Monday, May 11, 2015

Is Miami real estate in a bubble?

We live in Miami and the one question we get from investors all over the world is "should I invest in Miami real estate?" Our go to response is that we don't advise on real estate investments. As of late this doesn't seem to satisfy anyone. Clients want our view. Clients want to know if we own Miami real estate and if so where and why. Ok so we surrender! You asked for our opinion so we'll give it to you.

To begin with  NO we don't own any real estate, at least not directly. If you buy real estate all cash you're tying up a lot of equity in a non-liquid asset. If you leverage the real estate investment with a mortgage then you are adding leverage on a non-liquid investment. Even with a 20% down payment you are leveraging your investment 5:1.

Miami real estate started to recover in 2011. If you bought Lennar Corp stock at the close September 1, 2011 at 13.54 and were still holding it today where its trading at 47.10 you'd have a 348% return on your money. If you leveraged that 5:1 like you might have done with physical real estate you'd have a 1,740% return.

Some might argue that stock prices are more volatile than property. We've used Lennar, a South Florida home builder here in this example but you could just as easily buy into a publicly traded REIT. There are REITs for every possible real estate strategy and region you can imagine. You could also buy call options on REIT's or stocks of home buyers to capture upside while limiting downside. Try doing that with a physical property! Physical properties require maintenance, management, and lack liquidity. That's too much headache for our appetite when we can replicate similar exposure with better risk/reward characteristics.

Now let's get into Miami specifically. Every developer is always going to tell you that "this time is different". Every day I hear that foreigners are buying condos for cash and that will support the Miami market. People have such short memories. That was the same thing that was said in the last real estate bubble. No doubt Miami is a haven for flight capital but there is nowhere near enough flight capital coming here to support 300 new condo towers (see below). Flight capital is also not immune from circumstances in their local markets. Emerging market currencies have been crushed this year. Most foreign investors are investing offshore capital that they have generated from a local business situated in their home country. If that local business really begins to struggle they will rein in their offshore investing.

The number one thing propelling the resurgence in Miami's real estate market is the same thing that is propelling asset bubbles around the world - unprecedented credit injections by the world's central banks. The mistake everyone is making is believing that you can cure a debt problem with more debt. You can cure a debt problem by refinancing existing debt with cheaper interest rates but you can't cure debt by significantly growing the total amount outstanding.

As the Federal Reserve has ballooned its balance sheet we've seen that assets around the world have soared!

Here's some other notable data points:

Imagine that nearly 40% of new residents are going to pay half or more of their income to rent. This is not at all sustainable and like the last bubble has all the tell tale signs of a burst coming any moment.

We believe real estate is an important asset class. Owning your home is a great idea if you've found the one that you plan on being in for awhile. If you're in the real estate business and that's where you derive most of your income then that makes sense too but if you're just dropping your investment eggs into physical real estate for speculation like buying Miami pre-construction then you should really think twice about what you're doing.


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