The Real Estate Espresso Podcast

George Ross is well known as former executive vice president in the Trump Organization. He was a judge on the TV show The Apprentice. He taught at the law school at NYU for more than 20 years and is the author of two best selling books on real estate and negotiation. He has represented some of New York's most famous and wealthiest clients. It's almost impossible to drive a couple of blocks in NY without George having a first hand story about a building or landmark. On today's show we're talking about recent events and what it might mean for real estate investors and developers. 

This is part 2, a continuation from yesterday's show. Braxton from New Orleans asks: It feels like we are certainly departing from the status quo of the past 10-20 years. I have taken cash out of some of my small rental properties but struggle to re-deploy in more investment properties because prices continue to be pushed upward. There is a mountain of liquidity and increasing competition for investment at low yield. My personal view is we may see near term inflation, but I am concerned we could also be at the doorstep of another debt crisis like in 2008. It appears as though speculative mania has taken over in many markets. How do you view the inflation vs deflation risk and balance you near term investment decisions? If there is inflation it would make sense to buy assets as the housing rents should keep pace with prices, however if there is deflation retaining cash may make more sense. I would like to know how you are thinking through this scenario as each path will likely have very different outcomes. I think we are going to experience a period of stagflation, a combination of economic stagnation combined with inflation. Stagflation is caused when something artificial causes economic contraction. Efforts to stimulate the economy are held back because the artificial cause is still present. The result is an economy that is flooded with cash, but nowhere to go. The result is inflationary despite the economic contraction. That means prices will fall in some sectors of the economy, but not all.  The artificial event of course is the pandemic this time around. Governments the world over are ordering businesses to close and to not conduct business in order to protect human life and the healthcare system.  Keynsian economists believe that stimulus will  be inflationary and that retrenchment is deflationary. But that’s not necessarily true as we saw in the late 1970’s after the OPEC oil embargo. Any talk of deflation is of short term deflation. Nobody’s talking of a protracted depression like we saw in the 1930’s. I have no doubt that we are in a long term inflationary trend. This has been true since the early 1970’s. So the question is really whether a deflationary interlude would be devastating for you as an investor or not. The key to positioning your portfolio to handle a deflationary period is to make sure you have sufficient covering equity, and that you have sufficient monthly cash flow, or ample cash reserves. Your third question is whether we’re going to experience another debt crisis. A 2008 style residential real estate crash is possible, but not very likely in my view. The banks are much better capitalized and the Fed has basically told their member banks that they will buy up the toxic debt if it appears. It would take a big rise in interest rates in order for loan rates to become unaffordable, which would trigger a drop in real estate prices. For now, the Federal Reserve has issued guidance for the next couple of years that rates would remain low. When you do the math on the excess reserves that the banks have on deposit at the Fed, there’s more than enough cash there to handle a massive default on real estate. As of earlier this week, the new Treasury Secretary Janet Yellen who was previously Chair of the Federal Reserve has been the cheerleader for even more aggressive printing of money. We may be facing a sovereign debt crisis at some point in the future, but not a real estate debt crisis. I believe the US government is going to print money until the population or the rest of the world loses confidence in the dollar. At that point, we will experience rising interest rates in order for the US to sell its bonds.  If the US doesn’t succeed in restoring confidence in the dollar, then the US will lose its position as the global reserve currency and will get reset into some other monetary system.

Braxton here from the Greater New Orleans area. I am a long time listener to your show and I find great value in the breadth of content. I really enjoy the show format and this is the one podcast I can commit to on a daily basis. Thank you for all that you do for the Real Estate community. I know it must take an immense amount of effort to produce this on a consistent basis. My question today is on the topic you hear often these days on the great debate between inflation and deflation. It feels like we are certainly departing from the status quo of the past 10-20 years. I have taken cash out of some of my small rental properties but struggle to re-deploy in more investment properties because prices continue to be pushed upward. There is a mountain of liquidity and increasing competition for investment at low yield. My personal view is we may see near term inflation, but I am concerned we could also be at the doorstep of another debt crisis like in 2008. It appears as though speculative mania has taken over in many markets. How do you view the inflation vs deflation risk and balance you near term investment decisions? If there is inflation it would make sense to buy assets as the housing rents should keep pace with prices, however if there is deflation retaining cash may make more sense. I would like to know how you are thinking through this scenario as each path will likely have very different outcomes. Braxton, This is a great question. In my view, there are three major elements to be considered here separately. The first question is a little like asking, are there any bargains to be found in today’s hyper competitive environment. The second question is related to inflation versus deflation. Your third question relates to whether we’re going to experience another debt crisis in the near future. These are such good questions, that I’m going to answer them over a couple of episodes so that we can do each one justice. Let’s start with #1. There’s no question that we are seeing an auction environment in many segments. The winning bidder in an auction almost always pays more that if there is only one buyer at the table. The key is to focus on a specific stream of investment types. When you are well positioned in the marketplace, you will find lots of special situations that appear without showing up on the market. I’ll give you an example. We have millions of small businesses that are hurting in the current environment. The business owner may be looking to exit the business, but wants to keep any marketing of the business a secret. As soon as the owner markets the business, they damage the business, their employees go looking for another job out of fear for their job security. Often those businesses have real estate associated with them. We’re evaluating one right now as we speak where it might be possible to separate the real estate from the business and lower the cost of acquisition to a fraction of the asking price. Off market deals happen as a result of special situations. It might be a death in the family, or a divorce. Sometimes it’s a medical emergency that precipitates a financial problem. Coming in to save a situation for a family in financial distress can be an opportunity to do well and do good at the same time. You might pick up a property at a fair discount to the market, while preserving a good chunk of the seller’s equity. Finally, we look for opportunities to add value, to transform a property from something that’s not in very high demand into its highest and best use. This way we're not competing based on the existing market. 

On today’s show we’re talking about the need for travel. It sounds strange to say “Need” when we’re talking about travel. According to a report just issued last week by hotel analytics firm STR global for the first week of January. Across the nation occupancy was 37.0% (-28.3%) Average daily rate (ADR)was US$87.97 (-27.1%). Revenue per available room (RevPAR): US$32.59 (-47.7%). These are crushingly bad numbers. They represent an uplift from the low points in Q2 of last year. But these are far below profitable levels for the industry. According to Airbnb CEO Brian Chesky the changes the Covid pandemic has brought to the travel and lodging industries are permanent shifts, not temporary adjustments. According to AirBnB, travel is never going back to what it was before the pandemic, He feels that there are several trends that are worth noting. 1.  Bye-bye to business travel...as we know it: Chesky said the shift to remote work and meetings that Covid-19 accelerated is resulting in "a significant permanent decline in business travel, as we know it." Now I have a dissenting view on this particular point. People used to travel for all kinds of reasons in business. There’s no doubt that there are many meetings that can be held as effectively online as in person. I’m a huge believer in using technology for these types of meetings. When I’ve traveled on business, it’s been for a primary purpose, and that is to build relationships. I believe relationship building is better done in person. Those in the future who are clear as to why they are traveling will have a competitive advantage. Relationship Building Business Travel is going to be a new superpower for those few who embrace it. 2. Not a "rural" exodus, but an "everywhere" one Rather than traditional tourism, people sought out getaways with family or friends or temporary work-from-anywhere relocations, he said. And rather than a dichotomy of urban living to rural destinations, he feels that travel demand has been "redistributed" among smaller and mid-sized communities. 3. From "mass travel" to "meaningful travel": "Mass travel, mass tourism, which he defines as people going to crowded tourist districts, standing in line, getting their selfie in front of a landmark, in lines with other tourists, will be replaced with more meaningful travel.” I actually don’t agree with AirBnB on this point. There are still places I want to visit by air. I can’t wait for air travel to be restored. I can’t wait to get back to Europe. I want to go sailing in Sydney Harbour, and visit the Great Barrier Reef. These destinations are not driving distance. That’s why I believe we will see a rapid resurgence of air travel in the second half of 2021. There is no question that after a year of being isolated from family, people want to travel home and visit relatives. I see this in my own family. For the next year, travel is going to be more about connecting with friends and family than visiting the Louvre or the Eiffel Tower. I agree with him on that point. Mr. Chesky believes this is a semi-permanent shift. This is where we disagree. I believe that the first trip will be to visit friends and family. But what about the second trip and the third? People in Northern climates are addicted to their winter getaway to that beach destination where they can layer on the sun screen and get sand in their toes. Travel is not just about connecting with people. It’s about regeneration. That means getting out of your home environment for a change of scenery. It’s very hard to have an effective vacation at home when there are dozens of unfinished chores calling for your attention. When you board a flight, take a cruise, you can truly disconnect from your day to day life, if you choose to and get a real recharging of your batteries.

On today’s show we’re talking about what is money, and what is economic output? On today’s show I’m going to put forward a monetary theory that might be worth considering in today’s environment of rampant printing of money. In order for something to be considered money, it has to satisfy three criteria. It must be a store of value It must be a means of exchange It must be easily divisible into small units I think we would agree that the dollar and the Euro, and not even the British Pound are a very good store of value. They’re all depreciating assets. It seems like we’re trying to make sense of our monetary system with increasing frequency these days. The global dialog on crypto-currency has certainly brought the discussion front and center. But when we talk about money and go back to the early economists over the past couple of centuries, you will come across the labor theory of value. Two pre-eminent economists at opposite ends of the spectrum both subscribed to the labour theory of value. Adam Smith was a free market capitalist and Karl Marx was decidedly at the socialist end of the spectrum. Since most items in the 1800’s were manufactured using human labor in some way, the idea was that the value of a commodity was determined by and could be measured objectively by the average number of labor hours necessary to produce it. In the labor theory of value, the amount of labor that goes into producing an economic good is the source of that good's value. But today we can easily separate the notion of cost and value. Tying value strictly to labor input clearly misses the notion of value to the end customer. Should a glass of water be free? Or is a bottle of water fairly priced at $1.00? The labor theory of value would suggest that its value should be linked to the amount of time it takes a person to fill the vessel that carries the water. We no longer link the dollar to gold and silver. Starting in 1878, the US dollar was actually a silver certificate redeemable to the bearer on demand for an ounce of silver. In 1963, the US congress passed a bill repealing the silver purchase act. The US was running low on silver bullion and the US dollar was no longer linked to silver reserves. Along the way, the amount of silver backed by a silver certificate also changed as the currency was debased. Today of course the US dollar is no longer an asset. It’s a promissory note, it’s a debt instrument. Almost 1/3 of the US dollars issued since the declaration of Independence, over 200 years were minted in the past year. 2021 appears to be on track to mirror last year in terms of printing of money. We’re not two weeks into the new year and another $1.9T in spending has been proposed. With a new administration in Washington, there is a lot of talk about the need to reduce greenhouse gas emissions, something I entirely support. But here’s another inescapable fact. For every unit of economic output, there is a corresponding consumption of energy. But simply making it difficult or expensive to burn fossil fuels misses the economic value of energy. If you turn off energy output, you’re reducing the economy by that amount. He who controls energy controls the economy. Energy is money. You can’t accomplish anything in today’s economy without energy. So why are we not using units of energy as a means of exchange? Why are dollars not a claim on units of energy? Now I’m not suggesting that we barter with lumps of coal or a cup of gasoline. That’s about as convenient as a bar of silver. We can still have units of currency that are paper money, or even digital money. But what if we tied the dollar to a unit of energy? Energy is the great equalizer. Energy is required to produce food. It’s required to transport goods to market. Energy is required to listen to this podcast.

On today’s show we’re talking about foreign exchange. The question is what does foreign exchange tell us about our investments and our point of reference? You might be sitting in your living room as you listen to this podcast. You think you’re standing still, but in truth the earth is spinning at 1,037 miles per hour at the equator, or roughly 70% of that at the 45th parallel. You’re really travelling quite fast. But wait, the earth is spinning around the sun at a speed of 67,000 miles per hour. You’re not standing still at all. You’re in supersonic flight and you don’t even know it. You get the idea. When talk of money, we tend to use our own currency as the point of reference. Maybe you use the US dollar as the point of reference. Maybe your point of reference is ounces of gold, or perhaps bitcoin. So when the dollar drops in value against the Euro, or the Japanese Yen, you might not notice This week Mark Haefele, Chief Investment Officer at UBS in Zurich said that they’re advising some of their clients to diversify their holdings into Russian Rubles and Indian Rupees. That’s because they’re expecting the US dollar to lose value over the next year against a basket of foreign currencies. Currency markets have traditionally been driven by the most attractive currency. But lately, rather than being attracted to the best currency, traders increasingly a being attracted to the least worst currency. None of them are great. Interest rates in India are much higher than in Europe of the US. Money deposited in an Indian bank will get you somewhere between 4-7%. Mortgage rates are between 8.5%-9%. The Russian central bank has kept interest rates at 4.25% in their latest guidance. The Indian Central bank has set its rate at 4%. So investors in search of yield are placing a bet that neither Russia nor India will default on their debt within the term of the bonds maturity. You know something’s wrong when India and Russia are being put forward as alternatives to the US dollar. So why would UBS be recommending this? Let’s look at the practice of the US issuing government debt for most of my adult lifetime. The Fed would print some cash. The Treasury would issue Treasury bills and sell them on the open market and investors domestically and around the world would buy these up. The largest buyers for these T-Bills have traditionally been the Japanese central bank and the Chinese central bank. Together, Japan and China own about 10% of the US debt. Foreign governments own approximately 30% of the US debt. But since the start of the pandemic, there has been an unprecedented printing of money. Just last week, Joe Biden put forward another 1.9T in proposed pandemic relief spending. For now, all of this newly minted debt is going to be held on the balance sheet of the Federal Reserve. The US issued nearly 5T of new money in the past year. It’s hard to wrap your mind around these numbers. A lower dollar makes the cost of imports go up. The US imports a lot of products from overseas and continues to have a balance of trade deficit with its major trading partners including China. The price of oil will go up. Since oil and many commodities are denominated in USD, we can expect energy costs to go up in response to the drop in the dollar. So what does it mean for real estate investors when the dollar falls in value? It means that the cost of imports go up. It means that we enter a period of higher inflation. It means that the cost of construction goes up, which ultimately affects the affordability of new housing. That in turn affects the cost that new buildings must charge for rent. That too can be inflationary. As we’ve talked about recently on the show, when inflation is the new game, the rules have changed and you need to align your portfolio and your investment strategy accordingly.

Omar Khan came to the world of real estate investing from the world of stock options trading. Today he continues to move capital in and out of stock options, and in and out of real estate. On today's show, we're talking about the merits of various strategies and how it's important to adhere to your investment criteria, even when the market appears to have moved into over-priced territory.  You can learn more about Omar and his stock market training program at thetatradingco.com.

Today's show is a conversation with an extraordinary human being. Tom Dreesen has been in show business for 50 years. Along the way, Tom has made over 500 appearances on national television as a standup comedian, including more than 60 appearances on The Tonight Show. He was one of David Letterman's favorite guests and frequently hosted the show in Letterman's absence. He also appeared countless times in Las Vegas, Tahoe, Reno, and Atlantic City with artists like Smokey Robinson, Liza Minnelli, and Sammy Davis, Jr. And, for 13 years, he toured the nation as the opening act for Frank Sinatra. Tom recently released a new book entitled "Still Standing: My Journey from Streets and Saloons to the Stage, and Sinatra".  Listen to this wide-ranging and impactful conversation with Tom Dreesen.

On today’s show we’re talking about water. We’re all attracted to water features on a property. A lake, a pond, a canal, a river. All these water features make a property more interesting than a flat area of grass. In addition to the visual appeal, water brings a positive environmental benefit to a property. It provides a refuge for nature, for birds, fish, frogs, insects, and all kinds of vegetation that you may not otherwise find in an open field. But if you have water on your property, chances are that you don’t own it. The question of ownership of water dates back to riparian water rights. This is an area of law that varies widely from one jurisdiction to another. Generally speaking, the law has been created and interpreted by the courts in response to conflicts between competing legal systems. There are too many cases to cover on today’s show, but I’ll give you an example from the state of Texas. You’re going to need to perform your own research and due diligence in the location you own property. The basic idea when it comes to water is the presumption that mother nature was perfect in how the natural environment was created. When we start putting buildings, paving surfaces we start interfering with how the water flows when it rains, and we start interfering with how water is absorbed into the soil. When we’re talking about water we need to be clear on what kind of water we are talking about, is it ground water or surface water. Generally speaking, Texas groundwater belongs to the landowner. Groundwater is governed by the rule of capture, which grants landowners the right to capture the water beneath their property. The landowners do not own the water but have a right only to pump and capture whatever water is available, regardless of the effects of that pumping on neighbors underground water supply. Surface water on the other hand is much more complex. It depends on how the surface water is situated. If it is flowing, then the water is owned by the state. If that flowing waterway is a named waterway, then the flow of that waterway might be managed by the Army Corps of Engineers. Altering the bank of the waterway or having water flow into or out of that waterway would require approval from the Army Corps of Engineers. Surface water in Texas follows two sets of rules, Riparian rights, or Prior Appropriation. The riparian doctrine is based on English common law. The rules in most states and Canadian provinces follow the English Riparian rights. These court-developed rules are used in deciding cases that involve water use conflicts. The basic concept is that private water rights are tied to the ownership of land bordering a natural river or stream. Water rights are controlled by land ownership. Riparian landowners have a right to use the water, provided that the use is reasonable in relation to the needs of all other riparian owners. Riparian owners retain the right to use water so long as they own the land adjacent to the water. In the days of the wild west, when land was being explored, the much drier states had much less water. People used water whenever they could find it, regardless who owned the land. In the absence of any rules, people simply took water from streams and used it; that is, they appropriated it. When this practice became legalized, it became known as the Doctrine of Prior Appropriation.  In some communities, you are allowed to capture rain water. In others, you are not. Finally, many communities will require you to manage your stormwater runoff so as to not harm your neighbors. They may required you to build a stormwater detention pond to provide more controlled runoff during storm events that bring large amounts of rainfall. This is one area where you can’t simply apply what you believe is common sense.

AMA - Anu from San Diego asks: In the current SF real estate boom (last 6 months), the most growth has happened in the luxury end of the market. A new report from Redfin confirms this trend over the past year. Two questions: 1. I would like to know your opinion on why this has happened. 2. Do you think this is a temporary phenomenon or is it here to stay? Anu this is a great question. The pandemic has hurt the economy in numerous ways. But the pain has not been uniform. Those who have been most impacted by the business shutdowns have been those hourly paid workers. Those at the top of the economic ladder have continued to do well in 2020, even if some of the gains might be argued to be an illusion. The fall in the stock market it Q2 was overtaken by a run up in the market in Q3 and Q4. That has given people more confidence. Some recognized that the profits could evaporate and chose to redeploy the cash into property The low interest rate environment, combined with the forward interest rate guidance for the next three years has created incentive for homeowners to borrow even more money than ever before. It’s clear that the Fed intends to keep interest rates low for at least the next few years. But remember, when we’re talking about the luxury segment of the market, we’re talking about the top 5% of the properties in a market by price. The analysis that Redfin performed in the article you referenced broke down their analysis into 5 segments.. There are three equal-sized tiers based on Redfin Estimates of the market values as of Dec. 15, 2020, as well as tiers for the bottom 5% and top 5% of the market. The top 5% of the market by price is considered “luxury” for the purposes of this report, while the bottom 5% is titled “most affordable. These luxury properties still make up a small percentage of the market, and they’re still taking longer to sell than properties in the middle and lower end of the market. When people make a decision to purchase their homestead property, they’re looking with a longer time horizon. They’re looking past the pandemic. It might have been a purchase that was planned in the future, but merely accelerated. The increase in land costs and the increase in construction cost has caused some builders to focus on the upper end of the market. Those builders found a combination of robust market demand drive by low interest rates, and better profit margins. You see builders make most of their profit on upgrades and custom finishes. These buyers are willing to spend more. Some buyers took the opportunity that the pandemic afforded to invest in personal projects. The lockdown in the spring created extra time while the world figured out how to work from home. Some people took on home renovation projects, perhaps a backyard space like a deck or a pool. Others chose to design a new house. We’re seeing that reflected in the numbers. It’s tempting to look at short term trends in the market and extrapolate those trends into the future. In a stable boring market where nothing changes from one month to the next, you might be able to project into the future a little bit. It’s a little like trying to make sense out of the spike in toilet paper sales in Q2 of 2020. Store shelves were emptied of toilet paper. Did the population start using the bathroom at an accelerated rate? Did the population grow all of a sudden therefore driving demand for more toilet paper? Of course the answer is no. Over the long term, toilet paper consumption will revert to the average consumption, despite short term decisions to buy sooner than needed. I expect the same will be true in the luxury property segment. It appears like a large increase, but in reality, the numbers are small and it doesn’t take a large shift in absolute numbers to materially affect the percentages.