Real estate market

Price takers and price searchers

admin — Sun, 28 Mar 2010 15:37:56 +0000

In a price-taker market, the firms all produce identical products (for example, wheat, eggs, or regular unleaded gasoline), and each seller is small relative to the total market. Thus, the output of analyzing firm has little or no effect on the market price. Each firm can sell all its output at the market price, but cannot sell any of its output at a higher price. When a firm is a price taker, there is no pricing decision to be made. Price takers try to choose the output level that will maximize profit. given their costs and the price determined by the market.
Price takers, like all other profit-seeking firms, cannot thrive (or even survive) in a competitive environment unless they are sensitive to cost. However, price-taker markets and price-searcher markets have differing degrees of competition, differing ease of entry, and perhaps differing scale economies, too. To compete, each firm has to provide a high level of delivered benefits per dollar, compared to what consumers can find else- where. No firm can force consumers to purchase its product, and all products have many substitutes. Successful firms are those that stay ahead of competitors and potential competitors.
In the real world, most firms are not price takers. In most cases, firms that lower their prices are able to attract additional customer. Correspondingly, firms are usually able to increase their prices, at least a little, without losing all their customers. For example, if Nike increased the price of its athletic shoes by 10 percent, the number of shoes sold would decline, but it would not fall to zero. Firms like Nike are not price takers. They are price searchers: they choose the price that they will charge for their product, but the quantity that they are able to sell is very much related to that price. To maximize their profits, price searchers must not only decide how much to produce, but also what price to charge. We will examine markets in which the firms are price searchers in the following posts. If most real-world firms are price searchers, not price takers, why take the time to analyze the latter? There are several reasons. First, even though most firms are not price takers, there are a number of important markets, particularly in agriculture, in which the firms do essentially take the price determined in the market. Second, the price-taker model helps clarify the relationship between the decision making of individual firms and the market supply in both price-taker and price-searcher markets. Finally, and perhaps most important, the study of markets in which firms are price takers enhances our knowledge of competition as a dynamic process. Understanding how the competitive process works when firms are price takers will also contribute to our understanding of the process as it applies to many price searchers.
Historically, the term competition has been used to refer to markets in which firms are price takers. However, these markets are increasingly referred to as “price-taker markets” because this expression is more descriptive. Furthermore, this label avoids the implication that competitive forces are necessarily less pure or less intense in price- searcher markets. Often this is not the case. Many price searchers use a broad array of competitive weapons for example, quality of product, style, convenient location, advertising, and price – all in an effort to attract consumers.

Utilities

admin — Thu, 21 May 2009 17:48:44 +0000

The availability of adequate energy, water, and waste water treatment at a reasonable price is basic in attracting new industries. Availability of electricity or natural gas at the industrial site, utility rates, anticipated future supplies, and policies for line extensions, and fire protection and insurance rates are all considerations for managers seeking new plant locations.
Water is the most widely used natural resource in industry. It may be incorporated into the product, used in processing, in steam generation, in cooling, and in normal sanitary uses. The main concerns are with the quantity and quality of the water supply. In recent years, strict federal and state standards relating to environmental consequences of water use and waste water disposal have had an effect on industrial water considerations. For instance, an increasing number of industries that normally consider treating their own waste water are looking for locations where public sewage disposal systems are adequate or can be constructed to meet their needs. Or, they seek an open space location where they will be responsible only for their own waste water treatment. The attractiveness of a community can be greatly enhanced by providing industry adequate water supplies and effective waste water treatment.

Industrial Site

admin — Sat, 16 May 2009 17:48:22 +0000

A building site must be available in the community to attract new industry. The site must be either owned by the community or contractual arrangements must be in place to obtain the property once the location decision is made. The site must be well drained, attractive, accessible to utilities, transportation, and other services. The industrial site should be well maintained and available for viewing by industrial prospects at any time.
Many communities have existing available empty structures that may be attractive to industry. Information about the structures should be a part of the community’s economic development marketing package.

Online Mortgages

admin — Thu, 30 Apr 2009 14:26:48 +0000

Web portals are as guilty of making extra profit on your loan as any loan originator on the street. If you search for a loan on the web, you will run into two different types of companies. One is a list broker. They are not in the mortgage business. It is their job to persuade you to enter your information on a website. They sell your name and information to a number of different companies who have paid sometimes up to $25 for it. Unfortunately for you, your information is sold to several companies and they will hound you for business.
The other company is a retail branch of a bank/lender or a broker. They also want you to enter your information and apply for a loan. Their big selling points are convenience, speed, non-commission sales people, and low rate. They will tell you they can provide a low rate because their overhead is low and the savings will be passed on to you. Total fantasy. The rate would be the same as any other company including the extra profit in it for them.
Two big web portals are Lending Tree and E-Loan. Lending Tree claims you will get the best loan and lowest rate because lenders compete for your loan. This could not be farther from the truth. If you read their licensing disclosures, you will find they act as a broker in many states and actually increase the cost of your loan by imposing a “Computerized Loan Origination (CLO)” or “co-broker” fee of $760 simply because you used their site to post your application. Also, they do not guarantee you the lowest rate. They say they will try to get your information to at least 4 lenders. Again, you will be inundated with loan originators who received your lead from Lending Tree. Lending Tree is a lead generator that hands out leads to other companies that have all paid over $25,000 to join their network. It is no different than picking up the phone and calling salespeople except you get charged an extra $760!
E-Loan is a broker-bank. By now you should know why we say not to use banks. Just in case you don’t here it is again. Broker-banks do not have to disclose the extra profit they make on your loan.

The Mortgage Industry’s Dirty Little Secret

admin — Sat, 25 Apr 2009 14:25:39 +0000

Now, let me tell you the secret no broker or bank wants you to know. Almost every loan has at least 2% (or 2 points), and more often than not, 3% in it for the broker or bank as the mark-up/profit. (This is a good time to toss in a little industry lingo).
A point refers to 1% of a loan amount or $1,000 on a $100,000 loan. We will use the word “point” or “points” from here on out. The mortgage originator will show you only what you pay him for his services in the form of origination fee, mortgage broker fee, or discount point.
In most cases this origination fee normally equals 1 point. What he intentionally fails to show you is what the mark-up/profit pays them for your loan. This is typically another 1-2 points! This doubles or triples the revenue for the originating company. A listener of our radio show, “The Mortgage Insider Show”, called the other day and wanted a review of his Good Faith Estimate. All of the third party fees were in line and he was being charged a 1-point mortgage broker fee. So far, everything looked right. The rate was 5.875%. At this rate, that broker was getting another 2 points from the lender in addition to the 1 point he told the client about. The broker tripled the cost of his loan. Every loan in America is done this way.
You may wonder, “What is so wrong with this? If it comes from the lender and I don’t have to pay these extra 2 points, why should I be concerned?”
Two reasons:
Not disclosing all charges “paid by you or the lender” is a violation of RESPA. RESPA violations are punishable under federal law and carry a minimum penalty of $5,000 and 5 years in jail for each violation.
The money is a reward to the loan originator for selling you a higher than market rate! For every .25% jump in rate the loan originator can get you to accept, the lender/secondary market will give him a 1-point reward.
For example on a $100,000 loan, you are told the mortgage broker/origination fee is 1 point or $1,000.
You accept the terms believing it’s the only compensation you are paying. However, the loan originator gets you to accept a rate you think is fair, but in reality is .500% too high (6.50% instead of 6.00%). This rate allows the lender to reward the loan originator an extra 2 points or $2,000. From a secondary market perspective, the loan originator produced a loan worth $12,000 more in interest payments due to the higher rate. That is why they will reward the loan originator now with $2,000!
Would you pay $2,000 to make $12,000? You bet! It gets even better for the lender because most of the interest you pay is paid in the first half of the loan. You never get ahead and the lender is making big money of every loan you do. Have you ever looked at your mortgage statement and compared how much of your payment is going to interest and how much is going to lower the principal?
On the $100,000 loan above, you pay $29,893.08 in interest and only $6,079.92 in principal reduction for the first 5 years of the loan. Now you can see why the lenders reward the originators for selling a loan with a higher rate. It means more interest payments for them. It gets even worse because most people only hold a loan for about 7 years on average. They pay the lender all of those interest payments and when the buy a new home or refinance, they start all over again.
The originator can be a bank, a broker, or what I call a broker-bank. Brokers use the lender’s funds and close in the lender’s name. This is called a “brokered loan”. Banks or broker-banks use their own funds or lines-of-credit and close in their own name. This is called a “correspondent loan”.
A broker’s income for increasing the rate on brokered loans is called Yield Spread Premium or YSP. The bank’s income for increasing the rate on correspondent loans is called Service Release Premium or SRP.
Federal RESPA rules that govern informing you of this “extra” profit only apply to the YSP in brokered loans! Therefore, banks and broker-banks are completely exempt from disclosing the “extra” profit they receive on their loans because technically, their loans are not brokered loans.
This reward the loan originator gets for increasing your rate is referred to in many ways. The most common are Yield Spread Premium, Service Release Premium, Overage, Broker Rebate, Lender Paid Fees, or Lender Paid Compensation.
For the remainder of the book we will be referring to it as Yield Spread Premium (YSP) for Brokers and Service Release Premium (SRP) for banks or broker-banks. Regardless of what it’s called, it is a clear indication your rate is not in line with the market. Therefore when shopping for a mortgage, you must know how to eliminate YSP/SRP.

Bank vs. Broker

admin — Sun, 19 Apr 2009 14:23:30 +0000

Profit is made when the loan moves from retail to wholesale. The mark-up or profit on a loan originated by a broker is made when the loan closes. This extra amount is on the settlement sheet and paid directly to the broker.
The mark-up/profit on a loan originated by a bank is made when the bank sells the loan to the secondary market. The mark-up/profit is the same for both the broker and bank. However, the broker has to disclose their mark-up/profit at the time of closing and the bank does not disclose their mark-up/profit because it is made after the loan has already closed.
For example, a broker originates a loan. At closing, the broker does not use his or her own money to make the loan. The wholesale lender will provide the funds to close. The broker has originated the loan at a rate that makes a certain mark-up/profit. The wholesale lender exactly knows how much mark-up/profit this loan creates when sold into the secondary market. The wholesale lender will pass a large percentage of their secondary market profit to the broker at the time of closing minus a small cut for themselves.
A bank-originated loan has the same mark-up/profit as broker originated loan. The bank will use it’s own funds to close the loan, pool it with other bank loans, and simply sell it into the secondary market making the mark-up/profit. No one knows about the extra profit except the bank.
Since you can only get a loan from the retail side, let’s talk more about brokers and banks.
Look at the pros and cons of each.
Banks (and those entities acting as banks)
Pro

Convenience
Less likely to use high pressure or bait and switch sales tactics

Con

Bank-only products
Limited number of products
One rate take it or leave it
Rate is much higher
Less willing to negotiate on fees and other charges
Exempted from disclosure rules as outlined in the Real Estate Settlement & Procedures Act (RESPA).

Brokers

Pro

Access to wholesale rates
Access to every product in the marketplace
Customer service oriented
Able to negotiate on fees
Not exempted from the disclosure rule

Con

Use high pressure bait and switch sales tactics
Minimal and possibly no licensure required in many states
More of a salesperson than consultant/banker
No criminal background checks

Choosing the number of volatility factors

admin — Mon, 13 Apr 2009 20:20:57 +0000

The HJM framework has the advantage that it allows seamless extension from one to several sources of uncertainty. The choice of number of volatility factors to use is driven by a number of often conflicting considerations. Additional sources of uncertainty introduce additional degrees of freedom to the evolution of the term structure which allows decorrelation (decreasing correlation between forward rates with larger differences in their maturities) of rates to be properly accounted for. However, additional factors increase the numerical complexity, slowing down computation time.

Even when calibrating via PCA, where this choice is driven by the number of factors explaining a sufficiently large percentage of total volatility, there are several points to consider:

PCA tells us how many factors are significant in explaining the movement of the term structure within the historical data set. We wish to use these factors as predictors of future movements of the term structure. While adding additional factors will improve our ability to explain the historical term structure movements, this may not be the case for explaining future movements.

The historical factors and their specific loadings (magnitude for various maturities along the term structure) may not be ideal predictors of future volatility factors. Additional factors may not be stable through time adding noise, rather than improving the structural relationships within the volatility predictions.

PCA attempts to maximise the factors’ contribution to the diagonal elements of the covariance matrix, that is the variances. The resulting factors may explain the off-diagonal elements (covariances) with significant error. This may affect valuation of correlation dependent options such as swaptions and spread options.

Principal Component Analysis

admin — Wed, 08 Apr 2009 20:19:21 +0000

Principal component analysis (PCA) may be performed on a time series of historical term structure data in an attempt to identify the dominant factors driving its evolution. PCA produces factors maximising successive contributions to overall variance. Hence these factors attempt to explain the diagonal of the covariance matrix. The resulting factors are surrogate volatility factors derived from an empirical analysis of term structure data.

Principal component analysis provides a direct indication of the number and general shape of factors driving the term structure movements. A historical estimate of the magnitude of the volatility functions is also obtained as part of the analysis. These driving factors are both econometrically and financially justifiable, but like all historical calibration methodologies, will not exactly recover market prices of traded derivative instruments.

Many analyses have used spot interest rates as a description of the term structure; here we consider a finite set of forward rates of predetermined tenor, that span the whole term structure. Within the HJM framework each instantaneous forward rate is a stochastic variable in its own right, displaying some degree of correlation with other forward rates. To model a realistic evolution of the term structure one needs to determine a set of forward rate variances (volatilities) as well as covariances (correlations) between the forward rates.

Historical Volatility Specification

admin — Mon, 06 Apr 2009 20:19:12 +0000

Calibration to historical data could be performed in a manner similar to that described for implied volatility data. First a specific formulation of the HJM model is chosen, that is a specific volatility structure is imposed by specifying the number of volatility factors and their specific functional form. Time series of historical term structure data is used to determine the function parameters such that the specified functions fit the data as closely as possible. Such a restrictive approach may be desirable since a specific structure is imposed on the data, allowing for analytical prices of vanilla options. However, such a calibration procedure will not produce an exact match to market prices.

An approach more often applied to historical calibration is that of principal components which allows the number and specific structure of the volatility factors to be directly implied from the data.

Buyer use of property

admin — Sat, 28 Mar 2009 14:38:35 +0000

The installment contract normally allows the buyer to immediately occupy and use the property, as of the effective date of the contract.
However, the contract will usually have a description of permitted and prohibited usage of the property. For example, contracts for residential properties will normally not allow the buyer to use the property for commercial purposes. Most installment contracts, especially for residential homes, will also include a provision requiring the buyer to maintain the property’s appearance, stability and functionality.
If the borrower fails to follow the conditions and requirements of the installment contract, the seller is normally allowed to cancel the contract and keep any funds paid to date by the buyer.