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If you have studied the non-performing note market you certainly have learned of the nice returns available to the savvy investor. However, one key to success in this business is creating a pricing model that affords an opportunity for profit from your purchase.
One of the most common mistakes we see new note investors make is identifying a price that others dictate as proper. We often speak with investors who repeat some pricing adage received from a colleague met at a real estate conference. Example, “I’d never pay more than 18 cents for a delinquent 2nd” or “my limit on a delinquent first is 50% of the UPB.” These pricing models pay little attention to the underlying note and less attention to the pricing of a portfolio as a whole.
When our company prices a tape for purchase we are more concerned with what profit we can earn on each individual loan and how price fits into the total portfolio profit than we are about what percentage of UPB we paid.
And this is true of both NPN seconds and NPN firsts.
Unfortunately, strong pricing models are learned through experience but a new investor can make significant progress by performing strong due diligence on the tape.
We look at over 25 pricing points on each loan to determine the likelihood of profitability on each individual loan and from this interpolate the profit dollars we would expect. From this profit figure we determine what percent of return we expect from the tape and price accordingly.
Areas that need to be investigated include the financial data, the collateral (property) and the borrower. Depending on whether you are pricing a first or a second determines which of the three areas carries the most weight.
For example, if you are pricing a NPN first, the collateral carries the most weight because you are likely going to be selling the property. If it’s a second you are pricing, the borrower may be the most important factor.
Some of the areas we investigate:
Fair Market Value of the property
Unpaid Principal Balance (without arrears)
Strength of loan—down payment etc.
Credit of the borrower
Current Loan to Value (LTV)
Age of loan
Location of property (Judicial, Non Judicial State)
Notice of Default
Bankruptcy (Chapter 7 or 13)
Insurance (forced placed?)
Modification in progress.
Unfortunately some of these topics require specialized tools to research and the private investor may not have them in place. But the primary advice on pricing is practice, practice, practice. Note investing is like golf, you can’t learn it from a book. You need to do it!