The Rise Of The Bulk REO Investing Business

The weakness of the U.S. economy has given rise to the largest epidemic of foreclosures in American history. Yet well-funded investors in real estate are seizing upon this opening to profit from an profoundly profitable new opportunity.

That opportunity is called Bulk REO Investing, and the potential is huge. Let’s take a moment to analyze the basics of this incredibly lucrative business.

A home owner who misses one or more mortgage payments is faced with an ever-increasing volume of threatening correspondence from their lender. The lender directs the subsequent timing of the actual foreclosure proceedings. The name for this period is ‘preforeclosure’.

When a defaulted property is placed up for auction, the foreclosure process is completed. If there are no buyers at the foreclosure auction, the lender regains title to the property. The designation of ‘REO’ (Real Estate Owned) is then attached to the foreclosed property.

Lenders usually try to unload their REO properties at close to retail price by listing their REO’s with a real estate broker. But more and more, lenders are selling their REO properties for a greatly reduced price. The trade-off is that the buyer must purchase multiple REO properties in each transaction.

The recession in the United States has yielded huge profits to real estate investors prepared to take advantage. One of the best ways to take advantage of Bulk REO Investing opportunities is to partner with a well-regarded source of funding. Some sources of funding for these transactions are: personal funds, hard money lenders, commercial lenders and non-conventional sources such as private investors and hedge funds.

Note – One of the nation’s leading experts on bulk reo investing is hedge fund manager Sal Buscemi. Sal Buscemi recognized the irrationality of the real estate boom of the late 1990’s and early 2000’s and capitalized on this by forming his very well-regarded hedge fund, Dandrew Capital Partners.

The ill effects of non-performing assets are not just felt by the lenders but the entire economy is negatively impacted by them.  Defaulted mortgage loans mean that a lender might be hindered in its ability to borrow by around 900%.  If the property in question is defaulted on, leaving $100,000 owed, the mortgage lender is hindered from borrowing up to $900,000 until the property is unloaded.  Plus, as defaulted assets lose value banks are forced to write down the lower value and bear the loss.

(A quick note from the editor:  For related information, check out Bulk REO Investing.)

There aren’t many solutions for banks when it comes to easing the negative impact non-performing assets have on their accounts.  Lenders won’t foreclose unless all other options have been depleted.  Lenders must face excessive legal fees over the course of this process.  REO (Real Estate Owned) properties also incur pervasive property management headaches until they are unloaded.  The proliferated risk of harm being done to REO properties while they sit empty only increases the chances it will further lose value.  There are also the expenses of selling any real estate holdings that include transaction expenses and marketing.

Lenders also face the issue of staffing.  Even if lenders have exhausted all other options, if it decides to foreclose it must employee enough people to manage the properties and unload sometimes numerous REO’s.  It has been almost 15 years since the last major crisis in lending took place and personnel have been robbed of REO experts at staggering levels.  On top of this is the crisis the United States faces among the larger lending services who have few if any capable REO experts who can handle bulk REO’s as well as possess the ability to successfully manage and protect them al the while selling them at a minimal loss.

Currently all of the servicing agencies, course lenders and bond managers have only one thing in mind: Sell every loan that is in distress for the largest discount allowed.

Sal Bushemi of Dandrew Capital Partners discusses his hedge fund’s involvement in the distressed assets business.

Bulk REO Investing is proving to be one of the most potent fields of investment during 2009 and beyond. Bulk REO Investors profit by purchasing groups (commonly called “REO portfolios”) of properties from lenders who have repossessed the properties and have urgent need to release pressure from their balance sheets. Due to the urgency of the balance sheet needs of the financial institutions coupled with the investor’s ability to buy a package of REO properties rather than individual properties, it’s frequently possible for a well-capitalized bulk reo investor to acquire REO packages at extremely attractive prices.

To get the full details, I chatted with Salvatore Buscemi of New York-based distressed asset hedge fund Dandrew Capital Partners.

“Dandrew Capital works by making offers to financial institutions on the basis of a percentage of unpaid principal balance. This means that if we make an offer of 60 cents on the dollar for a package of mortgages with a remainder of $3,000,000 in principal balance, then we’ll pay $1,800,000 to acquire that package” says Buscemi.

There are probably few people who are better positioned for the present economic downturn than Salvatore Buscemi and Dandrew Capital Partners. “Several years ago, everyone in the financial world thought that there would be no end to the booming real estate market. That made it very challenging for us, since we began marketing our distressed real estate asset fund before the real estate market began to fall apart.”

But Buscemi is obviously on the right side of the market trends. “Clearly, our strategy has been vindicated. Our fund is fully subscribed and we have plans for starting another fund exclusively for foreign investors.

What is particularly interesting about the way Dandrew Capital monetizes their property investments. “At the conclusion of our reo portfolio transactions, we own multiple properties which must then be monetized to bring a return to our fund. To do this, we resell our properties to retail home buyers via seller financing. By cutting traditional lenders out of our transactions, we are able to sell our properties quickly and at very attractive terms” says Buscemi.

The future seems quite bright for astute Bulk REO investors.

When a property is not yielding income it has dire consequences for the lenders and the general economy as well.  A defaulted mortgage could greatly limit a bank’s borrowing ability by nearly 900%.  Lenders can be blocked from borrowing up to $900,000 on a defaulted loan of just $100,000, that is, until the property is divested.  Not to mention that, as an asset goes down in market price, the banks are forced to adjust the numbers accordingly and eat the deficit.

(A quick note from the editor:  For related information, check out Bulk REO Investing.)

There are few solutions available to lenders that relieve the brunt non-performing assets put on their registers.  Lenders won’t foreclose unless all other options have been depleted.  These actions are pricey for lenders and start with exhorbitant legal expenses.  REO (Real Estate Owned) properties also incur pervasive property management headaches until they are unloaded.  REO properties increase the chance for liability every minute they sit unoccupied, amplifying the risk that the asset will further nose dive.  Lastly, there are business dealings, complete with incurred expenses that encompass transferring said properties.

Lenders also face the issue of staffing.  Even if a bank believes that foreclosure is the only feasable answer it has to contend with employing enough people to manage and sell REO’s, especially if there are bulk REO’s on hand.  Since about 1994 there hasn’t been this kind of lending crisis in which REO experts have been axed at jaw dropping proportions.  Not to mention the fact that the US has few experts capable of handling bulk REO’s while juggling the task of managing them, protecting them and divesting them with a low margin of loss.

Currently all of the servicing agencies, course lenders and bond managers have only one thing in mind: Sell every loan that is in distress for the largest discount allowed.