Jason Hartman starts the show with updates on foreigners buying into the US real estate market. He plays a clip from the Chief Economic at the NAR, Lawrence Yang, giving commentary on the flow of money in the past year. Later on the show he brings on guest DeAnn ODonovan, former President & CEO of AHP Servicing and former Executive VP and Chief Administrative Officer of Wintrust Mortgage. They talk about the practice of investing in non-performing loans. She explains what investors should be looking for and how to find deals in the marketplace.
My wife and I were drawn to you because we liked the idea of putting money down qualifying, making sure we can cover the mortgage, you know, and have reserves like you were talking a language that was very appealing, based on what we had gone through before.
Welcome to the creating wealth show with Jason Hartman. You’re about to learn a new slant on investing some exciting techniques and fresh new approaches to the world’s most historically proven asset
class that will enable you to create more wealth and freedom than you ever thought possible. Jason is a genuine self made multi millionaire who’s actually been there and done it. He’s a successful investor, lender, developer and entrepreneur who’s owned properties in 11 states had hundreds of tenants and been involved in thousands of real estate transactions. This program will help you follow in Jason’s footsteps on the road to your financial independence day. You really can do it on now. Here’s your host Jason Hartman with the complete solution for real estate investors.
Jason Hartman 1:06
Welcome to Episode 1263 1263. Thanks for joining me today. Today we have a guest who will talk about notes, trading and notes, you know, mortgage notes and I think you’ll enjoy this topic. I have dabbled in all sorts of things over the years. And I always come back to owning the physical asset, the actual house or apartment. I like the property itself. In some ways, it’s a lot simpler. In some ways. It’s a little more complicated because you are dealing with a physical asset, but just simpler in my eyes. But hey, we talked about lots of things on the show. I have been interested in the note buying business over the years, haven’t done really anything except one deal in this space. And it did not go well for me. Maybe that’s my thinking. But hey, we’ll see. So we’ll get to our guest on that in just a moment. But first, I’d like to give you a little international housing report from a guest who was on the show a while back, and that is the spokesperson for real estate. Yes, the rah rah spokesperson to some extent, but he has some great content. And that’s Lawrence Yun, the chief economist for the National Association of Realtors. And I’m just going to play a little clip here, as he talks about international buyers. And of course, the US has always been extremely attractive to international buyers. And it still is, but the question we have to ask ourselves, is that changing? Let’s see what Lawrence humans has
Lawrence Yung 2:50
acted foreigners and recent immigrants people who have moved into the US for less than two years. How much of the real estate purchases They are conducting. And what we have found in the latest data is a substantial decline. There’s far fewer foreigners purchasing here in the US and are so the recent immigrants becoming much more hesitant about making that major expenditure of real estate purchase. quite unusual given the overall growth and the international trade, important export. Those are touchy topics yet, both import and export has been rising in the US, along with many other countries. So one will be anticipating the steady growth up foreigners are here in the US, just as many US citizens are buying abroad, but there has been a substantial over 30% decline in the latest data.
Jason Hartman 3:48
So where does this really impact and what does it affect? Well, it affects the high price, cyclical markets, the coastal markets you see today. of this, tons of Asian buyers coming into California, up the coast up into Seattle. You know, these are very attractive markets, Vancouver, Canada, of course. And all of these markets are really experiencing some legitimate softness. So we are seeing this change in the international buyer. And a lot of it relates to of course, currency prices. Of course, when the dollar is strong, that means American real estate gets a lot more expensive. When the dollar is weak. That means American real estate is less expensive. And then you have the visa programs, the EB programs, a big impact there as well. So let’s continue to listen,
Lawrence Yung 4:42
the US dollar became stronger, which means that it makes us real estate, more expensive from foreigners perspective. And the other part is that the foreign economy has been growing slower compared to the US which means that they have less income to purchase here in the was specifically related to China, they are imposing capital control. The money the Chinese national can take out of China to invest in the US has become more cumbersome, more burdensome, but still over 30% decline is implying that it could be something more than the economic fundamentals. So we have to wait and see whether there will be a resumption of activity of foreigners coming back next year. But the latest data, quite a sharp decline.
Jason Hartman 5:30
So that’s interesting, because I’ve talked a lot about how California from a micro perspective I mean, it’s hard to do it from a state perspective. But they’ve been doing various things over many years now, to build this economic berlin wall. That’s what I dubbed it the economic Berlin Wall, to make it hard to leave California hard to take your money out. And that you see of course, China doing that. The reason I liken this kind of stuff and call it the economic berlin wall. I liken it to the Berlin Wall. And the Berlin Wall, of course, was erected in basically record time, sadly, and tragically, to stop the brain drain, because everybody was leaving East Berlin, anybody with a brain wanted out of there because they didn’t want to live under communism and that oppression. And now you see it with these high tax left wing states and localities. People just don’t want to live under that type of environment unless they’re the beneficiary of it, right? If you’re the slacker who wants something for free, then it’s great for you. But if you’re the producer, and you’re producing stuff, and you got to pay for all the slackers, it’s no good you want out. That’s the way it it works under communism, socialism, or just high tax and intrusive governments. You see this brain drain, you see the money drain, the capital drain, and of course, the capital flows that way. And so to the brains.
Lawrence Yung 7:03In the more recent years, the predominant buyers have come from China and Canadians they have also been very active. And we are also seeing essentially from many countries from Latin America, from Europe, particularly Britain. But the two principal country consistently has been China and Canada.
Jason Hartman 7:25
So just to give you some numbers on that, China accounted for about $13 billion worth of us real estate purchases Canada, 8 billion, India, just rounding 7 billion, the UK 4 billion and Mexico just over 2 billion
Lawrence Yung 7:44have always been attracted to the southern warmer states. So Florida has consistently been the leader in attracting foreign buyers, California, always a major play, Texas, Arizona, and also New Jersey being close to New York. City, many people must live in New Jersey.
Jason Hartman 8:03
So New Jersey being the lower priced version of New York, you know has its attractiveness there. But Florida captures about 20% of those foreign buyer purchases California 12%. Texas gets 10% Arizona 5% New Jersey 4%
Lawrence Yung 8:21
fewer international buyers. It means that first that could be slower local economic activity as more home sales means more local economic activity. But interesting situation in the current environment is we have inventory shortage and to the degree that now there’s a less boring competition or competition from foreigners, it gives better chance for domestic buyers to get into the market.
Jason Hartman 8:47
So there you go. That is the update on the international buyer market the foreign nationals buying us real estate. Without further ado, let’s get to our guest and let’s learn a little bit about buying and selling notes. It’s my pleasure to welcome Deanna Donovan. She is the former president and CEO of HP servicing the country’s only respond socially responsible residential loan servicing company. And previously, she was Executive Vice President and Chief Administrative Officer of wind trust mortgage and national mortgage company, which at the time exceeded $5 billion in loan originations. She has an executive scholar certificate from Kellogg School of Management and Northwestern University, and also holds an MBA from Wayne State University and a BA from Oakland University. She has basically set up two major loan servicing companies, so she can tell us all about this and today we’re going to talk about non performing notes and the investment opportunities
DeAnn ODonovan 9:54
there. The End welcome, how are you? I’m great, Jason. Thanks for having me on today.
Jason Hartman 9:58
Good to have you. And you’re coming to us from Chicago, is that correct? That’s right sunny
DeAnn ODonovan 10:01
day in Chicago,
Jason Hartman 10:03
the loan servicing industry is kind of this industry that most people in the public world Don’t think too much about. But many of them deal with loan servicers as a borrower. Tell us a little bit about the industry and what you should look for as an investor.
DeAnn ODonovan 10:18
Sure. So I would say the loan servicing business itself is sort of the non sexy side of loans, right? So if you’ve ever taken on a mortgage, the company that sends you your statement and processes your payment and handles your escrow for taxes and insurance, that’s the loan servicer. And so when somebody’s buying non performing loans, they need to set up with a servicer to make sure that the loan is being serviced in compliance with federal regulations as well as various state and local regulations. So sort of unnecessary vendor partner for anybody investing in the non performing loan space,
Jason Hartman 10:57
okay, so they need to hand it over to Mr. turnout sounds kind of like an oxymoron, almost that you would need to service alone. That’s not performing, right. But what type of things do you need to do? Is it that the servicer is sending foreclosure notices, or what are they doing when they’re when the loan is non performing.
DeAnn ODonovan 11:18
So they’re still monitoring things like taxes and insurance. So you still want to make sure that the taxes are being paid on the property, otherwise, you can potentially lose it to a tax sale, you still want to make sure that the property is being insured. So if the borrower stops paying on their insurance, for example, then that loan servicing company can put in place forceplates insurance for you. They will do the outreach for collection calls, they’ll reach out to solicit the borrower for a potential loan modification. And then if the property does need to be foreclosed on, they’ll manage that foreclosure process for you and take it through what’s known as real estate owned or Oreo and then sell that out. set for you if you’d like them to do that. So that’s kind of a high level of what takes place there. Lots of obviously nuances that go along with that as well,
Jason Hartman 12:09
of course. And so if that foreclosure is contested by the borrower, will the loan servicers ever get involved in the actual legal case, the actual litigation, or is that always handed off to an attorney
DeAnn ODonovan 12:24
typically is handled by an attorney, I think of the loan servicer in that situation as they should be managing that foreclosure process and managing the attorney for you. So for example, in one of my prior roles overseeing servicing, we had monthly case file status reports from all of our attorneys for every single case and we knew by state how long a foreclosure should take. So you can then measure the attorneys performance against those standards and benchmarks and pretty quickly identifies you’re paying attention what attorneys are kind of kicking the can down the road and watch attorneys are handling it on a timely basis and getting you to the end of the line as quickly as possible on that foreclosure process. Okay,
Jason Hartman 13:11
and let’s talk about non performing notes from the investment side Now, coming Well, I guess in the midst of the Great Recession, there were lots of opportunities and I interviewed people and I, I heard about people making great money buying non performing notes. I guess the first question began is, do you like the investment angle on the first or the second position loan? Or does it not matter? Either one,
DeAnn ODonovan 13:39
I would only invest in first lien position, non performing loans. The second lien positions are a lot tougher, they’re much more speculative. And to your point, when there were a lot of foreclosures taking place, the second you could really serve negotiate kind of that nuisance settlement. So if you were buying them right, you could make some easy money that When a property went to a short sale or whatnot, but that’s much tougher, I think in today’s market and, you know, foreclosure rates are at a 20 to 30 year low across the country. So that makes a big difference as well. They’re not as many loans trading. And so, you know, some of the loans that are still trading that are older defaulted loans, you really need to look at very closely because if they haven’t been foreclosed on, and they’re 234 years delinquent, there may be a reason that they cannot be or have not been foreclosed on. So it definitely is a buyer beware market in today’s environment.
Jason Hartman 14:35
And it makes a big difference for the investor, doesn’t it if it’s before or after Dodd Frank legislation? Right? Or maybe maybe you don’t think it does? I don’t know. I’m anxious to hear your opinion on that.
DeAnn ODonovan 14:46
So I don’t really have an opinion on that, per se. You know, no matter when the loan defaulted, you’re still subject to current CFPB and Dodd Frank regulations. Certainly some of the older originations before the financial meltdown You know, you see more instances in the loan files of potential fraud under fraud on the origination side, but at the end of the day, you’re really looking at the loan holistically, you know, what are the key terms? What’s the principal balance? What’s the value of the underlying collateral? What’s the quality of the title and the chain of title and really making an informed decision on is this alone that can give me the return that I’m looking for? Have you ever looked at
Jason Hartman 15:30
the world of tax sale investing tax liens, tax deeds, and I’d love to have someone who’s really kind of been in both of those markets to compare the non performing notes space to the tax deed tax lien space. I’m curious if you’ve thought much about that or investigated it yourself.
DeAnn ODonovan 15:49
I have investigated it several times. And last summer, I did a very deep dive on it. I ended up passing on it as an investment class because it just felt a little predatory to me. And in my experience purchasing non performing loans, we genuinely work with the homeowners to try to find a cooperative settlement. Right. So if they’re still in the property, we would try to modify the loan and make their payments affordable. If the property is vacant, we’d see can we do deed in lieu of foreclosure or other cooperative settlement? So in that situation you’re trying to allow you’re trying to align yourself with the borrower, whereas I think in the tax deed situation, typically people are doing that time to get paid a large yield if the taxes get paid off, or they’re doing it to try to take control of the underlying asset. And so to me, you know, there’s nothing wrong with it, but it just felt a little predatory. It wasn’t something that I was personally comfortable investing in.
Jason Hartman 16:49
I’m curious why you say that though, because the tax investor will just say tax because it could be either one the leaner the beat, they can always do workouts and they do do workouts With the the club owner right or not, I’m kind of curious why you why you view there’s no predatory?
DeAnn ODonovan 17:06
Well, I think it’s because a lot of the, you know, when I was doing my due diligence and started talking with folks about it, most of them were not doing that they were in general trying to take control of the underlying asset to sell the asset,
Jason Hartman 17:20
where are the best places to find the non performing notes in which to invest? I mean, this market has become considerably smaller in the last several years, right, where do you find the assets to buy
DeAnn ODonovan 17:33
it has become a much tighter and a much thinner market. You’re absolutely right, and the prices that people are paying, especially in 2019, and really bit up quite a bit, so they’re not many bargains out there anymore. The majority of the loans that we see are being sold by hedge funds and institutional parties where you know, they might have a performing portfolio and they’re typically taking the lower end non performing assets and selling those out. And then we’re seeing still a fair number of small deals like one z, two Z’s maybe 10 to 20 at a time, that are trading through smaller brokers in the market, and sometimes through individual trading partners as well. But there are definitely fewer large transactions. I would say some of the only large transactions that are out there right now are through HUD
Jason Hartman 18:24
lot thinner. How do you analyze a deal? I mean, how do you know if it’s a good deal or not the pricing for this kind of asset, you know, it’s not real transparent, like real estate is where you have comps, and things like that. And certainly they these were a lot cheaper coming out of the Great Recession, because people were buying them for, you know, I don’t know, 30 cents on the dollar for first position. Maybe you you tell us but those are the kind of numbers I heard. That seems so appealing. Maybe they were paying more I’m not sure.
DeAnn ODonovan 18:58
I think that’s right. I think Up until about, let’s say two years ago, non performing loans were often trading in the range of 10 cents to 50 cents on the dollar. And in the first couple of quarters of this year, I’m seeing them trade, typically between 50 and 80 cents on the dollar, I just looked at a deal in the last week or two, that somebody was pricing to pay 80 cents on the dollar for a non performing portfolio and those numbers to me, you have to have a really cheap cost of capital are pretty low return objective to have those numbers make sense. Because typically, the way I would underwrite it is I would assume that best case I’m going to sell for 90% of the value of the underlying collateral. So they’re really only giving themselves a 10% best case return in that scenario, and to me, you know, something goes wrong. You know, you’re at sort of cash flow breakeven.
Jason Hartman 20:00
Is it important for the investor to have a strategy going into a deal? Or is it better to just kind of be flexible? In other words, do you want to buy the note and then resell it? Do you want to buy the note and try and get the property? Do you want to buy the note and do a workout? Or any other strategies you might want to share?
DeAnn ODonovan 20:20
Yes. So I would definitely recommend that you know what your strategy is before you purchase the note. And I would go one step further and say do a sensitivity analysis so that you have your range of prospective returns? Because the first strategy is not always the winning strategy, right. So you know, if your goal is to foreclose, let’s say and take control of the underlying asset to fix it, and flip it or fix it and rented, understanding what your legal costs are likely to be become very important, and understanding what the current legal statuses is also very important. So then you can estimate out your holding time right? So Fine, foreclosing in Chicago and Cook County, for example, I’m going to estimate an 18 to 24 month foreclosure timeline. Right. And state some states are very quick, some areas are very slow should Cook County is notoriously slow. So then you have all of those holding costs that go along with that 24 month period, right? So paying the taxes on it, ensuring it your legal costs, doing periodic property inspection, taking Property Preservation steps, perhaps doing cash for keys that if there’s somebody still living in there, and so then you kind of figure out, you know, how much is it going to cost me to hold that asset until I get it to Oreo and I can sell it or fix it and flip it or rent it or whatever the strategy is, and then you should be working back into Okay, how much can I pay? And so I think some of the more strategic folks in the market do that but I do see a lot of people who just kind of Throw bids out without taking that granular Look, it’s very hard to underwrite it as a portfolio, you really have to underwrite it, asset by asset.
Jason Hartman 22:09
dm, your perspective coming at this as is, I’m guessing a fairly corporate type of perspective. You’ve, you know, worked in large organizations build large organizations. When we talk about this and people are listening, do people do this in any real way on a solopreneur type of basis, solo investor basis? Or do you really need to be set up with some staff, a team resources, software subscriptions? How difficult is that or how complex does it need to be?
DeAnn ODonovan 22:42
I see a surprising number of people doing it on a solopreneur basis and also a lot of husband and wife couples doing it as a family business. So it can certainly be done. There is definitely a lot of concentration risk, I would say, in general, I would encourage people if you’re going to Move into the space plan to acquire at least 20 loans so that you’ve got a little bit of a diversification if you’re only buying one or two loans and something goes wrong, you may be in a position where you feel like you’re losing a substantial amount of money and you get burned and then you exit the space. Whereas, you know, because you’re always going to have a few losers in the portfolio, right? Not every loan is going to make money. Not everything is going to go to plan. Unfortunately, natural disasters happen in contested litigations happen so making sure that you’re diversifying that portfolio within the space becomes very important. But because there is that sort of manual underwriting loan by loan, it does lend itself to smaller investors and smaller operators.
Jason Hartman 23:40
I would agree with you. When it comes to our real estate investors who are buying properties. They’re buying the actual physical asset versus the paper. They definitely do better when they buy several properties. They have kind of a law of large numbers working for them, if you will, and just their own psychology that They tend to treat it like a more important thing in a more businesslike manner than if they just buy, you know, one or two properties. So, same thing and the good properties, the good performers will cover up the dogs. But if you just do one or two, you might get two dogs. You don’t have any of that. It’s kind of counterintuitive, actually. I think some people listening to that will pick up that and they might say, well, don’t you lower your risk by just buying one or two? No, actually, you increase your risk. It’s sort of counterintuitive. Do you wanna speak to
DeAnn ODonovan 24:36
that at all? I think it’s a great point that you’re bringing up and it can be counterintuitive. The analogy I would use. It’s like the difference between buying a Muni bond and buying a portfolio of Muni bonds through a mutual fund or the between buying apple and Amazon and buying a diversified mutual fund. So you are diversifying your risk, the more you’ve kind of spread it out and I think the same hole True definitely for single family rentals and commercial properties, as well as for buying non performing loans. And so you know, to your point as well, you get smarter as you go, right? And lessons from every investment that you make, and you get to then take that education and roll it forward to your next deal so that you’re a little bit savvy or a little bit better on the underwriting and your likelihood of you know, having a loss is going to be a little bit less.
Jason Hartman 25:22
Can you speak a little bit more Dan to how to find the deals, you mentioned, hood, if someone listening is a solopreneur, or they want to do a small shop built around this type of investment. Tell us about some of the mechanics of really finding the investments.
DeAnn ODonovan 25:38
So I think for the smaller investors, the best bet is to try to connect with larger players who are always buying and always selling, get on their email distribution lists. So you see deals when they come out. So a number of the servicers have, you know, brokers who either do this as their dedicated job or know people looking to sell. And I think another great source is attending Investor Education events, attending conferences, setting up meetings at those events, and really getting your name out there in front of people, and getting qualified as a buyer so that you’re getting access to those deals when they first come out. And I think that for the small investors, that’s typically going to be a better route than going directly to the banks. Because right now, bank inventories are very low. And so since the defaults are so low, there’s very little incentive for them to sell them at a discount. They now have the staff to lay them out, right, work them through audio, where they’re going to make more money in most cases than they are by selling the note. So I know a lot of people I hear calling local banks, and I think for most small investors, unless you’ve got a connection there, it’s not a great source of deals,
Jason Hartman 26:52
you know, good point. How many servicers are there in the US?
DeAnn ODonovan 26:56
Oh, well, boy. So I would say there are one, two Two dozen. And the challenge for some of the smaller investors is that a lot of the larger servicers will not take them. So when when you’re a smaller investor, they’re probably half a dozen servicers in the country that you could go to to establish relationship with
Jason Hartman 27:17
him. I think there are really two categories of servicers, right? There are companies like FCI. And I don’t know that FCI, for example, really does any of the the institutional type deals, it feels at least like a lot of the hard money lenders use them, you know, private lenders use them, versus the big servicers that work for companies like awkward or BFA or phh. Or, you know, when I don’t even know who the servicer is somebody I don’t know, you know, it’s, I mean, are there sort of two categories of servicers or maybe more? When you talk about the number of services out there for people?
DeAnn ODonovan 27:56
Yes, I’d say that there are at least three categories of services. So category One is a captive servicer and that somebody that only services their own portfolio, right? category two would be an institutional level third party servicer. And there you would get into companies like dove and meal, for example, would be an institutional level, third party servicer. And then you have the small boutique servicers who are the ones that are most likely to take smaller investors, and that would include companies like land home FCI, sn, and a few others. So those are generally the three categories of servicers. And I would say for your listeners, the biggest mistake that I see small investors making is that they do not get set up with a servicer and they go out and knock on the door on their own. That’s a great way to get yourself into trouble. You might get away with it because you’re flying under the radar. But truly, even if you just have one or two loans, you should get it set up with a servicer to you know, help you do it right and help make sure that your loans are being serviced in compliance CFPB regulations and local governmental rules.
Jason Hartman 29:03
Good stuff. Do you have anything else you want to share with our listeners? Maybe a question I didn’t ask you?
DeAnn ODonovan 29:08
Well, you know, I think the other thing I would share with your listeners, if they’re interested in the non performing loans space would be some of the pitfalls to watch out for. And I would say the biggest items to look for, especially if you’re just starting out, are making sure that you’re doing a very thorough review of the chain of title, including the assignments of mortgage and the launches to make sure that you’re buying a clean chain of title that is complete, because if you’re not, it can be very difficult to foreclose. And it can take an extended period of time to either cure that title or do a quiet title action. So that would be kind of the one thing I would I would warn them about and then the other kind of red flags to look out for are making sure that they really understand the taxes and whether the taxes are current or owing and any liens that are hanging out there because those things can come back and bite you pretty quickly.
Jason Hartman 29:59
And you know, I’ve got to ask you and I know our listeners want to know this question. I remember when I took my first note investing class years ago, the instructor explained what an a launch is. And it’s a French word. What is that? Again? I can’t remember anymore.
DeAnn ODonovan 30:17
Yeah. So and allows is really just another way to transfer title from one holder of the note to the other. So it’s very similar to an assignment of mortgage some, some places call it in a lot of other places referred to it as an assignment of mortgage, but effectively, they’re doing the same thing.
Jason Hartman 30:34
Good stuff, do you Where can people find you? And you also have, I believe, a little report you offer to our listeners that will help them avoid some of the pitfalls, right?
DeAnn ODonovan 30:45
Yes, so they can reach out to me on LinkedIn, Deanna Donovan, and if they connect with me on LinkedIn or via email, I’m happy to send them one sheet Seven Deadly Sins of buying non performing notes so that they can have a quick reference point as they continue their journey in that space.
Jason Hartman 31:03
Deana Donovan, thanks for joining us. Thank you, Jason. Thank you so much for listening. Please be sure to subscribe so that you don’t miss any episodes. Be sure to check out the show’s specific website and our general website heart and Mediacom for appropriate disclaimers and Terms of Service. Remember that guest opinions are their own. And if you require specific legal or tax advice, or advice and any other specialized area, please consult an appropriate professional. And we also very much appreciate you reviewing the show. Please go to iTunes or Stitcher Radio or whatever platform you’re using and write a review for the show we would very much appreciate that. And be sure to make it official and subscribe so you do not miss any episodes. We look forward to seeing you on the next episode.