Money-one-hundred-dollar-bills-via-AFPAcross the country, investors are taking advantage of the nation’s foreclosure crisis to purchase homes at bargain prices, often beating out potential homeowners who remain sidelined. According to the Center for American Progress (CAP), in July, cash-on-hand investors bought about 55 percent of the homes sold in Las Vegas and numerous properties in other major metropolitan areas such as Miami, Phoenix, and Prince George’s County, Maryland.

Sarah Edelman, a policy analyst for CAP, points out in Cash for Homes: Policy Implications of an Investor-Led Housing Recovery, published on CAP’s website that it is not unusual for investors to buy inexpensive properties in a housing downturn. This time, however, the nation is seeing a heavy volume of such purchases from a broader range of investors. This time it is not just individual investors who might own a handful of properties but also hedge funds, private equity firms, real-estate investment trusts, and other financial entities.

Institutional investors may buy distressed properties at any point in the foreclosure pipeline – through short sales, at auctions or trustee sales, from bank inventories or by buying portfolios of distressed loans from servicers. Edelman said some investors are working with financial institutions to create new rental income-based securities and if they are successful will have access to even more cash to buy properties.

Investors can play an important role in the recovery, absorbing excess inventory, establishing a price floor, and jumpstarting appreciation. They can also offer quality, affordable rental opportunities to those shut out of home ownership. But Edelman says they can also destroy communities by allowing properties to sit empty, failing to bring rental properties up to code, and neglecting tenants’ needs. When investors buy large quantities of properties in a single area it can cause prices to overheat and increase market volatility and if they sell numerous properties at once it can spin neighborhoods again into decline. She says investors can and should play a role in the recovery but there are serious risks to leaving neighborhood recovery solely in their hands. Policymakers must monitor and manage the activity to make sure investors are acting responsibly and playing a stabilizing role in the communities.

Investors pursue different strategies for their investments and each may employ different ones depending on economic conditions, location, and existing opportunities. Some buy and sell homes (flipping them) without ever renting them. This is less common today than before the crash but may be rebounded; the number of homes flipped in 2011 increased by 12 percent and has returned to pre-crash levels in California. Edelman quotes one study in which homes flipped in 2011 brought investors an average profit of $37,375. Where flippers actually improve the property before selling it they can jump start revitalization of an area. But if improvements are cheap and merely cosmetic then flipping can accelerate an area’s decline.

Many investors today buy and hold, generally for three to five years. Morgan Stanley expects this market to grow from $17 billion to $100 billion in the next five years. Again, if the investor is not making enough from rentals to justify maintaining the property, this can further hurt the community. Some investors, once realizing that a property is going to underperform, may even abandon the property, delaying neighborhood recovery.

Edelman says that while we can speculate, we do not know how well institutional investors will fare as landlords and neighbors. She quotes The Wall Street Journal that “investors and analysts have raised concerns about how quickly firms have purchased thousands of homes, and whether they have the management track record and expertise to oversee the maintenance of properties across the country.”

Managing scattered-site rentals is likely to be more costly and more challenging than managing a typical multifamily apartment building because of larger staffs needed to cover a geographic area. There may also be multiple layers of property-management subcontractors between the investors that own the property and the tenant who lives in the property. Investor may also leave the property management to the tenants who may lack the motivation to comply with maintenance requirements or with demands of homeowner’s associations, some of which are putting new limits on renting within their areas.

There is also the concern that investor purchases (especially with cash) could crowd out too many potential homeowners who will live and take root in a neighborhood. This can hinder neighborhoods struggling to recover from the foreclosure crisis by preventing these communities from reclaiming lost wealth. If owners are not located in the communities where they invest, when they resell most likely they will take their profit with them.

What’s more, it is not clear that those who invest in houses will show an equal commitment to the surrounding neighborhoods. While investors may recognize that amenities such as parks and good schools will improve their property’s value, they may not be as engaged in the future of the neighborhood.

Edelman lays out four strategies for insuring a lasting housing recovery that strengthens the national economy while creating affordable homeownership opportunities for qualified buyers:

1. Help homeowners stay in their homes. Preventing as many as possible of the more than 2 million foreclosures still looming is the first step toward a strong housing recovery.

2. Level the playing field for owner-occupants and mission-driven organizations. Households and community groups that are unable to access credit are struggling to compete with cash investors to buy homes. With better access to financing, buyers who are more rooted in the community than the average investor would be better positioned to own properties in their neighborhoods

3. Monitor and manage investors. Ensuring that investors take care of their properties is key to leveraging investment for the benefit of the community. Local officials should pay particular attention to how well institutional investors care for their properties. Federal regulators must pay attention to the activities of institutional investors, particularly if a new market develops for securities backed by these investor-owned properties.

4. Get the mortgage market working again. The ability to secure a mortgage for a home has become elusive to many Americans. The nation urgently needs housing finance reform to make sure that we have a well-functioning secondary market that can serve all communities.

~ By Jann Swanson
Mortgage News Daily