The Mortgage Bankers Association — the experts on finance and borrowing — are losing their national headquarters due to a poor understanding of finance and imprudent borrowing.

Irvine Home Address … 1 NATIONAL Pl Irvine, CA 92602

Resale Home Price …… $798,000

{book1}

Settle down, raise a family, join the PTA

Buy some sensible shoes and a Chevyrolet

And party 'till you're broke and they drive you away

It's OK, you can dare to be stupid

Take some wooden nickles

Look for Mr. Goodbar

Get your mojo working now

I'll show you how

You can dare to be stupid

Weird Al Yankovic — Dare to Be Stupid

Stupid is as stupid does, observed Forrest Gump; the Mortgage Bankers Association is undeniably stupid.

How does an industry group most attuned to the mortgage markets and the implications of debt on the economy put $90,000,000 into a headquarters building in 2008? Either the Mortgage Bonehead Association completely missed the housing and commercial bubbles, or they are reckless and unconscionably stupid; ignorance or stupidity are the only two options.

I imagine the people who made the decision believe they were victims of circumstance. As David Lereah noted while covering up his own incompetence, "the subprime [mortgage] market blew up, and that has substantially inhibited lending. It was a monkey wrench that was thrown in; no one would have predicted it two years ago, no one." Sure, no one….

Mortgage bankers group sells D.C. offices to Bethesda company

Even the pros are taking a beating. The Mortgage Bankers Association, its membership expert in real estate, sold its $90 million headquarters in downtown Washington on Friday for $41 million.

The Mortgage Bankers Association moved into the building in 2008 just as the real estate market was crashing, and ended up paying millions of dollars more when interest rates rose. Moreover, the leasing market slowed considerably and the association had trouble getting other tenants into the 168,000-square-foot building.

The industry lobbying group has struggled financially in recent years, as the market collapsed and lending dried up, with members dropping out as they lost their jobs. Its membership fell to 2,500 from 3,000, officials said in 2008.

Did their ARM blow up? There is a striking parallel between the behavior of the Mortgage Bonehead Association and the boneheaded borrowers who they served. Remember Dean Baker from No Housing Market Bottom?

"It's a little bit of irony that in the middle of the mortgage crisis brought on by the bad lending practices of many members of the Mortgage Bankers Association that they got caught up in the same problem," said Dean Baker, co-director of the Center for Economic and Policy Research, a liberal research group.

Irony? Schadenfreude? LOL funny?

Irvine Home Address … 1 NATIONAL Pl Irvine, CA 92602

Resale Home Price … $798,000

Income Requirement ……. $166,176

Down Payment Needed … $159,600

20% Down Conventional

Home Purchase Price … $348,500

Home Purchase Date …. 4/21/1999

Net Gain (Loss) ………. $401,620

Percent Change ………. 129.0%

Annual Appreciation … 7.8%

Mortgage Interest Rate ………. 5.05%

Monthly Mortgage Payment … $3,447

Monthly Cash Outlays …..….… $4,840

Monthly Cost of Ownership … $3,650

Property Details for 1 NATIONAL Pl Irvine, CA 92602

Beds 4

Baths 2 full 1 part baths

Home Size 2,530 sq ft

($315 / sq ft)

Lot Size 7,614 sq ft

Year Built 1999

Days on Market -1

Listing Updated 2/12/2010

MLS Number S605281

Property Type Single Family, Residential

Community West Irvine

Tract Trad

.. .. .. .. . Located at the end of a Cul De Sac with an Extra-large front yard and a pool size Backyard .. .. .. .. Formal Dining Room …. Separate Family Room with Hardwood floors and Fireplace .. .. .. Gourmet Kitchen with Center Island, Corian Countertop, Hardwood Floors and Upgraded stainless Steel Appliances . . . . . . Breakfast Nook . . . . . . 4the Bedroom is being as an office/Den . . . . . . Light and Bright .. . . . . .. Ready to Move in..

I enjoyed the unintentional art of this photograph. Notice how the books and file boxes in bookshelf behind the table incorporates the most striking colors in the van Gogh print on the wall.

Valuation of Lots and Raw Land

The valuation of land used for residential housing is mysterious and often misunderstood. [1] The valuation of lots and raw land requires a detailed knowledge of construction and marketing costs as well as a good estimate of the sales price of the final product: a residential housing unit. In short, the value of a lot is the total revenue (sales price of the home) minus the costs of production and the necessary profit. Land value is a residual calculation.

Irvine, California, has been almost entirely developed by a single land owner, The Irvine Company, as a large, master-planned community. The development has been wildly successful. The median income of buyers on The Ranch is 30% above the Orange County median. This translates into higher home prices and higher land values. The Irvine Company makes a profit by selling its land to builders who build and sell houses in the community. Once the forces governing land value are understood, it becomes obvious why the Irvine Company is protective of house prices in Irvine, and why The Irvine Company wants to maximize salable density on its land holdings like any other developer would.

Land Price as a Residual Value

The value of a piece of land is whatever is “left over” after all the other costs of production and profits are subtracted from revenue. This is a key point. Land for residential home use has no intrinsic value. It is a commodity useful for the production of houses just like lumber or concrete. A finished lot is a manufactured product, and it is subject to many of the same market forces as commodity markets. If land or lots become scarce, the price increases; if this commodity is plentiful, the price decreases. If the sales price of the final product increases revenue–like in a bubble–the value of land increases; however, if revenue decreases–like after a bubble–the value of land decreases. For a given price level, if the cost of house construction increases, the value of land decreases; if the cost of house construction decreases, the value of land increases. This last point is often confusing as the inverse relationship between building cost and land value does not seem intuitive, but since land value is a residual calculation, this relationship is the reality of the marketplace. The value of a piece of land used for residential housing is directly tied to the revenues and costs of house construction.

Individual Lots

The equations which govern the valuations of large parcels are very similar those which determine the value of an individual lot; therefore, to better understand the valuation of large parcels, one should fully understand how to evaluate an individual lot. The market value of an individual lot is equal to the revenue it could generate when a residential housing unit is built on it minus the cost of creating that revenue (construction cost, marketing, profit, and other costs). Sales revenue will largely be determined by what can be built on the lot and how much that unit would sell for in the market. The dimensions of the lot, building codes, and the local zoning ordinances create constraints on what can be built. Most often there is some variety in choices available to construct on a given lot. Each of these options has a revenue potential and an estimated cost. Builders produce the combination which yields the greatest profit.

Imagine a 6,000 Square Foot (SF) lot that is 60' wide by 100' deep. A typical lot such as this would have a front setback of 20', side setbacks of 5', and a rear setback of 30' leaving a 50' wide by 50' deep building envelope for the house foundation. This site could comfortably accommodate a 2,000 SF single-story house (some area is lost by not making the house a perfect rectangle). For the sake of making the calculations easy to follow, assume this house could sell for $1,000,000 (peak prices in Irvine were around $500 / SF).

An individual speculator would be paying retail prices for house construction. This would be upwards of $150 SF. The cost of construction would be around $300,000 (2000 * 150 = $300,000). There would be a 6% sales commission (1,000,000 * 0.06 = $60,000), plus financing costs, overhead costs, and other miscellaneous costs which will add up to about 10% of the project cost (1,000,000 * 0.1 = $100,000). Therefore, your revenue minus expenses would be $1,000,000 – $60,000 – $100,000 – $300,000 = $540,000. This is how much money would be available to pay for a lot at the breakeven point. Since a speculator would want to make a profit, the lot is discounted from $540,000 until an amount is reached to compensate for the risk and the headaches that go along with the project. Perhaps the speculator would want to make $120,000 (approximately 12% of sales price) in order to do this work? If so, the speculator would be able to offer $420,000 ($540,000 – $120,000 = $420,000) for the lot. If they are the highest bidder, they get the lot, and the project is theirs. (This same basic calculation also works for tear-down projects known as “scrapers”).

Multiple Lots

Production homebuilders control the price of larger parcels with multiple lots because they have the larger sums required to complete the purchase, and they can bid higher than individuals and still make a healthy profit. Production builders have a much lower construction cost than any individual because they are geared up for mass production. They have the buying power to squeeze costs down far lower than any individual working on their own or with a custom home builder. Production builders’ costs in the California market in 2007 averaged around $85 per square foot (SF). [ii]

A note about the numbers: part of the process of selling a large parcel to a production homebuilder is coming to an agreement as to the costs to complete the infrastructure of the project. In order to facilitate this negotiation, both parties often turn to a neutral third party to establish costs. Specialized consulting firms meet this need. These firms provide cost estimates with much more detail than what is presented here, but the numbers are reflective of a typical situation.

The following exercise is an example of how a production builder would analyze a 100-lot subdivision in which it believes homes could be sold for an average of $1,000,000 per unit.

Equation 2: Value of Hypothetical 100-Lot Subdivision

Revenue
	$ 1,000,000	Sales Price
Costs
	Fixed Costs
		2,000		Average House Square Footage
		$ 85		Average Cost per Square Foot
	$ 170,000	Average Cost of Physical Structure
	$ 40,000	Average Per-Lot Cost of Infrastructure
	$ 210,000	Total Average Fixed Construction Costs
	Variable Costs
	$ 120,000	12%	Profit Margin
	$ 50,000	5%	Marketing
	$ 30,000	3%	Overhead
	$ 50,000	5%	Finance
	$ 30,000	3%	Other
	$ 280,000	28%	Total Variable Costs
	$ 490,000	Total Costs (Fixed plus Variable)
Residual Lot Value
	$ 510,000	(Revenue minus Costs)
	100	Number of Lots
	$ 51,000,000	Finished Lot Land Value

The production builder can pay more for each lot because of its advantage in construction costs. Notice the very large dollar amount builders were paying for finished lots during the peak of the bubble. After the bubble peaked, the value of the land began to drop quickly. The builders were forced to take “impairment” write-offs because they overpaid for land, and the asset on their books was no longer worth what they paid for it. [iii] Land prices are particularly sensitive to changes in housing prices.

Density and the Value of Land

A builder bids for land based on the potential number of units to be built. The size and configuration is not as important as the unit count: builders pay for lots, not land. Therefore, sellers of land (like The Irvine Company) want to maximize salable density. Developers and builders want to get the highest number of units per acre they can possibly sell. Density is a multiplying factor. For instance, if the million dollar home in the production builder example required a full acre of land, the land value would be $510,000 per acre; however, if the builder can fit 5 homes on the acre of land and still obtain the $1,000,000 sales price, the value of the land would be $2,550,000 or 5 times as much. For obvious reasons, landowners like high densities. The Irvine Company is widely known in the industry for creating innovative high-density product. This is born from the necessity to increase unit yield to maximize land value.

House Price and the Value of Land

The Irvine Company, or any land developer, is very motivated to see home prices increase rather than decrease because land prices are extremely sensitive to changes in house prices. The residual land value calculation reveals that only 28% of the costs vary with the sales price of the final product. The other 72% pays for the fixed costs of construction and provides residual land value. Assuming the final sales price covers the fixed costs (residual land values for residential construction can go negative,) of each additional dollar, $0.72 falls to land value. In other words, owners and developers of land make $7,200 per unit for each $10,000 increase in house sales price. If a piece of land is being developed at 5 units per acre, the land developer would make $36,000 per acre for each $10,000 increase in house sales price. From 2000 to 2006, the median sales price in Irvine increased over $400,000. This added $1,440,000 in land value to every acre of land the Irvine Company could develop at 5 units per acre. With the thousands of acres of developable land in their portfolio, this added up to a great deal of money.

Irvine’s Woodbury

Woodbury is an Irvine Company Village of 4,270 units started in 2004. [iv] As this Village is constructed on a 1 mile square, it sits on 640 acres for a density of 6.67 dwelling units per acre (DU/AC). Based on the discussion above, the total land value of the residential portion of the Woodbury Village can be estimated:

Equation 3: Valuation of Woodbury Community at Peak House Pricing

Revenue
	$ 722,928	Sales Price at 2006 Median
Costs
	Fixed Costs
		2,000		Average House Square Footage
		$ 85		Average Cost per Square Foot
	$ 170,000	Average Cost of Physical Structure
	$ 40,000	Average Per-Lot Cost of Infrastructure
	$ 210,000	Total Average Fixed Construction Costs
	Variable Costs
	$ 86,751	12%	Profit Margin
	$ 36,146	5%	Marketing
	$ 21,688	3%	Overhead
	$ 36,146	5%	Finance
	$ 21,688	3%	Other
	$ 202,420	28%	Total Variable Costs
	$ 412,420	Total Costs (Fixed plus Variable)
Residual Lot Value
	$ 310,509	(Revenue minus Costs)
	4,270	Number of Lots
	$ 1,325,871,379	Finished Lot Land Value

Woodbury is worth $1.3 Billion dollars–that is Billion with a “B.” If the Irvine Company could have built out this village for an average home sales price of $722,928 (the median at the end of 2006,) that is how much they would have made (the land was purchased so long ago that their land cost basis is nearly zero). If prices crash 50% from the peak, Woodbury is worth $214 Million dollars–that is million with an “M.” A 50% reduction in house price means an 85% reduction in land value.

Why is land value so sensitive to home prices? As discussed previously, variable costs are only 28% of the home sales price, and land value is a residual calculation. Everything that is not a cost falls to land value; therefore, 72% of any increase or decrease in the price of a home flows directly to land value. In essence, this makes land an extremely leveraged commodity. If the value of a house changes by $10,000, the value of the lot it sits on changes $7,200. Multiply that times the 6.67 units per acre, and you can see how each $10,000 change in the value of a house changes the value of an acre of land in Woodbury by $48,024. Since Woodbury sits on 640 acres, the total value of Woodbury changes by $30,735,360 for each $10,000 change in the sales price of a home.

Equation 4: Valuation of Woodbury Community after 50% House Price Decline

Revenue
	$ 361,464	Sales Price
Costs
	Fixed Costs
		2,000		Average House Square Footage
		$ 85		Average Cost per Square Foot
	$ 170,000	Average Cost of Physical Structure
	$ 40,000	Average Per-Lot Cost of Infrastructure
	$ 210,000	Total Average Fixed Construction Costs
	Variable Costs
	$ 43,376	12%	Profit Margin
	$ 18,073	5%	Marketing
	$ 10,844	3%	Overhead
	$ 18,073	5%	Finance
	$ 10,844	3%	Other
	$ 101,210	28%	Total Variable Costs
	$ 311,210	Total Costs (Fixed plus Variable)
Residual Lot Value
	$ 50,254	(Revenue minus Costs)
	4,270	Number of Lots
	$ 214,585,689	Finished Lot Land Value

Landowners Capitulate

Sellers and land developers do not control the market; they only control the “ask.” Potential buyers determine the “bid.” If bids do not reach the ask, there is no sale (which is why volumes decline dramatically after the peak). If this were not true, sellers and developers could just decide all houses must sell for $10,000,000. In 300 years when those prices may be reasonable, they will start selling homes again. Sellers cannot hold to peak prices forever. Holding to the peak prices of yesterday is a fool’s game many homeowners play. If these properties are heavily leveraged, the debt service consumes their cash reserves, and the property ends up in foreclosure. It is no different for owners and developers of raw land and lots. What is true for the Irvine Company is true for all owners of raw land. The Irvine Company example provides a glimpse into the economics of land development everywhere.

Summary

The people who were actively investing in land development during the bubble made more money than most of us can imagine. The extreme sensitivity of these investments to changes in home sales price resulted in properties obtaining sales multiples of 10 times or greater in just a few years. [v] Many homeowners who either accidentally or by design timed the market well made huge windfalls during the bubble; however, the real action was in land development.

---

[1] Many in the academic community do not seem to understand the true nature of land prices. In their paper The Price of Residential Land in Large U.S. Cities (Davis & Palumbo, 2006) Morris A. Davis; Michael G. Palumbo talk about residential land prices as being a determinant of house prices rather than the other way around. This mistake concerning the valuation of land is prevalent in the general public, but it is surprising to see academics continue to respond to this fallacy.

[ii] The author has worked with many builders in Southern California. At one time, the author shared an office with the former Division President of Taylor Woodrow Homes who at the time was the President of the Orange County Building Industry Association. The $85 SF is anecdotal, but it is a reliable number from multiple sources.

[iii] There were numerous news stories in 2007 of impairment charges from various national builders.

[iv] The Village of Woodbury information can be found on the Irvine Company website: http://www.villagesofirvine.com/VILLAGES-AND-RESIDENCES/Woodbury-Overview.aspx

[v] The author was involved with the analysis of a project that was purchased as raw land for $10,000,000 in 2001 in Riverside County, California. The owner sold the project to a major homebuilder in three phases in 2004 and 2005 for a total of $95,000,000.

Apparently, the Canadian version of the National Association of Realtors is not as powerful as our domestic lobby. The Canadian Federal Competition Bureau blasts Canadian Real Estate Association's Multiple Listing Service.

Flippers are buying properties for significant discounts from resale comps and selling them quickly for a profit. Today's featured property was purchased less than a month ago, and the flipper stands to make over $100,000.

Irvine Home Address … 12 FOXHILL Irvine, CA 92604

Resale Home Price …… $769,000

{book1}

Take me to the action, take me to the track

Take me to a party if they're bettin' in the back

I've been working all my life, can't afford to wait

Let me call my wife so I can tell her I'll be late

I want the easy, easy money

Easy money, I could get lucky

Oh, things could go right

I want the easy, easy money

Easy money, maybe this one time

Maybe tonight

Billy Joel — Easy Money

Flipping properties at auction isn't terribly complicated; determine resale comps, buy for much less at auction, and sell in the resale market. As lenders crank up the foreclosure factory, Trustee Sales become more common, and thereby, so do Trustee Sale flips. The good news is that these properties are making it to the market, the bad news is that there still are not enough of them to change pricing — at least not yet. Lenders and homeowners hope it stays that way.

Canadian bureaucrats take on the Canadian Real Estate Association

As we cope with our market issues, Canadian bureaucrats are squeezing excess from realtor commissions. If you remember the series I did no selling a home, the second post was on cash listing services.

12-2-2009 — Sell a Home: For Sale By Owner

12-1-2009 — Sell a Home: Cash Listing Services

11-30-2009 — Sell a Home: Conventional Brokerage Listing

The Canadian Real Estate association banned them by changing their rules of access to the MLS. It was a brazen anti-competitive move, and Government bureaucrats are fighting back.

MLS challenge could change the way houses are sold

The federal Competition Bureau has launched an aggressive attack on the Canadian Real Estate Association, challenging its rules governing the Multiple Listing Service and calling for a radical change in how homes are sold in Canada.

“Our concern is that [CREA] are improperly and unlawfully leveraging [their control over MLS] in order to impose these restrictions and to deny competitive forces and to deny good old-fashioned market competition,” said Competition Commissioner Melanie Aitken. “This case is focused pure and simple: Let consumers have the choice, let agents have the opportunity to satisfy and serve those choices.”

I can't believe the CREA had the nerve to try this, and I hope the Canadian Government does something about it.

The MLS has been around for more than 50 years and only registered agents are allowed to list homes on the service. The MLS trademark is owned by CREA, which has nearly 100,000 members, and each real-estate board operates the service in their region. Roughly 90 per cent of all residential real-estate transactions in Canada involve MLS data.

The bureau has asked the federal Competition Tribunal to strike down a series of rules CREA adopted in 2007 that tightened the MLS listing requirements.

Ms. Aitken said the rules stifled competition because they restricted the type of services real-estate agents offered, which resulted in higher fees for consumers. Agents who wanted to offer a wider range of services, such as flat fees instead of traditional commissions charged by full-service agents, have been excluded from the MLS by CREA, she added. “What that means is consumers don't have any choice, it's either all [services] or nothing,” she said.

The charges levied by the Canadian Government are clear, and despite the legal maneuvering through shifting requirements, the transparent and anti-competitive nature of the changes are obvious and intentional.

…“This is big news for us,” said Steve Neil, a Vancouver agent who runs HomeBuyAndSell.com and has pushed for changes. “There is no question it will change things in the next several years.”

Discount brokers, who mostly operate online, have long argued that CREA's rule changes were designed to put them out of business and protect full-service agents who rely on commissions, which average about 5 per cent in total on a residential sale.

Is the CREA clinging to a number already 1% below ours?

Before the 2007 changes, some discount brokers offered to list homes on MLS for a fee, typically less than $700. The homeowner then handled the sale.

The CREA changes required all agents to inspect homes before listing them on the MLS and work with other agents throughout the sale. As a result, discount brokers say they could no longer offer their low-fee services and had to charge more to carry out the various CREA requirements.

Mr. Neil, for example, charges customers $299 to list their home on MLS, plus $79 for each week the house is listed. When the house is sold, he charges a fee of 0.25 per cent of the sale price. Mr. Neil said if the bureau wins its case, he would likely lower his fees and change his services.

“We would offer probably a sort of à la carte -type menu of services; if [customers] want them they can pay for them,” he said. He also believes several American online services would expand into Canada.

The trend is toward online listing, and ultimately realtors will lose control of the MLS. As this occurs, you will see significant pressures on commissions on the listing side of the transaction. It may take longer here in the US, but realtors will endure some of the industry purging experienced by travel agents… you do remember travel agents, don't you?

Irvine Home Address … 12 FOXHILL Irvine, CA 92604

Resale Home Price … $769,000

Income Requirement ……. $160,137

Downpayment Needed … $153,800

20% Down Conventional

Home Purchase Price … $615,000

Home Purchase Date …. 1/15/2010

Net Gain (Loss) ………. $107,860

Percent Change ………. 25.0%

Annual Appreciation … 300.5%

Mortgage Interest Rate ………. 5.05%

Monthly Mortgage Payment … $3,321

Monthly Cash Outlays …..….… $4,090

Monthly Cost of Ownership … $2,940

Property Details for 12 FOXHILL Irvine, CA 92604

Beds 4

Baths 2 full 1 part baths

Home Size 2,522 sq ft

($305 / sq ft)

Lot Size 5,400 sq ft

Year Built 1975

Days on Market 11

Listing Updated 2/3/2010

MLS Number P720033

Property Type Single Family, Residential

Community El Camino Real

Tract Dc

Beautiful Newly Remodeled Home in one of the most sought after areas of Irvine. Open & Spacious Floor Plan. Very quiet neighborhood with a serene view of the greenbelt. Living Room with Cathedral Ceiling & Fireplace. Brand New Gourmet Kitchen with Granite Counter Tops and Stainless Steel appliances including a refrigerator, dishwasher & range. Expansive Formal Dining Room. Master Suite with it's own private Bathroom. All Bathrooms have been fully remodeled. Spacious Ladscaped backyard that is great for entertaining. Lowest Association fee and no Mello Roos. Assocaition Tennis Courts, Pools, Racketball Courts and Spa. Excellent Schools and Superb Location. Move-In Turnkey Condition. This One won't Last!

I hope you have enjoyed this week, and thank you for reading the Irvine Housing Blog: astutely observing the Irvine home market and combating California Kool-Aid since 2006.

Have a great weekend,

Irvine Renter