WSJ story: Private mortgage lending

[photoguy]

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Originally Posted by csgraff As you'd expect, there are no guarantees on returns, which makes finding the right fund very important. The Rama Fund has existed 4 years, averaging 10.18% per year. They have had no negative years or quarters. That kind of consistency during some tough times was important to me.

Is this considered a good return for this asset class? Over the last four years vanguard's REIT index achieved something like a 20+% return. Of course it's not exactly the same asset class and the 5-year return is not so good. How did similar funds with longer histories fare (i.e. those that started before the market bottom)?

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Originally Posted by csgraff For me, I'd considered investing a portion of my current cash portfolio, which we all know is returning basically 0%.

If I thought I'd need to take on more risk to meet my investment goals, I would gradually reduce my cash/bonds (or redirect new money) and rebalance into my lowest performing equity sub-class (foreign small and value stocks at this point).

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Originally Posted by csgraff Currently I have all the exposure I desire in both stocks and bonds. I also feel that both those classes may face headwinds in the near term. My familiarity with the my investment tolerances tells me that I currently have more funds in cash than optimum, so I am searching for other areas that seem to offer the promise of a higher return, with some evidence to back it up.

Do you feel that the potential "headwinds" wouldn't hurt a private mortgage fund as well? If the US goes back into recession and the stock market tanks would not the private mortgage fund do poorly as well?

Are these mortgage funds really a unique asset class? or would they behave somewhat similarly to a combination of REITS, GNMAs, junk bonds, etc? (This isn't a rhetorical question, I simply don't know). If they are a unique asset class that zigs when other's zag I might be tempted to include a portion in my AA if (1) expense ratio's were low, (2) liquidity was not a problem, (3) passive index approaches existed to remove manager risk, and (4) I could handle the tax consequences of distributions.

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Originally Posted by Nords And then there's the issue of the expenses you're paying for this opportunity. I wonder how that compares to the average REIT or GNMA fund, and whether you're rewarded for the cost.

The WSJ article suggests that the expenses are at least 1-1.5%. Compared with Vanguard's REIT index at 0.1% that's a pretty steep headwind.

[csgraff]

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Originally Posted by Nords Considering the numbers of investments that are sold instead of bought, I'd say a working knowledge of investor behavioral psychology is essential to one's net worth. So... what'd you think of Swedroe's book?

I agree completely. The "loss aversion" topic and the often inverse relationship between investor sentiment and market performance are areas that have really captured my attention over the last several years; have seen some great material on it. That's why I feel there's no need to delve further into it.

Have not read that particular Swedroe book, but I'm aware of his thoughts on TIPS, annuities, stable value funds, commodities, etc. Used to follow him on Seeking Alpha. I like the index investing pattern that he recommends, though I prefer ETFs now. The latest portfolio I can find for him is 60% stocks/40% TIPS. Personally, I'd rather have less in stocks at this moment. Peter Bernstein's book on risk is also interesting.

My outlook was shaped a great deal by James B. Stewart formerly of the WSJ/Smart Money. In 2007, he went out on a limb and suggested maybe for once it might be wise to "time" the market, and pull back on stocks some. His points seemed valid, and I did pull back. That action may have saved my planned retirement in 2009. Coincidentally, I believe it was Stewart that advised ramping up on stocks again in August 2010. Granted, strict attention to rebalancing may have seen you through as well, but that offers no guarantees for the future.

At any rate, I've decided I want to keep my eyes open for things that make sense to me, outside of stocks/bonds. I invested in some rural land 13 years ago, that has turned out well. I know from personal experience that some banks currently do a very poor job in lending. In 2009, I built a new house. I had enough cash on hand to cover most of the cost. Its not a big house, and I was half the workforce. I didn't want to have to liquidate stock funds in taxable accounts, so I applied for a HELOC on my then-home. This was from my long time, oldest and largest bank in the state; and was denied.

Puzzled, I tried to find out why. The house was mortgage free, and I had plenty of other funds in various accounts, great credit score. After several days and several phone calls, lots of voice mails, no one could tell me why. Your typical corporate boondoggle. Finally, a few weeks later I got a call asking why I had cancelled my HELOC application.

In summary, I felt this type of an investment could have a place in today's environment, acknowledging that it departs from the code of conduct of some thinkers.

[csgraff]

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Originally Posted by photoguy Are these mortgage funds really a unique asset class? or would they behave somewhat similarly to a combination of REITS, GNMAs, junk bonds, etc? (This isn't a rhetorical question, I simply don't know). If they are a unique asset class that zigs when other's zag I might be tempted to include a portion in my AA if (1) expense ratio's were low, (2) liquidity was not a problem, (3) passive index approaches existed to remove manager risk, and (4) I could handle the tax consequences of distributions. .

I know you had a lot more questions in there, but it just seemed too much to copy/paste.
I do already have a position in VGSIX, which I have been gradually decreasing in favor of Federal Realty Investment Trust.(FRT) For a few reasons, I now prefer ETFs.

Yes, VGSIX has had a great run, better return than RAMA, but with much more volatility. VGSIX being invested in the stocks of US companies, is still a stock fund, publicly traded. GNMAs are bond funds, subject to falling if interest rates rise.

In the example given, the company is the lender, and originates the mortgages themselves. Their investor pool is 50/50 institutional/individual, and their mortgages are very diversified among residential, retail, industrial, office, etc. Their average Loan to Value ratio is 47%; they require 30% equity before consideration.

The tax situation would be like owning a dividend stock, dividends can be paid monthly or reinvested.

Still, its a different direction than owning REITs or stocks. Not for everyone, maybe I should do more to distance it from those types of investments. Nothing to put Junior's college money in. Definitely nothing I am trying to persuade anyone to invest in. I was more curious if others had any experience in the area.

It's just an idea to explore.

[brewer12345]

There is a huge amount of new regulations layered on mortgage lending these days, with more added all the time. At the very least, this would add a lot of overhead to this type of fund. I would also want to be really, really sure that the structure insulates investors from personal liability when the people lending out your money run afoul of some regs (and they will).

[calmloki]

Just checked and it looks like we have right at 20% of our net worth loaned out on property - mostly hard money short term loans. Our biggest and only unsecured loss was when we invested with a group of suits to loan out the money for us. Bad plan. We've taken some property back; should be closed on the sale of one of those next week and will carry the paper for ten years at 7%.

Lots less work than the rentals, which represent the bulk of our assets. We loan to flippers and property investors pretty exclusively. Makes more sense to me than the rumor and whim driven stock market values.

[csgraff]

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Originally Posted by photoguy Do you feel that the potential "headwinds" wouldn't hurt a private mortgage fund as well? If the US goes back into recession and the stock market tanks would not the private mortgage fund do poorly as well? The WSJ article suggests that the expenses are at least 1-1.5%. Compared with Vanguard's REIT index at 0.1% that's a pretty steep headwind.

I realized I completely whiffed on addressing these issues, even though its a moot point in this instance. (as I won't be investing)
I don't/didn't feel this investment would behave in step with the stock market. That was only based on the past performance of the fund. Its return graph was similar to what you'd see for a fixed investment, no relation to any past market ups and downs.

The fees are an issue. It begins at 1%, then gives management a larger piece of the returns if they exceed 10%/year. You could look at that either as incentive or exploitation, I guess, but they were up front about it.

[tryan]

I looked a hard money RE loans last year. 2 investors came forward with : 3% fee to the broker, 12% interest, 80% LTV, 1 year term, first position only. Pretty tough sell considering the junk mail I get offers CC cash advances for: 3% fee, 0% interest, unsecured, 1 year term. I ended up financing the purchase myself. Banks still won't touch investors without day-jobs.

Last two notes I carried were at 8% and 6%, 30 and 20 year loans with a 5 year balloon payment. First positions only. One put down 20% the other 70%. First borrower never missed a payment and refi'd out in 5 years. Second has his first payment due next month ... he has a 70% skin in the game. I have first position. Not too worried about this one.

[SumDay]

Good job Tyran. My dad should have taken lessons from you. He was big on zero down. As I have learned, a mortgage without equity is a rental with debt.