Stuck between a risk and a hard sell
Investors face lower returns as more money chases fewer opportunities in market flush with flood-damaged properties
More money is chasing fewer investment opportunities, encouraging investors to take bigger risks in real estate and other categories for lower returns, according to a new report by an international think tank specializing in land use.
That phenomenon is likely behind the hundreds of millions of dollars spent in Houston to buy homes flooded during Hurricane Harvey, renovate and resell, or flip, them, analysts said.
Investors have more than $2 trillion in cash on hand — known as “dry powder” — to invest in any number of assets, with at least 5 percent or $100 billion allocated to real estate, according to the latest emerging trends report of the Urban Land Institute, which has offices in Washington, London and Hong Kong. Because of the pressure to put that money to use, investors are forced to make riskier investments, a phenomenon known as “there is no alternative,” or TINA.
“The conundrum is real,” the report said. “Investment managers are not paid to sit on cash. And yet there is serious risk in an approach that deploys the capital just because it is there.”
In real estate, for example, investors are borrowing more money to flip homes even as it becomes more difficult to find properties at bargain prices. Investors borrowed $8.4 billion to flip homes in the second quarter of 2019, according to the real estate information firm ATTOM Data, a 31 percent increase from the year before. Meanwhile, the distance be
tween the purchase and sales price of home flips — which needs to be wide enough to cover repair, holding and closing costs — narrowed to $62,700, down from $64,000 the previous year.
“There are more investors chasing deals than there are good deals available,” a North Texas real estate professional said in an Urban Land Institute survey.
Rising housing prices are making it hard for real-estate flippers to find homes at low-enough prices to make a profit, according the Urban Land Institute . That in turn is increasing the appeal of homes damaged by storms, fire and other natural disasters and tempting companies to invest in markets with which they are not familiar with, both trends that came to a head in Houston after Harvey.
“Especially as the economic cycle matures, it becomes harder and harder to find properties discounted enough,” said Mark Lee, chief legal officer of investor lender LendingHome, explained. “But you do see them in Florida, in Texas after your most recent hurricane, in California after the wildfires.”
Misjudged risk
In such situations, the Urban Land Institute emphasized that investors need to carefully assess the risks, but acknowledged “That may be a lot to ask if pressure to get deals done is of paramount importance.”
In investors’ rush to buy homes after Harvey and lenders’ rush to put capital to work, many misjudged the risk they were taking on. More than 150 homes purchased by investors within six months of the disaster have entered foreclosure, data from Foreclosure Information and Listing Service shows.
Darel Daik, chief executive of Noble Mortgage & Investments, which lends to investors, described the difficulty of gauging risk of buying flooded properties. “You had to look in your crystal ball and figure out how much the flood would impact values,” he said. He said he only invested in damaged homes that flooded for the first time during Harvey, avoiding those with histories of flooding.
Tommy Weisz, a local lender at DFW Hard Money, said he did not make loans to investors seeking to buy flooded properties. But he said investors from out of town were less cautious — and so were their lenders.
“I know several lenders in Dallas that are thinking about getting out of the lending business,” he said, “because of their experience in losing money from the Houston market in Harvey properties — flood properties.”
The Urban Land Institute said the vast troves of money are both a blessing and a curse, providing the cash flow to support the market for buying and renovating homes, but also potentially increasing the number of deals made with careful assessments of risks.
“The presumption that such capital will remain available no matter what could lead to a bad end,” the report said.