How is the Real Estate Market? - Part 1

This is the 1^st in a series of articles I plan to post on the Gilmer real estate market to try and explain how we got where we are, how bad it is and what it will take to climb back out. For the record, I don’t pretend to know everything there is to know about economics or real estate. However, I have been in the real estate industry for 40 years on the government side, in the banking industry and running my own company so I do have, at least, an informed opinion.

Being a real estate broker and co-owner of a real estate company in Gilmer County, the question I am most asked is: how is the real estate market? Well, not being one to lie I have to answer, terrible. Generally speaking, this is the worst real estate market that I have seen in the 40 years that I have been associated with the real estate industry. The next closest was in the early 1970s, and this market does have a lot of similarities with the 1970s. Like the 70s, this real estate “crash” was brought on by lenders not knowing when to reign in lending. In fact, the real estate “crash” of the mid to late 1980s was also brought on by lenders (savings and loan industry) not knowing when to stop lending.

Unlike a widget manufacture that can walk into his warehouse and count the widgets on the shelf, call his sales department to check on the number of widget orders and then match production to his supply and sales, the lending industry seems to not have the ability to look at the quantity and quality of what is in its supply chain, the number of units currently on the market, the absorption rate and then match loan production to supply and demand. Let’s not kid ourselves, this whole debacle starts with the loan officer that gives the developer a loan to purchase that large tract of real estate that will be sub-divided and sold off into lots for builders to purchase and build houses on in hopes that a family will buy the house. The lending institution isn’t the only problem and, after all, in order for a bank to make money it must lend. We certainly have found out over the past 8 to 10 months what happens to the economy when the lenders stop lending.

Some of the blame is shared by the developer that decides, in the face of an oversupply, to start a new development. Each developer always believes (and convinces the lender) that he has found the unique niche. His development has the best views, best water features or best amenity package that will lure the buying public to purchase his lots over all the others that are on the market. Unfortunately, there are a few factors that come into play that seem to be overlooked. The one I have noticed most is that the numbers of lots in a development that are truly unique are generally only a small minority of the total number of lots to be sold. Thus, the unique lots are sold first and the remainder has to compete with the next development that comes on line or all the non-unique lots that have previously been developed.

Another factor that comes into play is who assumes the most risk. Quite often lenders will give developers non-recourse loans on development tracts. Where you and I must pledge our “life, liberty and pursuit of happiness”, in addition to the property, when buying a home, the developer can often get a loan to purchase a large tract of land and only pledge the land as collateral. This means that in the event of a default, the lender can only take back the property and has no further recourse against the developer. This places much of the risk of development on the lender. One would wonder why would a family have to pledge our “life, liberty and pursuit of happiness” to buy a home when the developer (borrowing much more money) can walk away from a default and only give up the property? Well, at least part of the answer has to do with the fact that most local development loans are held by the originating lending institution that makes them while most home loans are sold on the secondary loan market. These secondary lenders require recourse to the borrower beyond the value of the collateral. The effect that this has on the market is that quite often; feasibility studies are not done by either the developer or lender so neither party really knows whether there is a market for the contemplated development or what the competition may be.

While all of this contributes significantly to the problem there are more “gremlins” in the process and, keep in mind; for a developer to make money, he must develop. In future installments we will look at how the speculators, builders and even the federal government have exacerbated the situation. We will also look at "the numbers" and compare existing sales to recent years.

The above is my opinion you are welcome to comment and share your opinion.