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Tuesday, September 30, 2008

Conflict(s) of Interest + Malpractice =

Wrong Doctor, Wrong Prescription?

"No problem can be solved from the same level of consciousness that created it." --Albert Einstein

Imagine that your doctor, over the course of a year in which your health steadily deteriorated, misdiagnosed gallstones as an ulcer; botched an operation to repair torn knee ligaments, leaving you hobbled; and was surprised that your difficulty breathing turned out to be pneumonia.

Now, the same doctor says you need emergency open heart surgery to open your dangerously clogged arteries. Or you'll die. Very soon.

Oh, and your doctor spectacularly overcharged for all the above-mentioned procedures, and, along with his partners, owns the medical practice that profited (or did, before he sold his interest for $600 million).

Lucrative Practice

It would certainly give you pause. You might even consider getting a second (or third) opinion. Or, when you come to your (remaining) senses . . . firing the doctor and getting a new one who's actually skilled, as well as honest.

In this case, the doctor is Treasury Secretary Henry Paulson; the medical practice is Wall Street -- specifically firms like Goldman Sachs (which Paulson ran before becoming Treasury Secretary); and the beleagured patient is the U.S. financial system, "backstopped" (what isn't lately?) by taxpayers.

Saturday, September 27, 2008

Moral Hazard, illustrated

Wall Street Bailout Bill:
Trickle-down Financial Aid?

As the lead in the movie "Knocked Up" might say, "Moral Hazard, shmoral hazard."

If you've been befuddled by the term -- and seem to be hearing it bantered about lately, in connection with the Wall St. bailout -- think of it this way:

Imagine that, instead of giving Wall Street $700 billion to heal its balance sheets and encourage it to lend again (trickle-down financial aid?), the U.S. government decided to pay everyone's heating bill this winter.* (By the way, such a gesture would arguably be a much better way to address Americans' collective economic distress at the moment.)

The problem with such a "no one left in the cold" government program is that it would create a host of negative side effects and unintended consequences.

Thermostat Settings

If the government were suddenly picking up the nation's energy tab, you'd guess that the utilities might suddenly decide to charge more. Meanwhile, instead of keeping the heat at a conservative 68 degrees (or lower), some people might be tempted to indulge, and set it to a more comfortable 75 degrees.

Since houses vary in size, people's energy bills vary, too; would the program take that into account? For that matter, why should people in chilly Minnesota and Maine get more per capita than Floridians? (Answer: to offset sugar subsidies Florida companies get).

If the government suddenly paid everyone's heating bills, what incentive would homeowners have to spend money on insulation or window repairs?

Finally, lots of people, fortunately, are able to pay their bills without any help. Does the government help them, too? If not, isn't that unfair to people who've saved more of their money, decided to live in smaller, more-energy efficient homes, etc.?

RTC "Round-Trippers"

Now go back to the proposed $700 billion Wall Street bailout.

Who prices the bad debt the government is to buy? What kinds of debt are eligible? Which institutions get to sell to the government? Who is eligible to buy the bad debt? (The Resolution Trust Corp. created to clean up the S&L mess 20 years ago witnessed the unsavory situation of many bankers whose seized S&L's funded inflated commercial real estate on the way up, buying it for cents on the dollar from the RTC on the way down -- call them "round-trippers.")

It keeps going: What kind of quid pro quo does the government get in return? (Equity, salary caps, etc.) Why $700 billion instead of $500B, $1 trillion, or some other number? What assurance do taxpayers have that Wall Street won't quickly ask for more? Etc. , etc., etc.

Besides being incredibly complex, all of the foregoing issues implicate something called "moral hazard": the risk that good behavior is punished, and bad behavior rewarded.

To avoid that, ideally, government bailouts should be reluctant, rare, and no bigger than absolutely necessary. The problem with the latest bailout proposal is that, at the moment, it appears to be none of those things.

*To put in perspective exactly how big $700 billion is, it would likely pay the country's winter heating bills not for one year, but 20!! Feel free to substitute your own, "what-would-$700-billion-pay-for" social program(s) here.

Thursday, September 25, 2008

Enron Squared

Mother of all Bailouts Likely to Spawn
Mother of all Litigation

It turns out that Enron was just a harbinger.

For those who don't remember, Enron was a cutting-edge energy company that spectacularly collapsed in 2002. At the heart of the melt-down were complex securities that few people outside the company even knew existed, let alone understood (it turns out that people inside Enron didn't exactly understand them either -- or at least that's what they claimed at trial).

Thanks to the accounting rules at the time -- which the industry helped write -- Enron officials argued that they didn't have to disclose billions in off-balance sheet obligations that would ultimately sink the company.

Sound familiar?

As one commentator put it, "Enron is long gone, but this episode . . . [was] as much a warning for our financial security as the 1993 World Trade Center bombing was to the threat of wider terrorism." ("The Crisis Last Time"; The New York Times, 9/24/08).

Superficial Reform

Congress' response to Enron was something called Sarbanes-Oxley, essentially a piece of legislation mandating better accounting controls, as well as fuller disclosure. Post-Enron, senior management also had to personally vouch for ("certify") the accuracy of the financial statements that they were signing.

Big business has screamed ever since that Sar-Box, as it's known, imposed wasteful costs and hindered American competitiveness.

Well, so does a $700 billion Wall Street bail-out, not to mention all the other economic fall-out associated with the ongoing financial crisis.

Mother of all Litigation

At this point in the mess, about the only thing that can be predicted with confidence is that the mother of all financial crises will eventually give rise to the mother of all litigation.

At least on this score, the Enron legacy (and legal precedent) is encouraging.

At trial, Enron Chairman and CEO Ken Lay famously argued that he was out of the loop at his own company, and didn't understand its house-of-cards financial structure. Unfortunately, the evidence showed that Lay in fact did know what was going on, and he was subsequently convicted.

Even if the jury believed Lay, it still could have convicted him on the alternative grounds that he should have known. After all, when you're paid hundreds of millions, that would seem to be part of your job description.

"Knew -- or Should Have"

It is precisely this Hobson's choice that's likely to confront senior Wall Street executives when it's their turn as defendants.

If they knew the risks they exposed their shareholders to -- not to mention the broader economy -- but didn't adequately disclose them, they're guilty of fraudulent misrepresentation. On the other hand, if they didn't know, but should have, they're guilty of gross negligence.

Of course, theoretically, you can be both incompetent and dishonest . . .

P.S.: Ultimately, the narrow legal ground Enron officials were convicted on involved "cooking the books" as the company's financial situation deteriorated near the end. It would be a big surprise if executives at many Wall Street companies didn't do the same (See, "FBI Looks into 4 Firms at the Center of the Economic Turmoil"; The New York Times, 9/24/08)

Wednesday, September 24, 2008

Fending Off Lowball Offers, or . .

"How I got My Seller an Extra $10k Last Week"

Low -- if not lowball -- offers succeed more than they should because too often, Sellers are sitting ducks. The only one on the scene, circling like a vulture, is the would-be Buyer, who gradually wears down a desperate Seller who thinks they have no other options.

Wrong. The correct strategy is to work with the low offer, and try to bring it up. At the same time, however, it's crucial that the Agent representing the Seller (Listing Agent) continues to push hard on other fronts, to attract other Buyers.

That's what I did last week. First, I sent my favorite photographer to take some new, flattering shots. Then, to re-attract the market's attention, I advised my client to cancel the listing and bring it back on as new, without changing the price.

That's a common strategy to make sure that a listing that has fallen to the bottom of the heap after perhaps 40-60 days on the market gets put back at the top (in this case, the home had been on 43 days, but most of that was in August, which can be especially slow).

Then, I re-contacted agents who'd previously shown the property.

While all this was happening, my client continued to negotiate with the would-be lowballer who, sure enough, gradually raised their offer from low to merely mediocre.

Unfortunately for them, they dragged their feet a little too long.

When the gap between Buyer and Seller and had dwindled to literally less than $2,500, a "White Knight" Buyer emerged with an offer $10k above the would-be lowballer's. Annoyed with the first Buyer's tactics, my client quickly negotiated a Purchase Agreement with the White Knight.

Moral of the story: if you really want a property, be satisfied with a modest (vs. outrageous) discount from a fair listing price. If you won't -- or can't -- you leave the door open for another Buyer who will.

Tuesday, September 23, 2008

Taking the Car Keys?

Bailout Politics for Dummies

For anyone struggling to keep up with the fast-moving, ever-changing financial crisis, here's a helpful analogy:

Imagine that the U.S. financial system is a car driven by Wall Street. By now, it's increasingly apparent that the car has been totaled -- thanks to excessive leverage, unsound bets on housing, and negligent overuse of exotic credit derivatives (what Warren Buffett calls "financial weapons of mass destruction").

The principal questions on the table are, "how much? (to fix things), and, "who pays?"

Wall Street wants the government to replace the vehicle it just crashed -- a shiny, $150k Lamborghini that was mechanically unsound -- and give it the car keys. Oh, and it wants to collect fees for overseeing the salvage operation on the wrecked car (watch the towing fees); designing and building the new car; and insuring it (AIG can do it!). It also wants to provide expensive medical care to everyone injured in the crash. And, you'll never guess who's offering to make a rental car available in the interim, on very attractive terms.

Can you say, "financial chutzpah"??

Congressional Democrats want to replace the Lamborghini with a Chevy, and keep control of the keys, at least for the short-term. They also want to own a significant percentage of the new car, and, as a condition of eventually returning the keys, make Wall Street's leadership take driver ed.

Libertarians, think tank-types, and disgusted politicians on both sides of the aisle, think Wall Street should be relegated to walking or taking the bus for awhile (or forever).

So what's the likely compromise here?

Washington -- taxpayers-- pony up the money for a hybrid Camry (oops, Buick) that gets decent mileage, temporarily gets to be co-pilot (or at least sit in the backseat), and gets a 51% equity stake.

Monday, September 22, 2008

Bailout Winners & Losers

What it all Means for Real Estate

Once the ink dries on the to-be-determined Washington bailout of Wall Street, everyone's focus will turn to sorting out the inevitable winners and losers. Although it's too early to say if all residential housing will benefit, it's predictable that at least one segment will: "medium-ish" upper bracket real estate.

Here's the logic: people who buy $250k homes typically don't have stock portfolio's. At the other extreme, people who buy $5 million homes probably also own lots of stock, so much so that even if their portfolio's get clipped in a bear market (like now), they're still financially immune.

However, you'd guess that people who buy $1M homes have at least some other wealth, probably in stocks. Their portfolio's have not exactly had a banner year, especially if they had exposure to companies like AIG, Lehman Bros., Merrill Lynch, etc.

Shift to RE?

Right now, at least some of those folks are probably thinking to themselves, "even after a 20% drop since the peak last Fall, stocks still look richer than residential real estate, which has been pretty beaten up by now. Even if real estate goes down another 10% from here, that's still better than watching one -- or several -- of my stocks blow up practically overnight. And I can't live in my stock portfolio . . ."

Why put it in your mattress when you can put it into your house?

P.S.: One more problem for the stock market relative to real estate: lousy returns the last decade coupled with off-the-charts volatility. To wit: $1 invested in the S&P 500 in 2000 is now worth . . . 80 cents. That same $1 put into Nasdaq stocks then is worth . . . 40 cents (more than 8 years later!).

Meanwhile, $1 put into real estate then peaked at $1.50 in 2006, and has since dropped to $1.30. Taking the sting off a bit: that 30% gain is tax-free.

Christmas for . . . everybody?

Bailout Package Debated

As former Defense Secretary Donald Rumsfeld might put it, "you fight an economic crisis with the political leadership you have" (not the more-perfect one you'd like).

Thus, in addition to Treasury Secretary Henry Paulson and Fed Chairman Ben Bernanke, the key decisionmakers in any bailout package emerging from Congress will be people like Nancy Pelosi, Harry Reid, Mitch McConnell, John Boehner, Barney Frank and perhaps a clutch of others.

So far, no one on the aforementioned list -- Democrat or Republican -- has distinguished themselves as an astute, insightful voice on the economic mess we're in.

On the contrary, it appears that that Congress' mantra is going to be a version of "what's sauce for the goose is sauce for the gander." Namely, if Wall Street is to get hundreds of billions -- few (or no) questions asked -- so should Main Street. Or put another way, "Christmas morning for everybody!"

Good thing the U.S. deficit is a modest $12 TRILLION going into all this.

Sunday, September 21, 2008


What's Next for Wall Street

[Editor's Note: normally, this blog concerns itself with real estate matters. However, what's happening on Wall Street now is, at its core, all about real estate. So, here goes . . . ]

If you're overwhelmed -- as many people are -- by the magnitude and rapidity of events on Wall Street the last few days (weeks, and months) . . you're not alone.

Leaving out the (very) complicated details, Wall Street has now suffered a series of major earthquakes, of increasing magnitude, culminating with what happened last week -- what could perhaps best be explained as a tectonic plate shift in the makeup of U.S. capitalism.

In chronological order, here's a rough recap:

Summer, 2007: two Bear Stearns hedge funds focused on the housing market blow up. Financial Richter Scale: 3.9

Fall, 2007: The $400 billion auction-rate securities market collapses. Financial Richter Scale: 4.2

February, 2008: Countrywide collapses, is bought by Bank of America. Financial Richter Scale: 5.4.

March, 2008: Bear Stearns collapses, is fire-sold to J.P. Morgan Chase with a $29 billion(!) U.S. government "backstop." Financial Richter Scale: 6.4.

August, 2008: IndyMac bank is taken over by the U.S. government. Financial Richter Scale: 4.8.

August, 2008: Fannie Mae and Freddie Mac are put into U.S. "custodianship's." Financial Richter Scale: 8.6.

September, 2008: Lehman Bros. goes bankrupt. Financial Richter Scale: 7.5

September, 2008: Merrill Lynch loses its independence, sells to Bank of America at a distressed price. Financial Richter Scale: 5.2

September, 2008: AIG nears collapse, is taken over by the U.S. government in exchange for an $85 billion loan. Financial Richter Scale: 7.9

September, 2008: A huge money market fund, The Reserve, "breaks the buck," and triggers a $250 billion run on money market funds. Financial Richter Scale: 7.5

September, 2008: The U.S. government announces unlimited federal insurance for the $3 trillion money market industry. Financial Richter Scale: 8.2

September, 2008: U.S. government proposes $700 billion fund to buy mortgage-related securities. Financial Richter Scale: 8.9

No wonder the denizens of Wall Street look like shell-shocked earthquake victims: that's what many of them are, albeit the financial kind. Unfortunately, this wasn't an act of nature, or God; it was very much man-made.

Venturing a guess about what comes next would be foolhardy in such a mercurial environment. About the only prediction (and advice) that seems obvious is, "prepare for after-shocks."

Friday, September 19, 2008

Financial Fran Tarkenton's

Gov't. Officials Devise New Playbook

The news accounts following Wall Street's gyrations this week frequently compared (Treasury Secretary) Henry Paulson and (Fed Reserve Chairman) Ben Bernanke to grim-faced surgeons trying to stem a potentially lethal and fast-moving infection threatening their patient.

Their countenances aside, Paulson and Bernanke's ad hoc reaction to market developments actually reminds me more of Fran Tarkenton, the famous football quarterback. When the pocket supposed to protect Tarkenton collapsed, no one was better scrambling in the open field to evade tacklers and find an open receiver.

If anything, the analogy does injustice to Bernanke and Paulson: Tarkenton had to dodge a maximum of 11 tacklers, and had 10 defenders of his own. Bernanke and Paulson look like a solitary duo with a multiplying number of foes. (Best allies, kind of: NY Attorney General Cuomo, and the other central bankers. No help at all: Harvard MBA/President George Bush. Possibly on the other side: SEC Commissioner Chris Cox).

The positive aspect of all this is the sheer creativity on display, and the fact that no one's managed to "sack" these financial quarterbacks (at least so far), notwithstanding some harrowing near-misses (several this week alone).

The negative, disconcerting side of the same coin is the unprecedented, "open field" quality to the public policy response(s).

What exactly is a government "conservatorship"? While "Receivership" is an established concept in bankruptcy law, "conservatorship" is . . . sort of made-up. Yet as of this week, that's the legal state Fannie Mae, Freddie Mac, and AIG find themselves in. Details -- lots and lots of details -- to follow.

Ditto for the alphabet soup of "credit facilities" devised by the Fed the last year to inject money into the financial system. Strip away the exotic acronyms, and what you basically have is the Fed and Treasury shoveling money -- lots and lots of money -- into a hemorrhaging system as fast they can.

The pace and scope of that money-shoveling, unbelievably, has accelerated signficantly in just the last 72 hours. Perhaps inevitably, commentators are referring to the Fed and Treasury's most recent efforts as a "financial surge."

Let's hope the parallels with Iraq are only superficial.

Sunday, September 14, 2008

"A Bird and 1/4 in the Hand" . . .

vs. Two in the Bush

There's an old joke about two hikers who encounter a hungry grizzly bear. The first hiker thinks he has to out-run the bear. The second, smarter hiker knows that he has to outrun . . his hiking companion.

In a nutshell, that captures the dilemma facing buyers trying to decide how much to offer for a home.

After all the Comparative Market Analyses ("CMA's"), number crunching, and buyer gut checks, the winning offer is . . . whatever is likely to trump the competition.

In a bidding war with multiple offers, that calculation is explicit. However, even when there is only one Buyer on the scene at any given time -- the typical case -- that Buyer must still guess the minimum the Seller will accept, vs. waiting for another, better offer.

A bird in the hand vs. two in the bush is a toss-up. So, my counsel to Buyers is to try to offer a bird and one-quarter or a bird and one-half -- that is, make the offer tempting enough that the incremental amount that the Seller might hope to get by waiting isn't worth the risk.

Saturday, September 13, 2008

Blame Game

Who "Lost" Fannie Mae & Freddie Mac?

When China fell to the Communists after WW II in the 1940's, it triggered a full-scale national "soul-searching" about where to place the blame (the Democrats lost). Now that the Treasury has taken over Fannie Mae and Freddie Mac, we're in the early stages of assigning blame for a mess that could ultimately cost taxpayers hundreds of billions.

There's a lot at stake, not just for the housing market but the entire U.S. -- if not world -- economy.

Now that the U.S. effectively controls Fannie Mae and Freddie Mac, it must decide what to do with them. In turn, that depends on understanding how things went so wrong.

Only once you get the diagnosis right is it possible to make the right (public policy) prescription . . .

Wednesday, September 10, 2008

Time to Refinance

Treasury Moves Lower Interest Rates

It may only be temporary, and it doesn't necessarily signal that the housing market's troubles are over, but the government's seizure of Freddie Mac and Fannie Mae has had at least one immediate, salutary effect: lower interest rates.

Since just last week, fixed 30-year rates have dropped almost a half point, from 6 3/8% to 5 7/8%. Fifteen year rates have experienced a similar size drop, to around 5 3/8% (the latter traditionally are viewed as safer loans and therefore carry lower rates).

If your mortgage rate is significantly above those numbers, you may want to reconsider refinancing. If you are a prospective Buyer, homes just became a little more affordable. And if you are a Seller, you'd expect that Buyers' wallets may be open just a little bit wider.

Right Number of Showings

How Many Showings is Too Many?

Just as there is "love at first sight" in relationships, there is also "love at first sight" in real estate. I've witnessed it several times: sometimes even before my clients said anything, I knew that they had found the home they wanted to buy (body English and facial expressions speak volumes!)

At the other extreme, I've also worked with clients who, either because of their decision-making style, or unique home preferences (location, style, etc.), took longer to find the right home. Such clients will typically want to see more homes, then go through the finalists more times, before deciding.

As in most things, a happy medium is best.

Even when a client is convinced that they've found "the one," I'll encourage (if not insist) on a second or even third showing, just to make sure that they're not making a rash or impetuous decision.

Like relationships (again), it's smart to distinguish between genuine love and infatuation. As a realtor, there's nothing worse than having a client reconsider their decision after the Purchase Agreement is signed and the inspection contingency is removed.

At the other extreme, when clients are still on the fence after seeing a home several times (two-three showings is standard prior to buying), it may be because the home isn't for them.

While lightning doesn't always strike in every deal, lingering ambivalence is usually a sign that's something's missing. When that's the case, especially in a Buyer's market, the smart thing to do is keep looking.

Rescuing the Rescuers

Who's Going to Rescue the Fed & U.S. Treasury?

After Bear Stearns, Fannie, Freddie, IndyMac Bank, and now maybe Lehman Bros. and Washington Mutual, one can only ask, "who's going to rescue the rescuer(s)," if need be?

While certainly preferable to systemic meltdown, having the U.S. government assume trillions of debts (an unknown percentage bad), and effectively nationalize large swaths of the U.S. housing market (finance, insurance, underwriting, deposits, etc.) poses some very big, long-term questions.

Two in particular come to mind: 1) is the U.S. private enterprise/capitalistic model still intact?; and 2) if the pendulum has indeed swung away from that, how (and when) is it made to swing back?

Those are long-term questions. For now, Washington and Wall Street's focus and concerns are clearly much more immediate.

Monday, September 1, 2008

Classic FSBO Mistakes

FSBO Mistake #4: Not Proofing the Listing on MLS

If you try to fix your own plumbing and screw it up, it might cost you, at most, a thousand bucks or so and a weekend of your time (for clean-up, calling plumbers, etc.)

Ditto if you botch fixing your own car.

However, if you try to sell your own house and blow it, the cost could easily be tens of thousands of dollars (depending on the value of your home). Not to mention headaches that last weeks (if not longer).

That point was brought home to me the other week when I showed one of my clients a FSBO ("For Sale By Owner") home.

My client liked the house after the first showing, and had a couple follow-up questions. At the top of the list was the house's legal status: the owner had checked "yes" next to the box on the MLS input sheet asking if the home "was in foreclosure or lender owned."

When I contacted the FSBO owner and asked for foreclosure details, she was dumbfounded. "It's absolutely not in foreclosure," the owner protested. I then told her to look at the MLS listing, which indicated otherwise. The next thing I heard was "click." Sure enough, when I checked the listing on MLS the next day, the "yes" had been changed to "no."

Market Debuts: Sizzling . . . or Fizzling?

Unfortunately, by then the damage had already been done.

Just as people never get a second chance to make a first impression, neither do homes.

In the two weeks since this particular home came on the market, how many prospective Buyers passed because they didn't want the headache of dealing with a foreclosure property? Banks can be notoriously slow to respond to offers on such properties, and imperiled homeowners benefit from a number of statutory remedies (right of redemption, right of reinstatement, etc.) that can put a legal cloud over any deal.

In addition, many Buyers have come to associate foreclosures with, shall we say, less than pristine condition.

Yes, it was a bit puzzling that the home looked so flattering in the interior pictures, some Buyers may have thought to themselves -- but so do lots of homes these days that turn out to be not exactly as advertised in person (see my Aug. 22 post, "Homes Getting Bigger . . Online").

More Strikes

The fact that it was a FSBO only made matters worse. Experienced realtors know that, with no realtor on the other side to help move things along, they'll be doing twice as much work, for the same amount of money. Scratch some more showings.

Which brings us back to the hapless FSBO, and exactly how much they "saved" by not listing with an agent.

Like most FSBO's, they weren't trying to avoid paying any commission at all, just the roughly half that goes to the listing agent. They were still offering the standard "payout" to the Buyer's agent (failing to do otherwise would be seriously shooting themselves in the foot).

Net commission saved: 3.3%.

Compare that with the cost of squandering their first two (and most important) weeks of market exposure: perhaps as high as 3%-5%, or . . . what they would have paid a realtor to handle everything for them!

And that's just one mistake. This particular FSBO doesn't even have an offer yet (my client passed). Still ahead: arranging (still more) showings; setting up more flyers and advertising; procuring the right disclosures and contracts (and competently completing them); finding a good title company to handle the closing, etc.

So is this FSBO really going to come out ahead? You tell me.