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Lending Update with Highlands Residential Mortgage

Video Transcript

Leah Collich: Hey there everybody. I’m Leah Collich, an investment counselor here at Real Wealth. As many of you know, we are working daily, behind the scenes to find out what’s happening in these 18 or so different markets that we’re investing in. We’re also talking with experts in the space. We’re daily communicating with our preferred lenders, CPAs, attorneys, to really keep our finger to the pulse on what’s happening in our industry and what are the impacts to you, the end user, the investor?

So today I hopped on a call with our preferred lender Highlands Residentials. Many of you recognize the face here on the screen. Graham Parham spearheads that team. We come to Graham all the time to just get updates on what’s happening. We wanted to hop on a call today to just chat through the Fed’s latest announcement yesterday, but also to understand what can we be expecting in our rate locks over the next week, month, if we can predict that far out. Again, I’m joined today by Graham Parham. Graham’s brought two of his work counterparts. Graham would you introduce who you’ve brought with us on the call today?

Graham: Sure. Aaron Stelly is my production partner. He’s been with me for about seven years. He pretty much is in the trenches every day with me. Then Andrew Stringer just started as our vice President of Capital Markets. He’s the guy that basically finds money, sells the loans, prices, the whole nine yards. He’s our expert today to talk about the rates and the challenges that investors are having and also understand the reality of where we probably are going to be within a year from now or so. That’s Andrew and Andrew’s going to try to give us a deep dive on what he knows and I’ll just give you my opinion for what it’s worth and we’ll go from there.

Leah: Awesome. What triggered this conversation, Graham, every week I usually reach out to you to just say, “Hey, where rates at?” Because we want to make sure that our proformas are staged with an accurate projection, which arguably has gotten very difficult to do lately as interest rates have been pretty wild all over the place. Graham, we were emailing back and forth and you’re like, “Leah, let’s just hop on a call. There’s some details here that I want to be able to anecdotally explain.” I want you to recap what you and I talked about when it comes to what are our investors seeing today with rates beyond just price of where they’re at, but the volatility, the points, where are we at?

Graham: Well, I have to go back in time to talk about some of the loans that were originated, say ’17, ’18, and ’19. The investors off Wall Street that bought these mortgage-backed securities, when they buy them, they like to keep them on their books for three to five years so they can make some money on them. What happened to those loans when COVID came around in ’20 and ’21, rates hit the bottom. Everybody and their mother refinanced their loans.

The guys on Wall Street was hoping to make some money on those loans and they had to deal with a thing called EPO or early payoff, and that kills their margins. What happens is, the Feds right now, they’re increasing the rates or Fed rates, which ultimately increases the interest rates to the point of where we are today. As they do that, this inflation, they’re trying to slow down, and eventually we’re going to hit that recession wall.

Once that happens, the recession typically will make soften up those rates and they’ll come back down again. My prediction and Andrew’s going to give us his prediction, I say a year from now we’ll probably see the rates come back down. Other analysts that I’ve listened to on a daily basis, they say next year’s average rate could be, I don’t know, 5% for owner rock across the board, I’m hoping that’s true, but the fact of the matter is Wall Street knows that it’s going to happen. They know they’re going to get EPO and they’re trying to avoid that more margin loss. Which means that why can’t I get a loan today at zero-point pricing? I’ve been in this business for 25 years, I’ve never seen it like this.

We’ve always got zero point pricing and because they’re not giving as much margin to these loans as an example, we have to sell a thing called par rate. Let’s call par the price and I’m at 100.00. That’s what we have to price it at. If somebody wants to buy the rate down, okay, well, they can, and then it goes down to like 99. They’re going to have to pay a point to get to 100. Those additional margins that they’re not giving us because right out– they give us 30-year fixed rate, right out to the box, it has so much margin. Then we have to make adjustments to it. What credit score, what property type, what loan amount, what percent of down pay, all those factor into it.

Really right now, the going practice is probably a 25% down to get your optimum rates in terms. The 20 gets really challenging because the adjustments on the 20 is more than double than it is on the 25, but even at the 25, there’s lack of margin. A lot of times you’re having to come to the table with a point and a point and a half to get to 100. That’s where people don’t understand it, and that’s why I’m trying to explain it today. It’s not us, it’s Wall Street, they’re being cautious and they don’t want to lose their margin on these early payoffs, and with that, I’m going to turn it over to Andrew. He can elaborate a little bit more about his opinion on this.

Andrew: Just that last tail-end part, it’s not even Wall Street. You have the investors that we deliver these loans to, they’re hedging their bets also. You’re getting double-dipped. You’re getting not only the Wall Street, the security owners, or the buyers of those securities, but again, the middleman, if you will, of the investors that we sell to in the secondary market, as they say, they’re also holding back themselves because they believe that they don’t want the risk, they don’t want to have the EPOs, and then that’s passing through even less pricing by the time it gets to us, so it really is a double whammy.

Leah: Everyone is expecting rates to come down and this price, these points that they’ve built in it is really their way to mitigate future loss knowing that rates are going to come down and everybody and their mom’s going to go back and refinance again. That’s their motive here.

Andrew: What we really need now, as Graham mentioned, the idea of the timeline from when we finally get a neutral or a nominal state of where the Fed holds the Fed fund rate for a prolonged period, what we’re looking for, maybe if it’s not lower rates, just stability. The longer we get performance in these higher note rates, those security owners or the buyers that are out there holding the securities, they’re going to get more comfortable with the prepayment speeds.

The problem is, we’ve gone so far, so fast that the securities and the seven or six and a half coupons, they’re not proven. We don’t know obviously what the future holds, but more importantly, there’s no track record to sell what is the behavior of a customer holding that type of and straight going to prove out and those securities are being priced based on that lack of liquidity and lack of performance.

Leah: Interesting. I guess we’re doing exactly what they think we’re going to be doing at Real Wealth. We’re starting to tell people, think about the refinanced in your future. Don’t sink a bunch of cash into a property now. Maybe reduce leverage too much knowing that the plan is to refinance in a shorter period of time anyway. They’re right about speculating what our behavior is going going to be.

You guys have, your industry has been on quite the rollercoaster ride. It’s probably an understatement over the last maybe two and a half years now. Andrew, we were discussing volatility and trying to understand what’s driving some of this volatility. You had a great table that you wanted to show for us. I’ll give you control here so you can pull that up and talk us through what you’re seeing in rates today.

Andrew: Sure. All right, I’m going to pull this up here. There we go. I’m going to do my best to give you an understanding of what you’re seeing here. This is broken out by different segments. These are interest rate tranches. The top used to be in the, call it three and a three and a quarter ranges all the way up to current market, which is our bottom tranche. You’ll see the spikes which equate to volatility. Now what this is measuring is a 14-day average of the price movement from the open to the close, top to bottom, and so when you think of it in interest rate form every, call it 50 basis points, averages about an 1/8 in interest rate. In my side of the world, everything is measured in 30 seconds.

I drew these yellow lines that show where we currently are, which shows about to be 100 or 31, which is about 100 basis points. 31, 30 seconds. 32, 30 seconds is 100 basis points. What I’m showing you is on average intraday, we’re seeing as much as 100 basis points in movement, which equates to about a 1/4 in rate that can shift. You start the day at 7 1/2, it could be 7 3/4 at the end of the day. That’s the extreme volatility we’re seeing, and you’ll notice again, this is current market where the lines stop but If you go back about 2020, you’ll see that huge spike happened when COVID hit. If you go back beyond that, even to say 2013, that was when Bernanke and the Taper Tantrum occurred. You can see these moments in time where the volatility entered in but in between those spikes, the movement was close to about 830 seconds, which is about a quarter in price, so half of an interest rate movement in a given day. What this is just trying to illustrate again, this is a 14-day average, how much in 2020 the volatility’s ramped up.

Then going back to when we were talking about investors holding or wanting to buy paper bonds or securities for mortgage backs. There’s so much liquidity on the sidelines because it’s just hard to play in this environment. It’s very expensive and so I’ll pick it back to you, but I just thought that was important. Again, when you’re a buyer looking to try to make a decision, it really is here today, gone tomorrow.

Leah: This illustrates a really good point that I want to make sure people are paying attention to because I’ve been hearing this a lot. People are watching a webinar that’s maybe a month old or two months old, or even six months old. They’re looking at the rates that were used a month ago, two weeks ago, and to your point, Andrew, we could record a webinar yesterday and had a good quote, a good estimate on when rates were that day, and the very next week, that rate is long gone better or worse.

I’ve been urging people, “You have to firm up your own proformas, maybe often as you are analyzing deals and deciding the properties that you might want to put under contract. If you haven’t connected with a lender in preparation for contracting a property, you need to be so that you can stay connected to how volatile these rates are and how it impacts the bottom line.” Graham, I bet you’re seeing some of that on your end, people who’ve maybe contracted properties months and months ago with one expectation and then it comes time to lock their rate, and wow the numbers are vastly different than they anticipated.

Graham: Some of your newbies if you will, they don’t understand that you’re buying an investment. They were anticipating cash flow. We all are and we are going to improve that cash flow, maybe not today but maybe a year from now. With the refinance, with the increase in rents, and so forth. We’re making the right decisions on these properties. You’re buying still, I’m buying still, and most of the savvy investors out there that’s a part of your group are continuing to buy. The newbies sometime are a little nervous. They’re still sleeping on the COVID rates.

Well, that’s where I thought we were going to be. It’s not that way anymore. I do have a question for you, Andrew. I noticed today when I looked at the pricing that we only really went up about an eighth in price, or excuse me, eighth in rate. A lot of people are expecting, well, why didn’t we go up even higher than that? Is there a lag time that Wall Street is going to delay that increase? Give me your thoughts on that.

Andrew: We got the Fed meeting that happened yesterday, if you’ve heard, if you read into it or watched it, or have learned about it at this point, the three-quarter hike was received as expected but there was a point that the market thought that we were topping out and the Fed was gearing up for a Fed pivot as they said. Well, Powell came out and quickly shared that was not the case. They’re going to foresee this thing going into 2023 and probably higher than what we originally expected as well. The market sold off dramatically yesterday and still even more so today.

However, it’s been mitigated a bit because what you’re seeing now is two lines of thought. You have the people that are reactive, need jerkers off the Feds raising rates, therefore yields are going higher, rates going to go higher along with it sell, sell, sell. Then you’re seeing another introduction of buyers coming in that are saying, actually it’s all smoke and mirrors. I believe the Fed– and I would probably be in this camp as well, I think it’s psychology. I think the Fed has jeopardized their credibility to a place where they have to be the bad guy if you will, and prove to the markets they mean business.

Although that narrative has worked really well up until this point, you’re going to get some cross-current of basic investors that believe, “You know what? I see the ride on the wall. This is not sustainable.” Therefore people are going ahead but coming in and buying at these levels because they see rates are not going to necessarily go as high as they think it will. That’s mitigated then.

Leah: When Fannie Freddie comes out and makes some bold prediction that they think rates will be back in the mid-fives by Q3 of 2023, is it based on that school of thought? Are they in that camp with us?

Andrew: Yes, I think recession is the word. The Fed is data dependent and at this point, he’s been batting a no-hitter. Powell has been given a gift to be able to do what he’s done and right now the data hasn’t manifested itself to say, it’s marginally, there’s been some toppyness in some of the inflationary reports, inflation has subsided a bit but there hasn’t been a fall off in jobs. There hasn’t been an increase of unemployment. The retail sales numbers coming out that hasn’t– Prior to that, the retail sales has still been strong.

All these elements that Fred’s saying, “This is what we’re watching,” Hasn’t come to realize yet. With that, they’ve been given the ability to continue to say, “Higher longer.” The moment the crack emerges and it usually happens just as much as Powell mentioned the word transitory until he didn’t. He marched that transitory mantra for as long as he could. The moment he realized he’d gone ahead of his skis with that, they did 100% 180. I think the same is going to be true with these Fed trajectories.

We can say we’re going to 5.25, 5.5 terminal rate in the Fed fund rate but there’s a lot of people that believe the reason rates are going to come down is because the recession will arrive and his hand will be forced. Then the bottom’s going to drop out.

Leah: Then we all go refinance our loans and load up on more houses. Get ready, Graham. Get ready Aaron.

Graham: That was really good, Andrew. Thank you. That was great. I don’t have anything else, unless you have some more questions, Leah.

Leah: No, I think that about covers it. Let’s end on this. I want to, as much as possible, we’re low pressure. That’s just our style around here. The market is what the market is. We see opportunity in this market. We’re urging people to buy, we’re trying to flag– Suddenly, Graham, I was just telling you this morning. We’re about to hop off, I’ll hop off of this call and get on another one with a team who’s got 10 deals that they want to feature today to our membership. I’ve looked at all of them and the returns are good. They’re throwing in seller concessions.

They’re offAarong free property management. Suddenly it’s like we have negotiating power again as buyers. I’m seeing deals that look good to me, but I’m constantly having to talk investors into seeing past a 7% interest rate. I’m just curious, what are you telling investors who are really struggling to see past these interest rates? Aaron, maybe you have something. I know you talk with a lot of our members too, but what are you advising people to do and how to think?

Aaron: I’ll go ahead and jump in. My biggest thing that I always lead with especially with these investment properties, where by nature you’re most of the time going to have a smaller size loan when compared to that of a primary residence. Look at the dollars and cents, don’t get so infatuated on, “Oh my gosh, I’m at 7.5%.” Well, how does that 7.5% compare to maybe 6.5%? Let’s look at that monthly principle on interest. It might only be $70, $80 something that you could totally work with. What I always lead with, share the rates and then before we get that sticker shock.

Hold on, let’s actually look at the dollars and cents here, do the math, crunch the numbers, and depending on your situation, if you’re wanting to put 20 or 25, maybe build up your portfolio, maybe have more equity. It’s all case by case, but I can’t emphasize enough, look at the bottom line numbers, don’t get so stuck on the actual rate 7%, 7.5%, 8%. Look at that monthly payment, look at that cash flow and see where that bottom line stands.

Leah: I think that’s good.

Graham: We do have to go through the education on what we’re doing on this webinar now to explain why those points have to be paid to get to the table. They don’t understand that. Well, my last time I did it was a year ago and I had zero points. This isn’t a year ago. This is today. It’s ignorant to a proven stupid and we just make sure the ignorance, we get them smart about what’s going on and they feel a little bit more comfortable. Are there going to be a 100% success rate when we do that? Like Aaron says, not really, not right now, but we are having some high success rates.

Leah: How much should someone be thinking about timing their rate lock? Or is that just stupid to even try to play that game?

Andrew: Don’t do that in this market.


Graham: We lock most of our loans on a 50-day lock. We do have an extended rate lock program for people that are building their properties and a lot of it is in Florida. That’s still available and I think it’s an excellent program. That extended rate lock can go up to a year. We do have a lot of people that are already booked in for a year. We hope that the builders can get it done by then. That’s the biggest challenge right there. There’s still a lot of delays, but–

Leah: Yes, I had an investor reach out to me yesterday. She was going to contract a property that was under renovation and it was very early on in its renovation process. The team was estimating a closing date, maybe 60 to 75 days out. Just past a traditional rate lock program. She was going back and forth on whether or not it would be wise to go ahead and lock and then pay the daily rate lock extension rate to just try to hedge her bets. I was curious, I knew I had this call with you guys today and I was curious what you guys would say about that. Is that something we should be considAarong or is that gambling?

Graham: Aaron, you’re, you’re better at this than I.

Aaron: Yes, and Leah, we might have been speaking with the same client yesterday as well. I had a good conversation with that and shared my thoughts. At the end of the day, it is a slight gamble because here’s the catch, we have a 50-day standard rate lock, if we’re not talking the extended rate lock program, we can extend that 50-day lock a max of 30 days once it expires.

It’s a marginal cost, but it does add up per day. On that one where it was okay, just, we’re probably at that 60, 70-day mark of when the property’s going to be completed from now. If we lock in into 50 day add additional 30 days, worst case, we have a 80-day, which is gives us an option, we can secure the rate today. The only risk there is, if the bill drags, if the rehab drags right, you get past that 80 day now no telling what the market is going to bring. Could be a potential relock adjustment as well. If at all possible, we always want to avoid that because no telling what’s going to happen.

Leah: Can’t commit to that indefinitely.

Aaron: That one was almost a little bit too far outside my comfort zone where it was right on, “Oh, it’s going to be ready maybe 70, 80 days from now. If we have one that’s closer to–” “Oh, this one’s going to be ready four weeks from now.” Well, we can fit that in the 50-day lock no problem. It’s all case by case, but like Graham alluded to, we’re here to walk through with every borrower and give them our thoughts, give them our suggestions. The great thing about real wealth is everyone is so just on the same page as far as communication is concerned.

Getting answers like that looping everyone into a same email or phone call or conference call, we can get those answers. We can get the best guess estimates that way the borrower is in good hands at the end of the day.

Leah: Right. This is why we come to you guys. I love it. I always try to relieve people’s fears, I’m like, “Look, you don’t have to be the expert in every aspect of this. Lean on the people who are, pick up the phone, pick their brain.” It’s still investing at the end of the day. There’s no guarantees, there’s no absolutes. We’re all making our best-informed guesses to make the best financial decisions that we can. To Andrew’s point, again, the parameters of that are changing at warp speed these days. It’s a very difficult space to play in. Well guys, thank you so much for hopping on a quick call with us today. If somebody wants to get in contact with you, Graham, what is the best way for someone to do that?

Graham: Always call my toll-free number at 855-326-680-2. If you miss me, please leave a message. I’ll call you right back.

Leah: Awesome. All right guys. Thanks. Good to see you all.

Graham: Thank you.

Aaron: Thanks, everyone.

Andrew: Sure.

[00:23:50] [END OF AUDIO]

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