about that for a minute or two. In essence, one can never sell the house for more than the inflation rate over time, which means the owner will never build enough wealth to trade up to a bigger house. In fact, under the rules of economics, the owner would never build any wealth at all if the best they can do is keep up with the inflation rate over time. It's like having all of the downsides to renting (paying your own utilities, insurance, maintenance costs, yard care, repairs and rent) with exactly none of the benefits of owning a home (hoping the value of the home builds positive equity by outpacing the inflation rate). Certainly, the criteria below is in direct conflict to the advantages of home ownership cited in the HUD information above.

The rationale for this is to keep speculators, "flippers" and others from unduly profiting from affordable housing programs. Fine. But the owners should not be held to the same standards, at least not in perpetuity. My advice is that any owner be given a sunset clause on the inflation adjuster. My suggestion would be five or six years. If any buyer stays in a home under such a program for that period of time, they should be allowed to sell the house for its true fair market value and fulfill the HUD goal of building wealth and net worth through home ownership.

Now, for those who want to go further:

Here is the criteria from the Town website


Maximum Household Income Calculations
Low Income Qualification: $38,480.00
Moderate Income Qualification: $47,360.00

Unit Costs (Land and House)

Low Income Price: $125,060.00
Moderate Income Price: $153,920.00

Lot Costs (Land Only)

Low Income Price: $31,265.00
Moderate Income Price: $38,480.00


Applicants must be 18 years of age.
Applicants must be United States citizens.
Applicants must provide their must provide their most recent federal tax return.
Applicants must secure their own financing and provide a pre-qualification letter from a mortgage lender.
Applicants must provide their two most recent pay stubs
Applicants must provide proof of address (a lease or utility bill).

So far, so good. Now the problem: (The portions in bold are the most important in my view):



And, from Article I of the Manteo "Inclusionary and Affordable Housing Ordinance":

Sec. 4-14. Affordability controls; resale of affordable housing units or lots.

(a) Private party purchases. In the resale of affordable housing units or lots, the parties to the

transaction shall execute and record such documentation as required by the town including, without

limitation, restrictive covenants and other related instruments to ensure the continued affordability of the housing units or lots. Such documentation shall include the provisions of this chapter and shall provide, at a minimum, each of the following:

(1) The affordable housing unit or lot shall be sold to and occupied by an eligible household as provided for in section 4-12.

(2) The affordable housing unit or lot shall be conveyed subject to restrictions that shall permanently maintain the affordability of such affordable housing units or lots for eligible households.

(b) Resale calculations for dwelling units. Calculation of the price of a resale affordable unit shall be determined by taking the original sales price of the affordable unit; adjusting the price for inflation by adding the percentage of the original sales price that is equal to the increase in the cost of living since the unit first sold, as determined by the CPI (Consumer Price Index as determined by the Bureau of Labor Statistics, US Department of Labor); adding to the sales price the fair market value of any capital improvements made to the unit; and adding allowance for the closing costs initially paid by the buyer of the unit. The fair market value of the dwelling and any other capital improvement shall be determined by a licensed North Carolina appraiser.

Saturday, January 16, 2010

Closed Transparancy Meeting Explained by Joe Biden

This article, including the following quote and headline in the not-so-much-conservative Los Angles Times caught my eye:

Joe Biden update: He meets on transparency today. But the meeting is closed

In fact, today's Biden schedule highlight is a meeting with the chief of transparency for economic recovery. But, unfortunately, the transparency meeting is non-transparent, closed to the press. (See his full schedule below.) Which makes it -- what? -- secret openness? Open secrecy?

Neat. What the article failed to cover was Biden's post-meeting press conference where he clarified the Obama Administration's policy on transparency, including the President's adamant refusal to allow CSPAN coverage of the health care reform discussions, a promise he made repeatedly on the campaign trail as part of his "Hope and Change" in Washington pledge.

Biden's statement is as follows:

"As the winter winds spread tomato seeds and the magpie may fly west in the spring, the policy of this Administration on the issue of transparency is like the flower that blooms after a desert picnic when the very air we breathe sings with sounds of kaleidoscopes turning and armadillos going about their daily grind amid the hurley-burley in the era of Hope and Change. Such as it is and ever shall be."

Reporters from MSNBC, the Washington Post, and the New York Times pronounced this explanation satisfactory and failed to report on either the closed transparency meeting nor the backroom, closed to the public health care negotiations with labor unions and two Democrat senators. MSNBC's Chris Matthews informed viewers that he not only agreed with and understood 100% with Biden's statement, but that it also "sent a thrill up his leg, almost but not quite as stirring as the one I felt after Obama's primary speech in February, 2008"

Wednesday, January 13, 2010


President Barak Obama announced today at a hastily arranged press conference that he intends to introduce legislation to nationalize the entity commonly referred to as the 'Federal government'. "Did you know, since January 20th, 2009 the Federal government has increased spending by at least $1.2 trillion, with another $1 trillion proposed for Health Care Reform.", exclaimed the President. "Why, just this morning, Tim (Geithner) informed me this Federal government organization was running a cumulative deficit of $12.3 trillion!" He went on to say "Apparently these Federal people, whoever they are, are much worse than the bankers I beat up on last week". He continued..."Americans couldn't run their small businesses or households under this amount of crushing debt, so why should this Federal government thing be allowed to operate this way?".

When asked by reporters how he planned to deal with the problem, the President noted the Federal government "employed 14 million people", significantly more than the one million automotive industry employees. "If we saved Detroit, its obvious we need to save the Federal government". Obama continued, "Apparently the people running the Federal government have been reckless with their spending, but given the potential economic repercussions, I think it imprudent to allow it to fail". If the Federal government is taken over, the President did not rule out firing its chief executive, a move he employed when he essentially nationalized General Motors. "I don't see why these folks running the Federal government should be treated any differently than the way I handled the GM crisis", sniffed Obama.

Financial markets plummeted early upon hearing about this, the latest of many crises to sweep the American and global economies. Market jitters calmed later in the day when an Obama aide informed the media the President was considering a $12.3 trillion dollar loan to the Federal government in order to wipe out the total Federal government deficit. He also proposed a new regulatory agency to oversee the reconstruction of the Federal government and to impose regulations so that it never grows to big to fail in the future. It was estimated the cost of the new agency to be $500 million dollars, and House Speaker Pelosi asked for a budget of $350 million and an extra Gulfstream G-5 in order to conduct coast-to-coast inquiries with various employees of this "nefarious Federal government, who obviously think they are a bunch of doctors or something".

Tuesday, January 12, 2010

Outer Banks Residential Real Estate—Part 2-The Finance Issue

OK…the bird intermission is over and back to real estate, finance and its local impact. I hope these 30 years of accumulated banking knowledge crowding my brain will begin to dissipate over time, allowing room up there for more important things like keeping track of the Evil Empire (aka NY Yankees) and exploring the total intellectual depth of the typical South Park episode.

Anyway, most of realize the decline in the housing and construction industry triggered the current economic recession. And if we listen to the news, we are told the economy won't recover until banks start lending again, particularly home loans. This point is reiterated when our president, Barak Obama uses his bully pulpit to excoriate banks regarding their lack of lending activity (and the continued collection of large bonuses). The folks up in Washington, via the well-known TARP program shoveled billions of dollars into bank vaults, so all we have to do is get the banks to listen to the president and loan that money back out to eager citizens standing in line to buy new and existing homes.

One tiny problem. Actually—it's a major-league big problem. Banks, at least in the form we know them, aren't really mortgage lenders and haven't been mortgage lenders since before I started my career in 1980. The reason is simple, and if more Americans understood the "why" more of us would be tuning out Obama, Geithner, and our friends in Congress occupying both sides of the aisle.

Time for a quick lesson in how banks make their money. The recipe is simple; buy money low and sell money higher. When you put your dollars in a checking account or a money market account at your bank, the bank pays you little or no money back in the form of interest. This "free" money is referred to in the industry as net free deposits and while volatile (your checking account balance likely varies quite a bit over any given time period), it's dirt cheap as far as the bank is concerned. More stable money comes in the form of savings deposits, most often placed in Certificates of Deposit. In the good old days, the terms of CD's ran from 90 days all the way out to five years. The longer you agreed to lend the bank your money, the more interest they agreed to pay you. In normal times, the rate for a 90-day CD might have been 2%, a 12 month instrument 4% and a 5-year ride might buy you 7%. This differential over time is called the yield curve and in a healthy economy it slopes upward. As we all know, for a good many years, this curve has been flat—meaning the differential in interest paid for a 3 year CD isn't significantly greater than a 12 month investment. As a result, most people purchase CD's for 12 months or less in our current environment. And whether the yield curve is flat, rising, or inverted (as it often is today and in the recent past), banks must match the cost of the funds they borrow from you to the yield they receive on loans.

Confused and dazed? A quick example might suffice. Suppose Micro Bank & Trust has only one depositor--Joe. He buys a 12-month CD and the bank pays him 3% interest. Our same bank only has one borrower. Let's call him Tim. Tim comes in and wants a car loan for 5 years. The bank is paying Joe 3% and in order to pay their salaries, building costs, and make a profit, the bank needs to charge Tim a higher rate. Banks like "spreads" that exceed 3%, so Micro charges Tim 6.5% on his car loan, providing a healthy spread of 3.5%. All is good, correct? Well, no. Joe's CD comes due in one year and now rates in the economy have risen and Micro is forced to raise his CD rate to 5% in order to retain his deposit. But Tim has a 5-year loan and is still paying back 6.5%. The banks spread is now down to 1.5% and after expenses, it is losing money. Worse, Joe will get three more renewals on his CD before Tim pays off that car loan and the bank has no idea where rates will be at each of those renewal terms.

Think about the above scenario when it comes to buying a house. First of all, houses are far more costly than cars, so a bank would need a large amount of Joe's to deposit enough funds to make these large loans. And, most of us expect a fixed interest rate on our home loans, spread over 30 years. Have you ever seen a 30 year CD? Of course not. So the bank has three problems loaning on homes—it must raise a ton of deposits to make home loans, the term of the loans means a long payback time in order to recover those funds to make more loans, and there is no way they can match or predict their cost of funds (CD deposits of 12 months) over the term of the mortgage loan (30 years). While the rate they pay on deposits is constantly re-pricing as short term CD's mature, their return on the loan will not change for three decades.

So most banks don't make mortgage loans. Instead, they pass them along to other investors in what is called the secondary market, typically through the sale of a whole mess of these loans, bundled together in an instrument called a Mortgage Backed Security. How does this work, you might ask?

There are many investors out there who want to invest money they possess currently in order to have it grow over time. These investors include individual citizens, foreign governments awash in dollars with nowhere to place them, pension fund managers, mutual fund managers—just about anyone or any entity with lots of cash to invest. These investors are willing to take some risk in order to gain greater returns. So, they bypass the puny CD rates offered by the corner bank and avoid the temptingly high but risk-fraught allure of junk bonds. Until the mortgage crisis in 2007, the delinquency rate on mortgages ran less than 3%, and even if the loan defaulted, the collateral usually made up the difference.

Now the easy part. A bank would make a number of loans, say $100 million worth at 6.5% interest. At that point, the bank was running out of money and not willing to take 30 years of interest rate risk. Investors tired of 3% CD's and wary of 10% junk bonds saw mortgages as a relatively safe investment that would return more than a CD. So the bank sells its $100 million in mortgages on the secondary market and the market pays the bank its $100 million plus a small portion of the expected interest rate return, say $15 million. If it took the bank six months to make $100 million in loans, it now gets back the entire $100 million plus a tidy $15 million profit. It can relend that $100 million and flip the entire portfolio again six months later. And your grandmother, who bought a $100,000 portion of the newly created mortgage backed security is sitting on a nice 6% interest rate that sends her a check each month as the home loans are repaid.

In addition to the private investors mentioned above, the other two major purchasers of loans were the infamous Government Sponsored Enterprises (GSE's) better known as Fannie Mae and Freddie Mac. Fannie and Freddie were designed to provide a secondary market primarily for principal residences at lower costs. Hence, they only buy loans less than $417,000 and mostly for primary residences, second homes, and some investment homes that meet stricter criteria. Homes above $417,000 were sold to non-government entities such as insurance companies, pension funds, money managers, brokerage firms and others.

And finally, for the three of you left reading, we arrive at Dare County. With the collapse of the mortgage market, the so-called secondary market is all but gone. Here's what is left. In Dare, Fannie & Freddie will buy loans for primary residences up to $460,000 with 10% or more down. (The cap was raised to $460K from $417 under the stimulus plan and is good until 12/2010). Second homes (those not rented) require 20% down and are restricted to $417,000. Investment homes are also capped at 80% of purchase price, although some pass-through entities to Fannie and Freddie want 25% down with the same $417,000 limit. For primary residences above $417,000, some entities such as Citibank and Wells Fargo will buy these loans, but cap the purchase price at $1 million or less, cash down must be 20% or even 35%, and credit scores must be above 760 to get a good rate, and 720 to be considered at all.

And, except for a few community banks willing to hold some loans in portfolio, there are no buyers of jumbo priced investment homes in the secondary market. None.

Even in this depressed economy, look at the price range of most of our market—they are primarily investment homes priced well above $417,000.

Obama can yell at the banks all he wants, but until other participants put cash into the secondary market for investment homes above $417,000, sales are going to be restricted to cash only, or those with large enough down payments to bring the loan request below $417,000. On a $650,000 home, that's a whopping $243,000.

And that my friends, is the rest of the story. So pass it along to Barak Obama, Walter Jones and Timothy Geithner. Maybe when they understand, you might find yourself with a job again.


Back to real estate and finance tomorrow. On my way down the Bypass yesterday, I spied a kingfisher sitting atop a highway sign in front of the Belk Center in Kill Devil Hills. In my opinion, kingfisher's look far more like the cartoon character Woody Woodpecker than most woodpeckers. I've seen kingfisher's all over the world, and for the technically minded the species we see in North Carolina is the Belted Kingfisher. Kingfishers nest in the banks of canals and waterways, usually burrowing a tunnel 1 to 8 ft. deep. They perch above the waterway and hawk insects and grab small minnows, tadpoles and the like that rise close to the surface. This kingfisher was making use of the long stormwater ditch that runs the length of the shopping center. As always, click on any image for a larger picture.

Sunday, January 10, 2010

Outer Banks Real Estate—Residential Vacation Homes-Part 1-Setting the Stage

Time to leave Nags Head's recent political problems for awhile. Back to real estate and a promised but long overdue look at our vacation rental market from a lenders perspective.

As the American economy emerges from the depths of the current recession most experts predict that real estate will continue to fight severe headwinds. Many of us hope this will not be the case, but consumer reticence about job security, continued price declines and perhaps, most importantly, the lack of available financing for investment properties priced above $417,000 (the "conforming" limit where the government enterprises FNMA and Freddie Mac cease purchasing mortgages from lenders) have led to almost a complete stall in high end rental markets. At present, cash is king, either in the form of full-cash purchases or massive cash down payments required to bring the loan amounts below the $417,000 ceiling.

In a previous blog I presented some calculations that help determine the value of commercial real estate, if purchased as an investment property. A similar situation exists with rental homes, albeit with a twist that sometimes complicates valuations and other aspects of a vacation rental property.

In the "old" days, before lax mortgage loan products created artificial demand and price appreciation in the luxury market, we used something called the "10% Rule" as a rough guideline to assess the pricing of investment homes. Assuming normal interest rates, typical down payments, and historical rental history (an existing home) or reasonable rental projections (a to-be-built home) from the appraisal, the 10% Rule basically stated gross rents should equal at least 10% of the purchase price. A quick example will suffice:

$1,000,000 purchase price. 10% Rule indicates gross rents should be at least $100,000. Before the "crazy times", a 20% down payment was typically required, leaving an $800,000 loan.

At 8%, which many of us old timers still consider a darned good mortgage rate, annual debt service is $70,444. Allowing for the rental management fee, taxes and insurance, repairs and other costs, the borrower has a $29,500 cushion for those expenses and can still service debt and hope to break even. Given normal (not hyper) appreciation in values over the long term, the investor maintains the home with no out-of-pocket monthly expenses, and over time recovers the down payment and appreciation.

If rental homes were purchased purely as long term business decisions, much of the current crisis in this market might have been avoided. But rental homes, unlike commercial properties, often hold sentimental value to the buyer. Many are prompted to purchase these homes in places where they regularly vacation. They plan to use the home themselves, especially in the offseason. A few, especially those with more livable floor plans, might even be purchased with an eye towards serving as an eventual retirement home. Thus, an attachment existed to the purchase that went beyond mere dollars.

Even in "normal" times, some distortions entered the market which caused these homes to price above the 10% Rule. The first was the willingness of some buyers to accept negative cash flow in order to utilize tax advantages or simply to fulfill the desire to own resort property. In general, these buyers were also more optimistic regarding future valuations, believing they would recover down payment and make a profit over a five to ten year period. Typically these purchasers were wealthy, with annual incomes over $700,000. Their personal residences, while expensive, were mostly paid for. As a result, they add some personal income to supplement shortfalls in rent. Let's look at the same example as above, but we increase the price to $1,500,000.

With 20% down, our loan is now $1,200,000. Debt service is $105,000. Assuming about $30,000 in other expenses, the borrower must come out of pocket about $35,000 per year assuming rents hold at $100,000. If you earn $750,000 annually (and many more folks earn that much than you might surmise), coming out of pocket $35,000 each year is a small price to pay for a $1.5 million home. The wealthier the prospective buyer, the more house they were willing to buy, and greater amounts of negative cash flow tolerated. During the late 1990's, I reviewed borrowers who could easily absorb annual debt service where rents covered only 50% of proposed payments. Thus, a $2,000,000 home could be had if rents were $100,000 and the borrower was willing to kick in another $130,000 per year. That's about $11,000 per month. If your annual salary is $1 million and your current residence is paid for, that $13,000 is only 13% of your monthly income. Many professionals in their early to mid 50's were in such situations; high incomes and little or no current debt. Strangely, many of these buyers were mortgage lenders, Realtors, and stock brokers whose incomes were decimated by 2007.

All of this is perfectly acceptable in a free market economy. But lending rules for "investment" properties were written with modestly priced, urban/suburban year-round rentals in mind. Seasonal rentals and buyers willing to absorb tens of thousands of dollars in negative cash flows were not contemplated.

Once the pricing of rental homes was decoupled from their logical economic return (rents); lending on these homes became fuzzier. The massive increase in the number of wealthy Americans during the late 90's and at the turn of the century created inflationary home pricing. Buyers who required rental income to cover their investment debt were priced out of the market by those who could afford the negative cash flow. As housing prices rose out of lockstep with rents, re-sales would become harder. The universe of buyers able to absorb negative cash flow is much smaller than those who are willing to buy an investment with a reasonable chance of a break-even cash flow and long term capital gain.

But not to worry. Lenders began to push Adjustable Rate Mortgages. In the early days, these ARM's were set to re-price over 3 to 7 years. The lower interest rates on the ARM's reduced the negative cash flow. In 5-7 years, the value of the property was expected to rise, covering the down payment and providing a profit to the buyer. Thus, investing horizons were shortened, and rents became almost irrelevant. Pricing, however, adjusted to the new loan products, which pushed sales prices even higher. By then, rents were back in the picture as negative cash flows were becoming so large even wealthy applicants were backing off. In short, lending practices actually moved rental home prices even further away from their rental returns.

At this juncture, the high-end rental market borrowed a page from subprime lenders. These products had all the characteristics of subprime loans (stated income, little or no documentation of assets), interest only loans, even "Pick and Pay" mortgages giving the borrower the option of paying a full payment, interest only, or negative amortization each and every month. Once more, the lending market reacted to spiraling price increases in rental homes by inventing products that reconciled insufficient rental income with absurdly high prices. Since appraisals were often coming in higher than purchase price, buyers could get in for little or no down payment, and lenders could still claim loan to values of 90% or less. While I never loaned on permanent mortgages in this market, I made plenty of construction loans that were taken out by the products when the homes were complete. At first, we were wary, but as take-outs performed as promised, all of us became more comfortable with the process. There were plenty of mortgage lenders vying for these homes and the appraisals we obtained provided what should have been enormous cushion; oft times we were loaning at 65-70% LTV as borrowers made down payments with 1031 Tax Free Exchanges from previously flipped property.

At the peak of the lunacy, interest only rates were offered as low as 3.5% for three or more years. At $2.5 million, annual interest payments were only $87,500 per year. A $2 million loan normally requires $200,000 in rents and a 20% down payment to make debt service under the old 10% Rule. With the craziness that abounded, the new loans would support a $2.5 million home that only received $115,000 in rents ($87,500 for interest payments and 30% more for expenses). Well, for three years anyway. By then, the borrower expected the home to be worth $3 million, the new buyer could obtain another 3-year ARM, and rents need only be around $140,000 (4% of purchase price) to make payments for 3 years.

So, what does all of the above imply? Simple. . If it is to be an investment property—buyers, appraisers and lenders need only remember two things.

The 10% Rule, and 20% cash down payments.

Thursday, January 7, 2010

Nags Head's New Commissioner

Would you invite your ex-girlfriend to join you and your new bride on your honeymoon? Probably not. Unless your new bride consented. In which case, I'd advise your next step be to purchase a Lottery Ticket. Why? Because you'd be one of the luckiest men in the world (so I am told). And, Bev Perdue needs the money, last I heard.

Alas, just as those old Penthouse Forum letters were mostly the fictitious submissions of beered-up fraternity brothers, real life typically precludes ex-girlfriends and new wives from getting along with one another. And, former opponents in a mayoral race.

Which raises the question--why on earth would the Nags Head Board of Commissioners appoint former mayor Renee Cahoon to fill the vacancy created when her opponent was elected to Mayor? If any issue became clear in our last election it was Oakes view of transparency and the use of power that differed from Cahoon's. By choosing Oakes, one can make the assumption voters rejected the latter method of governing in favor of the former. So why put the same person back on the Board, where she carries an equal vote to the mayor?

As many blog readers know, I supported Mayor Cahoon in all of her previous runs for elective office. I also supported her in this blog vis a vis her battles with The Outer Banks Sentinel by giving her the benefit of the doubt until the very end. And, I endorsed both Doug Remaley and Anna Sadler in their re-election bid to the town commission. So this is not sour grapes. Nor do I share my fellow blogger Ray Midgett's view that everything occurring in Dare County and its municipalities involves cronyism, backroom politicking, corruption, and wild-eyed spending. (OK..the latter does seem to be true on a macro-level at times here).

So what happened? Surely the sitting commissioners were not foolish enough to believe that this was somehow a goodwill, fence-mending gesture. It's one thing for Barak Obama to appoint Hillary Clinton to a subordinate office in the interest of party unity; its quite different appointing a former mayor to a commission where her vote counts exactly the same as the person who defeated her. In fact, its a slap in the face to the new Mayor, who deserves a chance to function on his own without the former mayor sitting on the same commission. And, its a slap in the face to the voters, who obviously wanted to replace Ms. Cahoon on the commission.

My friend at EOD thinks this is all part of a beach nourishment conspiracy. I doubt it. By my count, the current board has 3 votes solidly in favor of pursuing nourishment, including the use of countywide tax money. They could have easily found a solid fourth vote from among the citizenry without appointing the ex-Mayor to the slot.

In my mind, something else is at work here. Either the sitting commissioners disapprove of the voters choice for Mayor and they wanted to send him a message, or they have tried to create unity and hold out an olive branch to the losing side in a misguided effort to create a win-win. Or worse, they lacked the political courage to stand up to a formidable political force that most of us believed would have found her way back to political power without a boost from three Nags Head commissioners.

In any event, we symbolically retract our endorsement of Remaley and Sadler while hoping that these folks don't get another shot at filling a vacancy. Hell, last time they filled a vacancy they appointed the mistress of the resigning commissioner who was arrested in a domestic dispute with his (then) wife. And they are still batting zero.

Wednesday, January 6, 2010

Ice Figures

While below freezing temperatures are not uncommon here, they are unusual, especially if experienced for many consecutive days. While uncomfortable, the ice does make for some unique and unusual photo opportunities. The below were all taken on the Nags Head Causeway, looking north on Monday, January 4th. One of my friends sent one along to WITN-7 in Washington, NC, where it was featured on their 11 PM newscast. I don't use the local cable company, so I was unable to view my ten seconds of regional fame.

Saturday, January 2, 2010

Yellow-rumped Warblers

Click for larger images. These yellow-rumps, a/k/a "butter butts" are one of the most common birds in the OBX during winter. Both of these were behind my house on Jockey's Ridge State Park land.

Friday, January 1, 2010

Piping Plover Turtles

Same players, different project. I do love it when the environmental movement consumes its own tail! Maybe Derb Carter has been traveling west these days?

Rare Tortoises Could Stand in Way of California Solar-Energy Complex


Two dozen rare tortoises could stand in the way of a sprawling solar-energy complex in a case that highlights mounting tensions between wilderness conservation and the nation's quest for cleaner power.