The Real Estate Espresso Podcast

Leslie Smith is with Commercial Direct, an online based commercial lender who specializes in unusual commercial opportunities. Her take on commercial lending is a little non-traditional. But they've been in business for 20 years. A fascinating and refreshing approach.

Today's bonus episode was recorded live on the beach. It's also available as a video on Youtube. I describe how the show is recorded and edited. 

On today’s episode we are reviewing the book of the month. In order to be considered for book of the month, the book must meet a very simple criteria. It has to capable of changing you life, or your perspective on the world. Of course, whether it changes your life is up to you. You can consume the content, remark on how good it is and then continue your life without making any changes. In fact, that’s what most people do. If that’s what you do, you’re missing the point.  This month’s book is “Building a Storybrand” by Donald Miller.

Today's episode is part 2 to Adam's question on Corporate Debt. On today's show we dig deeper into corporate debt and what are some of the issues surrounding it. What can cause corporate debt to become toxic? After studying is more deeply, I believe that we have a lower risk of another credit crisis resulting from corporate debt. The real threats to our economy and our banking system come from government debt that is a runaway train. 

Today's episode is based on a question from Adam in Riverside California. He asks about how much of a risk corporate debt represents to our economy.  This is a great question, and it's a complex one to answer. So it will take a couple of episodes to answer this question. Today we're going to explain one of the widely accepted debt rating systems, and on tomorrow's show we will go deeper into answering Adam's question.  The global debt of all forms grew from about 100T ten years ago, to about 170T today. The debt to GDP ratio has grown as well and has grown by 25% in that same 10 year period. Globally we are carrying a lot more debt. In that same time, corporate debt has grown from 37T to 66T, a growth of 29T in that same time period. We will dig deeper into what all this means on tomorrow's show.  In the meantime, how much has your personal and business debt grown in the past decade? 

Today's episode in another AMA episode - Ask Me Anything. Robin asks... In one of the previous episodes, you had mentioned about the advantages of using mini-splits in terms of cost savings. I had spoken to an HVAC specialist about this concept, and he mentioned some drawbacks.  - Any kind of serious maintenance/replacement down the line would require tearing down walls which can be quite expensive.  - Tenants cooking something greasy and clogging up the outlets.  - Operational efficiency: In the case of a furnace, tenants are familiar with changing the furnace filters which are quite simple. - In Canada, the weather can be quite extreme like what he had experienced in January and even using some resistive elements may not generate enough heat inside the units. Just wondering what are your thoughts regarding these concerns. Thanks, Robin

Today's show is about another example of government overreach. In January 2017 Canadian federal government instituted a mortgage stress test rule. This required banks to subject borrowers to a financial stress test when applying for a residential mortgage loan. The stress test was designed to protect the marketplace and the banks from the risk of rising interest rates in the future. Borrowers would need to qualify for an interest-rate two points higher than the actual prevailing interest-rate in the market. So if interest rates were at, say, 3%, the borrower would need to qualify as if the rates were 5%.  In the latest twist the Canadian federal government is now examining whether the same rules should also be applied to private lenders. This information was reported by the Globe and Mail who cited three sources directly familiar with the talks taking place behind closed doors.  Since the rule change in 2017, fewer borrowers have qualified for bank financing. Borrowers have responded by turning to alternative lenders to complete their financings. In the wake of the rule change last year there has been considerable growth in the market share for private lenders. Private lenders have different underwriting rules than banks, and they generally charge a premium compared with banks for an equivalent loan. So these loans are more expensive for borrowers. But they are a last resort for many borrowers. Today private lenders represent about 10% of the residential mortgage market. That represents a significant increase compared with a year earlier. Some banks have expressed a concern that private lenders could eventually represent 15% of the overall market.  The banks have been quietly lobbying the federal mortgage insurer and the federal bank regulator over the loss of market share.  So exactly what is the rationale for imposing more rules on private lenders? The regulators are concerned about the risk being transferred from Banks to private lenders. So here we have a government that has created a side effect from a new rule that they didn’t anticipate. Their idea of a solution is to layer another rule on top of the new rule instead of eliminating the rule that caused the problem.  Wait a minute. Since when has the government been concerned about protecting accredited investors from taking financial risks?  In my opinion this has nothing to do with protecting wealthy investors. The federal government does not want the banks to lose market share. In fact I would argue that the banks have lobbied the federal government and convince them that they should protect the banks market share.  I’m not hearing complaints from private investors that they government to step in, to help them with new rules on how they should under-write their loans. They’re not asking government to compensate them for losses that haven’t even happened, or that might happen at some point in the future. 

Golf popularity is declining. It's a combination of cost, demographics, and the number of new golfers entering the sport. Many golf courses are being targeted for redevelopment. On today's show we have the story of an 18 hole course in Ottawa where the community opposition to redevelopment is extremely high. I'm talking with community leaders Jenna Sudds, and Neil Thompson to get their perspective on the redevelopment proposal. We also have George Ross, former Executive Vice President of the Trump Organization on the show talking about his experience helping acquire golf assets for the Trump Organization, and his perspective on redeveloping land that was once a golf course.

Ty Crandal runs an organization called Credit Suite. They specialize in all forms of business credit, separate and distinct from personal credit. They assist companies in establishing credit scores for their business that will enable them to qualify for revolving credit facilities based strictly on the business, and not necessarily a fixed asset as collateral.  

Earlier this week the Wall Street Journal published a story criticizing the return of stated income loans. Many of the loans that precipitated the 2008 financial crisis were also stated income loans. It was one of those “here we go again” stories.  It tells the story of a 30 year old nursing student who managed to get a $610,000 loan with no tax returns and only 12 months of bank statements and letters from clients. How Outrageous!  How irresponsible for the banks to be taking these types of risks again.  The rest of the story is stated somewhat factually, but not really analyzed in depth. Here are the facts. The lender made the loan at 65% loan to value. That’s a pretty conservative ratio. Even if the borrower defaults, the lender stands a very good chance of getting back 100% of their principal.  Stated income loans are not a problem in and of themselves. In the world of residential underwriting, the fundamental assumption is that the path to repayment of the loan is from someone’s employment income.  If you’re not repaying the loan from your employment income, then there must be something wrong with the borrower.  The problem with the stated income loans back in 2005-2007 is that they were high ratio loans. They were offering loans with very low downpayment, and no verification of documentation. That’s not the case here. If a homeowner doesn’t have 3 years of income history, it doesn’t mean they’re a bad risk. Bank accounts give a more complete view of spending history than a tax return which provides a snapshot at a single point in time.  I think there’s nothing wrong with stated income loans.  When a lender lends you money, they’re asking only one question. “If I lend you money, how am I going to get it back?” How will I get it back if things go well? How will I get it back if things don’t go well.  The safety of a loan is the combination of security and risk.  These variables together define safety.  The security of a loan is based on the lender’s recourse. If the loan ratio is at 90% equity, and 10% loan. I don’t care what the borrowers income is. If I have to foreclose on that property, it will be the best day ever.  On the other hand, if the loan is at 10% equity and 90% loan, my exposure as a lender is much higher. The risk of the borrower defaulting becomes much more important to the lender in the second scenario.  If I’m a lender at 10% loan to value, I don’t care what the risk of default is. I’m always going to make my money back no matter what the borrower does. There is virtually zero risk as long as I’m secured on title in first lien position. My protection in that instance is the security and the low loan to value ratio.