Is There Any Upside to Alzheimer’s?: As everyone knows, after a certain age, our brains begin to shrink! There are nearly 5.4 million Americans with this serious medical ailment. I would like to think that our brains are right-sized to understand this crazy investment market. Look at the stock market, bonds and home prices in California. Extraordinary values. DJM, however, remains clear headed and mindful of what happened 7 years ago this summer. In 2007, we acquired over $250 million of commercial real estate at the height of the market. Within the next four years, we paid the dumb tax and lost most of our equity. That experience has not faded away.. The market was frothy, interest rates were at historical lows, money flowed like cheap wine, and “too big to fail” hadn’t mutated to “too big to jail”. Today, I’m feeling a bit déjà vu-ish and very uncomfortable as I watch investors claw over each other, outbidding, overbidding and “winning the deal” at cap rates and prices reminiscent of that forgettable year! Are we watching the onset of market dementia, again? Probably, as cap rates are lower today than in 2007! We are back on the merry go round with dizzying values, crazed buyers and yield seekers (or suckers) accepting single digit returns. Many institutions are content to invest at 3% annual returns on core retail properties. May be we should be sellers? Does history always have to repeat itself? Add the impact of the Fed spending billions on bond purchases and even Wall Street quants are banging their computers wondering how to evaluate risk, lock in returns and understand investor behavior. Bloomberg reported in June that due to the insatiable global demand for bonds, the models used to value them are useless! Researchers at the Federal Reserve Bank of New York retooled a risk metric to evaluate yields on Treasuries, casting aside three decades of market data because the old models don’t work. In short, stimulus by the Fed, massive global liquidity (savings), regional conflict, zero inflation and investor behavior are rendering many traditional financial models dysfunctional. DJM isn’t into bonds per se and will never pretend to understand investor behavior, but we do borrow lots of money with rates and spreads directly related to risk metrics reflected in the pricing of US treasuries. We intend to take full advantage of cheap debt as we pursue refinancing Ellinwood and Bella Terra; Deciding on debt is a no-brainer, alternatively, casually investing in any type of equities probably requires one to have their head examined. No doubt, lots of pressure on investment managers to meet their clients yield/risk expectations. Fortunately we don’t have that pressure. Acquisition decisions today at DJM are under intense scrutiny; we haven’t forgotten our painful trip down memory lane. As I have mentioned in previous narratives, we are unwilling to compete with those investors who are so hyper that their common sense seems to have gone on permanent holiday to La La Land. Or, to use Einstein’s definition of Insanity: “doing the same thing over and over again and expecting different results”. Xanax anyone?
Divine Inspiration and Blind Faith?: “God, grant me the serenity to accept the things I cannot change, The courage to change the things I can, And wisdom to know the difference”. Maybe it’s the “Prayer”, or ideas like condoms don’t prevent sex or that Old Testament populism doesn’t prevent bad behavior. These are all references from Tim Geitner’s recent book “Stress Test”. As President of the New York Fed, Geitner was tasked with working with Hank Paulson, Bush’s Treasury Secretary, to manage the financial crisis starting around 2007. He walked a fine line between re-capitalizing the largest investment banks on Wall Street and convincing Congress, Treasury and the FDIC to go along. Geitner was not only seeking some tranquility amid the chaos of the meltdown, but direction and inspiration on how to proceed and lead. Geitner describes his detractors and congressional foes as “unicorns obsessed with moral hazard and Old Testament justice”. It wasn’t just the unicorns, but millions of US taxpayers and members of Congress believed that it was morally reprehensible to finance companies who created the mess in the first place. Certainly a very complicated time, with very powerful financial interest and consequences at stake. The positive outcome now is that we have stabilized capital markets with bank reform requiring higher loan loss reserves and portfolio ownership of every loan origination. And, most of the exotic financial “derivatives” products like collateral debt obligations, and structured investment vehicles founded on “a hope and a prayer” are out of favor, leaving many investors constrained by the scarcity of investment alternatives. It is no wonder real estate has skyrocketed as a favorite asset class that can be acquired with very cheap debt. The attraction of bricks and mortar investing is once again providing safe harbor for capital preservation and a solid hedge against future inflation. Amen to that!
Some Things Are Just Black & White!: For a less nuanced view of situational ethics with real life consequences, imagine Tim Geitner as John the Baptist, spreading the gospel of financial salvation through government regulation and billions in cash for the big banks, AIG and General Motors. And, Jordon Belfort, the Wolf of Wall Street, who violated every securities law in the land, while scamming mom & pop “pink sheet” investors and making millions. The periods and motives are slightly different; The Wolf’s personal fraud and greed racket v. JTB’s effort at fairness for the public good (no run on the bank, please!). Some would argue that the Fed simply bailed out its friends. On balance, Geitner was trying to preserve confidence in the banks, keep people in their homes and do the right thing. “The Wolf”, was just a crook, “pumping and dumping” stocks, who eventually made and lost his fortune and went to jail. The distinctions are obvious. The important but simple point here is alignment. Hard to see alignment with the Wolf and JTB. Back to our reality, whether its 2007 or today, the temptations of the market are very powerful. Maybe we will just rely on Old Testament discipline or simply our own instincts not to be seduced by cheap debt, fat wallets and inferior real estate for the sake of transacting and investing. No, we haven’t lost our mind, DJM will continue to acquire, grow and invest on those principles that keep us aligned with our most valued asset, our capital partners. Have a Great Summer!
DJM Capital Partners, Inc.
D. John Miller, Founder & CEO