The Real Estate Espresso Podcast

On today's show George shares his view on the market cycle. He's seen no less than 7 market cycles in his career. George's perspective is only possible with experience of having lived through so many cycles. 

Essentialism by Greg McKeown Greg McKeown is a speaker, bestselling author, and host of a popular podcast. He has been featured in The New York Times, Fast Company, Fortune, HuffPost, Politico, and Inc.; is among the most popular bloggers for LinkedIn; and has been interviewed on NPR, NBC, and Fox and on Steve Harvey and more. He is a Young Global Leader for the World Economic Forum. Originally from London, he now lives in California with his wife, And four children. Essentialism is not about how to get more things done; it’s about how to get the right things done. It doesn’t mean just doing less for the sake of less either. It is about making the wisest possible investment of your time and energy in order to operate at our highest point of contribution by doing only what is essential. The way of the Essentialist means living by design, not by default. Instead of making choices reactively, the Essentialist deliberately distinguishes the vital few from the trivial many, eliminates the nonessentials, and then removes obstacles so the essential things have clear, smooth passage. In other words, Essentialism is a disciplined, systematic approach for determining where our highest point of contribution lies, then making execution of those things almost effortless. Today, technology has lowered the barrier for others to share their opinion about what we should be focusing on. It is not just information overload; it is opinion overload. But when we try to do it all and have it all, we find ourselves making trade-offs at the margins that we would never take on as our intentional strategy. When we don’t purposefully and deliberately choose where to focus our energies and time, other people—our bosses, our colleagues, our clients, and even our families—will choose for us, and before long we’ll have lost sight of everything that is meaningful and important. What if the whole world shifted from the undisciplined pursuit of more to the disciplined pursuit of less…only better? What if we stopped celebrating being busy as a measurement of importance? What if instead we celebrated how much time we had spent listening, pondering, meditating, and enjoying time with the most important people in our lives? Essentialism is not a way to do one more thing; it is a different way of doing everything. It is a way of thinking. When we forget our ability to choose, we learn to be helpless. Drip by drip we allow our power to be taken away until we end up becoming a function of other people’s choices—or even a function of our own past choices. Do setbacks often only strengthen our resolve to work longer and harder? Do we sometimes respond to every challenge with “Yes, I can take this on as well”? After all, we have been taught from a young age that hard work is key to producing results, and many of us have been amply rewarded for our productivity and our ability to muscle through every task or challenge the world throws at us. Yet, for capable people who are already working hard, are there limits to the value of hard work? Is there a point at which doing more does not produce more? Essentialists see trade-offs as an inherent part of life, not as an inherently negative part of life. Instead of asking, “What do I have to give up?” they ask, “What do I want to go big on?” The cumulative impact of this small change in thinking can be profound. The book Essentialism goes beyond preaching about the benefits of thinking deeply about what is important. The author creates a discipline and a series of daily habits that act as an antidote to the gravitational pull of trying to do too much.

On today’s show we’re talking about the tipping point of home valuations. This is really a discussion about situational awareness. It’s important to be aware of your surroundings. Most people would not walk alone in a dark alley in a rough part of town. It might be too difficult to have complete situational awareness to know whether it’s a safe move or not. The same situational awareness that would help keep you safe in a dark alley is what you need to stay safe as a real estate investor. I’m starting to see an increasing number of people who are baffled by the rapid rise in home prices. The biggest factor affecting home supply is the lack of willingness to move. I hear the same refrain over and over again. I love my neighborhood. If I sell, I can get a great price for my house, but where will I go? I can’t buy back into the area at a reasonable price. If I sell, I would have to move to a less expensive area. This week, I had a conversation with a home owner in Dallas who said his house has gone up in value by $400,000 in the last two years. He’s willing to buy a larger house on some acreage in a less expensive area and cash out, and put the spare change in his pocket. A large family move is a daunting prospect. I’m hearing people who are contemplating making these moves, or have outright made the decision to move. One or two of these are interesting. But trends are the result of thousands of small independent decisions. Real Estate markets are inefficient. They’re slow moving. They’re slow moving because people don’t move quickly. People move slowly. Real estate has always been about location, location, location. The question is what does that really mean? The definition is secular. It means different things to different people. For one person location means walking distance to their favourite coffee shop and grocery store. For someone else it means being close to their family members. For another, they want a view of the water and as much distance as possible to their closest neighbour. It used to be the case that distance to work was a primary factor in deciding where to live. That is still going to be a major factor for the majority of the population. The number of jobs that are truly location independent still make up a minority of the working population. It’s a growing minority, but still a minority. As the economy opens up, I believe we will start to see some mobility within the population that has been far below the annual averages over the past year of the pandemic. As people start to move, you will start to see more inventory of homes for sale coming into the market. The lack of inventory of existing homes for sale has been one of the largest factors driving the rapid increase in prices. Demand for houses due to household formation, and low interest rates, have both created a fear of missing out for new home buyers. New home buyers have been priced out of home ownership as prices have risen. When you look at the rapid increase in values in some areas, coupled with the virtual freeze on movement that has been the story of the pandemic, I have to stand up and take notice. When I know half a dozen people personally who are actively looking at rural acreage, I have to stand up and take notice. This is not a scientific survey by any means. I can’t ignore a few data points like this. There is definitely something happening here. I’m seeing migration at play. I’m talking to realtors who are looking for new supply. They’re looking further afield for that new supply. I’m talking to other developers who are seeing new demand in areas where demand was light in the past.

The year was 2011. It was a hot summer day in August and it was around 108 degrees Fahrenheit or 42 degrees centigrade in the shade in Phoenix. There were about 50 people assembled on the patio next to court house steps on Jefferson street. They were all there for the same reason. Most people had a clipboard with the the list of the days properties to be auctioned. In a few minutes time, the auctioneers would arrive with their ruggedized laptops. Today there were three auctioneers and each one set up on a separate picnic table, separated by about 15 feet. If you stood between two of the tables you would probably be able to hear two sets of auction properties at once. You could tell who were the professional bidders. They had an ear piece connected to their phone in one ear so they could communicate with the head office and they were listening to the auctioneers with the other ear. This day’s list had 260 properties to be auctioned. The list was made public at 9AM the day before the auction. So you had at most 27 hours to review the list and perform a drive by inspection of the properties on the list. But before you did that, you would need to carefully review the list and determine which properties would be of interest. You would need to search title to determine whether any other liens were recorded on title. Knowing the full picture of the liens on title was key to knowing what the likely minimum sale price would be at the auction. If the price didn’t meet the reserve price and didn’t sell, then the lender would become the owner as a result of the auction. If you looked around you could tell who were the professional bidders and who were the amateurs. The pros all knew each other. The rookies were looking around, taking it all in. They were unsure where to stand, unsure of how it all worked. There was a police officer from Toronto. There was a mother and daughter who arrived with one specific property in mind. Each time a property sold, the winning bidder confirmed their information with the auctioneer and handed over a cashiers check for $10,000. They would have 24 hours to bring the balance of the purchase in the form of a cashiers check. The auctioneer would read out the lot number from the list of auctioned properties and then read out the address and the starting bid. Within a minute the property would have a new owner or it would revert to the foreclosing lender if there were no bids. Many of the properties sold for $25,000 to $35,000. The professional bidders wanting to protect their value in the process would bid against rookie buyers to force the price up before backing down. They forced the purchase price up to $50,000 when the mother and daughter Many of those in attendance were shocked that the mother and daughter were forced to pay too much. On that day about 1/3 of the properties went back to the bank with no bid. Another quarter that were originally on the published list did not get auctioned. It was an average day on the courthouse steps in the noon sun. That year, 36,000 homes went into foreclosure. Mother and daughter overpaid by about $20,000 that day. But today, their home would probably sell for between $400,000-$450,000. With the benefit of hindsight, we can see that there were no bad deals that day. Back then we were looking upon the auctions as the new normal. Here we are in 2021, in the tail end of the largest pandemic induced economic disruption in recent economic history. Homes are selling above asking price in multiple offers. The current market conditions have no end in sight. This is the new normal. Back in 2019 the market appeared hot. Here we are nearly two years later and the market seems hotter than ever. As I reflect upon the auctions of 2007, those were not normal market conditions. The frenzied market conditions of 2021 are not normal either.

On today’s show we’re talking about risk taking when a good deal presents itself. This past week, another investor who is developing a residential subdivision had their source of funding evaporate. The timing, a week before closing is awkward for the buyer. They have alternatives but are definitely going to be scrambling to maintain some level of control. The challenge is that completing the due diligence in such a short time period is going to be difficult and there will be some corners cut in the due diligence process out of necessity. The true question is whether the risk being assumed in cutting those corners is enough to step back from the deal or not? The value of the land is tied entirely to the development potential. If the land remains farm land, then the purchase price is too high. If the land can be fully developed as has been represented by the seller, then it’s a bargain. If the land can even be partially developed, then it’s a fair price. So how does a buyer segment the due diligence in order to find that ideal balance between risk and reward? We have an extensive due diligence checklist that we apply to our own projects. In this particular instance, the other developer has not completed what we would consider a complete due diligence. When performing due diligence, the work falls into three basic categories. The specific submarket. The people The deal In our case, we’re 100% comfortable with the specific submarket. We know that there is demand far in excess of supply. The specific market we are focused on is Boise Idaho. This is the third fastest growing market in the country over the past few years. We have all of the major national home builders now active in the market. Some home builders who had been absent are now competing with us for land. We believe the purchase price being offered is a fair price. Somehow we need to get comfortable with the risk, knowing that the planning department has not made a recommendation to city council, and that city council has not voted on the entitlement. At a price of under $20,000 per lot, the property is a fair price, provided they can be entitled. We believe that fully entitled lots will capture a higher price in the open market once shovel ready. The profit potential is there. But then we also need to look at the big picture and the downside risk. At this moment we have land to develop about 500 homes in a single market. At what point do we become overly concentrated in a single market? When does the risk become too large? What percentage of the overall market do we alone represent in terms of growth? At this stage, we don’t know if this new project makes sense yet. We’re going to be conducting our own due diligence and making an assessment of the downside risk. The upside is clear. The downside is not as clear. Unless we can get enough information to satisfy our own due diligence process, we will have no choice but to decline the opportunity. Tempting as it might be, we simply cannot sacrifice the discipline in our business for what might be a good deal, or equally could be dud.

You’ve no doubt heard the old joke about the guy who calls a pizza place to order a pizza over the phone. He orders a medium sized pizza with mushrooms and sliced tomatoes. The person taking the order asks whether they would like the pizza cut into 8 slices or 10, to which our trusty guy ordering the pizza says. Oh yes, cut it in 10, I’m hungry today. Yes, it’s an old joke, and not all that funny really. But, I’m guessing the guy who ordered the pizza must work for the Federal reserve. In a world of finite resources, of finite primary wealth, and of finite pizza, issuing more currency, or making smaller slices doesn’t create more pizza. It simply dilutes the value of each slice of pizza. OK. So we know governments are printing money like never before. According to modern monetary theory, we’re being told printing money will not be inflationary as long as it’s being done the right way. What will cause the next downturn in real estate? The world is filled with counter party risk. Quite simply, counter party risk is the result of an asset on one balance sheet appearing as a liability on someone else’s balance sheet. When the chain of financial dependence becomes too deep and too unstable, then you have a chain of dominos. Once one domino falls, then all of the dominos in the chain fall over. So the question is, where is the instability in the system? Where is the house of cards? Some have argued that the government is simply printing too much money and that’s the cause of the instability. If you’ve been listening to this podcast for a while, you’ll remember me saying that printing money works, until it doesn’t. When it doesn’t work, there’s no turning back. It’s a slippery slope, a runaway train. The only way back from that kind of slippery slope is a complete reset of the financial system. Some countries have tried cosmetic resets to the financial system. Venezuela’s recent attempt was to lop off five zero’s from their bank notes. In the end, that didn’t work, because they didn’t fix the underlying issue. It takes a commitment to stop printing money. We also see inflation when we look at asset prices. Stocks are trading at peak valuations; the average Price/Earnings ratio in the S&P 500, for example, is now 42, roughly 3x the historic average. It has only been higher two other times– just before the 2000 crash, and just before the 2008 crash. Bonds are so expensive that more than $13 trillion worth trade at negative yields. So let’s imagine that one day, stock traders wake up and realize that the prices being offered in the stock market for these companies don’t make sense. This has happened from time to time throughout history. We saw it on October 19, 1987. We saw it in 2001 after the dot com bubble burst. We saw it again in 2008 when it became clear that the US banking system was over-leveraged. A precipitous drop in stock market prices could cause a cascade effect on assets across the board. One of the warning signs is the amount of debt in the stock market. You might be wondering what I’m talking about. The stock market is an equity market. I’m talking about the margin accounts at all the major brokerage houses. When traders have high margin accounts and market prices fall, then traders need to sell assets in a hurry to cover their margin shortfall. That puts more downward pressure on the market. Let’s imagine that you are sitting on a lot of cash. Let’s imagine that you’re worried about inflation. That means your cash is going to be worth less a year from now, or two years from now, of five years from now than it’s worth today. Would you be willing to lend money for a long time at a low fixed interest rate? Or would you prefer to put your money into an asset that provides a more effective hedge against inflation?

There are those who have a scarcity mindset, and those who have an abundance mindset. The scarcity mindset says that the pie is only so big and if you’re going to get more, that means that somehow I’m going to get less. The abundance mindset says that it’s possible to make the pie bigger for everyone. As you will see, both these philosophies can be simultaneously true. But it depends on the context. If you compose a new hit song, and it sells a million copies, you didn’t take a song resource away from anyone else. Someone else can also come along and compose a hit song. There’s no hard limit on the number of songs that can be hits, or that can be written. You can create wealth by creating value in multiple different forms. On today’s show we’re talking about the different forms of wealth. We’re being asked to believe that there is a new way of accounting. Modern monetary theory says that you can print money and it won’t be inflationary. But before we can take a deep look at this question, we need to return to basic principles. Tactics sit on top of principles. Just like actions sit on top of the laws of physics. When someone tells me that they can defy the laws of physics with a new technology, I quickly return to the laws of physics. So far, we have not managed to act our way out of physics. There are three types of wealth. Primary, secondary and tertiary forms of wealth. Primary wealth is sourced from the land. It is rich soils, thick stands of timber and abundant reserves of ores and fossil fuels in the ground. Primary wealth relies upon rich supplies of fresh water. When we grow wheat in the prairies in Canada and export the wheat to China, we’re really exporting water to China. Fresh water is primary wealth. Arable land is primary wealth. Reserves of oil and copper and lithium and iron and gold are forms of primary wealth. Secondary wealth is the means of production that has been extracted and/or converted from primary wealth and brought to market. It's lumber, steel, food in the grocery store, and factories. China has extraordinary secondary wealth, which has relied upon other countries to supply the primary wealth. Tertiary wealth, better known as 'paper wealth' (stocks, bonds, etc), is merely a claim on either primary and secondary wealth. Without either of those two forms of wealth, tertiary wealth has no value. It was only recently that people somehow forgot this simple logical progression. Two hundred years ago, the answer to the question “Who are the wealthiest people around here?” was as simple as pointing to those who owned the most land (primary) or factories and stores (secondary). So when people are trading in paper assets, or electronic assets like a crypto-currency, those assets are worthless unless they sit on top of a foundation of either primary and secondary assets. Let’s look at one of the savviest guys in the world. I’m speaking of Bill Gates. His Family Office is estimated to own 269,984 acres of farm land in the United States. He is estimated to be the single largest farm land owner in the world. Agricultural land with water on it is primary wealth. With population increasing globally, we will need to produce 70% more food over the next 30 years. The world population has grown 28% since the year 2000. We could be at 9 billion by the year 2037 and 10 billion by 2057. More importantly, global fresh water demand is expected to grow by 20-30% by 2050. We already have vast areas of arable land that have become depleted through a combination of erosion and depletion of the water table. These losses will eventually have an impact on the ability of the world to sustain human life. That farm land is going to become more and more valuable as demand for food increases.

Storm Cunningham became obsessed with revitalization after seeing our choral reefs dyings. A diver and former Green Beret, he now lectures all over the world on the topic. He's the author of several books on the topic and is the editor of "Revitalization Magazine". His latest book, "Reconomics" can be purchased on Amazon.  To learn more and to connect, visit https://stormcunningham.com

Alicia Jarrett is 16 hours time zone away in Melbourne Australia. She invests in Florida real estate. Today's episode focuses on how she has built her business to effectively implement systems and processes to invest from afar.  To connect with Alicia, visit superchargedoffers.com.

On today’s show we’re taking a closer look at supply chains in today’s environment. I’m now hearing daily reports of empty shelves at building supply stores. I’m seeing posts on social media of contractors who have placed orders for construction lumber with some of the big box lumber stores two weeks ago and still do not have their orders fulfilled. I experienced the same thing last year when purchasing cedar for a small project. The supplier took my order for material that was in stock. By the time the staff went to pick the inventory and fulfill the order, someone else had purchased the material. I found another source and I asked for a refund. A month later, I received a phone call that my order was ready and I could come and pick it up. Needless to say they were surprised to hear that I had cancelled the order and already received a refund. The higher cost of lumber is adding between $25,000-$30,000 to the cost of a new home, if you can find the material. Earlier this year, one of my general contractors submitted a change order asking if he could replace some roof decking with a superior plywood product, since the builder grade chipboard was out of stock. The price difference was nearly zero because the more commonly used product was in such short supply that it was actually more expensive than plywood. Naturally I said yes. The recent quotes I received for materials made me redevelop all of my budgeting spreadsheets. Some construction projects have been cancelled due to the high cost of construction. In my home market, a new $100M police station tender was withdrawn. The police station is needed and the budget is in place. But the high cost of construction seems to be extending beyond the cost of lumber. So the question is why have lumber prices gone up so much, especially at the retail level? Madison’s Lumber reporter has been publishing weekly since 1952. They’re one of the foremost authorities on the lumber industry. Canadian lumber is a significant contributor to the US construction industry. The pandemic lockdowns of 2020 closed saw mill plants for 6 weeks in Canada, and then when they re-opened they were cautious on ramping up production. Meanwhile, demand did not fall throughout the year. The retailers experienced a spike in price coming from the sawmills. The retailers had no time to react. They had no time to hedge with futures contracts. They were selling framing studs at $3.50 and then turning around and buying the replacement inventory from the sawmills at a higher price. They had never experienced that before. A sheet of plywood that used to sell for $35 is now $100. For the sawmills, the year 2020 was ideal. They want to close the year with the log yard full of new timber to cut and the yard with finished inventory empty. That’s exactly what happened. But the demand is so far in excess of supply, that sawmills are resorting to transporting finished product by truck instead of by rail. The transportation cost by truck is triple compared with rail. So the rail transport is going unused, and there are a shortage of truckers, which further pushes up the price for transportation of finished goods. The major builders are definitely taking steps to ensure security of supply. There is no question in my mind that builders are hoarding materials in order to secure supply. I’ve spoken with several major builders who have purchased the lumber for about 2,000 residential units at a time. That inventory will be consumed this year, but not next week. This shadow inventory follows classical economic cycles. At some point, production will expand to meet demand and the stockpiling behaviour will end. At that time, companies will stop placing excessive orders to protect their security of supply. They will consume their in-house inventory and demand for materials will drop despite continued construction activity.