Three Tips to Help You Avoid Stepping Face First into Real Estate Risk 

Limiting risk in real-estate investments substantially increases your chances of earning high returns.  A solid risk assessment prevents you from getting burned, losing your initial investment or much worse. Investors pick real estate for three main reasons: Earn positive cash flow, take advantage of tax benefits or gain the satisfaction of impacting the lives of others. No matter which combination of these reasons attracted you to the idea of investing in real estate, the following three tips can help you reduce risk and maximize your benefits.

1. The first tip is simple, but often disregarded: Avoid speculation. In my book, “Standing in the Rain,” I describe speculation as “financial Russian roulette.” The odds can appear to be in your favor and the risk can often be downplayed in relation to the potential reward. Investors are seduced by speculation. They succumb to hearsay and promises of quick returns with little effort.  Speculation is a short-term investment ploy and it minimizes real estate’s incredible potential as a long-term investment.  Long-term investors look to retain their real-estate assets despite modest market fluctuations, short-term speculative investors become finicky when their asset does anything besides rise in value. Speculation is usually fueled by misinformation, greed or pseudo demand, and it does not have its place in the real-estate market. Forget about all things “get rich quick.” Wise real-estate investing requires thorough due diligence and I suggest you never let anyone convince you otherwise.
2. Do your best to ensure positive cash flow. Being ill-prepared for a property that swallows cash every month can quickly reduce the amount of capital you have to work. Remember, cash is king, queen, prince and duke of Real Estate City. When possible, consider the benefits of a substantial down payment.  It gives you instant equity, helps reduce your interest rate and lowers your monthly payments.  Predicting constant appreciation is never easy. But, with experience or the assistance of a seasoned professional, you can take the necessary steps in an educated attempt to ensure positive cash flow. Lack of due diligence places a painful strain on your cash flow and forces you to sell your investment property before the benefits are realized.
3. Narrow your focus. Which is the better choice for you, commercial or residential real estate?  Investing in real estate carries a great potential for creating substantial wealth. Such wealth rarely comes without making a number of difficult decisions. Before investing, consider your options. Ask yourself if you are qualified, or even willing, to handle evictions, time management, repairs, reinvesting money back into the property, documentation and necessary inspections. Real estate can be mostly “hands off.” You can hire professionals to handle every part of the process, but the appeal of real-estate investing is often its “hands-on” nature. Narrowing your focus and choosing which type of real estate you want to invest in requires your careful consideration.

In “Real Estate Risk and Retirement Planning Part One,” I have included a section that details different options you have when investing in real estate. Watch for “Real Estate Risk and Retirement Planning Part Two” it in the next few weeks.  I will discuss market trends and weeding through cumbersome rules and regulations. 

All My Best,

Thomas J. Powell

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Tags: capital, commercial real estate, documentation, due diligence, economics, ELP Capital, evictions, foreclosure, investment advice, ira, land lord, las vegas, long-term investments, markets, necessary inspection, Nevada real estate, options, property, Real estate, reinvesting money, reno, repairs, residential real estate, ria, speculation, strategy, thomas powell, time management, TIPS

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Residential Real Estate

 There are dozens of reasons why the residential real estate market bubbled and exploded, causing the ensuing credit crisis and economic strife. The popularity of loans requiring no documentation, the easy access to sub-prime loans and the Federal Reserve’s decision to keep interest rates low all intertwined to fuel the housing crisis. The housing bubble was also inflated by Wall Street’s ability to package and sell mortgages in large pools. Now, after struggling to repair the housing market for more than a year, we are seeing improvements that are unveiling extraordinary investment opportunities in residential real estate. 

It appears we have hit the bottom of the housing market trough. Housing prices found some stabilization; although the prices are still close to the lowest they have been all decade. But, the collapse took years to build and expecting a complete turnaround in 2009 is unrealistic. The real promise in housing is in the future. Getting your money into the market now is optimal because of low prices and reasonable mortgage rates. Plus, there will continue to be tax relief with the recent Obama-endorsed home-buyers’ tax credit extension—which is planned to be available for repeat buyers who have lived in their prior residence for at least five years. 

The United States should see a gradual increase in home sales throughout 2010, but the residential market will most likely not witness a return to “normalcy” until 2011. According to Steve Bergsman, author of “After the Fall, Opportunities and Strategies for Real Estate Investing in the Coming Decade,” “When a bubble market bursts, left behind is a lot of carnage and it takes about three years for the markets just to get a handle on the mess.”[1] 

The three-year anniversary of the housing collapse is fast approaching and a number of high-profile reports have been published this month that suggest the residential housing market is already improving. The Case-Shiller index, which tracks variations in the values of houses in 20 U.S. metropolitan areas, showed an increase of 2.9 percent in the second quarter of 2009. In the first quarter it was down 7.9 percent. Two reports released by the Commerce Department last week suggest that while the overall economy continues on a wobbly path toward recovery, the housing industry is experiencing a number of positive signs. For example, “The supply of new homes was at 7.5 months in September, down from 9.5 months in May.”[2] 

While residential inventory appears to be slimming, foreclosure rates continue to mount in multiple areas across the country. With a significant number of Option ARMs set to reset over the next several months, many cities will continue to experience record-setting foreclosure levels.  However, foreclosures are increasing in different cities than those affected in the last quarters of 2008. Rates appear to be easing in the cities that were hit hardest by the housing collapse and rising in major metro areas in other states. This suggests that the cities previously overrun with foreclosures have found ways to combat the problem and are gradually making progress. 

A continuing stream of foreclosures may keep the residential inventory plump, and prices could remain stable over the next couple quarters. But, as inventory shrinks, so too will the abundance of quality investment opportunities. With the residential real estate market now hovering around the bottom, now is the right time to invest. 

Commercial Real Estate: No Reason to Panic

 While it appears that we have already witnessed the worst of the residential real-estate collapse, we are preparing for the brunt of the crash in commercial real estate. The commercial real-estate industry has taken the place of residential real estate as the breeding ground for widespread fear. Daily reports suggest the commercial real estate storm will be more severe than the one that struck residential housing. Instead of causing another shipwreck, our economy’s commercial woes may prove to be more of an anchor that puts an imposing drag on our recovery. 

The combination of job losses, store closings, rising vacancies and drastic cost-cutting measures puts commercial real estate in a serious bind. However, knowing their mortgages will soon come due or reset, owners and managers of office buildings, shopping centers, hotels and apartment complexes have had ample time to prepare for upcoming obstacles. 

Owners of commercial real estate are not backed into a corner. Banks prefer options that keep mortgage payments flowing. Therefore, banks are willing to work with borrowers to find solutions, even though bundled commercial mortgages will add to the difficulty of negotiations. Securing loan payments is not entirely the responsibility of banks or those who hold investments in pools of bundled loans. The owners of commercial buildings originally took on the responsibility and many of them are actively working to find solutions to keep their properties operating. Many property owners will continue to make their payments either because they have adapted their strategies to fit the difficult times, or because they have explored creative ways to bring in extra income. Of course, some number of defaults will be inevitable. Some of those property owners who are unable to acquire loan restructuring or extensions will view a loan default as their best option. 

As with the residential real estate debacle, the government is sure to intervene in an attempt to keep our economy from falling into another dark hole. For example, the already-in-place Term Asset-Backed Securities Loan Facility (TALF) supports the issuance of asset-backed securities in order to help small businesses meet their credit needs. The TALF is one of a handful of sluggish government efforts that was created to help provide a crutch for the commercial real-estate industry. 

Commercial real estate will continue to tug on recovery efforts, but it is not likely to cause the amount of damage we witnessed during the residential collapse. The time to invest is not when everyone shows interest in an asset. A staple to wise investing has always been buying low and selling high. The commercial real estate market has produced sound investments in the past and will once again flourish. Getting into the market in times of success is more costly, the opportunities are scarcer and the rewards are not as fruitful. The best time to invest is when the masses are fearful, and the masses are easily spooked by commercial real estate right now. 

The Benefits of Hiring Professionals

As is the case when taking on any money-making venture, the waters are difficult to navigate alone. We all want to make investments that are conducive to both our current financial situation and our future goals. Investing with a Registered Investment Advisor (RIA) helps eliminate the series of headaches that come with making sound investment decisions.

Hiring a RIA has a number of benefits. For instance, a RIA can take on the following responsibilities:

• Provide objective investment and financial advice
• Set achievable financial and personal goals
• Take into account all of the factors that influence your current financial situation (your assets, liabilities, income, insurance, taxes, etc.) and provide a comprehensive analysis of where improvements can be made. Also, this helps to guide your investment plans and retirement goals
• Provide consistent investment consultation based on your fluctuating savings, investment selections and asset allocation

Before hiring a RIA, you should also be able to answer the following questions:

• What services do you need? Can your potential RIA deliver these services or are there any limitations on what they can deliver?
• What experience does the RIA have in dealing with investors in your situation?
• Has the RIA ever been disciplined by a government regulator for unethical behavior?
• What services are you paying for and how much do those services cost?
• How does the RIA plan on getting paid and are you comfortable with this payment method?
• RIAs are required to register with either the SEC or their state securities agency, depending on their size. It is imperative to ask for proof of their registration

There are a number of professionals who can provide guidance for your investment strategies. Hiring a RIA can help to take the frustration out of the investment process and help you avoid many of the common roadblocks. The true value of a RIA is their ability to thoroughly understand your overall financial goals and provide professional investment advice that is consistent with those goals.

All My Best,

Thomas J. Powell

[2] See http://online.wsj.com/article/SB125673286433612857.html?mod=WSJ_hps_sections_realestate

Tags: banks, Case-Schiller, commercial real estate, Credit, economics, economy, ELP Capital, Federal Reserve, Finance, financial, Financial Future, foreclosures, homebuyer tax credit, invest, loans, normalcy, obama, Real estate, real estate assets, registered investment advisor, residential real estate, Retirement, ria, Standing In The Rain, The Powell Perspective, Thomas J. Powell

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              As our economy slowly recovers, many investors are concerned with recouping the money they lost during the crisis. Pulling your funds out of investments all together will do nothing to bulk up your savings, while sinking your money into risky funds can do further damage. So, with black-and-white options not offering solutions, where can investors put their money to work?

Many investors are turning to investments that they feel are safe, such as bank CDs or money market mutual funds. The problem with these “safe havens” lies in the low returns. “The average money market fund yields .05 percent, or $5 on a $10,000 deposit.” With rates of return this low, these investments may not be able to keep up with inflation, let alone fill the gaps left by the losses experienced over the last 24 months.

Another option is to do nothing. Yvon Chouinard, founder of the Patagonia sports outlets, says, “There’s no difference between a pessimist who says, ‘Oh it’s hopeless, so don’t bother doing anything’ and an optimist who says, ‘Don’t bother doing anything, it’s going to turn out fine anyway.’ Either way, nothing happens.” The idea of holding on to your portfolio “as is” and wishing for the stocks you currently hold to rebound may work in some instances. But, if time turns out to be your enemy, your retirement years will be funded only by the amount you currently have, minus the effects of inflation.

As investors actively search for ways to re-energize their portfolios, many are returning to real estate. The real-estate market is hovering around the bottom, interest rates remain near record lows and a large inventory gives buyers an abundance of options. On the residential side, many foreclosures and bank-owned properties can now be purchased for a fraction of their value. The same opportunities are becoming available in commercial real estate as owners are unable to pay off or refinance their loans.

As I have mentioned before, real estate can help your portfolio win the battle over inflation. Real estate’s value will return over the next couple of years. When it does, those who invested now will not only recoup their losses, but they will also have the possibility of dramatically increasing their portfolio’s value.

Shaking Our Stone Age Tendencies

Letting our emotions dictate our investment decisions is a risky behavior. Out of instinct, we all get emotional when we earn or lose money. It is in our wiring to feel connected with the money we have accumulated. We tend to panic when our money is in jeopardy.

We make a connection between money and safety. Psychology suggests that we are programmed to protect our safety the same way our ancient ancestors were. Even though we encounter vastly different problems than our ancestors did, we still attempt to solve them in the same way. Moving with the herd used to be crucial to staying alive. Today however, moving with a herd of investors can weaken your portfolio. Pushing money into an investment simply because the majority of others are is usually the exact opposite of what you should be doing.

In the same vein as the herd behavior, is our tendency to make investment decisions based on past success. Just because a strategy worked in the past does not necessarily mean it will work in the present. Markets change dramatically from week to week. Strategies you used in the Dotcom boom of the late nineties may lead to an unpleasant outcome in today’s market. Sticking to market fundamentals is one thing, but taking on blind risk a second time because it worked out the first, is nothing more than a gamble. It is the same concept behind betting on red because the roulette ball fell in a red pocket the previous spin. No matter what your past performance, prudent due diligence is always necessary to gauge the current market trends, analyze risk and make sound investment decisions.

I have encountered a number of studies that suggest we remember the bitter feeling of losing money more acutely than the feelings we have when we earn the same amount in an investment. A few lousy investment decisions and an investor can be turned off indefinitely. It is important to learn from our mistakes and use the knowledge to our advantage. Our emotions can lead us to make decisions that, in hindsight, are horrible ideas. A bad decision is bad no matter what the outcome. Making money out of an emotional decision is lucky, but the decision itself was still the wrong one.

There is no way to completely escape our tendencies to invest based on emotion. But, by being aware of the negative impact our emotions have on our investment decisions, we can limit their influence. Wise approaches such as hiring investment professionals, practicing prudent due diligence and planning sound exit strategies can all help us become better investors.

Bank Closures v. the FDIC

Last week, federal regulators seized seven more banks- three in Florida and one each in Georgia, Minnesota, Illinois and Wisconsin. The bank failures brought the year’s total to 106, which is the most since the savings and loan debacle brought about 181 failures in 1992.  Plus, with 416 banks on the FDIC’s watch list, the number of bank failures is expected to rise before the end of the year. With bank closures quickly absorbing millions of dollars from the FDIC’s Deposit Insurance Fund, is it possible that our savings accounts are realistically still protected?

The FDIC operates like a basic insurance policy, except banks are the customers instead of individuals or groups of individuals. Banks pay insurance premiums to the FDIC in exchange for its commitment to protect their depositors’ money. In the late 1920s, when banks closed at an alarming rate, depositors had no protection from bank failures. Between 1929 and 1933, banks lost an estimated $1.3 billion of their customers’ money. Today, the FDIC protects several trillion dollars worth of deposits. But as of June, it only had $10.4 billion in its deposit insurance fund—down from about $45 billion earlier this year.

The FDIC’s reserves have quickly depleted as the cost of bank failures outpace the fees the corporation collects. Last month, as bank closures continued to mount, the FDIC’s board of directors considered four ways to bulk up the insurance fund. The options considered were: borrow from healthy banks, borrow from the treasury, levy a special fee on banks or collect regular premiums early.

Borrowing from healthy banks would reduce the amount of money available to the private sector. Borrowing from the Treasury could send the wrong message to the public and have adverse effects on the banking industry. Levying a special fee on banks could push those on the edge into failure. The last option, albeit not particularly attractive either, is to collect regular premiums early. Deciding to follow through with this option, the FDIC stated it “adopted a Notice of Proposed Rulemaking that would require insured institutions to prepay their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011 and 2012.” The press release indicated that the FDIC estimates prepayments will total approximately $45 billion.

Once approved, the proposed prepayments could give banks a bill for three years of premiums by the end of this year. While the requirement would put banks in a tough situation, the FDIC does not seem to think banks will find it too cumbersome. The FDIC believes that “the banking industry has substantial liquidity to prepay assessments.” As stated in the press release, “As of June 30, FDIC-insured institutions held more than $1.3 trillion in liquid balances, or 22 percent more than they did a year ago.”

The FDIC does have the capability to protect our deposits. However, initiatives that charge banks three years’ worth of premiums at once could help the FDIC weather an onslaught of bank closures without requiring the government to print more money…I hope. 

All My Best,

Thomas J. Powell

Tags: asset management, Bank Failure, Billion, CD, commercial real estate, crisis, Dotcom boom, ELP Capital, FDIC, herd behavior, high return, Inflation, insurance, insured institution, invest based on emotion, low return, Patagonia, prepayments, Real estate, registered advisor, residential real estate, risky behavior, Thomas J. Powell, thomas powell, tom powell, Trillion, Yvon Chouinard

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              Investors at all levels have been tempted to stash their savings away in what they view as safe places: federally-insured banks, gold, their mattresses. But, as retirement creeps closer, or for some of you, continues on, it is difficult to protect the value of what you have. It is even more difficult to take what you have and get it to work for you. However, difficult does not mean impossible. There are tremendous opportunities in this economic climate and these opportunities can do wonders for your future.

              There is no direct financial path to retirement safety, but putting some basic concepts to work can give your investment portfolio a boost and start you in the right direction. A 60-year-old investor needs to plan for at least 30 years of financial security, so investing in the short-term is not sufficient. Planning for the long-term comes with one major obstacle: inflation. Shoving your cash into a large, everything-proof safe will ensure that the cash is always available, but inflation is resistant to safes and will still eat away at your value. Inflation adds to the puzzle of retirement planning, but keeping a stash of conservative investments can help save your portfolio from being deteriorated by inflation.

              Investors do not have to fear that most conservative money-market funds or bonds issued by the federal government will lose their money. But, these are short-term protection strategies. The returns offered by these investments are likely not enough to stave off inflation. If the cost of living significantly rises, you are going to want your savings to do the same. Many investors are turning to TIPS (Treasury Inflation Protected Securities) for peace of mind. TIPS can be very helpful in side stepping inflation woes, but in a low-inflation environment, your returns will be lower than many other fixed-income securities. So, do not go overboard with TIPS.

              Your best weapon is diversification. Having a diverse mix of investments is a great strategy for both conservative and more risk-adverse investors. Diversification will always be your best hedge against inflation. Setting up a brief meeting with a registered investment adviser will help you to build a diverse portfolio that meets your needs. Playing it too safe now is not something you want to try and correct years after retirement. Running out of money later in life is something you can, and should, protect against now. And, again, this economic climate is filled with long-term investment opportunities.

Living Vicariously Through Predictions

              Despite grim news reported for September that housing starts came in lower than expected, they rose from August rates. The tendency to be disappointed when expectations are not fulfilled adds to the bad news already being forced on us during these difficult times. When a report from the Commerce Department was released in Washington earlier this week, newspapers jumped at the chance to report that the glass was half empty. All predictions aside, housing starts still showed improvement.

              According to The Wall Street Journal, “The rise in housing starts came in at 0.5 percent, climbing to a seasonally adjusted 590,000 annual rate compared to the prior month.”[1]  Housing starts improved, but major media outlets pumped out headlines such as “Bummer for Housing Starts” (Forbes) and “Housing Starts Miss Expectations” (CNNMoney.com). The media ignored projections made by 76 economists in a Bloomberg survey. Their estimates predicted that housing starts would rise somewhere between a rate of 582,000 to 630,000. But, their estimates were made at a time when the August rate was thought to be 598,000. When a correction to the August figures brought the number down to 587,000, the predictions had already been made. If the numbers the economists were using were off by 11,000, then you could assume most of them would have lowered their expectations by the same amount. This would have made the average of the 76 predictions stand at 595,000; which is very close to the recently reported 590,000 figure.

              The point of all of this is that our economy still showed a humble sign of improvement. With the amount of slack still present in the housing industry, it is a small feat to break ground on any amount of new homes. Looking through rose-colored lenses will not do us any good, we need to be realistic. In that same vein, hammering out pessimistic stories when they are not realistic will only bring down the confidence upon which our markets rely. A group of surveyed economists who were making predictions based on false numbers should not have a drastic impact on our economic situation. As Charles Mackay wrote in his well-noted “Extraordinary Popular Delusions and the Madness of Crowds” in 1841: “Men, it has been well said, think in herds; it will be seen that they go mad in herds, while they only recover their senses slowly, and one by one.”

              Negativity spreads quickly. We have enough to go mad over without becoming disappointed when a group of “experts” do not have their predictions come true. I think the real worry here should be in our experts’ ability to make accurate predictions. Instead of “Bummer for Housing Starts” how about “Experts off Again” or “The Facts the Experts Couldn’t See Coming”?  

Oh! I Didn’t See You There, Small Businesses

              Small-business advocates have criticized the White House for not giving more attention to small businesses. But, on Wednesday the Obama Administration announced that it would use funds leftover from the $700 billion bailout package to aid small businesses. Discussion of the new program came in response to dissatisfaction with the initial wave of bailouts that aimed at helping large financial firms and neglected small businesses. Many policy makers have argued for months that the $700 billion stimulus was only used to balance the books of large banks.

              The new plan, which is still nameless, will aim to increase lending at small, community-based banks. As was the case when individual states were dealt federal funds, the banks will be required to submit somewhat-detailed plans outlining how they plan on using the money. Since the new program will aim to get funds into the hands of small business owners, the banks’ plans will need to detail how they will play a part in this.

              After a number of meetings with community banks that will be scheduled through the end of the year, officials hope to determine the amount of capital that will be distributed. The funds are only to be available to small institutions with less than $1 billion in assets. 

              In his announcement in Washington on Wednesday, President Obama said he was prepared to “shift the government bailout efforts from larger banks to smaller banks because small business owners still have too little access to credit.”[2] Officials behind the new program hope that increasing credit to smaller institutions will energize job growth, which is something that has been reported on relentlessly, but has received little government attention.

              Although the exact amount of the remainder of the stimulus funds is unknown, federal officials agree it is enough to support this new initiative. Having the funds already available and not having to wait on them to be raised will help get the program off the ground. The life of many small businesses could depend on the government’s ability to act quickly. Taking months to consult community bankers may delay the program and inhibit small businesses from acquiring much-needed capital. Small businesses have been ignored thus far and, through innovation and flexibility, they have been able to survive.

Thomas J. Powell

[1] See http://online.wsj.com/article/BT-CO-20091020-709265.html

[2] See http://www.reuters.com/article/governmentFilingsNews/idUSWAT01385420091021

The discussion of investment strategies in this article should not be considered an offer to buy or sell any investment. As always, consult an investment professional to assist you in meeting your investment goals.

Tags: alternative investments, bailout, Bloomberg, ELP Capital, Finance, gold, hedge, housing starts, Inflation, Investing, investments, mattress, obama, powell perspective, Real estate, Retirement, small businesses, Thomas J. Powell, TIPS

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            Documentarian Michael Moore’s latest project, Capitalism: A Love Story aimed at highlighting a number of flaws concerning the economic system upon which our country is built. In his film, Moore infiltrates Wall Street and Washington D.C. to “explore the root causes of the global economic meltdown.” In one scene, he attempts to make a citizens arrest of the AIG board of directors. In another, he drives an armored car to Merrill Lynch and attempts, kind of, to collect $10 billion on behalf of the American people. While searching for answers in high-profile places, Moore asks financial professionals to explain complex terms, such as derivatives. In an attempt to provide this answer for Mr. Moore, I thought I would revisit a scenario I created last year. The following is a fictional example. It never happened, except for in my head.

            There is and always has been stiff competition between Las Vegas casinos. Located miles from the strip, Sin and Tonic Casino relies on clever ideas from their owner, Dale, to increase profits. In the summer of 2005, Dale decided to unveil a ‘Play Now, Pay Later’ program to his loyal customers. Dale’s customers, most of whom rarely left the casino because they had no home or job to maintain, were allowed to gamble and drink while management kept tabs on how much money they were each blowing through.

            The customers told all of their friends down by the river about Sin and Tonic’s new program and soon the casino was always filled to record numbers for the property.

            Dale decided to lower the payouts on all of his table games and slot machines and also increase the price of alcoholic beverages. But, because his customers were not required to pay right away, no one seemed to complain. Dale’s sales blew through the roof and caught the attention of local banks. One bank referred to Dale’s customers’ debts as “valuable” and offered to increase Dale’s borrowing limit.

            With Dale’s customers’ debts as collateral, the bank turned the debts into securities known as Sin-a-Bonds. Soon, the Sin-a-Bonds were being traded on security markets nationwide. Investors across the country, and soon across the entire world, never knew the AAA-rated Sin-a-Bonds were, in reality, the debts of homeless gambling addicts.

            Leading brokerage firms were selling loads of Sin-a-Bonds and their prices continued to escalate at a surprising rate. Everything was fine until pesky risk managers started poking around and demanding the gamblers to start making payments on their debts. On a busy Saturday night at Sin and Tonic, Dale informed his customers that payments needed to start being made that Monday. The remainder of Saturday night and all day Sunday, Sin and Tonic was filled to capacity.
            On Monday morning Dale and his employees were witness to the first day without customers in the casino’s history. Not one of the customers came in to make payments on their debts and the ones that stumbled around drunk in the parking lot claimed they “hadn’t got no money.” Dale told the bank he could not pay back any of the money they lent him and he quickly decided to claim bankruptcy.

            Sin-a-bonds dropped to near-worthless levels and investors lost their money. Plus, the bank that issued the Sin-a-Bonds saw its capital depleted and they were consequently unable to offer any more loans. The bank laid off all of its employees and closed.

            Dale was unable to pay any of his bills and all the companies that granted him payment extensions had to take massive losses, as Dale was their largest customer. The carpet cleaning service was forced to downsize, the vending companies were left with handfuls of damaged machines that no one else was interested in and alcohol suppliers were left with large inventories that could not possibly be consumed without Dale’s heavy-drinking clientele.

            The brokerage firms that sold the Sin-a-Bonds were in heavy distress. Eventually, the government stepped in to save them by creating a bailout package that was funded by taxpayers from states where gambling is prohibited.

            Dale retired from the casino business and is now rumored to be heavily involved in politics.

Absolute Returns Absolutely

            An increasing number of investment firms looking to capitalize on the fears of their investors have started offering “absolute return” funds that boast the ability to always produce returns. Investment advisors are pushing mutual funds that are designed to produce positive returns no matter how badly the stock market is performing. The idea has been around for decades, but now major financial companies such as Goldman Sachs, Dreyfus and Putnam have all launched similar absolute-return funds.[i] In response to the growing group of clients who want to be able to rely on their portfolio’s positive performance, investment firms have started heavily marketing absolute-return funds. But, are these funds worth all the hype?

            Similar to hedge funds, absolute-return funds focus on making money in all market conditions. By taking long positions in stocks and balancing them with short positions of similar value and in similar assets, absolute-return funds aim to produce returns slightly higher than Treasury bills.  In a dropping market, gains on the short positions are meant to offset losses on the long positions. In a rising market, the long positions are supposed to outperform the shorts; therefore producing modest returns for passive investors. If the sheer makeup of an absolute-return fund is not producing, fund managers also attempt to achieve their target by employing a number of different strategies. For instance, short-selling can help offset market falls and derivatives can shield from undesired volatility.  

            Generally, the techniques used by absolute-return fund managers to stabilize your portfolio’s ride are the sort of diversification practices you can do yourself, without having to pay hefty annual fees. In a recent Reno Gazette Journal article, Registered Investment Adviser Robert Barone recommended the following three steps in order to achieve consistent positive returns:

            First, reduce the allocation to equities in your portfolio to the 30-to-40 percent range. Remember to hold equity positions in companies with sound business practices and low levels of debt.

            Second, increase the allocation to fixed income to the 40-to-50 percent range, but keep the maturities relatively short (no more than three or four years to maturity).

            Third, because of weak dollar policies, increase the normal allocation to commodities to the 10-to-20 percent range.[ii]

            The discussion of investment strategies in this article should not be considered an offer to buy or sell any investment. As always, consult an investment professional to assist you in meeting your investment goals.  

A Broken CIT Will Trip up Small Businesses

            On October 1^st CIT announced the launch of a plan which will aim to enhance its capital and improve its liquidity. According to the official press release, the restructuring plan is designed to “ensure continued financing support for small business and middle market clients.” After being denied financial support from the Treasury in July, CIT was forced to create a restructuring plan in order to attempt to sidestep bankruptcy court. But, because of concerns with CIT’s financial stability, the FDIC has forbidden the company from increasing its deposits, which severely limits the restructuring tools in its belt.

            The target of the restructuring plan is to slice CIT’s $31 billion dollar debt load down to about $25 billion. But, some experts have argued that the amount is not nearly enough to persuade the FDIC to again allow CIT to accept deposits. CIT is offering voluntary exchange offers for certain unsecured notes. Current holders of an “existing debt security would receive a pro rata portion of each of five series of newly issued secured notes, with maturities ranging from four to eight years, and/or shares of newly issued voting preferred stock.”[iii]

            The future success of CIT relies on a significant increase in capital. The restrictions imposed by regulators and the troubling credit freeze have created enormous obstacles for CIT. Financial companies, like CIT, without direct access to Federal Reserve emergency loans rely on funding from short-term debt markets. But, with these markets already shriveled, the possibility of finding new debt buyers has all but disappeared.

            With CIT operating in more than 50 countries, it is peculiar that the government did not deem CIT “too big too fail,” as it has a number of other institutions. The last company of this size that was denied a bailout was Lehman Brothers and its resulting bankruptcy filing tore the financial market to ribbons.

            For over a century CIT has been a huge player in providing loans to small and medium-sized businesses. The company has more than one million corporate borrowers; including popular businesses such as Dunkin’ Donuts and Dillards. If (or when) CIT collapses, the biggest problem will be the scores of small businesses that will find it even more difficult to find capital to fuel their ventures. As constantly noted, small businesses are crucial to our recovery. The credit freeze has already built a wall between businesses and available capital. The crumbling of CIT will only exacerbate the problem and highlight the importance of private capital in the marketplace. Without capital, our financial system cannot begin to encourage economic growth, and without growth a recovery is out of reach.

All My Best,

Thomas J. Powell

Tags: absolute return, absolute return funds, AIG, capital, Capitalism: A Love Story, CIT, credit freeze, derivatives, Dillards, Dreyfus, ELP Capital, FDIC, Goldman Sachs, growth, investment advisors, Merrill Lynch, Michael Moore, Not Categorized, powell perspective, Putnam, Recovery, T bills, Thomas J. Powell, tom powell, Treasury Bills, Wall Street

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            It is now evident that this recession has uncovered a number of substantial flaws in our country’s financial industry. The now-exposed wounds became so complex that it took a meltdown of this size to identify them and it will take a long, sluggish recovery for them to heal. The majority of the flaws in our financial system hit individual investors the hardest. Faced with frauds, unclear loan agreements, mislabeled ratings and much more; individual investors have felt the pain and are now changing their behaviors in order to wisely navigate through this new investment jungle.

            In this new, heavily-battered playing field, I have seen one group of investors disguised as two vastly different types of investors. They appear to have swapped each other spots on the risk spectrum, but the groups are really one in the same. The first type is the group that fears more losses so much that they are persuaded to stay out of the game. The second is the group of investors that has been chasing risky investments in an attempt to quickly recoup the wealth they lost in the crash. Once this type of investor wins back their losses, they pull out and leave the game; joining the first type of investor on the sidelines. These groups share a trait that makes them more similar than different: They both fear the current market.

Emotion and speculation fueled many investors before the bust and will certainly again fuel the masses during the next boom. The tendency to chase easy money is in our hardwiring and it is a difficult force to resist. Now, as is the case immediately following any recession, investors are cautious. But, this caution should do more than lead to rampant mattress stuffing. Investors should now be more willing to seek the knowledge that will allow them to make more informed decisions. The bust knocked the wind out of the majority of individual investors. Many were forced into being cautious but all can use this new caution to their benefit.

Rather than abandon investing, now is the time to be fine tuning your investment strategy by getting back to the fundamentals. Rebalance your portfolio in a way that makes sense. Hold stocks in companies with good business models. Learn to make informed decisions. Demand transparency. Get in the habit of practicing prudent due diligence or search for an expert who you trust will. Instead of letting the fear of uncertainty keep you on the sidelines, analyze your risks, lower your uncertainty and reestablish your place on the field.  

Unleashing Small Business Horsepower

Small businesses have historically been the force that pulls our country out of tough economic times. Their ability to work more efficiently allows them to find innovative ways that spur job creation. But, without being able to find available capital, small businesses are restrained. A full recovery will not take hold until small businesses have access to adequate capital. The mega businesses have been propped up by the government, but small businesses heavily rely on the private-capital investments that are currently lacking.   

Investing in small businesses has many advantages. From a business stance, while larger corporations have strayed from their original initiatives, small businesses usually have focused business plans that detail their near-future commitments. Yet, small businesses still tend to be more flexible, which is a huge advantage considering the amount of ideas that small businesses produce. Without flexibility and the willingness to take educated risks, their ideas would have no Petri dish in which to grow. Another advantage is that small businesses usually carry less debt than large corporations; which use debt as a primary ingredient in their financial engineering. Less debt equals fewer obligations, and this can translate into quicker returns for investors.

No matter how simple or complex a small-business investment appears, it is important to always keep in mind a few basics. First, invest in small businesses that have solid business models that you believe in. Just because a company has filed with the state to sell its securities does not mean that the investment will be a success. Businesses succeed because of vision and follow-through. Remember that “publicly-traded” does not necessarily mean “better.” Second, do not let an employee of a company convince you that an investment is not risky, that is a lie. Companies will often have securities salespeople who work on a commission. This does not mean they are automatically corrupt, it just means do not let their promises replace your due diligence. Plus, investments ALWAYS carry some level of risk. Which brings me to my last point: Always carry through with proper risk analysis. There are registered investment advisors, lawyers and other financial professionals that can help take the headache out of the process. Do not pinch pennies early on in the investment process only to be burned later by a flaw that a professional could have identified and corrected.

These are terrific times for investing in small businesses. There are countless opportunities to invest your capital in quality projects that will produce high returns. With credit not rushing like it did before the bust, business owners are actively searching for ways to acquire capital. Our recovery will continue to look and feel like a false hope until small businesses have the means to expand, create jobs and put people back to work. 

Hanging on by a Home-Buyer Tax Credit

The $8,000 first-time homebuyer tax credit, included in the economic stimulus plan passed in February, is set to expire next month. The credit is widely touted as having given the stagnant housing industry its first sales jolt after a lengthy lull following the housing market’s implosion. Now, with legislation in recess, officials will be forced to scramble if they wish to extend the tax credit.

With a fast-approaching deadline of November 30^th, many in the real-estate and construction industries have their fingers crossed that an extension will be filed and keep buyers approaching the market. Last month, some groups, such as the National Association of Home Builders, even launched newspaper advertising campaigns pleading for the extension of the credit. Several members of Congress have either drafted bills or showed support for bills in favor of extending and expanding the home-buyer tax credit. U.S. Senator John Isakson (R-Ga.) introduced a bill that would extend the program through 2010 and increase the amount to $15,000. Also, Isakson’s version would be available to all homebuyers, regardless of current ownership status or income level (the current tax credit is limited to first timers who make under $75,000 annually).

Nearly everyone agrees that the residential housing industry has been using the first-time homebuyer tax credit as a crutch; and therefore has managed to stay on its feet. However, not everyone agrees the tax credit should be extended. While many experts worry how the housing industry will fair when the tax credit expires, they also agree that a true housing-market recovery will be delayed until natural economic forces replace government support. Outside of the tax credit, the government currently provides support to home buyers in multiple ways. While attempting to thaw the credit freeze, the Fed has kept the interest rate at or around zero. This encourages lending, which includes home mortgages. Also, the current tax code already shows great support for home ownership by providing incentives such as deducting the interest on your mortgage.

A number of senators have been criticized that they support an extension because it would favor their states heavily. While this may be true for those states that have been badly bruised by the housing implosion, an extension is likely to benefit real-estate markets across the country. The general consensus is that extending the tax credit would continue to encourage buyers to explore the market. But, passing an extension depends on Congress giving attention to the matter before the November 30^th deadline—for there is no shortage of higher-profile issues waiting to be addressed in September and October.  

All My Best,

Thomas J. Powell 

Tags: bail-out, credits, debt, ELP Capital, Fed, financial engineering, home-buyer tax credit, housing market, Investing, meltdown, mortgage, provate capital, real estate investments, recession, Recovery, risk economy, small business, speculation, stimulis, stock market, tax credit, Thomas J. Powell, tom powell

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           As markets continue to produce signs of stabilization over the next quarter, it is unlikely that unemployment figures will show much improvement. With figures the highest they have been in more than 25 years, unemployment appears to have neared its peak. Lowering the rate to levels our economy can adequately support will prove to be a daunting task. But, with a little encouragement the corporate sector certainly has the power to handle it.

            Last week, Federal Reserve Chairman Ben Bernanke was quoted by multiple major news sources after he told the Brookings Institute, “The recession is likely over at this point.”[1] According to Bernanke, the economy appears to be growing, but not at a pace that will be sufficient for lowering the unemployment rate. Historically, economic upturns after recessions have been stamped with consumer demand. This time around, however, many Americans may not have the ability to help lead a recovery because they have been completely wiped out financially.

            In order to spur consumer-led demand, the corporate sector will again have to make jobs readily available. The unemployed are not the kind of consumers that are needed to invigorate our economy and induce growth. We do not need to turn to an economics textbook to tell us that our broken economic cycle can be patched with more available jobs—this much we know.

            Corporations large and small have been forced to adapt to this constricted economy and the majority of them were required to do so through downsizing. Now, company leaders are reluctant to increase their workforce until they are confident there is a significant increase in demand for their products and services. But, one strong possibility that could provide the encouragement needed to get company leaders hiring again is a temporary change in corporate tax policy.

            A temporary tax break aimed at equaling the payroll costs of adding new employees would strip the risk for companies that are awaiting a full-blown recovery before they hire. Plus, according to a recent article published in The Wall Street Journal:

“The impact of a two-year program on the federal deficit would be relatively modest. Using a conservative set of assumptions, an $18 billion annual program, which represents 10% of estimated corporate tax receipts in the next fiscal year could create nearly 600,000 good-paying jobs …”[2]

            Before they commit to hiring, companies are waiting for consumers to spend. But, before consumers commit to spending, they are waiting for companies to hire. The cycle is stagnant and will remain so until one side is persuaded to change their behavior. A government-sponsored tax break for companies that agree to hire could be the first action taken during this recession that encourages our country’s government, companies and individuals to work together.

Capital River is Frozen; We Can Thaw it

            Because of the severe impact of the recession, the stream of capital that once flooded our economy has been reduced to a trickle. The majority of the flow evaporated when banks were forced by the Fed to tighten their lending standards as delinquent loans polluted their books. Consequently, failing to restore the flow is making it extremely difficult for the Fed to take progressive measures toward recovery and has the potential to drop us back into another recession.

            According to Bloomberg.com:

“The Fed’s second-quarter survey of senior loan officers, released Aug. 17, showed U.S. banks tightened standards on all types of loans and said they expect to maintain strict criteria on lending until at least the second half of 2010.”[3]

With dropping values in commercial real estate, rising unemployment numbers and a seemingly unending onslaught of delinquent mortgages; banks are not lacking reasons to practice strict lending measures. Earlier this year, through a series of stress tests, the Fed found that 19 of the country’s largest banks needed $75 billion in new capital to protect themselves from mounting losses.

            With all of my recent writings and blog postings concerning the benefits of getting our private capital back in the game, I am by no means hiding my agenda for restoring capital flow. The economy will only be repaired once the flow of capital is rejuvenated. It is much easier to lead capital tributaries back into the main stream if they are first flowing. Over the next couple of quarters, banks will continue to deleverage and work toward a balanced lending system. But, without raising more private capital, banks will not be able to establish a lending system that enables credit-worthy individuals and businesses to acquire reasonable loans; which puts an enormous restraint on economic progress.

            Our economy is already positioned to attempt to force a jobless recovery, which will certainly create complications in sustaining a recovery. Trying to force a credit-less recovery will only exacerbate our struggles. Dragging our banks through a painful recovery without sufficient capital will only position them to break and lead us right back through more of the same. By identifying ways to put our private capital back into the equation we are positioning our financial system to rise from this recession stronger and more efficient. By investing in private enterprise, we are sparking long-term, mutually-beneficial relationships between capital-producing businesses and banks (while also earning gracious returns on our initial investments). Now is the time to put our private capital back to work.

Without Our Capital, Banks Get the Axe

            Our private capital plays an integral part in our local economies—which then all collectively have crucial roles in our country’s financial stability. Because banks have become over-reliant on easy credit, they are now struggling to keep their businesses running by raising capital the old fashioned way. Without our capital, our banks (and more importantly our communities) cannot function properly. Not able to fulfill their debt obligations, banks are closing their doors and falling under the control of the FDIC; which “estimates bank failures will cost the fund about $70 billion through 2013.”

            Banks are necessary to ensure that money circulates in our communities. They distribute the money of their depositors to borrowers who have a worthwhile purpose for the money. The banks secure our savings and lend the money to companies or individuals. Banks provide a convenient location for borrowers to acquire funds. Without banks, companies would find it very difficult to borrow large sums of money.

While banks perform their role as intermediaries, they also essentially increase the supply of money. By accepting deposits from its customers and loaning the money to worthy borrowers, banks “create” money. Consider the following simple example. Imagine a customer deposits $20,000 into her bank account. Even though the bills are no longer in circulation, the amount of money in our country does not change as a result of the deposit. Allowing the money to simply sit in the bank’s safe would not earn the bank anything. Therefore, the bank lends $10,000 to an entrepreneur in return for an additional interest fee. The depositor still has a $20,000 credit in her account and the entrepreneur has $10,000, therefore the money supply has increased by $10,000. The entrepreneur purchases supplies with the money and creates a product that he sells for a profit. As long as banks have depositors, they are able play their crucial role of increasing the money supply by making funds available to those looking to find backing for their ventures.

            The word “bank” itself is derived from the Italian word “banca,” which referred to the table on which coins were counted and exchanged in the middle ages. “Bancarotta,” from which the word “bankrupt” was derived, means “broken bank.” Originally, if a banker was unable to pay his debts, the authorities arrived to smash his table in half with an axe. Today, the FDIC seizes failed banks and seeks buyers for their branches, deposits and faulty loans—all, for some reason, without smashing anything with an axe.

All my best,

Thomas J. Powell 

Tags: banks, Bernanke, Credit, economy, ELP Capital, entrepreneur, FDIC, Federal Reserve, las vegas, markets, Money, nevada, obama, private capital, Real estate, real estate investments, recession, Recovery, reno, tax, Thomas J. Powell, unemployment

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            With a bad habit of ignoring profound systemic problems, Federal Treasury officials are now securing a system that encourages the same careless risk-taking that originally got us into this mess. With this week marking the one-year anniversary since Lehman Brothers imploded, it is only appropriate to discuss the faulty system that protects and rewards failing financial institutions.

            The talking heads in charge of the world’s financial practices are on path to deliver more of the pain and suffering we have been experiencing over the past 20 plus months. The Lehman Brothers’ collapse last year showed us how brutal a large bank failure can be. Now, because of the mess caused by Lehman’s demise, it is unlikely that our government would again allow an institution of similar size to fail. This essentially gives big banks a free pass to misbehave. If you owned a business that was referred to as “too big to fail,” and you knew the government would do all they could to keep your doors open, would you not be inclined to take risks? It is like giving a six year old the keys to a candy factory and a set of cavity-resistant teeth. All risk is stripped away, so why not have some fun?

By receiving government funds, big banks are allowed to carelessly take on high degrees of risk, knowing that there is a safety net underneath them. This recession has been gut-wrenching. It has badly battered our economy and exposed wounds that will not heal in our lifetimes. No one wants to experience a downturn of this size again. But, if officials continue to foster an environment that rewards carelessness by major financial institutions, we will inevitably get more rounds of the same. While we should be demanding big banks to practice prudent due diligence, we are instead enabling them to write off any level of accountability. This recession should have been a major wake-up call for all businesses, but those institutions deemed “too big to fail” have also been allowed to be “too big to learn.”

Top Five of the Bad, Bottom Five of the Good

            Ravaged by the bursting of the real estate bubble, Nevada is among the states with the deepest wounds. Historically, our state has been in the top or bottom five of the most-unappealing statistically-compiled lists put out by major media. Unfavorable, sure, but we all choose to live here for one good reason or another. For instance, our tax structure keeps Nevada among the most business-friendly states in the country. For this reason, we have highly-competitive local markets and capitalism thrives here. Our state officials are somewhat handcuffed because of our demand to keep government out of our businesses as much as possible. By adopting and supporting this system, Nevadans have agreed to take on more personal responsibility when it comes to providing our own financial security—and we are now being put to the test.

            Across our country, state officials are scrambling for ideas that will simultaneously better their state’s situation and put them in the position of being quality leaders. In Nevada, our elected officials have considered bringing in a pricey third-party consultant to advise them on how to progress the state. This means not only are the individuals we put in office to make vital decisions not carrying out their duty, but now we will also foot the bill for a new position. We elected these authorities to represent us; not lead us, by way of expensive consultation, in an undesirable direction. With that said, when we elect them we do not, in turn, remove ourselves from the equation. We are not reduced to waiting on our state leaders to be proactive.

            These are extremely trying times for our country. The recovery is going to be led by us via our private capital and our private enterprise. The government does not have a weapon in its repertoire that comes close to matching the power of our collective private resources. Across the U.S., and particularly in our state, there is an abundant supply of quality projects that have been postponed due to insufficient capital. Because success requires both money and knowledge, every successful idea struggles with acquiring adequate funding at least once throughout the process. Every successful venture has to be properly backed and the majority of the backing comes from private capital. At the end of the day we, the people, are the engine that runs our country.

            Nevada is riddled with quality projects that could be going forward with proper capital and qualified management. We now have to be proactive in matching the two. Being among the top five states in the country in foreclosures, troubled institutions and bank closures does not mean we cannot also be among the top five states to emerge from this recession.

Survival of the Government-Backed Banks

            Even the banks that did not become entangled in the shaky investment strategies of Wall Street during the boom still indirectly had their knees taken out from beneath them throughout this meltdown. According to CNBC.com, 92 banks have failed in the U.S. through the first nine months of 2009; including three here in Nevada. As a comparison, in all of 2008 only 25 banks closed.

            In any meltdown, the government’s focus is on the big banks that have the potential to buckle our country’s financial system if they go under. But, that focus leads to a distinct advantage for big banks over their competition. Having government support allows the bigger banks the power to go out and collect the majority of the available capital, while smaller banks are forced to scavenge. This crisis has presented terrible obstacles for banks to raise the capital lifeblood needed to remain in business. Without liquid capital, smaller banks are consumed by their debts. With losses on commercial real-estate loans rising, the smaller banks that feed credit into our communities are drowning.

            When governments support the behemoth banks and allow the smaller banks to sink, they essentially help eliminate the competition needed to improve our financial system. Without intervention, smaller banks are generally able to pose a competitive threat to the large firms because they are more apt to find ways to be faster, smarter and more strategic. It has always been a staple in American capitalism to save a place in our economy for smaller businesses because they push against the bigger corporations and keep them honest.

            Competition in the banking industry leads to a financial system that operates more efficiently. By helping to eliminate competition, our government is essentially allowing the largest banks to monopolize the industry. By supporting the large and abandoning the small, our government is positioning us to face a much weaker economic recovery than if the innovative smaller firms were allowed to compete fairly. We are essentially heading in the same direction as Europe, which has long had its bank assets heavily concentrated in massive firms. The tactic may make it easier for governments to regulate financial systems, but it also eliminates the capitalistic nature that has made our banking industry the strongest in the world.

NEXT WEEK: Banks as Intermediaries

All my best,

Thomas J Powell

Tags: Add new tag, Bernanke, economy, ELP Capital, Investment, markets, nevada, Real estate, recession, Risk, tax, Thomas J. Powell, to big to fail, tom powell, Treasury

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Reasonable Regulation: That’s Allstate’s Stand

            Many companies involved in financial services cower when an official of any stature mentions the threat of national regulation, but Allstate has decided to embrace it. Since late April, Allstate has been pushing an advertising campaign that is rooted in support for creating a national regulation agency for all players in the financial industry, including insurance companies. Each ad in the four-part series, which runs in major magazines such as The Atlantic, touts the common theme of calling on “Congress to act boldly and quickly in drafting strong, comprehensive and clear federal regulation.”[1]

             Under the current system, insurance companies are regulated on a state-by-state basis, something that Allstate CEO Tom Wilson thinks needs be changed. In a national press release, Wilson argued:

 The American consumer is burdened with a patchwork of insurance regulatory systems that are cumbersome and ineffective in managing risks in an era of rapid change and innovation. American families need better protection from systemic risks and access to products and services that will help better manage their financial futures.[2]

            Allstate’s push for a national regulation system is bold. The campaign appears to be having an impact as the Obama administration has started tackling a number of vital decisions that could ultimately lead to national regulation for all financial services. President Obama himself may not have been directly affected by Allstate’s campaign, but according to PRnewswire.com at least one Congressperson has received more than $20,000 in campaign contributions from Allstate over the past four years. Clearly Allstate has identified the potential benefits that would come bundled with national regulation.

            One group that stands to be trapped and bound by the regulatory net of a national system is the stock brokers on Wall Street. The Obama administration has proposed a plan that would hold brokers to the stricter fiduciary standards of registered investment advisors. Under this plan, brokers would be required by law to act in their clients’ best interests, not their own. Also, with each piece of investment advice, brokers would be obligated to disclose what they stand to gain personally. A plan to implement a complete regulation overhaul is sure to be cumbersome and will take time to be implemented effectively. The Obama administration would be wise to have patience with this reform and comb through all of the complexities before attempting to have anything signed into law.

 At the end of the day, the federal regulatory overhaul will aim to force those in the financial system to be more transparent, something the Allstate campaign clearly addresses: “Only when there is transparency around valuing the risk in the financial system—including the role of insurance to help mitigate that risk—will we regain confidence in the economy.”[3]           

To view all of the Allstate advertisements in their entirety, visit allstate.com/fedreg.

Commercial Real Estate’s Role in the Next Bailout

            Banks have had little to celebrate over the past 20 plus months. Still dizzy from the debacle caused by residential real estate, banks nationwide fear the devastation that could soon be unleashed by the rising number of foreclosures in commercial real estate.

            The banks which provided the money to build endless numbers of commercial buildings originally did so because they, like so many others, believed occupancy and rent rates would always consistently rise. But, many owners of commercial buildings are now fueling another wave of foreclosures because they are not able to generate enough cash from tenants to cover their principal and interest payments. Because the loans have also been bundled and sold on Wall Street as commercial-backed mortgage securities (CMBS), the foreclosed buildings spark a ripple effect. Anticipating the severe consequences this could have on our economy, the Federal Reserve is struggling to contain the situation and prevent the need for a second wave of bank bailouts.

            According to Deutsche Bank, about $153 billion in loans that make up CMBS will come due by the end of 2012. The vast majority of these will not be eligible for refinancing through their lenders because the values of the properties have dropped so dramatically.[4] The losses will potentially cripple not only the owners of the commercial properties, but also anyone holding CMBS. Furthermore, because CMBS typically help drive pension and hedge funds, the pain will be widely spread.

            The only positive side of this mess will be the number of affordable investment opportunities for those looking to get into commercial real estate. Commercial real estate does perform in the long haul. But, because of the onslaught of new commercial buildings that sprouted in recent years, we are now experiencing an uncomfortable rebalancing of the industry. Loans that were made on loose credit and then bundled by Wall Street into dicey investment vehicles are all being exposed. However, the underlying properties are not rotten; they still make for sound investments.

            Like the residential market, the commercial real-estate industry was saturated with quick deals that turned sour because they were not thought through. Now, because the consequences stretched so far, the commercial real-estate industry has to be turned upside down and untangled. Although the untangling process will be turbulent, it will also be exposing an array of investment possibilities. Commercial real estate provides the venues for consumer spending. As the economy slowly recovers, so too will the demand for prime commercial real estate—something that will be readily available and reasonably priced in the immediate future.  

Keep Health Care in Our “Best Interest”

            I have been reluctant to bring the argument of national health-care reform to the Powell Perspective because it does not necessarily pertain to real estate, finance or investing. But, national health-care reform has the potential to have drastic impact on our economy, and for this reason I believe it deserves attention here.

            I have been convinced to raise this issue after overhearing a 20-something at the gas pump discuss the issue with someone of similar age. “Man, the whole thing is no big deal, I mean how often do we really go to the doctor anyway?” he said. As I drove off, I realized that the young man, healthy and probably feeling somewhat resilient, was simply not interested in the topic. He wanted to be able to disregard the topic so he could have more attention to focus on the issues that had a more immediate impact on him.

            This week will bring an important turn in the debate over national health-care reform. The Obama administration has committed itself to rethinking the plan before the President is scheduled to address Congress on September 9^th. President Obama is now going to be leading the arguments that he has been able to mostly sidestep thus far. What has me concerned is that the administration will recognize what I did while pumping my gas: The youth do not care. If the Obama administration addresses this and rebrands the issue to somehow get the youth behind it, then the approval rating for health-care reform could skyrocket. The same demographic that helped the President win the office, could now help direct a national issue that they may not be truly interested in for another 20 years. On the other hand, maybe it is time to address the demographic who will still be paying for this change long after we are gone. After all, the people that currently have a vested interest are at a standstill after becoming equally heated on both sides of the issue.

            Since its appearance in the Obama administration’s limelight, health-care reform has done nothing but become more complex. The plan is unclear. No one knows what it will look like, we only know what the media reports: We’re currently 37^th in the world in health-care quality. Death panels will dictate how long we live. The President will personally pull the plug on our grandma. If there are details to this administration’s plan, then they have all been shadowed by heated talk show hosts’ attempts to get the public screaming about something no one knows about.

            On September 9^th President Obama is going to be forced to add some structure to his administration’s plan. Thus far, no one has been able to dissect and discredit the plan because it has only taken shape through various town hall meetings and informal gatherings. In his first address to Congress since February, President Obama will be talking exclusively about health care. This national issue is going to take rigid leadership from the President. If he wants to make any progress he is going to have to involve the nation by getting the young to care and the old to stop shouting at one another and listen.

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