Posted by John Behle on November 07, 2000 at 19:15:45:
The following is an answer to an email question.
In a simple explanation, "Equity Arbitrage" is the process of borrowing money out of a property and investing at a higher rate in discounted paper.
For example, Let's say a property is worth $200,000 and there is an existing loan of $40,000. That leaves $160,000 in equity. An owner occupied loan can go to higher loan to value ratios, but just for simplicity let's say the owners can get and qualify for an 80% new first loan or a second. Whether it is a first or second, would depend on the blend of the rates. Let's say it's a first.
80% of 200k is $160,000. Subtract out the existing loan of $40,000 and there would be $120,000 left over to invest (minus any costs).
The payment on the first of 40k at 9% interest with a remaining term of 15 years would be $429.84 per month.
Let's say your refinance could be at 7% and you can buy some high quality paper at 13%. Your spread would be 6% on $120,000. Depending on the term of the notes, you would have at least $439.70 per month increase in net cash flow. Apply that towards paying off the house and it is like you eliminated the original 40k first loan. Applied towards the new loan, your house could pay off in 102 months instead of the original 180. 78 payments of $429.84 per month equals a savings of $33,527.52.
Plus, don't forget, you still would receive payments of $1518.29 per month from the notes you purchased for 78 months. Total that and it is $118,426.62. So, a total profit/savings of $151,954.14 that didn't cost a penny.
Now, this is also under the assumption of only getting a 13% yield on the paper which is totally un-realistic, since notes can be improved so easily. Over 50% of the notes you buy will be able to be improved for yields in the 50%+ range. But that is another story.
There are more details on "Equity Arbitrage" in the sections on "How to Lower your House Payment" in the Paper Game Trilogy. It is also one of the best tools available for finding investment capital to buy notes. Just find someone that needs more cash flow and has equity. It works well.
- Re: Equity Arbitrage - A great source for funding paper Lyndon D Schlender 21:55:53 9/21/2001 (0)