Re: Fortune telling? Hardly. - Posted by JPiper
Posted by JPiper on April 18, 2000 at 13:05:18:
My understanding of your technique is that it revolves around trend-following. More power to you if you believe this is the best way to approach the real estate market?.but perhaps a few of the following comments would serve you well.
Trend-following methods typically all have one thing in common. They don?t get you out at the high?.nor do they get you in at the low. Their strength is that they identify the trend?.but by the very essence of the technique they miss the high and the low. In other words, the trend has to have established itself, before you can recognize it. The reason this fact is important is to understand that you will miss some portion of a particular move in prices. Let?s say, as an example that you miss 10% of a move up, and then 10% of a move down. You still catch 80% of the trend in question?and therefore most observes would regard this as a successful ?system?.
The problem with trend-following however is that one never knows in advance how long or far a trend will last. For example, let?s assume an ?average price? of $100K. Let?s assume that we are about to embark on a trend that will take the price from $100K to $110K before it starts to dip. That means the move was $10K. Further, we may get in at $101K and out at $109K for a $8K profit. Here?s the problem though?by the time you paid commissions and closing costs?you?ve made 0?.in fact, you may have lost money (unless you made some on cashflow in the interim).
Another problem: let?s assume you catch a bigger move?let?s say this one (we don?t know in advance of course) is a $15K move. So let?s assume we buy at $101.5K and sell at $113.5K?.for a $12K profit. Now we pay commissions and closing costs of perhaps $8K?.hopefully we?re able to sell without having to carry anything. This leaves us $4K?.which after we pay the taxes may net us $$2.5K or so. Now you?ve had two successful transaction?one made you nothing, the next made you $2.5K. Now your indicators flash their signal?you buy at $101K?.and the price goes nowhere?.in fact, it goes down to $100K before your indicators say to sell. Now you sell for $100K?pay commissions and closing costs of $8K?thereby losing $9K. Assuming you have the ability to write this off?.perhaps your net loss is $6K. So the bottomline is, after results that most people would acknowledge were successful (2 out of 3 correct), and a very small wrong signal?.you have lost money.
This technique is speculative at best. It?s an attempt to say that the way things worked in the past, will be the way they work in the future. While that prospect may be tantalizing?.I know of no case where any system of this type has ever worked over any significant period of time. Perhaps yours is the first.
As an investor though, not a speculator?.my idea is acknowledge that there are many things I might not be able to predict. And therefore, when I structure my deal I?m going to structure it understanding that things can and do go wrong. Wars break out, interest rates rise, unemployment rises?..things change over time. So I?m going to structure my deal with a large margin in it?.so that when things go wrong, I can live with it. Make your profit going in is the whole idea. Every day someone in every market dumps a property for much less than market value?.because of their personal circumstances, and having absolutely nothing to do with the trend. These are the situations I?m interested in?.the ones that I can structure my deal to compensate for all the unknown risks that I face down the road somewhere.
Harry Helmsley, at one time the owner of the Empire State Building, and other vast real estate holdings, at one time was interviewed on 60 Minutes. He bragged at the time that he had NEVER sold a piece of real estate?he only bought. I?m not suggesting this is the only way, but here?s a guy who made a huge fortune in real estate. Warren Buffet, one of the worlds richest men?.is a long term holder of stocks (he regards his holdings as a piece of a business). One of his reasons for holding (but not the only reason), is the idea that taxes on profits are a HUGE cost, plus the idea that markets are largely unpredictable on a consistent basis.
Finally, I would remind you that for every buyer of a property there is a seller. So monitoring volume of sales as a measure of ?demand? is really a misnomer?.every transaction has both a buyer and seller. Increasing building permits simple tells you that builders are optimistic about the market. I understand that you back-tested your model for 25 years. I think it goes without saying that in the scheme of things, this is a VERY short period. Index builders are famous for making a system fit the data?and therefore when the data inevitably changes the system no longer works.
In any case, I?ve managed to survive a variety of markets, both up and down, by focusing on my risks?and attempting to address them in advance. While I might be interested in knowing the trend, trends change?so I?m going to focus on the things that are more directly within my control?..deal structure, risk avoidance, legal issues, cashflow, people skills, etc etc etc.
One last thought. I recall an old story about the stock market. A father had 3 sons, each of whom he gave $1000 to in 1910. One of the sons bought stocks in the Dow Jones Average?and held. A second son learned perfect timing?and therefore bought at EVERY low, and sold at EVERY high. His results exceeded by a wide margin that of the first son. The third son stayed fully invested?however he always had his money in the right industry?.through every drop and every rise. This son?s results vastly exceeded the results of the other sons. Wish I could remember the numbers?.they were staggering. Something to think about.