People in America just don’t want to have to deal with risk anymore. Nowadays every single asset under the sun is “hedged” in an effort to make sure there is no possibility of loss. Now a man has started up a company called Rex & Co to “hedge” people’s equity risk in their houses.
As best as I can figure out, Rex & Co does this by buying shares in a house. Only, these shares do not give Rex & Co any control over the house. All they give is the right to some money when the house is sold. This is way that the San Francisco Chronicle describes it…..
Bill and Elaine Nolan paid top dollar when they bought their Tiburon house a few years ago at the height of real estate frenzy. Now, of course, the market is cooling rapidly.
So Bill Nolan, who deals with money all day long as a partner in an investment management firm, wanted to diversify. He turned to a startup based on a new concept: Let homeowners tap their equity without taking on debt.
Nolan contracted with Rex & Co. to receive $100,000 cash in exchange for a 10 percent stake of the home’s future appreciation. When the Nolans sell their home, they’ll pay Rex the $100,000 plus 10 percent of their home’s appreciation above its current value of $2 million. For example, if the home sells for $2.5 million, the Nolans would pay Rex $150,000 — the original $100,000, plus 10 percent of the $500,000 gain in value, or $50,000. If the home were to depreciate, Rex would share in that loss as well
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(The Nolan house is atypical because of its high value; more typically, a $100,000 Rex payment would be in exchange for a larger share of a house’s appreciation.)“It was an interesting opportunity to take some cash out of the house and hedge against any decline in home value,” said Bill Nolan, who plans to invest the money in his business. “It was a way to hedge against the (real estate) market being flat or not performing as well as the equity market; to pull money and put it into something else I felt had a reasonable chance of outperforming the real estate market.”
I can understand why Mr. Nolan might be feeling a little nervous about how the value of his house might hold up. What I can’t see is why Rex & Co would make this kind offer at this particular time.
Sure, Rex & Co are taking a hefty share of the valuation gains (on most houses it is about 50%) for taking only a small share of the house’s equity . But they have no control over when the house is sold, what kind of condition it is kept in, or anything like that. It seems to me that by taking a large portion of the valuation gains they are removing a lot of incentive from the owners to seek the best possible price. That don’t seem so smart to me.
Mr. Nolan seems to be perfectly awere of that fact. According to the San Francisco Chronicle story….
Nolan said he might consider ending his Rex deal if Tiburon houses go down in value, so that Rex would share in the loss on his home. “The beauty of it is that no one else can ‘call’ me on the option; I own the trigger point,” he said. “No one else decides, ‘This is an opportune time, home prices have risen, we’ll call Mr. Nolan on our option to give us our 10 percent.’ ”
To be sure, there are some safe guards in place. The main safe guard seems is that if you sell your home within 10 years after the deal is made you have to pay an early sale penalty of some kind. Rex seems to be relying on this to insulate itself from short term fluctuations in the real estate market. After all, the long term trend in the real estate market is always up right?
Well, in the past the long term trend was always up. But in the past the US population was growing at a far faster rate then it is projected to do in the future. If Rex is basing his plans around the idea that the historical trend will continue I think he will find that he is sadly mistaken.
That is not to say that Rex’s idea could never be made to work under any circumstance. If he had come up with his idea 10 years ago he would a very rich man by now. But as it stands right now, I would bet that you would be better off putting your money in short term T-bills then in investing with Rex.
Why start something like this at the height of a housing boom? These things can easily take a decade to wind themselves out? It is not unheard of for a real estate market to stagnate in real terms over a 10 year period.
In another words, Rex’s biggest problem is that he is coming late to the party.