Foreclosure Mind

Preparing for the Next Recession—Part I: Playing Offense

Preparing for the Next Recession—Part I: Playing Offense

The new recession is emerging abruptly from the pandemic, but it was long overdue. Covid-19 is only an accelerant. We enjoyed a bull market of record duration and a decade of sustained economic growth leading to a thriving real estate market. However, you should be preparing for the next recession.

Investors and business owners should know two things going into this recession. One is, that with smart strategic planning, we can mitigate the financial damage. The other is that we can take advantage of recession money-making opportunities.


Lessons from Las Vegas

If you play the craps table at a casino, you have two choices on how to bet. The most common and more fun way is to put your chips on the “Pass Line.” This means you’re betting on the shooter to win and the house to lose. It’s more fun because there’s a camaraderie that erupts at a hot craps table, when the players are beating the casino. Before social distancing, strangers would hug and high-five and it’s exciting.

Alternatively, you can play the “Don’t Pass” line. This means you’re betting against the shooter and with the casino. When the shooter and all the Pass Line bettors lose, the smart contrarian quietly collects their chips while nobody cheers.

I founded and grew my former law firm in 2008 by betting the Don’t Pass line of the real estate market. I represented hundreds of investors and homeowners who suddenly found themselves in distress when the housing bubble burst and global economic crisis came. We fought the lenders, contained the damage and worked out solutions, including loan modifications to keep homes and exit strategies, usually short sales, to get out and move on.


Lessons Learned

As a business owner, I enjoyed great success riding this historic wave. Unfortunately, that success would yield overhead and complacency. I thought I was the smartest guy in the room and that running a business is easy. I then made mistakes. Circumstances changed, and I was slow to react. This led to my own economic distress and a boatload of empathy for my clients.

I learned valuable lessons. Few, if any, of us are immune from a dramatic reversal of fortune. Most of us are one health or economic crisis away from having everything we’ve worked so hard to build come down. There are also lessons of opportunity.

We should be ready to take advantage of downturn investment opportunities, as well as to contain the damage. This is playing “offense” and “defense.” In this article, we’ll discuss playing offense, with defense in the next installment.


Danger and Opportunity

It’s been written that the Chinese character for “crisis” is a combination of the characters for “danger” and “opportunity.” Though this idea has been widely debunked as a mis-translation, it remains a helpful way to view a crisis. The “playing offense” part involves recognizing and executing on value investment opportunities.

While rapidly growing my law firm playing the Don’t Pass line, I took a lot of money out of the business and invested it. Prior to the crash, in 2006, I had started lending money to real estate investors. As a “hard money” lender, I funded purchases secured by the property, just like a bank. I mainly used my self-directed IRA to fund deals.

The self-directed IRA is an investing platform Wall Street doesn’t want the public to know exists. Only about five percent of investors nationwide use a self-directed account. Through the platform, you can invest retirement funds in anything but a short list of assets the IRS prohibits, instead of the limited mutual funds-driven world that most Americans believe to be their only choice.


Be the Bank or the Buyer

When the bubble burst in 2008, many more lending opportunities arose, especially after the banks tightened-up the previously loose (or nonexistent) standards leading to the crash. Around 2009, I got to know a sharp and driven investor named Ernesto, who was on a buying spree. He started picking up modest properties at the bottom of the market, mainly in working class areas of Osceola County.

A typical deal would look like this. Ernesto would buy a single-family home for around $60,000 (often, less), putting up $20,000 of his own money and $40,000 from my IRA or an LLC I had set up for investing. He would pay me about 10-12% interest in an interest-only balloon note that would usually mature in 3-5 years. I had a first position mortgage with a safe loan-to-value ratio to mitigate the risk that inevitably comes with double-digit returns.

Despite the high interest rate, which is typical for such private loans, the numbers worked for Ernesto. He made the deals cash-flow with rental income and gradually built-up equity in the properties as he amassed his empire. Eventually, he got a bank line of credit secured by his real estate portfolio, paid me off, and we remained friends. Today, Ernesto manages about sixty income-generating properties, all free and clear or with low mortgage balances and plenty of equity.

I thought I was the more successful one for collecting double-digit interest, but Ernesto was the genius. I expect him to buy more homes through the next recession, rinse and repeat. Though set for life, Ernesto won’t stop working hard because he loves it. Like Warren Buffett, he understands that you need to be grateful to be successful, not vice versa, and making money should be the byproduct of your passion and greater purpose, not your end-goal.


Don’t Leave Now

Investors find opportunities like this during every downturn. Unfortunately, many, especially the newer ones, will walk away from this recessionary market. They won’t recognize the opportunities that visionaries like Ernesto saw and exploited so effectively.

I’ve been a member of the local real estate investor association, CFRI, since before the last crash. An indelible before/after memory I have is struggling to get around their packed monthly meetings and trade shows before the crash, only to see tumbleweeds afterward. Most of the eager new investors who entered the hot market of recent years to get rich will now give up, as they did before and after 2008.


Walk the Path Less Traveled

If you’re sitting on cash and want to diversify your investments, consider private lending and buying mortgage-backed notes. With good training and an introduction to these relatively obscure markets, you’ll succeed.

A close cousin of private lending is the mortgage notes market. There are platforms to buy notes, if you know where to look and learn the business. Those selling mortgage paper to regular investors (as opposed to bigger players such as hedge funds) tend to be investors who seller-financed their own deals and private lenders. There is a constant liquidation need putting notes on the market. Often, these sellers are motivated, especially during economic distress.

A surprisingly small amount of cash may be put to work in note deals, often less than $10,000. There are low-balance notes available. Also, investors seeking a cash infusion may sell the rights to a stream of mortgage payments instead of the entire balance. Many note investors also profit with no money down by wholesaling notes on the marketplace.



Note wholesaling is similar to wholesaling properties, which I wrote about in this article. You can make a contract to buy a note and, instead of closing on the purchase, find an end-buyer to take an assignment of your contract rights while paying a higher purchase price. The wholesaler then earns a “spread” on the sale of the note without investing their own money.

The recession has already caused many borrowers to default and it will get worse. This will lead to many non-performing notes being offered for sale. It stands to reason that non-performing notes sell at a discount. The buyer may then attempt to reach terms with the borrower to keep the home, most likely through a loan modification. A rehabilitated mortgage can then be sold for a higher price as a performing loan. If it can’t be fixed, the note buyer’s last resort is to foreclose and take title to the property.

There are also arbitrage opportunities. For example, near the peak of pre-2008 overvalued market, my home’s appraisal was high enough to get a home equity line of credit larger than any sensible bank should have lent. The interest rate was at prime minus one, meaning 2.25%. I deployed that money by lending it out at around 12-15% interest.

Early this year, I took out a line of credit backed by the cash value in my whole life insurance policy at an interest rate of about 4.5%. I’m seeking new arbitrage opportunities to put to work this batch of someone else’s money.


Win-Win Opportunities With Foreclosures

Investors seeking bargain purchases will find many distressed properties. Currently, foreclosures are suspended in Florida due to federal and state initiatives to contain economic damage. Many expect foreclosures to spike again in the near future, leading to more motivated sellers in the marketplace.

A foreclosure case creates a public record that may easily be traced to the underlying property and its owner. Property values have not been as inflated in recent years as they were leading up to the 2008 crash. As a result, many borrowers will find themselves unable to pay the mortgage, but with equity they want to save.

Such distressed property situations create win-win opportunities for investors to help homeowners while making money. As discussed earlier with respect to successful investors like Warren Buffett and my friend Ernesto, if you approach distressed homeowners with the main objective of helping them first, your profits can be the byproduct of that effort.

Aspiring foreclosure investors should understand the mindset of distressed homeowners before approaching them. An important thing to know is that most will want to keep their home first and won’t be ready to sell until they’ve exhausted that effort.

This is why an effective, though counter-intuitive, approach is to try to help homeowners who wants to stay achieve that goal first, before trying to buy the home. During the last recession, far too few loan modifications succeeded. If history repeats, the investor who tried to help borrowers keep their home will be the first one to receive calls when the foreclosure returns.

Look out for information to register for a Playing Offense webinar I’ll present in the near future. This will expand on the points raised in this article, including how to deal with distressed homeowners.

This is only a sample of the many investor opportunities during the coming downturn. At Widerman Malek, we help investors, business owners and families as their long-term trusted advisors. Our services include preparing legal documents, structuring their transactions, strategic planning and fighting lawsuits, among others. Contact me to begin helping you build your personal empire through playing good offense and defense.