I’ve been very fortunate with my past real estate investments. My Vancouver condo, and farmland near Yorkton, SK have altogether made me over $75,000 in pre-tax capital gains, at least on paper. Not too shabby considering how 5 years ago I still had student loan debt and a negative net worth.
Researching a New Investment Idea
Recently I was brainstorming ideas for my next investment. Stocks are pretty volatile these days due to lower commodity prices like for oil, wheat, coal, and base metals. Residential properties also seem kind of flaky at this time because we don’t know whether or not the trusted Fed will tighten its monetary policy next year or open the gates to even more quantitative easing. So it’s hard to find under valued assets these days.
However, I was recently browsing the MLS database on realtor.ca, which of course is accessible to the general public. And I came across several listing on the outskirts of Regina, Saskatchewan that caught my attention. These listings are for undeveloped plots of land, near the Regina International Airport (Code: YQR.) The size of each lot for sale varies from 2,000 ft2 (185 m2) to 10,000 ft2 (929 m2) or more, so they’re large enough to build an apartment or restaurant on. Here’s an example of one of those properties I might be interested to buy.
You know the credit market is tight when the former Chair of the Federal Reserve can’t even refinance his mortgage. If that’s of interest to you, you’re not a loan. Ben Bernanke graduated with a Bachelor of Arts in economics in 1975 from Harvard University. He later received his Ph.D. in economics at The Massachusetts Institute of Technology (MIT.) Bernanke once even taught as a professor at Princeton University. He was also the chairman of the Department of Economics there from 1996 to 2002. But perhaps he is most notably known as serving 2 full terms as chairman of the central bank of the United States. He had control over the monetary policy of the world’s largest reserve currency. In other words he was arguably the most powerful and financially influential person on the planet.
So imagine everyone’s surprise when his request to refinance his mortgage was denied. As the Chair of the FOMC his salary was nearly $200,000 a year. However since he no longer has an impressive W-2 (T4 slip in Canada) he does not meet the requirements anymore of someone with a “stable income.” Nevermind he now makes $200,000 each time he presents a speech. Or that he currently has a $1 million book contract. Or that his net worth is over $2 million. All the bank sees is a person who was working over the last 11 years, and is now unemployed. The metrics by which financial institutions decide who to give loans to is flawed to say the least. Anyway the balance on Ben Bernanke’s mortgage back in 2011 was $672,000. It was a 30 year fixed-rate loan at 4.25% interest rate.
Many financial news sites have already discussed this story. However hardly anyone is talking about the most important question. Does it seem strange that a multi millionaire, who has always made a lot of money, still have a $672,000 mortgage at age 61???
Perhaps it shouldn’t.
The reason why Ben Bernanke likes to stay in debt
My investment strategy has always been to follow what the top 1% of the richest are doing with their money. Ben Bernanke’s behaviour of using leverage is perfectly in line with other like minded individuals.
Here’s why it makes sense to take on debt, even when he could pay off his mortgage at any time if he wanted to. It’s because interest rates are at rock bottom. He printed a lot of money during his position of power that insured rates will continue to stay low for years to come. Every dollar that the Fed creates out of thin air becomes a dollar of DEBT that the United States people have to bear. The only reason the economy is still holding itself together is because the cost to service debt (the interest rate) is low. Rates have been so low for so long that people and government alike have become addicted to cheap money. With a record amount of debt the country simply can’t afford the cost of those debts to increase any time soon.
Ben Bernanke bought his house on Capital Hill in 2004. Today his home has appreciated in value by $126,468, and the stock market has gone up by nearly 100%. This means by using the bank’s money to buy a property he was able to free up his own savings to invest in the profitable stock market.
Plus, by flooding the banks with so much money, Ben Bernanke made sure that the U.S. will have positive inflation. Most people don’t like inflation because it eats away at the value of their savings. But this same reason is precisely why it helps those who have debt. Inflation in the U.S. is currently at 2% a year. This means 2% of Ben’s mortgage balance of $672,000 will be paid off automatically by this time next year. That’s $13,400 of real wealth gain, created passively and discreetly thanks to the monetary policy that he purposefully designed, which is an environment of low interest rates with modest inflation. Inflation is created to help the U.S. government pay down its massive $17.8 Trillion national debt. However it benefits personal debts as well.
Printing money also has the effect of propping up the financial markets because: a.) it creates more financial transactions and activities. And b.) the market needs to build in future inflationary pressure. And using leverage in a rising stock market can multiply the returns! Furthermore. borrowing money to invest means the interest that one pays on the loan is tax deductible.
If Ben had paid for his house in cash (used no debt) then he probably couldn’t have bought one nearly as expensive. A smaller, cheaper home would not have appreciated as much as his actual, larger home did. So he would have missed out on part of that $126,468 tax free gain from his appreciating residence. Not to mention all the stock market gains he would have missed out on too.
In other words Ben has brilliantly engineered the financial system to reward those who use leverage and debt to build up their financial assets. His successor to the Fed, Janet Yellen, is most likely going to continue the monetary policy that Ben had put in place. So far Yellen has done nothing but print even more money on top of the balance sheet that Ben left behind.
According to the Oxford English dictionary it’s a a useful or valuable thing or person. Investopedia defines asset as a resource with economic value that an individual, corporation or country owns or controls with the expectation that it will provide future benefits.
According to these definitions a home is definitely an asset, not a liability.
However I’ve also heard some people say that an asset has to generate an income or be cash flow positive. According to this rule a primary residence is not an asset. But personally I think an income generating asset is simply a type of asset but not all assets have to follow that rule. Kind of like how a blueberry is blue but not all berries have to be blue, lol.
For accounting and net worth calculation purposes it’s paramount to count a home as an asset. Otherwise we would run into problems like the following.
Year 1: We have is $100,000 in savings. Net Worth: $100,000
Year 2: We buy a $400,000 house using $100,000 as our down payment. Net Worth: -$300,000because of the $300K mortgage.
Year 3: We sell the house for $400,000. Net Worth: $100,000
As we can see, the net worth progression swings wildly from one year to the next. This creates a faulty balance sheet that doesn’t represent the reality of our financial situation. However if we include the value of our home as an asset then our net worth chart will become more realistic and less volatile.
Some people don’t consider their homes to be an asset because they say you can’t spend your kitchen. However to me that simply means a house isn’t a liquid asset. But it’s still a valuable property. There are ways to unlock that value such as getting a secured line of credit or reverse mortgage. We can also rent out a bedroom, a basement suite, or a garage to generate passive income. So in a way we can spend our home, just not in a traditional sense.
But one suggestion to keep track of our liquid assets is to create two separate net worth statements. One to determine our liquid net worth which only includes stocks and other liquid investments. The other to keep track of our overall net worth, including our home’s value.
In a financial context assets are regarded as having monetary value and real estate certainly fits this description.
———————————————————————— Random Useless Fact:
In 1999 Google asked 16 students to test out their search engine. Upon reaching the site, they sat still for 45 seconds…just staring. Google finally asked what was wrong. All 16 responded the same: they were waiting for the rest of the page to load. (Video here: skip to 10:27)
For cat lovers what could be a better housewarming gift than having a furry feline delivered right to your new home? The largest bank in Eastern Europe called Sberbank Rossii is offering this unique service right meow. For a limited time only anyone who signs up for a mortgage with this lender will be able to choose one from a selection of ten different cats on the company’s website.
Then the bank will litter-ally deliver the cat to the customer’s new property. The home owner can play with the cat and take pictures of it but eventually will have to give the cat back so the bank can satisfy its other customers. But Sberbank is a Russian bank and this offur is not available in Canada or the U.S. Large banks are always thinking of creative ways to acquire new clients. This is probably one of the most bizarre strategies I’ve seen though
Some experts say the North American real estate market is starting to become overvalued again. In today’s post we’ll compare property prices to rents and explore whether or not overheated markets like Vancouver are headed for a hard landing.
Rent vs Buy
Let’s take two fictitious singles, Alice and Barry, who are both from Vancouver and work for B.C. Hydro, a utility company. They each have$20,000 in savings and they both want to move closer to work. Alice plans to rent while Barry plans to buy.
Alice manages to find a suitable apartment that’s located very close to her job. It only takes her 5 minute to walk to work. She decides to invest her $20,000 of savings into the stock market.
Location: 7418 Byrnepark Walk, Burnaby B.C.
Size: 800 sq ft.
2 beds, 2 baths.
Rent: $1,600 a month.
Here is the actual listing on Craigslist I found. The move-in date is not until Sept 1st, 2014. So this is a real life housing situation that could happen to someone in Vancouver right now. Click on image to biggify.
Meanwhile, Barry also finds a place to buy, coincidentally in the exact same building as Alice, and also has the same number of bedrooms and bathrooms.
Listed Price: $369,000
Location: 7418 Byrnepark Walk, Burnaby B.C.
Size: 792 sq ft.
2 beds, 2 baths.
Here is the direct link to the actual listing on realtor.ca.I’ve taken a screenshot as well in case the listing is removed in the future.
Barry decides to spend his savings on the down payment and get a mortgage for the remaining $350,000 balance. I’m currently paying 2.6% on my mortgage so let’s keep it simple and give Barry the same rate. Using a mortgage calculator we find that Barry’s mortgage payment amortized over 25 years is $1,585 per month. That’s almost the same as what Alice is paying for rent.
This is why a typical condo in Greater Vancouver costs $369,000. It HAS to cost this much in order to stay competitive with rental rates. Condo prices aren’t falling because lower prices would lead to lower mortgage payments, and it’s simply not rational for people to rent a place when it costs a lot less to easily own another (almost identical) unit in the same building.