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Robert Bruner, the Dean of Darden School of Business at UVA has a blog that I often find interesting. His latest entry is based on a quote by the famed investor Bernard Baruch "If you have made a mistake, cut your losses as quickly as possible."
He talks about the difficulties of doing that in the business world, specifically using the AOL/Time Warner merger as an example. But one of the points he makes about why it's so difficult seems applicable in real estate as well.
He talks about "sunk cost" thinking. In other words, a seller says "I bought this place for $400,000. I'm not selling it for less than that."
The problem becomes that if you really do need to sell there's no guarantee you can hold out long enough for prices to go back up, or even to stabilize. If you're a seller who's moved on and you're paying two mortgages, how long can you continue doing that?
If you refuse to lower the price or let an offer get away for $10,000 difference, what happens when it's still on the market six months from now and you've paid that much more out in mortgage payments and prices have continued to fall?
Sometimes, cutting your losses is the best advice, in business and in real estate!
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RE: Cutting Your Losses
Let me tell you about my Florida clients. They spent a week riding around with me and finally found the perfect home. But alas it just went under contract, so they decided to build,and found a much larger lot at the back of the subdivision. It was wonderful, but it costs $75k more then the one they were looking, but they put down the $25K and went back home to sell their home. I helped them find an agent and within 30 days they had an offer of $525K only $15k less they the asking price. But now you know the story, they didn't take the offer, for there home up here wouldn't be finished until 6 months later and where would they live and it was less then they wanted. I begged them to accept, but to no avail. Well 6 months later their home here is finished, they put off the closing here for 3 more months until it was close or loose their $25K so we closed. By now they had lowered their price to $450K and no offers, of after making the payments here for 6 months and their home lowered to $400k they decided to sell the home here. Which we did sell in 90 days for $20K more then they paid. But they still lost all their payments for the 9 months and the extra charges from the builders.
So what would of been the best for them? I wonder, it's hard to figure don't you think?
Gary Mitchell
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RE: Cutting Your Losses
I couldn't agree more with this concept of "cutting your losses". Unfortunately cutting your losses below the mortgage balance requires a lender who is willing to believe the same thing in today's short sale market. Unfortunately most lenders have an "attitude", because they have bank investors and stockholders they must answer too. Have we all forgotten about Enron, Bears Stern, Countrywide, LaSalle and other companies that have been gobbled up by bigger institutions for the past few years? I do agree, the sooner you cut losses in a declining market the sooner you stop the bleeding from the jugular vein, but not everybody can see the light at the end of the tunnel. Re-evaluating the mortgage balance to current market value would be the best and most painless way to resolve this current mortgage crises. Because as we are going that's all the lenders are going to get anyway!!! But then who would we have to blame if we used common since? Currently everything is being blamed on "uninsured 2nd mortgages" (sub-prime lending) but if HUD would have re-evaluated their ceiling on FHA loans back in 2000 there would have never been a "sub-prime market" for 80/20 interest only financing. Did we all forget that every prime loan had a sub-prime attached to it? The sub-prime loan (20%) became the insurance policy that FHA used to be. Who would have ever dreamed that Real Estate would have taken a plunge below the 20% sub-prime loan levels? Makes you kind of wonder what HUD was thinking back when the sub-prime market took off like a rocket for the moon?
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RE: Cutting Your Losses
Gary: Definitely tough decisions! I do feel a lot of sympathy for all those backed into a corner with no decision that seems like a good one.
Robert: I think there are an awful lot of people in this industry who'd like a "do over" on the last few years!
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