Almost every Sunday I go for a walk, jog, or hike around a neighborhood to check out open houses, speak to Realtors, get some exercise, and find inspiration for interior design. Open house hunting is seriously my new favorite free past-time. My previous favorite past-time was test driving new cars at various dealerships. What a blast that costs nothing!
I went to see a particular condo in Pacific Heights, San Francisco the other day because it was a close comp to one of my rentals in the same building. This particular property was only a one bedroom compared to my 2/2, but at 610 square feet it had a nice southern facing deck and private parking. The asking price? $690,000.
The open house was absolutely packed with couples under 35 years old as well as many retirees. Who knew one bedrooms were so popular?
I asked the agent two questions:
Question #1: Do you think the price per square foot goes UP or DOWN for a two bedroom, two bathroom version of your listing (1 bedroom)? Conventional thinking is that two bedrooms are more desirable due to more flexibility. This particular listing was asking $1,130 a square foot.
Answer: I think you can get better deals for two bedrooms now if you have the money (not what I wanted to hear). Prices have gone up so much that couples are now going ALL-IN on trying to buy a one bedroom condo for $800,000 because two bedroom condos are now going for $1,000,000+. The market for one bedroom condos is nuts, and I think many first-time buyers are getting desperate.
My thoughts: People just want to own something. The premium spread between a 2/2 and a 1/1 is narrowing. Eventually, the premium will narrow so much that people will start thinking, “If I’m going to spend $800,000 on a one bedroom, why not just pony up 30% more to get 50% more space!” This was my thought process when I was looking at the 2/2 market back in 2004. It was crazy then too, but once I moved up to the 3/2 single family home (SFH) market, the frenzy died down and I got much more value. Nowadays, being able to own a SFH in the north end of SF is considered a rare feat.
Question #2: Can I play the guessing game? I think with all this foot traffic, the winning bidder must be around $850,000 ($1,393/sqft)? Perhaps I should sell? My tenant’s lease ends May 30. But then again, why sell now when it seems like with the upcoming IPOs of AirBnB, Uber, DropBox, Prosper etc, there will literally be 10,000 new millionaires looking to buy a place in SF? What do you think will slow this market down?
Answer one week later after offers were due: I was expecting something in the mid-to-high 700s. The ‘comps’ would suggest $725-750k ($1,188 – $1,229/sqft), and so I was hoping we’d do that, secretly wishing that someone would bid higher. We received a lot of offers in the $725-750 range, a few in my secretly hopeful price range and four that were over 800k. Not to your guess of 850k.
The sellers chose the second highest offer, which was all cash. Half of the offers we received are so high, much higher than comparable sales. But because they required financing, I was concerned that they would not appraise and the offers would not work. Most agents whose clients were in the 740k to 780k range said they couldn’t justify the offers their clients were making. And then there were four above that!
It seems like the San Francisco market goes in cycles. What might impact the market? In the next few years, we will have approximately 8,000 new rental units on the market in the city. This may cause rents to dip and have some people choose to rent instead of buying. What else could change the market? Rising interest rates might cause prices to slow in growth (and yes, cash buyers won’t care, so an AirBnB IPO might create a lot of new cash buyers). Water shortages? Earthquake?
So yes, I think buying and holding real estate in SF is a really good thing (we’re out of land and surrounded by water on three sides). And if for some reason you are considering selling, now is a really good time.
CASH IS KING FOR SELLERS OF PROPERTY
I shared with you my very first mortgage refinancing failure. JPM Chase rejected me even though I have a ~800 credit score and could pay off the entire mortgage with my liquid assets. One of the key takeaways from the post is: banks are only lending to people who don’t need the money. Plenty of good creditors are getting rejected.
The mortgage agent made a calculated recommendation to go with the second highest offer that required no loan given the highest offer was contingent on the buyer getting qualified. If I was the Realtor, I’d probably accept $800,000 vs. $825,000 (guessing the offer spreads) as well. If the highest offer was $850,000 with a loan, I might consider taking the $850,000 offer and putting the $800,000 cash offer in backup. But I’m not so sure a 6.2% premium is enough with banks not lending.
Which Offer Do You Choose?
All Cash Offer: $800,000 with a 95% chance of going through = $760,000 in expected value
Offer Contingent On Getting A Loan: $850,000 with a 70% chance of going through = $595,000 in expected value
Banks realize the real estate market is on the upswing and reaching unchartered valuation territories. If banks never adjusted their appraisal values, then clearly banks would never be able to make loans because real estate generally goes up over time. But the lending stringency by banks, thanks to over-regulation by the government, is basically shutting out many qualified buyers. Meanwhile, the government is promoting mortgage assistance programs for first time home buyers that require only 0% – 3% down! Bizarro!
The law of unintended consequences is that instead of the government helping the middle class, they are shutting the masses out and allowing the rich to get richer. How many people do you know can pay $800,000 cash for a one bedroom? Certainly not many buyers under 35 year old!
If you are a property seller with multiple offers in a hot market:
1) Do not blindly accept the highest offer if it is contingent on the buyer getting a loan. So many people are getting rejected, especially at record high valuations, that chances are high your buyer’s loan will fall through. Once your property falls out of contract, your property becomes tainted i.e. a stalefish liting. Future buyers will wonder what’s wrong with your property, and bid lower as a result. You will also waste a ton of time, lost rental income, and feel a lot of stress if your buyer fails.
2) For offers that require loans, carefully rank the lending institutions. Credit Unions and boutique banks that focus on higher net worth individuals like First Republic Bank should be at the top of the list. Potential buyers who are trying to get a loan from a mega bank, especially those like JPM Chase who are paying massive penalties to the government, should be at the bottom of the list. It doesn’t matter if a borrower has been pre-approved, they still most go through an entire underwriting process.
3) Consider all-cash offers or offers with no-financing contingency and 10% or higher earnest money (3% is standard). It’s just not worth trying to get top dollar anymore if the buyer requires a mortgage. Banks only want to lend to rich people. The government only wants rich people to flourish because rich people are the ones who donate the most money. When any President comes to town, he’s hosting $38,000 per head fundraisers at multi-millionaire and billionaire family homes. Politicians just need to offer goodies to the masses to get in power. Once they are in power, the focus is towards the rich and their family and friends. The sooner we realize this, the better we will all be.
CONSIDER NEVER SELLING YOUR PROPERTY
It used to be that roughly 90% of all purchase contracts went to closing, but that number has slipped to only ~65% today due to buyer’s financing falling through, a poor appraisal, the buyer gets cold feet, and the home fails an inspection contingency. So many things can go wrong, at the very least, minimize the financing risk when selling.
The very people calling for stricter financial regulations are the ones who are getting hurt the most by such regulations. The rich don’t need to borrow money. They have lots of money already! Regulations should be focused on the people who welched on their debt obligations, not the excellent creditors who kept on paying through the downturn.
Income generating assets are very valuable in a low interest rate environment. Hold on to them for as long as you can if you want to build greater wealth over time. Every time I fantasize about cashing in, I slap myself for thinking so short-term. Furthermore, it still costs an egregious 5% to sell a property despite the creation of so many real estate internet companies.
If you make a lot of money or have a lot of money, society blesses you with great advantages. We know this from countless examples in politics, to getting your child into your favorite private college, to now buying property. It must be incredibly annoying for the other bidders who require a loan to lose to all-cash bidders. But there’s no use complaining. The government determines the rules.
See you with a suitcase of cash at the next offer due date!
Explore real estate crowdsourcing opportunities: If you don’t have the downpayment to buy a property, don’t want to deal with the hassle of managing real estate, or don’t want to tie up your liquidity in physical real estate, take a look at Fundrise, one of the largest real estate crowdsourcing companies today.
Real estate is a key component of a diversified portfolio. Real estate crowdsourcing allows you to be more flexible in your real estate investments by investing beyond just where you live for the best returns possible. For example, cap rates are around 3% in San Francisco and New York City, but over 10% in the Midwest if you’re looking for strictly investing income returns.
Sign up and take a look at all the residential and commercial investment opportunities around the country Fundrise has to offer. It’s free to look.
Refinance Your Mortgage: Check out LendingTree for some of the lowest free mortgage rate quotes online for purchase or refinance. They’ve got one of the largest banking networks today. Rates have come down post election, and even after the Fed started hiking interest rates. When banks compete, you win.
Updated for 2019 and beyond.