Kiddar Capital CEO Todd Hitt in Washington Business Journal's "Future of Residential Real Estate"
March 8, 2018
Kiddar Capital CEO Todd Hitt discusses on Washington Business Journal's "Future of Residential Real Estate" how the Tax Cuts and Jobs Act impacts the local real estate market, conscious capitalism, and the pillars of expansion economics and 4% growth.
Host: Now I’d like to invite to the stage Washington Business Journal Senior Staff Reporter Rob Terry and Todd Hitt from Kiddar Capital.
Terry: Todd, thanks for being here. I appreciate it.
Hitt: Absolutely, happy to be here.
Terry: Let’s start with a two-part question. Todd -- do you see this as a significant shift in the Federal Government’s attitude towards homeownership, and does the bill diminish the tax benefits of homeownership?
Hitt: I think broadly, no. Certainly if you are doing sixth grade math on it, there are going to be impacts, but when you look at the broad impacts of the US Housing market -- and specifically in Washington, DC -- I think that the impacts are minimal. Getting into a little bit of detail, I would say the impacts on deductibility of mortgage interests might impact 3 percent of the mortgages in Virginia, 3 percent of the mortgages in Maryland, and maybe up to 15 percent or 17 percent of the mortgages in Washington, DC.
I would also say that those mortgages at $750,000 and above -- there are choices those consumers can make broadly about how to offset some of those impacts. This is really not considering other impacts in the tax bill that are probably beneficial generally to the consumer. This is just focusing on what happens with their house.
Then, when you look at state and local taxes, I actually think that in Maryland the overall impact is going to be somewhere more around $900 to the consumer -- and again, there’s offsetting impacts for that. In DC it might be $1,300 to the average consumer, and in Virginia, roughly $500 to the average consumer. When you look at those kinds of impacts and the type of accelerated market we have in Washington, DC, I think they’re minimal. I don’t think they’re going to be the biggest part of making a decision about buying a home.
Let’s not forget that the narrative on US housing when you’re on national TV and talking -- which I do every couple of weeks on the various business networks -- the narrative is awfully driven towards the negative. What they don’t talk about and lead with is what I’ll say right now: there’s this thing called capital gains tax. Everyone know what that is?
We spend a lot of our time trying to avoid capital gains tax in broad business across the board. You still have that in US housing. So, for your primary residents when you go to sell it, if you’re single it’s a $250,000 exemption, and if you’re married it’s a $500,000 exemption. So, the biggest incentive to homeownership is still there.
Let me just add one more thing -- we are true private equity. We have $1.4 billion under management -- that’s our money, that’s not outside capital. Right now, $60 billion of that is at work in US housing. The way we do it is through mezzanine debt with new homebuilders. We actually provide a mezzanine debt mechanism for them so that they can go and accelerate their business a little bit faster. Without a transaction we don’t make any money. There actually has to be a transaction for us to collect and actually make that return.
So we’re $60 million through 2017, and in 2018, we’ll double that. When you’re looking at whether or not someone is talking to you and giving you advice -- whether it’s on TV or whether it’s in a form like this, or whether it’s your wealth management advisor or whatever you have -- it’s important to track their money. Where is their money going?
We will increase our investment in US housing. We will double it this year and go from $60 million to $120 million. That is roughly 10% of what we have outstanding in the US economy in investments.
Terry: What are some of the other fundamentals that you like that are spurring and doubling that investment?
Hitt: I like where overall the country is going in terms of where the focus is when you’re looking at our overall economy. We went through years and years of demonizing big business in this country, and one of the reasons I now go on TV and talk a little bit of public policy, is to make sure that people know that there are conscious capitalists all over the place. I like the trend we have overall in our country right now, like Larry Fink from Blackrock talking about investing in companies that are really investing in social impact investments too, watching over that element of our country. To me, that’s an important shift in big business in this country.
Second, I love the venture world. I love what’s happening with technology. I looked at Compass’s markets, and it follows our markets in how we invest in US housing. That tells you that Compass is using some technology in deciding “where should we open offices?” It’s not surprising that when you look at where we’re invested in US housing across the country and the markets we are invested in, we use technology to choose those markets. We literally scrape APIs -- Zillow’s APIs, Redfin’s APIs -- we scrape them, we track the most downturn-resistant markets across the country, and that’s where we invest our mezzanine capital.
Mezz capital is, as you know, some of the riskiest capital there is out there. To have $60 million in mezz capital in 14 different markets across the country -- I believe that’s the exact same number of markets that Compass is opening in -- and they’re the exact same markets. This tells you that technology is pushing us into areas and giving us data and information that previously didn’t happen. That heavily derisks our investments across the board. So, from our perspective, technology is huge.
Also, just access to overall data and information for the homebuyer. There’s more trust in the overall home buying decision making now. You can actually go online and check things, and not just rely on one outlet for information.
Ultimately, I agree with Warren Buffet. I’m sure we have a lot of real estate agents and brokers in the audience today. I believe what Warren Buffet says -- while technology and AI is going to advance, we’re always going to need that people piece there -- particularly in your business, particularly in the brokerage business. When you’re buying a house, which is likely to be the largest investment you make in your lifetime, having someone there to walk you through it is critical. It’s not unlike wealth management. Having someone to talk to is critical. I like all of those elements.
There are risks, though, and where the risks lie in your business -- let’s walk through those. You have interest rate risk, you obviously have that. From my perspective, I would be a little bit less concerned about that. You’re probably seeing some impact from interest rates right now in your business -- I think that is ephemeral, I think that’s momentary. I think that’s “oh, interest rates are moving, I used to have a mortgage at x and now it’s going to be x plus a half point, or x plus three-quarters of a point.” Historically, not a huge deal, and people will adjust to that.
I don’t think there’s enough inflationary signs broadly in our economy for the Fed to be moving interest rates the way the narrative on TV is telling you they’re going to move interest rates. I just don’t see it happening. You see little pockets of inflation, but there’s no broad-based inflation. There are far too many things that are impacting us right now that are tamping down inflation.
The second biggest risk that I would be very concerned about, which is going to be driving pricing and inventory in your market -- inventory I’m sure is a big issue for all of you -- and it is across the market, it’s across the entire US housing market in this country -- is the labor shortage.
I grew up in the construction business, as most of you may know, in a family owned, managed, and run construction company, so labor is everything. Now, we’re in big real estate across the country, we own mixed-use projects and large real estate in 12 different markets. Labor is everything. Right now we have a critical labor shortage in this country.
When you think about how we fix that: vocational training, better education K-12 and beyond that, right, certainly immigration reform. We need people. We need people to come and fill these jobs, we need job matching for people who come in and fill these jobs. We need infrastructure -- we’re 16th in the world in infrastructure right now. When I invest in real estate, I look at infrastructure first. I just bought a building on Herndon Parkway that is right on the Herndon Metro -- there’s a reason I bought it on the Herndon Metro, it’s right on the Metro, it owns the platform. We look to invest in new infrastructure so we need an infrastructure bill that improves the way we get around.
All very important things toward the structure of our economy. I think that generally, the administration is moving in that direction, so I think there’s some good things.
Terry: Back to the labor shortage, have you had to turn away work because you don’t have people to fill the positions?
Hitt: We did. This is an interesting figure. In the construction unit in 2017 in a unit that does roughly all-in about $1.8 billion of transactional business a year in commercial construction -- turned away $400 million worth of work in 2017 because of lack of labor. Do that math. When you watch TV and they’re talking about interest rates and Wall Street, I mean, believe me, 90% of what you hear on those stations is not impacting your day-to-day life. It’s not impacting what really happens in the business trenches across the United States. And again, I’m in it across the United States, 12 different markets from here to Seattle, in everything: big real estate, big construction, and investing in US housing.
The real impacts are on these very things that are going on out there -- that we don’t have good labor, that jobs actually end up getting held up for five years or six years.
Construction and US housing are the tip of the spear for GDP -- just remember I said that. Construction and US housing are the tip of the spear. Economists are paid to be wrong. Don’t listen to economists, they’re paid to be wrong. They’re not in the trenches, they don’t see what’s happening everyday. Their predictions are based on a history and this economy is moving so fast, it’s digitizing so fast, and technology is impacting it in an amazing way. It’s going to move quicker than the economists can keep up with on the history basis, period. Their models, they should just rip them up. Tax reform alone happening at the end of a cycle is huge. Tax reform occurred at the end of what they would call an “economic cycle,” and I was on Fox News or CNBC or somewhere and said, they’re going to have to rip up their models because there’s stimulus coming at the end of a cycle, and you guys are going to be the beneficiary of that.
Terry: You’re on record for what you think GDP will be this year.
Hitt: I am. I said early on that tax reform alone should push GDP to 3 percent, I’m on National TV saying it. If they get the other pillars of expansion economics in place -- that’s infrastructure, immigration reform, vocational and education issues -- if they can pull all of these pieces together, I think we can be in 4 percent growth.
When I said 3 percent, everybody thought I was crazy. All of the economists from Krugman to Jason Furman were predicting we were lucky if we could get to 2.1 or 2.2 percent. Go back, it’s on TV, you can find it. They’re all over the place.
Now we’re at 3 percent. That’s based on good, solid, historic tax reform, things that are simple. Make the American business person competitive on the global stage, and they will win every single time. Just give us a competitive level playing field.
I do think lastly, tariffs could impact a little bit of what we have going on in US housing, so it’s something to watch.
Terry: There’s a couple of minutes we have left, so we want to throw it out to the audience for some questions. Courtney’s got a microphone in the back.
Audience member: I was trying to sell a building about a year and a half ago. It was a commercial-slash-residential building, and I was new to the business and I got a lot of people interested in it. Every single investor said the same thing -- multi-unit, eighteen units, Capitol Hill, historic district, could have gotten some good condos out of there to turn into a rental -- everybody said the same thing. “We’re in the 9th inning of a real estate cycle.” That was two years ago, so I’m trying to still get my head around that, and you’re saying this -- so I’m wondering, is the real estate cycle going to change completely? How would you address that?
Hitt: Yes. It is, yes. The issue is, what got you to square one in anything in your life -- this includes economies, and global economies -- what got you to square one won’t get you to square two. Whatever got you to that square one, if you just want to sit in that square one for the rest of your life, don’t change. If you want to get to square two, you’d better change some things about what you’re doing. You’d better improve elements of your business or your view of the economy, whatever it is. I think right now, you’re experiencing it.
Our economy is so different from what it was 15 years ago, and this is really based on the digitization of everything we do. We have drones flying around in buildings in Colorado right now that are under construction. They download the construction update from what you’re doing in that building straight from the blueprints, they get updated, they’re downloaded, and the drone flies through the building at night through the hallways of the building. We don’t need people walking around anymore checking the building for security at night. These kinds of things are shifting our economy so quickly, faster than ever before.
You think about the Industrial Revolution. The speed at which it moved was like a snail’s pace compared to what we have now. So when guys like Jason Furman and Paul Krugman are building up their economic models for what happened in the last 60 years, good luck. Good luck building an accuracy based on that history. It doesn’t exist. You actually have to get in the trenches of business like we’re doing today, and find out what’s going on, what’s working, what’s not working, and take your investment in what you’re doing into those areas that you see transactionally working. That’s what you have to do.
The cycles that we’re going to see in real estate are going to shift considerably from what they were before. And by the way, there’s going to be pockets. There’s going to be winners and losers and pockets where it used to be very broad based across the country when we hit those recessionary things.
We’ve got it now. Right now. If you guys are selling stuff in DC, if you bought a house in DC four years ago, you did great. If you bought a house in DC in 1999 and sold it today, you did great. If you bought a house just outside of Des Moines, you went through the financial crisis and it dropped 50%, it’s still not back. It’s still not back, your house is still upside down. So if you think the country is growing the way it used to where the broader based growth occurred, it’s not. It’s not happening -- there are going to be winners and losers -- and more and more.
I’ll go back to where Compass opened their offices and where I invest in US housing. I’ll go back to that as an idea why. If you were doing broad based US housing investing right now across the country in 280 markets, you may be getting returns in the six percent range. If you’re doing it targeted, your returns are going to be in the twenties. Not complicated. It’s all based on getting the data and getting technology.
[To Audience member] So it will shift. I would say, tell those people, “You’re wrong!”
Audience member: I will!
Terry: Thank you Todd, we are out of time. Everybody, round of applause for Todd Hitt.
This video was first featured here on March 13, 2018.