Real Estate Investments

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1 Real Estate Investments Pratish Patel Winter 2015 Lecture Notes California Polytechnic University Pratish Patel Winter 2015

2 Learning Objectives What are real estate investments? Syllabus Topics to be covered Physical and Financial Market Real Estate size California Polytechnic University Pratish Patel Winter

3 What are real estate investments? The Big Picture Exhibit 2-2: 2 2: The Real Estate System : : Interaction of the Space Market, Asset Market, & Development IndustryI ADDS NEW SUPPLY (Landlords) SPACE MARKET DEMAND (Tenants) LOCAL & NATIONAL ECONOMY RENTS & OCCUPANCY FORECAST FUTURE DEVELOPMENT INDUSTRY ASSET MARKET IF YES IS DEVELPT PROFITABLE? CONSTR COST INCLU LAND CASH FLOW PROPERTY MARKET VALUE MKT REQ D CAP RATE SUPPLY (Owners Selling) DEMAND (Investors Buying) CAPI TAL MKTS = Causal flows. California Polytechnic University Pratish Patel = Information gathering & use. Winter

4 Physical property market Physical property market includes Hotels, warehouses, apartments, condos Specialized buildings that focus on Bio Tech Labs for example Retirement homes The economics of investment in physical property markets depends on traditional economic factors such as demand of rental space, supply of rental space, regulations, forecasted operating cashflows. California Polytechnic University Pratish Patel Winter

5 Capital markets In order to buy or develop a real estate property, the decision maker needs to borrow: We need to understand who they are borrowing from? Sources of Funds We need to understand what are they borrowing? Financial Instruments We need to understand how they are borrowing? Market Infrastructure 1. Sources of funds Capital market investors (including mutual funds) for both debt (mortgage) and equity (REIT) instruments. California Polytechnic University Pratish Patel Winter

6 Financial intermediaries (Commercial banks, Thrift institutions, Insurance companies, Pensions funds. Government Sponsored Enterprises (GSEs, i.e. Fannie/Freddie). 2. Financial Instruments Mortgages (whole loans), Mortgage backed securities (MBS, CMBS), Derivative securities (IOs, POs, Floaters, etc.), REIT equity. 3. Market infrastructure Legal structure including land ownership, mortgage recording, foreclosure and eviction laws, and tax law. California Polytechnic University Pratish Patel Winter

7 Secondary Market? Suppose you took out a mortgage by approaching Bank of America. Your loan is considered to be primary market. Bank of America in turn sells your loan to others. Others make up the secondary market. The process is called Securitization. A lot of players are involved in this process and some of them have conflicting incentives. California Polytechnic University Pratish Patel Winter

8 Mortgage Backed Securities (MBS) Lender Mortgages The MBS Pool Principal and Interest from Mortgages Final Investors All Cash Flow from MBS Pool Simple Pass Through or Tranches Lender can just hold whole mortgages Often better to sell mortgages as a pool Each investor gets a prorated % of the pool 2009 Dwight Jaffee and Nancy Wallace, Slide California Polytechnic University Pratish Patel Winter

9 US Secondary Mortgage Market Primary Market Originates Mortgages Secondary Market Transfers Ownership Investors Hold Issued Mortgages Thrifts Banks Insurance Co. Pension Funds Mortgage Banks Mortgage REITs 2009 Dwight Jaffee and Nancy Wallace, Slide 42 GSEs (MBS) Private MBS/CMBS Mortgage Insurers Servicers Lawyers Rating Agencies Banks & Thrifts Insurance Co. Pension Funds Mutual Funds Individuals GSEs 42 California Polytechnic University Pratish Patel Winter

10 What is this class about? Real Estate Investments is Investment in apartments, condos, buildings, warehouses, etc so that you have a right to cash flows from the real estate property + Investment in financial instruments that are collateralized by real estate property California Polytechnic University Pratish Patel Winter

11 What is the size of the real estate related financial instruments? California Polytechnic University Pratish Patel Winter

12 1,800 Issuance in U.S. Capital Markets YTD 2012 vs. YTD 2013 $ Billions 1,600 1,400 YTD 2012 YTD ,200 1, Treasury(1) Federa l Ag ency(1) Municipal( 1) Mortgage- Rel ate d Asset-B acked Corpor ate(1) Equ ity Issuance Highlights - Year-Over-Year $ Billions 2013:Q3 2012:Q3 (1) Includes long-term issuance only Source: Thomson Reuters, U.S. Treasury, U.S. Federal Agencies Y-o-Y % Change* California Polytechnic University Pratish Patel Winter YTD Treasury (1) % 1,618.0 Federal Agency (1) % 347.3

13 YTD Long-Term Federal Agency Debt Issuance by Agency 2013:Q3 12 Freddie Mac, $20.8B Federal Home Loan Banks, $44.3B 1 Excludes maturities of one year or less * Beginning in 2004, Sallie Mae has been excluded due to privatization Sources: Thomson Reuters Fannie Mae, $18.0B Farmer Mac, $0.0B Federal Farm Credit, $13.5B * Beginning in 2004, Sallie Mae has been excluded due to privatization Sources: FHLB, FNMA, FHLMC, SLMA, TVA, FCS Average Daily Trading Volume of Federal Agency Securities Oct Sep California Polytechnic 14 $ Billions University Pratish Patel Winter Other FHLB FNMA FHLMC f 6 l i F b t $ f i F p h t T

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16 YTD ABS Issuance by Major Types of Credit 2013:Q3 Manufactured Housing, $0.0B Home Equity, $1.9B Equipment, $4.4B Other, $3.1B Credit Cards, $10.5B Student Loans, $3.1B Asset-Backed Securities Average Daily Trading Volume 2011:Q3-2013:Q3 1.6 $ Billions Source: Thomson Reuters, SIFMA Auto, $21.9B Source: Thomson Reuters, SIFMA California Polytechnic 1.4 University Pratish Patel Winter Outst the th 3Q 12 grew cent growt severa notab storm transp In the contin tured Trad Daily billion y-o-y.

17 2,500 Issuance of Mortgage-Related Securities :Q3 $ Billions 2,000 1,500 1,000 Agency - Other 500 Agency MBS/CMO Non-Agency MBS YTD Sources: Federal Agencies, Thomson Reuters California Polytechnic University Pratish Patel Winter Issuance of Non-Agency Mortgage-Backed Securities :Q3 800 $ Billions

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20 (Source: Inside Mortgage Finance) 120% 110% 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% FHA/VA Conventional Conforming Jumbo Subprime Total Dwight Jaffee and Nancy Wallace, Slide 37 California Polytechnic University Pratish Patel Winter

21 California Polytechnic University Pratish Patel Winter

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