All Forum Posts by: J Scott

It's not semantics at all...  You use the term "speculation" as if it's a bad thing, or as if it's something you would never do.  You talk about basing decisions on future earning potential as if it's a bad thing, or as if it's something you would never do.

But, you do.  We all do.  That's literally what investing is about -- doing our best to discount the value of future earnings to a price that makes sense today.

As you pointed out, most actions in life are speculating.  But, there are degrees of speculation.  And those degrees are defined by risk.

Low risk = low speculation.  High risk = high speculation.

When you buy a property, you are speculating.  By definition.

If you model based on a one-year pro-forma operating P&L, you are speculating less (you have lower risk) than if you're modeling off of a 10 pro-forma operating P&L (where you have more risk).

So, when you say that investing off of future earnings potential is speculation, that's a given.  

We're always investing based on future potential earnings.

It's just a question of how far into the future and your level of confidence on the pro-forma.

I'm guessing you only purchase stabilized property.  So you think you're not speculating?

But, I assume you have no guarantee that your income, occupancy, and expenses will be the same as prior to purchasing a property, correct?

Assuming that's the case, you're absolutely speculating.

Also, I assume that you don't receive income until after you purchase your properties.  So, you pay a sale price today for income that you haven't yet received. Is that correct?

if so, I'm pretty sure that meets your definition of speculation above. Paying today for income you hope/expect to receive in the future.

Btw, for those of us who purchase value add property, it's essential that we use proforma (i.e., forward looking) data to model the returns.

So yes, we're definitely speculating as well.

That's what investing is -- speculation.

Btw, if you believe you're not speculating, and you're earning over the risk-free rate of return, I'd love to hear your secret!

 I understand how standard deviation works. I'm curious how you determined what two standard deviations was for this specific property.

What were the comps you used?  And what did you do differently?

Consistently being two standard deviations above the mean when selling in a relatively efficient market seems near impossible to me (but that's just my understanding of the market and statistics).  

I'd love to understand how you do it.

How do you determine what a standard deviation is above a Zillow estimate?

Can you share the math with me?

Have you considered that real estate simply takes longer to settle a transaction, and therefore appears to be less affected by perception?

And using your example above, have you considered that during COVID, equities could be traded from a computer, while real estate required people to actually leave their houses, which wasn't much of an option for most people?

Balance sheet risk or liquidity risk?

Seems everyone here is mixing the two, but as someone who comes from the tech/VC space, I can tell you that the two are very different...

SVB failed because of liquidity.  But, their LCR was at about 150% prior to their demise, putting them up there with many larger banks who were actually subject to regulation around liquidity.

Again, I can use the same argument for real estate.  Why is one property selling for a 5% cap rate, while another similar property in the same market is selling for an 8% cap rate?

The answer is perceived risk of the asset.  Riskier assets will trade at higher multiples.  Less risky assets will trade at lower multiples.  This is the same across both equities and real estate.

But, that would conflict with your earlier definition/example of "perceptual" value:

"Recently there was a massive drop in the stock price, dropping more than 20% in a very short period of time. There was no significant change in the business itself, no significant change in revenues, no significant changes what so ever. This is only possible due to the fact of it's standing as a perceptual value."

Change the word "stock price" to "market value" and this holds true for what happened to multifamily values last summer as cap rates expanded.

If your definition is accurate, then clearly you must believe that real estate is also an example of "perceptual" value.

If you don't believe that real estate is an example of "perceptual" value, then you probably want to revise your definition above...  ;)

You don't like the idea of using a P/E ratio to generate an intrinsic value?

In that case, do you not like using cap rates to value real estate?  You realize that a cap rate is just the inverse of a P/E ratio, right?

So, if we can't use cap rates to value real estate, how do you prefer to value real estate?