During the Great Housing Bubble, many speculators tried to make money through trading houses. The vast majority of these traders were not professionals but amateurs who thought they could be professionals. Most amateurs ended up losing money because they did not understand what it takes to be successful in a speculative market. The first and most obvious difference in the investment strategy between professional traders and the amateurs in the general public is their holding time. Traders buy with intention to sell for a profit at a later date. Traders know why they are entering a trade, and they have a well thought out plan for their exit. The general public adopts a “buy and hold” mentality where assets are accumulated with a supposed eye to the long term. Everyone wants to be the next Warren Buffet. In reality this buy-and-hold strategy is often a “buy and hope” strategy — a greed-induced, emotional purchase without proper analysis or any exit strategy. Since they have no exit strategy, and since they are ruled by their emotions, they will end up selling only when the pain of loss compels them. In short, it is an investment method guaranteed to be a disaster.
There is plenty of evidence houses were used as a speculative commodity during the Great Housing Bubble. Since the cost of ownership greatly exceeded the cashflow from the property if used as a rental, the property was not purchased for positive cashflow, and by definition, it was a speculative purchase. Confirming evidence for speculative activity comes from the unusual and significant increase in vacant houses in the residential real estate market.
National Homeowner Vacancy Rate, 1986-2007
If markets had not been gripped by speculative fervor, vacancy rates would not have risen so far above historic norms. If houses had been purchased for investment purposes to make money from rental income, the houses would have been occupied after purchase and vacancy rates would not have gone up. A rise in vacancy rates would have resulted in downward pressure on rents, and the investment opportunity – if it had existed initially (which it did not) – would have disappeared with the declining rent. There is only one reasonable explanation for increasing house prices and increasing rents during a period when house vacancy rates increased 64%: people were purchasing houses for speculative gains and leaving them unoccupied while the owners waited for prices to rise.
When house prices stopped their dizzying ascent, many speculators found themselves with large monthly debt service costs and no income to offset expenses. Many chose to quit paying their mortgage obligations and allowed the property to be auctioned at foreclosure. Many chose to rent the properties to reduce their monthly cashflow drain, and they became accidental landlords. In the vernacular of the time, they became floplords – flippers turned landlords.
Becoming a floplord was fraught with problems. First, they were not covering their monthly expenses, so the losses on the ”investment” continued to mount. This was a convenient form of denial for losing speculators because they believed they were buying themselves time until prices rose again allowing them to sell later either at breakeven or for a profit. Since they bought in a speculative mania, prices were not going to recover quickly and the denial soon evolved into fear, anger and finally acceptance of their fate.
Another problem floplords faced was their own inexperience at managing rental properties. Most had never owned or managed a rental property, and none of them purchased the property with this contingency in mind. They often found poor tenants who did not reliably pay the rent or properly care for the property. This created even more financial distress and greater loss of property value as the property deteriorate through misuse.
The problems of renting were not confined to the floplords. Sometimes the renters were the ones who suffered. Many floplords collected large security deposits and monthly rent checks from tenants and failed to pay their mortgage obligations. This situation is called “rent skimming,” and it is illegal in most jurisdictions, but this crime is seldom prosecuted. Most of the time, the first indication a renter had that their rent was being skimmed was finding a foreclosure notice on their front door. By the time of notification, several months of rental payments were gone and the renters were evicted soon after the foreclosure. Renters seldom recovered their security deposits.
Valuations in Northwood for homes 2,000+ SF are still bubbly. Recently we featured a floplord looking to cover about 2/3 of his ownership cost (or ask 50% more than the property is worth depending on your point of view.) Today’s post features another floplord in the neighborhood with Secret Gold. The property is going to be a big loser for the owner, and since you can rent an identical property for $3,900, it doesn’t make much sense to spend around $5,500 a month to buy it, unless of course, you like the $7,400 a month equity burn on top of your oversized payment.
Income Requirement: $222,000
Downpayment Needed: $177,600
Monthly Equity Burn: $7,400
Purchase Price: $1,080,000
Purchase Date: 5/15/2006
Address: 38 Secret Garden, Irvine, CA 92620
|Type:||Single Family Residence|
|Status:||Backup Offers Accepted|
|On Redfin:||165 days|
Unsold in 90+ days
WOW!! Take a look at this Beautiful home in Desirable gated commmunity of Northwood II. OUTSTANDING SCHOOLS, PARKS, POOL AND CLUB HOUSE. ! Beautiful quality upgrades. Gorgeous gourment kitchen with cherry cabinerty, stainless appliances includes, wine refrigerator. Island breakfast bar, beautiful granite counters. Prestine wood floors, upgraded carpet, window coverings. French doors lead to relaxing patio with soothing waterfall. Short distance to shopping, library and the NEW GREAT PARK IN PROGRESS. Move-in condition. Low homeowner association fee.
WOW!! This realtor can’t spell commmunity, gourment, cabinerty, or Prestine. I am not a stickler about spelling, and in fact, I am not a great speller, but when the computer puts a big red line underneath it, I have to go out of my way to ignore it. Please, someone at the MLS needs to get spell check software.
What does the Great Park have to do with anything?
Interesting that $120 a month for an HOA fee is considered low.
This property was purchased at the peak, and now if they get their asking price, the sellers stand to lose $245,280 after a 6% commission. This is their best-case scenario. If they become a floplord and hold the property all the way to the bottom, they will lose close to $500,000. Of course, they could always hold it until prices come back… in 2030.
Through the dark of night
Will your angels hold us
Till we see the light
Hush, lay down your troubled mind
The day has vanished and left us behind
And the wind, whispering soft lullabies
Will soothe, so close your weary eyes
Let your arms enfold us
Through the dark of night
Will your angels hold us
Till we see the light
Sleep, angels will watch over you
And soon beautiful dreams will come true
Can you feel spirits embracing your soul
So dream while secrets of darkness unfold
Secret Garden — Prayer