Risks of fixed mortgage investments

Lately, we’ve seen firms advertise high interest rates again .. using such terms as “guaranteed”, “mortgage backed”, “secured by real estate” or “preferred rate of return” or similar misleading words.

We do understand the desire for monthly income, especially by older folks or retirees ! The financial industry is full of clever marketing people, many with little or no real world investing experience .. catering especially to the uneducated and the retired income seekers.

An annual return in excessive of perhaps 5 or 6% has RISKS ATTACHED. Most normal businesses in the western world CANNOT sustain, over a long period of time, 6%+ fixed distributions without exposing you to undue risk !

Many real estate firms or other investment syndicators have gone bankrupt or into foreclosure during the recession of 2008/2009. Just because the recession is over doesn’t mean a 12% annual return, paid monthly, is very doable. It is only doable under some very select scenarios – but with very high risk.

One such risky investment class is construction, especially in commercial construction, resort locations, rural areas or in tropical locations. Another one is land development. A 3rd one is poorly performing real estate, especially in unusual, often remote locations. If you are the lender and the project does not perform as planned your capital is at risk especially if your “mortgage backed” or “real estate secured” loan is in 2nd position behind an expensive construction mortgage in 1st position. This lender is in priority to you and may take the asset away, through a foreclosure process, and you lose all your principal.

Therefore, understand the nature of the business, the experience & proven track record of the operator and the position your investment is in – don’t look only at the glossy marketing material. Promises and fancy charts and brochures are easily created, but delivering results in the real world is very hard!

Also, have a look at their existing balance sheet. If you see other mortgages that are higher than perhaps 5 or 6% BEWARE. Commercial mortgage terms today are around 4.5-6% .. lower for apartment buildings, around 2.5 to 4%. Therefore, if you invest with someone that has 8% or 10%+ mortgages on their balance sheet, ask WHY IS THAT .. and the answer should be (but usually is not): “because our business is very risky and no commercial lender would give us reasonable terms !! Therefore we are looking for suckers such as you to be fooled by a 12% interest rate, paid monthly”. Best to walk away from such an investment !

Keep in mind that in a 3 year construction project, the “interest” paid to you on a monthly basis is just a return of capital, from your own money .. or from new investments. A modified Ponzi scheme really ! The income in these projects comes from selling land parcels or condos .. years down the road. Therefore, always consider return OF capital before you consider return ON your capital when evaluating any investment option !

Consider that you have a capped upside, but can still lose all of your invested principal if the project is not selling as fast as planned or for the prices targeted. Consider the risk adjusted return, please .. not just the promised return. A bit like gambling in Las Vegas, you can double your money in a few minutes placing it on “red” on the roulette table, but on average, you’ll lose. The risk adjusted return is negative, despite the ad “double your money with us” !

Sincerely + Successful Investing,

Thomas Beyer, President

Prestigious Properties Group

T: 403-678-3330 or 877-434-4345

P.S.: Check the latest investment offerings here to invest your cash or RRSP into inflation protected hard assets – income producing real estate: prestprop.infectious.ca or call Scotty or Denise or email us at investor@prestprop.com !