In this Flashback Friday episode of the Creating Wealth podcast, Jason Hartman discussed the meaning of arbitrage, the meaningful quotes of Yogi Berra, and his take on vacation rentals in the Orlando Market.

Also, while being interviewed by stock investor Brian Bain on his podcast, Investor in the Family, Hartman explored his history in real estate and the investment aspect of it. He also discussed income property as a multi-dimensional asset class, the workings of non-recourse loans, and a real example of how people have gained wealth through an inflation investment strategy. He lays out several ways that the government could handle debt, and explains why an investment is only an investment if it generates income.

Ben Bernanke and Yogi Berra Quotes

Hartman begins the episode by mentioning that on a rare occasion, he will share an interview that he has done on someone else’s show and he plans to do just that by sharing an interview he did with Brian Bain, a stock investor.

He also shares something that he wrote on Facebook, quotes he found interesting by both Ben Bernanke and the late Yogi Berra. He states that Berra often had some interesting quotes, one of which was,

“When you come to a fork in the road, take it.”

To Hartman, this quote is both entertaining and inspirational, but he also shares contradictory things that Ben Bernanke has said over the hears. In 2009, Bernanke said that no one would want to lend at a negative interest rate, while in 2015, he said that he thought negative interest rates are something that the Federal Reserve would and probably should consider.

This reminded him of another quote by Yogi Berra that states,

“In theory, there’s no difference between theory and practice. In practice, there is.”

Hartman states that the powers that be are simply human beings, with their own self-interests and agendas that make things up. The only tool they really have is creating currency, not to be mistaken with money creation. The Federal Reserve creates fiat currency out of thin air, whenever they decide that they’re trying to fix the world economy. Creating currency doesn’t truly fix anything, though, and it’s absurd to assume it does.

Hartman mentions posting a photo meme on Facebook stating that if you give a man a gun, he can rob a bank, but if you give a man a bank, he can rob the whole world. He notes that we are living in crazy times of financial repression and that as investors, we need to align our interests with those of the powers that be. They are not self-important people, as the world has made them important. It’s no use fighting them, because at the end of the day, their interests are going to win out as they always do.

He also states that simple explanations to things are the best, and often, an internet meme can explain an issue better than an essay can. He mentions that if you have to use a lot of words, you might be hiding something, or covering for the fact that the issue is not fully understood. The Federal Reserve, for example, has a beige book used to explain things, and it’s often talk with no real reason. Something simple can explain many of these complicated essays in the world.

Arbitrage – Exploiting the Differences in Things

Hartman mentions the word “arbitrage” and defines it as exploiting the difference of things. He gives an example of geo-arbitration, used to exploit differences in geographies. Companies practice arbitration often, and outsource due to geo-arbitration so that they can also arbitrate the tax nexus or the environmental laws of a different area. This term has been mentioned several times in the Tim Ferris movement.

Hartman states that he is not a big fan of going offshore with work. He hasn’t had outsourcing that far work to his advantage and prefers to hire North American workers to perform different tasks for his business, including freelancers. He mentions that he also prefers to hire people living in a low cost of living market, stating that if he hires a web designer or a podcast editor and they live in an area with a high cost of living, he’s obligated to pay this person a lot of money to perform a task. He chooses to hire people in smaller areas who are just as capable of doing quality work.

He mentions that he tends to hire people in linear markets, where the land to improvement (LTI) and cash flow are both favorable. In those markets, he is geo-arbitrating. He can pay workers more than they can receive working locally, but to him it’s a bargain and a win/win situation for both parties. Hartman advises that as a real estate investor, it’s best to arbitrate as much as possible, and there are several ways to do so with monetary and tax policy, as mentioned in past episodes.

Vacation Rentals in Orlando Market?

Before the interview with Brian Bain, Hartman replays a Voxer message that he received from a listener by the name of Ross Johnson out of Minneapolis, Minnesota. Johnson states that he is interested in the Orlando market and was curious as to what Hartman’s opinions were regarding vacation rental properties in the area.

Hartman replies that he has talked about vacation properties on previous episodes, and that it isn’t because he’s not into the Orlando market that he discourages this, but that he’s not a fan of vacation rentals in general. He states that there is a lot more management involved in running them, and that there is a world of change coming in that market with Airbnb and the like. There are also huge tax implications involved that owners do not often know about, and they’re going to be hit with big tax bills when filing season comes about. Vacation rentals are not a necessity, so if the economy drops, people will stop taking vacations. His best advice is to stick with stable, necessary housing.

Johnson replied, thanking Hartman for the advice and stating that he currently owns two properties that he purchased in speculation, and was led down the wrong path. He states that he is getting into a new mindset, thanks to Hartman.

Hartman mentions to listeners that he hopes people listen to the podcasts before they purchase on a speculative basis. Commandment number five states that: thou shalt not gamble. It’s unwise to buy on speculation. Buy a property because it makes sense the day you buy it and stick with it.

Hartman states that although he didn’t address this in the reply, he does not like condos. He advises to avoid them and stick with apartments or single-family homes, unless with the condos the buyer controls the HOAs, which they do not in most cases.

Hartman’s Investment History

In starting his interview on Brian Bain’s Investor in the Family podcast, Hartman mentions that he became aware of the importance of money as a teenager. He states that his real estate career started when he was at home one day, sixteen years old, and he saw an infomercial involving a real estate guru that was selling his book. He mentioned selling properties with no money needed, and Hartman bought the guru’s book. He read three chapters of it, sat it down, and his mother picked it up and read the rest.

Two years later, Hartman’s mother mentioned that after reading the book, she became interested in real estate and attended seminars on it. She stated that there was a seminar close to Disneyland that Hartman should attend, so he convinced nine of his friends to attend with him. They arrived on a Friday evening and Hartman recalls that the first speaker talked about points in prepaid interest loans.

The year before this, at seventeen, Hartman discovered his four great mentors and remembered something that Earl Nightingale mentioned about learning something new. He stated that humbling yourself was the best way and that if you’re interested in real estate, learn the business first and foremost.

Hartman remembers being fascinated by the speakers and stayed all weekend while his friends had fun elsewhere. He listened to all of the speakers and on the following Monday, he looked to enroll in a real estate school. As soon as he gained his license, he worked in a Century 21 office in California where he sold five properties in his first month.

Later, he bought his first investment property from a client, Jim Wool, and started his own investing career. He rented out the one-bedroom condo in Huntington Beach and his very first tenant stopped paying rent after a few months and had to be evicted. Still, Hartman made a good deal of money both as an agent and an investor.

Income Property: A Multi-Dimensional Asset Class

When asked about what advice he had for listeners who were on the fence with real estate investment due to the series of unknowns involved, Hartman mentions that income property is a multi-dimensional asset class. With stocks, there is one source generally, and that’s capital gain. The same can be said for precious metals and raw land. With income property, there are multiple sources including capital gain, tax benefits, income, leverage, and inflation-induced debt destruction.

He states that when a person has stocks, much of the time they don’t notice the bumps in the road. There are so many layers involved in stocks from financial advisors to funds, companies who own the stock, and the opening for corruption. The bumps are still there with the stock market, but people don’t notice them from so far away. When it comes to real estate investment, you notice all of the bumps because you’re at the helm.

Non-Recourse Loans on Property

Bain states that most of his listeners feel that even if they don’t know everything going on in the stock market, the worst-case scenario is that they lose their investment. With real estate, they feel that there’s the risk of debt, legal repercussions, and the three Ts (taxes, toilets, tenants) to deal with.

Hartman responds that the vast majority of investment loans are non-recourse loans, or “walk away” loans. He gives an example of when Bank of America was paying people to do short-sales on their homes, letting them out of the loan, and selling the property. Rarely is there a recourse loan in investments.

Hartman explains that with a non-recourse loan, the buyer can walk away from the property and the loan and the lender can’t sue them for the difference remaining. The buyer would lose equity and it would impact their credit, but they’d be free to walk.

He also states that there is the possibility for inflation-induced debt destruction with real estate investment. He mentions having PowerPoint slides available to explain this if listeners are interested.

6 Ways the Govt Will Handle Underfunded Entitlement Programs

Hartman mentions that listeners are sophisticated enough to be aware of the problem with our spend-thrift government, and that because of them we are in a hole. He states that as of now, he knows of six ways that they can get out of their issues involving promises they made and can’t keep.

  1. Defaulting. The government could apologize and drop everything, explaining that all of their predecessors overspent and now there is no money left for social security, Medicare, maintaining roads, and all of the other programs involved. This is neither a popular nor likely route.
  2. Tax Raise. The government can raise taxes, but Hartman states that it isn’t going to be enough to fix the problems. Even if the government taxed 100% of people’s incomes, there would still not be enough to pay out the debt.
  3. Yard sale. Hartman states that the US could sell its ports to Dubai and its military items to Taiwan. Greece was thinking about selling off an island recently as the world is in a disaster as it is. In the dance of ugly girls, we are the prettiest ugly girl, Hartman says.
  4. Military. The government could use the most powerful military in the world to essentially steal resources from other countries. It’s an option that went well for Napoleon, a thief with a military.
  5. Inflation. The government could debase the currency, pay everything back with cheaper dollars and that way the value of the dollar drops, but they’re still technically keeping their promises.
  6. Technology. On a positive note, the US could have a technological renovation. So many things are happening in the tech world, and as Hartman says, it’s an amazing time to be alive. If we are at the center of one of these renovations, it could help us dig our way out of debt.

Ultimately, we cannot beat the government, so it is best to align our interests with those of governments and central banks. They’re corrupt but we can’t change that. We could also make strides and get excited about understanding both policies and inflation.

Inflation Redistributes Wealth Better Than Taxes

Hartman explains that inflation is tame at the moment, but that it redistributes wealth better than taxes do especially with a successful inflation investment strategy. He states that if you take out a 30-year mortgage and have it against commodities, and outsource the payments to tenants, it’s a good thing and a great asset class.inflation investment strategy

He also mentions that as investors we need to understand the difference between real value and nominal value, the difference between price and value. Inflation is a hidden tax that can destroy our purchasing power. It destroys the value of savings, stocks, bonds, and fortunately debt.

He notes that inflation as a method of wealth distribution does a more powerful job than taxes do and explains this by mentioning that not a lot of people notice inflation the way that they notice taxes. Inflation redistributes wealth from lenders to borrowers. Borrowers pay money back in cheaper dollars with inflations, while lenders lend out money in current dollars.

Inflation also redistributes wealth from old people to young people. Old people have their assets in savings, stocks, and bonds. Young people have debt that they pay off by inflation.

Bain states that if you borrow $100,000 in 2016, each year that there’s inflation, you’re paying back a fixed price but you’re still paying back in cheaper dollars.

Real Example of Gaining Wealth with Single-Family Homes

Hartman offers an example of gaining wealth with an inflation investment strategy by explaining a time that this was a reality for tens of millions of people. In 1972, the median price of a home was around $18,000. If you were to put 20% down on the home, and live in it as a residential home, you’d have a mortgage of about $14,000. The interest rates in 1972 were 7.73%.

In 1972, one US dollar was worth one US dollar. There was some inflation, and Paul Volcker, the only Federal Reserve chair that was willing to make the economy take the tough medicine, broke the back of inflation by raising rates.

Flashing forward twelve years to 1984, the Orwell era, the 1972 dollar is now only worth 40 cents. It has lost 60% of its value officially, but inflation is always higher than officially stated.

Every month for twelve years, you’ve made mortgage payments of about $101. As the months went by, the payments started to feel cheaper because you were really only paying about $41 a month because of inflation.

Flashing forward to the end of the loan in 2001, the 30-year mortgage is over. Most people thought that they got wealthy because real estate went up in value, but it was because debt went down in value. In 2001, the last payment at $101 in 1972 dollars is only about $24, being that the dollar is now worth only 24 cents.

In summary, the mortgage was only $14,000. In nominal value, we paid $36,000. After inflation, the real dollar value was only $16,000. After tax benefits, the value was only $12,000. We thought that we were paying 7.73% interest, but it ended up only being 1.06%, and eventually it was negative at -1.6%. Essentially, we got paid to live in a home for 30 years.

Bain states that in going by official numbers, the principle still holds unless we fall to inflation. We are probably on a safe end to that front, he says. Real estate does involve more hands-on work but if you’re deeper into income properties, you can hire help.

Hartman mentions that he doesn’t want to imply that investment real estate and inflation investment strategy is perfect, that there are problems, but notes that we never hear about when everything works out right. Usually, this is how it works, but people like to complain so we only ever hear the bad parts. He advises listeners not to be scared off by one or two bad stories.

No Income, No Investment

In closing the interview, Hartman mentions that anything without income cannot be considered an investment. It’s a speculation or a gamble. In order to use the term “investment” something must have income.

Bain mentions that the more he grows and develops his experiences, he has noticed that if an investment sounds boring, it’s usually good. Exciting investments are risky. Hartman agrees that there isn’t anything exciting about his investments aside from the returns.

Bain also states that you do not want to wait to buy, you want to buy and then wait. This way, your payments become mailbox money.