Factors for Real Estate Investing - Investment purpose and horizon, expected cash flows and profit opportunities, new construction vs existing property, valuation of the property, leverage, overall real estate market, property location, credit scores for single units, duplexes, and triplexes, and cash-on-cash returns for multifamily properties.

1031 Exchange - A real estate investing tool that allows investors to swap out an investment property for another and defer capital gains or losses or capital gains tax that you otherwise would have to pay at the time of sale.

Personal Net Worth = Personal Assets - Personal Liabilities

Accredited Investor Privileges - An individual or business entity that is allowed to trade securities that may or may not be registered with financial authorities.

Accredited Investors - To be considered an accredited investor, an individual must have one of the following: (a) An annual income of at least $200,000, or $300,000 combined with a spouse if married or (b) has a net worth of $1 million or more excluding primary residence or (c) a FINRA member Broker Dealer director, executive officer, or general partner. (d) A Finance professional holding a Series 7, 62, or 65, or (e) someone managing a trust with more than $5 million in assets.

Fixed Rate - A rate that remains constant throughout the entire life of the loan.

Variable Rate - A rate that fluctuates according to the market rate.

Fixed Rate Mortgage - A fixed-rate mortgage charges a set of interest that does not change throughout the life of the loan. Typically makes it easier to get homeowners to budget. Provides protection from sudden changes to mortgage rates. Difficult to qualify if interest rates are high.

Adjustable Rate Mortgage (ARM) - Rate set below the market rate on a comparable fixed-rate loan that rises (or possibly lowers) over time. Riskier than a fixed-rate mortgage as the rate can stay above fixed-rate mortgages for years. Typically much cheaper than a fixed rate mortgage at least in the first three to seven years. The monthly payment can change frequently, making it difficult to budget.

Discount Points - The Buyer can pay the lender a fee at the time of the closing to reduce the interest rate charged throughout the life of the loan, which will lower payment and increase cash flow on investment properties. 

Loan to Value (LTV) - The borrowed amount from the bank divided by the appraised value of the property, it shows as a percentage. 80% LTV on a $500,000 property is $400,000. You will need to put down a remaining down payment of 20% or $100,000.

Owner/Seller Financing - The seller takes the place of the lender. In this scenario, you bypass lenders and save on fees in order to get more favorable terms. 

Cash-Out Refinance - When a homeowner refinances their mortgage for more than it’s worth and withdraws the difference in cash.

Balloon Mortgage - A real estate loan that has an initial period of low or no monthly payments, at the end of which the borrower is required to pay off the full balance in a lump sum. The monthly payments, if any, may be interest only, and the interest rate offered is often relatively low. Most often used with investment or construction projects that are issued for the short term and don’t require collateral.

Purchase and Sale Agreement (PSA) - A legally binding document between buyer and seller agreeing on the transfer of an asset.

Bridge Loan - A bridge loan is short-term financing used until a person or company secures permanent financing or removes an existing obligation. Often times are nonrecourse, secured by commercial or investment property, and interest only. Investors can use bridge loans toward the purchase of new property. Allowing you to implement a business plan and then refinance into long-term agency debt.

Contingency - Contracts contingent to certain conditions where certain events must transpire or the contract can be considered null. Common contingencies are clean title, environmental, survey, finance, and inspection.

Closing Costs - Costs that occur up to and at the time of closing in addition to the property price. Includes lender fees, appraisal fee, title search, surveys, taxes, recording fees, and credit report charges. It usually accounts for two to five percent of the total purchase price of the asset. 

Offer Memorandum (OM) or Private Placement Memorandum -  A legal document that states the objectives, risks, and terms of an investment involved with a private placement. It is essentially a thorough business plan intended for sophisticated investors to use in their due diligence. This document includes items such as a company’s financial statements, management (officers & directors) biographies, a detailed description of business operations, and more.

Joint Venture - A combination of two or more parties that seek the development of a single enterprise or project for profit, sharing the risks associated with its development.

Syndication Deal - A real estate deal in which several investors combine their funds in a joint venture to purchase a property.

Limited Syndicate Partner (LP) - The investor in the syndication deal, provides capital, and investment money, for the deal. In exchange for their investment, limited partners receive a good rate of return, and they also get a piece of the sale when the general partners sell the building for a profit in the future.

General Syndicate Partner (GP) - The Asset Manager managing the deal and property. General Partners are responsible for: 

• Scouting and finding a suitable property.

• Raising Capital.

• Arranging the Financing.

• Hiring and working with vendors.

• Making day-to-day decisions about the investment strategy.

• Selling the building after a predetermined time (typically five to ten years).

Title Search - Process that reveals if there are any claims or liens on the property that could affect your purchase. This happens during the due diligence process.

Due Diligence - The period after signing a contract that a buyer has to inspect the property and make the decision whether or not to go forward with the closing.

Earnest Money Deposit (EMD) - Represents the buyer’s good faith and motivation towards purchasing the property. It is usually held in an escrow account and is refundable for a certain period of time.

Down Payment - The amount of money the buyer needs to put down at the time of closing.

Deposit Goes Hard - At an agreed upon time the deposit becomes nonrefundable. It could be day one if the buyer wants to show a strong position to close.

Cash on Cash (COC) - A rate of return obtained by dividing the net cash flow received by the amount of Cash Invested. Can be broken down to Month, Quarter, Year, and Life of the Deal.

Deed - Any legal instrument in writing which passes, affirms or confirms an interest, right, or property and that is signed, attested, delivered, and in some jurisdictions, sealed. It is commonly associated with transferring title to property.

Debt-Service Coverage Ratio (DSCR) - A measure of the cash flow available to pay current debt obligations. DSCR is used to analyze firms, projects, or individual borrowers. The minimum DSCR that a lender demands depends on macroeconomic conditions.

X Buydown -  A mortgage financing technique in which the buys down his rate, or attempts to obtain a lower interest rate for at least the first few years of the mortgage or the entire life of the loan.

Assumable Mortage - When a seller transfer all current mortgage terms and conditions to the new buyer. The buyer takes on the seller’s existing mortgage instead of taking out a new mortgage of their own.

Non-Recourse Loan - A loan that does not allow the lender to pursue anything other than the collateral. For example, if a borrower defaults on a nonrecourse home loan, the bank can only foreclose on the home. The bank generally cannot take further legal action to collect the money owed on the debt. Even if the collateral does not cover the owed amount the bank cannot seek further compensation from the borrower.

Multifamily Property - Being a GP in these is one of the finest ways to build wealth in Real Estate. Multifamily residential (also known as a multi-dwelling unit or MDU) is a housing classification where multiple separate housing units for residential inhabitants are contained within one building or several buildings within one complex. These units include apartments and condominiums. 

Underwriting - The process through which an individual or institution takes on financial risk for a fee. They assess your income, assets, debt, and property details prior to extending credit.

Underwriting Agreement - A contract between a group of investment bankers who form an underwriting group or syndicate and the issuing corporation of a new securities issue.

Class A Building - The most prestigious buildings with the most amenities in the best locations. They generally are the most attractive buildings built with the highest quality materials and construction methods. Often times are marketed with their own brand and the associated lifestyle.

Class B Building - These buildings are a grade below Class B. Generally, they are slightly older buildings with good management and quality tenants. Great buys for value-added investors who intend to renovate them back into Class A buildings.  Class B buildings are well maintained overall and quite functional with more utilitarian space than Class As but with fewer amenities.

Class C Building - One that is typically over thirty years old, in fair to poor condition, and typically not in as a prime location as a Class A or Class B building. They are considered to be the “riskiest” GP underwriting but in turn, often offer the highest cash-on-cash returns. 

 Securities & Exchange Commission - The U.S. Securities and Exchange Commission is an independent agency of the United States federal government, created in the aftermath of the Wall Street Crash of 1929. The SEC oversees securities exchanges, securities brokers and dealers, investment advisors, and mutual funds. The primary purpose of the SEC is to enforce the law against market manipulation.

Fannie Mae - The Federal National Mortgage Association (FNMA), commonly known as Fannie Mae, is a United States government-sponsored enterprise (GSE) and, since 1968, a publicly traded company. Founded in 1938 during the Great Depression as part of the New Deal, the corporation's purpose is to expand the secondary mortgage market by securitizing mortgage loans in the form of mortgage-backed securities (MBS), allowing lenders to reinvest their assets into more lending and in effect increasing the number of lenders in the mortgage market by reducing the reliance on locally based savings and loan associations (or "thrifts"). In 2022, Fannie Mae was ranked number 33 on the Fortune 500 rankings of the largest United States corporations by total revenue.

Freddie Mac - The Federal Home Loan Mortgage Corporation (FHLMC), commonly known as Freddie Mac, is a publicly traded, government-sponsored enterprise (GSE).  The FHLMC was created in 1970 to expand the secondary market for mortgages in the US along with Fannie Mae, Freddie Mac buys mortgages, pools them, and sells them as a mortgage-backed security (MBS) to private investors on the open market. This secondary mortgage market increases the supply of money available for mortgage lending and increases the money available for new home purchases.

 

 

Real Estate Valuation Terms

 

Net Operating Income (NOI) - Commonly used to assess the profitability of a property. Calculated as Operating Revenue - Operating Expense (COGS + SG&A), calculated prior to debt service. A measure of an income-generating real estate asset’s profitability, calculated by subtracting all reasonably necessary operating expenses from revenue.  

Trailing Twelve Months (TTM) - It's a measurement of a company's financial performance (income and expenses) used in finance. It is measured by using the income statements from a company's reports (such as interim, quarterly, or annual reports), to calculate the income for the twelve-month period immediately prior to the date of the report. This figure is calculated by analysts because quarterly and interim reports often show only income from the preceding 3, 6, or 9 months, not a full year.

Time Value of Money - A scientifically proven concept that the same amount of money is worth more today than it is in the future because of risk-free fixed or risk-adjusted expected returns.

Internal Rate of Return (IRR) - A financial equation, used to measure the profitability of an investment that takes into account the time of the value of money. IRR is a discount model that sets the NPV of all cash flow equal to zero in a DCF analysis. When considering multiple investments, the one with the highest IRR is the best investment.

CAPEX - Capital Expenditures is money used to fund existing operations and to acquire, or upgrade cash flow-producing assets such as PPE (Power, Plant, & Equipment) that sustain the ongoing and growth projection operations of a business. Can be considered construction machinery for Real Estate Development companies or hardware for a software company.

WACC - Weighted Average Cost of Capital is the average rate of the different debt obligations that comprise an entity’s debt exposure used to fund CAPEX. 

Comparables (Comps) - Similar recently sold assets within a certain distance that reflect the characteristics, and are used to find the fair value, of an asset that is up for sale.

Equity - The amount of money that would be returned to a property owner if all of the assets were liquidated after all of the company’s debt was paid off in the case of liquidation.

Debt - Referring to money here, owed by one party to another. Debt is used to take advantage of the time value of money by purchasing cash-on-cash-producing assets today. Unless a debt is forgiven by the lender, it must be paid back, typically with added interest.

Debt To Equity Ratio - Shows how much debt a company has compared to its assets. It is found by dividing a company’s total debt by total shareholder equity. Companies with a higher D/E ratio will have a harder time covering their liabilities.

Assets - An Asset is anything you own, tangible or intangible that can be used to provide positive economic value and can be converted into cash.

Liabilities - Something that costs money and yields no profit. Something a person or company owes, usually a sum of money.

Shareholder’s Equity (SE) - Total Assets - Total Liabilities. The total claim or percentage of ownership, or share, that a person or company has on an asset. E.g. Your share is how many slices you own of an entire pie. 

Debt-to-Asset Ratio = Total Debt / Total Assets. A leverage ratio that compares a company’s debt obligations (both short-term debt and long-term debt) to the company’s total assets.

Pro-Forma - A part of forecasting and valuation, it is a method of calculating financial results using certain projections or presumptions such as using comp weighted average multiples.

Present Value Of Money - A Finance model, a concept, but really a formula that calculates the present value of future cash-flows for any given investment by diving future cash flows by itself plus a specified discount rate.

Future Value Of Money - The future value of current (Present) cash-flows, this is important because this Finance formula is a model for forecasting the value of today’s assets in the future. This is done by multiplying today’s cash by a forecasted rate-of-return over an investment horizon.

Income Statement - One of the three major financial statements that report a company’s financial performance over a specified accounting period. A financial statement that shows the company’s income and expenditures. It also shows whether a company is making a profit or loss for a particular time period and breaks it down into segments.

Depreciation - An accounting method used to allocate the cost of a tangible or physical asset over its useful life. Depreciation is a tax deduction, amongst others, there is straight-line depreciation, accelerated depreciation, and declining balance depreciation.

Amortization - Refers to an amortization schedule, which is the schedule of principal and interest payments of debt over time in equal installments. 

EBITDA - Earnings Before Interest, Tax, Depreciation, Amortization, or Operating Profit.

EBITDA Margin - A measure of a company’s operating profit as a percentage of its revenue.

EBIT - Earnings Before Interest, Tax. An indicator of a company’s profitability, calculated as revenue minus expenses excluding tax and interest. Gross Income after all expenses except for financing costs that allow for growth.

Net Income - Free Cash Flow, Net Profit after Depreciation, Amortization, Interest, and Tax.

Cash-Flow Statement - This is the financial statement where the magic happens. This is where the good companies will show how well they appropriate cash flow and where bad companies will try to mask poor financial performance. It is broken down into three different categories: Cash Flow from Operations, Cash Flow from Investing, and Cash Flow from Financing. It links the Income Statement to the Balance Sheet. Starts with Net Income and shows how that cash is appropriated into CAPEX, which is in CF from Operations. The first section includes transactions from all operational business activities. The second section shows the results of investment gains and losses. The third section provides an overview of cash used from debt and equity. 

Balance Sheet - Assets = Liabilities + Shareholder’s Equity. The Balance Sheet shows how a company funds its assets and what percentage of it is with either Liabilities or funding from going public and selling its share to Shareholders. Smaller Real Estate companies can have private placements or Venture Capital Raising Rounds to sell equity in exchange for Cash. All results from activity in the cash flow statement can be seen in the Balance Sheet. E.g. If a Real Estate company uses Cash (Net Income to purchase a new Investment Property, that Property will be seen in Assets on the Balance Sheet, and the purchase in CAPEX in the CF from Operating Activities; The property’s Cash Flow will be seen in Cash Flow from Investing Activities in the Cash-Flow Statement. All three Financial Statements are connected.

Credit Derivatives Terms

What Drives Economic Booms and Busts

 

Credit Derivatives - A contract whose value is dependent on the price of its underlying debt security and the creditworthiness of its obligor, or referenced entity that issued the debt. The most common credit derivative contracts are Credit Default Swaps (CDS), Collateralized Debt Obligations (CDO), Credit Default Swap Options, Total Return Swaps, and Credit Spread Options & Forwards.

Yield - Another name for the interest rate on a bond, or bond yield, dividend yield for stocks. Usually expressed as a rate, based on the stock’s market value or debt purchase price. 

Yield Curve - A leading economic indicator that forecasts where the economy is headed. A normal yield curve forecasts a bull market. A flat yield curve forecasts a recession. An inverted yield curve confirms a recession, most of the time; you can have an inverted yield curve without a recession but you cannot have a recession without an inverted yield curve.

Credit Default Swap - An over-the-counter (OTC) credit derivative agreement between two parties to transfer the credit exposure of fixed-income securities. Can be traded with the intent of a put option with the payout usually being 10 to 1 if unwound, with a minimum 40% recovery rate if exercised.

Mortgage-Backed Security - An OTC credit derivative. A pool of mortgage bonds segmented into credit tranches with AAA, BBB, and CCC-rated mortgages. There are High Yield (HY) and Investment Grade (IG) Mortgage Backed Securities.

Collateralized Debt Obligation -  An OTC credit derivative. A pool of loans segmented into credit tranches: AAA, BBB, and CCC and backed by collateral in the event of default. AAA loans are considered senior, are paid out first, and carry the lowest risk.

Asset-Backed Security - An OTC credit derivative. A type of financial investment that is collateralized by an underlying pool of assets, usually ones that generate a cash flow from debt, such as loans, leases, credit card balances, or receivables.

Interest Rate Swap - Usually Fixed/Float rates where one party swaps their fixed interest Cash Flow Payments for Variable Rate Payments where one party believes the Variable Rate Cash-Flow outlays will be less than the Fixed-Rate Cash-Flow income throughout the life of the Swap and the other party forecasts that the opposite be true.

Swaptions - Also known as a swap option. An option granting its owner the right but not the obligation to enter into an underlying swap on a specified future date.

 

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