Jim:You mentioned the subprime mortgage market earlier, so we have a situation with the 2017 tax role where the amount of capital gains that could invest under this rule, you know, could dwarf the viable amount of investments by a multiple of anywhere between 10 or 50 to one.
Announcer:Jim Sanford of Sag Harbor Advisors has been there and done that from the S&l crisis of the early nineties to the Internet meltdown and the first part of this century to the 2008 crisis. He is intimately familiar with the risks and rewards that await investors in the Opportunity Zone. He's one of the most experienced and successful advisors in the business and he's our guest today on the OZExpo Podcast.
Announcer:Welcome to the OZExpo Podcast where we talk with the people who really know the Opportunity Zone market. From investors, fund managers and developers to tax experts, politicians and attorneys, and most influential voices in the Opportunity Zone industry are here on the OZExpo Podcast.
Jack:Welcome back everybody to the OZExpo Podcast. I'm your host, Jack healed. And with me today is Jim Sanford who is, now help me with your, your title, Jim, you're the founder of Sag Harbor Advisors, is that right?
Jim:Founder and managing partner. I formed the firm called Sag Harbor Advisors that was an RIA was a registered investment advisor created to manage money, um, as what we call liquid alternative. So it was a standard, you know, on shore in 1940 Act RIA. My custodian was a director of brokers that managed money for high net worth individuals that are performance fee basis. So similar to how a hedge fund's operated. Um, it was engaged in that for about two or three years from 2013 until 2016 and I became less enamored of the publicly traded liquid markets given the valuation and how of equities and how low interest rates were and how invasive, you know, quantitative easing had really made valuations in the liquid space that was available. The managers that are already focused on, on liquid instruments and are, they came a little bit, little bit more enamored with the risk return profile in the liquid alternative fixed income space, mainly real estate bridge lending.
And I started to shift my focus and my, my client's assets over to on alternative lending Real Estate Fund in Connecticut, a commercial real estate bridge lending fund. And you know, when you look at the landscape of what was offered a portfolio manager in the liquid space, um, you know. With near zero interest rates, very tight spreads, high yield bonds, B rated trade with a five figuration trading, uh, you know, 5% or so. And when I looked at the liquid real estate bridge lending space, which kicked out returns after fees and the low double digits, 10 to 11%, which was first lien secure, um, collateral on U.S. Real estate or various asset classes, um, average 18 months duration of the loan, um, floating rate, mitigating it to say risk, uh, hard to not become enamored with that as a form of risk to put from in front of my clients relative to fit.
Jack:Well, no, no, I was, I was reading, I was reading that some of this stuff on Sag Harbor on your, on your website, on Sag Harbor Advisor's website. And you were talking about these, these low double-digit returns. And I'll confess, I was like, yeah, right. Um, but now as you begin explaining it, I get it. It makes sense. Okay. So, carry on. I'm now, now I'm really interested.
Jim:So, I started to raise capital for the Connecticut where it was a good fit and I focused my client's exposure there. Uh, they, uh, we're a smaller fund looking to grow. It didn't have internal core marketing assets. And I was excited to get involved and put that in front of prospective customers. And it also allowed me to start reaching out to the institutions, you know, much larger institutions, you know, family offices, multifamily offices, pension funds and endowments.
And, uh, from that, I also started to advise and arrange or quote unquote broker, uh, individual bridge loans and on behalf of sponsors and developers, uh, raising debt capital for them, um, in the bridge, the bridge lending space, uh, various commercial asset classes, commercial, um, you know, office, multifamily, industrial, retail, land, et cetera. Um, and I, I, a lot of my clients that I covered, you know, back in my 20 year career in Wall Street, in the liquid credit space, they were primarily hedge funds and alternative debt funds.
They've moved over into this space. Uh, so it was a natural progression for me to kind of pick up where I left off in 2012. Um, and, you know, reengage a lot of those relationships. And I think I probably had a Rolodex of about 300 debt funds in the [Fixico] space over my, my 20 year life. So it was good to get back to doing what I was previously doing, but in a different product. And, uh, you know, ranging and advising on, you know, complex, fixed income type securities and in this arena, illiquid. And then that led me to the QOZ space.
Jim:And what, while my commercial estate capital markets business originally focused on debt, one of my, uh, that fun clients was starting a Qualified Opportunity Zone Fund. We started talking about this in late fall of 2018 and uh, they were an early mover in the space and they had capital to invest when a lot of people were talking about the space, they didn't really have the funds and capital to really put in front of sponsors and developers and you know, this client of mine did and they had early mover advantage.
And that was exciting because I had something very real this, this time and the equity part of the capital stack to put in front of developers. And you had something, you know, very real and interesting to show the QOZ fund because these were early deals that were conceived of and well baked prior to the tax law. And I think those are going to be the best deals that you know in and of themselves, uh, generate pretty strong IRRs you know?
And don't need the implication of the tax rule to make sense. And you know, a lot of the savvier guys with the early first mover advantage or able to scoop up these, you know, early deals conceived, you know, back in early 2018, um, where, you know, quite honestly the real estate project woke up and realized it was in a QOZ and it was just an added bonus. Rather than they sought out a piece of property in the zone and conceived of a project after that.
Jack:Yeah. The very first guy I interviewed for this podcast woke up one morning and had four projects in an Opportunity Zone.
Jack:He'd already broken ground on. Many of them woke up one day and realize, oh my Lord, these are QOZ projects.
JimWell, it covers 12% of the topography of the United States. And uh, they were chosen based on the 2010 census and be a micro economy. And a lot of these regions has changed pretty dramatically in the eight to nine years since the 2010 census. A lot of people, there's some deals where you're scratching your head in you, you definitely ask yourself, you know, how did it get here? It really is based on the 2010 census and in a lot of sub markets, cities, neighborhoods, regions changed quite a bit.
JackYeah, I live in the fastest growing county in the country right now in Maricopa County, Arizona and there's a, uh, a one square mile opportunities zone in my town that 10 years ago probably really was economically depressed, but it's just exploded here in the last several years.
Jim:Yeah. I'm about to hopefully get my third deal to work out in Arizona. And you know, as a New Yorker you really forget the exciting growth stories that are happening in the rest of the country because there's not a lot of exciting growth in New York City Metro area. In fact, on the luxury side, the residential and office sector, there's an oversupply problem and prices you could argue are artificially inflated by non-commercial type investors out of China and Russia that pushed up prices that didn't, weren't really reflective of the real demographics here in New York City. And there's a lot of [Merck's] there to move and uh, it's, it's tough and we're a little bit of a funk in this population is flat to declining. And then I get involved in, in deals in Arizona, Austin, Texas, uh, Denver, Colorado area where I'm seeing stuff in Nevada. And though the growth stories there are exciting, when you put those in front of investors, their eyes light up. They're, they're looking for those type of previously non-primary markets. Um, you know, I've read in Austin, there are 200 new people moving to Austin buying homes per day in the Austin area. Um, the exciting stuff, Florida. Uh, it goes without saying of course as well.
Jack:Well, I want to want to follow up on something that you hinted at there just around the edges of things. Um, subprime debt was the driver in the 2008 meltdown. Um, I think you were involved with, you're a credit [Suisse San], is that right?
Jim:I was at Credit Suisse, so it was on the fixed-income trading floor, trading credit derivatives and also, um, getting involved a little bit in credit derivatives on a CDOs and something that was around at the time called the ABX, the subprime abs index. So it was a vehicle through which a lot of the smarter hedge fund shortage, uh, the subprime mortgage market. Um, so yeah, we were, I was right there. Interesting time.
Jack:Although I don't, I don't want to chew up a lot of time talking about it while we're recording. Um, I want us to jump forward here now 11 years. Are you still as part of an alternative investment alternative financing? Are you still doing credit default swaps?
Jim:No. No, not at all. Okay. Um, that's a, that's a product that you have to be very large global banks. Part of the, [ISDA] system. So, no, I, I don't, uh, broke or trade derivatives. My firm and my broker dealer primarily engaged in the liquid alternative, um, private debt space, whether it's real estate or direct lending, corporate debt. So, uh, I, I have not been involved in that market since I left Credit Suisse.
Jack:Oh, okay. Um, one of the other things I noticed from your, from your website, as you talk about niche passive income strategies with little or no market correlation? Is that what you're talking about here? Like these bridge loans?
Jim:Uh, to a certain extent, yes. Um, we've also been involved in amazing capital for funds devoted to other specialty winning categories. Uh, whether they're buying trade receivables or uh, something called FEMA receivables, disaster recovery receivables, where uh, it's probably, no one can say that any strategy is 100% uncorrelated and a gap down market scenario, the extreme scenario like '08, we're all correlated to the extent that there were tethered to the banking system and using any form of leverage. But yeah, at Sag Harbor Advisors and under my broker dealer, we have raised some one off capitol for funds and for trades in the perceivable space that are, they're pretty interesting. They're considered niche strategies, niche alternative income strategies is how that, you know, I think the allocators would categorize them.
Jack:FEMA receivables, that seems like that would be a pretty good business.
Jim:It's a new one. It's pretty interesting. It's very active in Puerto Rico. Uh, there's interesting angle of risk. I would require a, you know, six months, a six hour podcasts.
Jack:I just it into Jerry Portella, the chief investment officer of Puerto Rico. Um, really cool conversation. Good guy. You guys connected if you guys crossed paths yet?
Jim:We haven't, we have not. But you know, the municipalities down there, uh, are very in favor of this business because they skated, enables subcontractors to get liquid upfront. And sell the receivables and not wait for the payment chain coming from FEMA to the prime contractor to the municipality. And uh, if these guys get too stretched in terms of their accounts receivable at the subcontractor level, they can't take on more work. So it helps, um, lubricate the process and speed up the recovery. They estimate their recovery. It could be going on to a 2025 and costs total of 25 billion. So fairly large stories, you know, to discuss around that transaction.
Jack:Jerry said 97% of the island is an Opportunity Zone.
Jim:Uh, yeah, exactly. In addition, um, that, that's correct.
Jack:So, let's talk about Opportunity Zones, stuff that fits right into your wheelhouse. I'm guessing bridge loans, um, is certainly a big part of it. The equity positions; talk about that.
Jim:Well, the QOZ investments in this space had been, would be primarily equity investments in real estate. Um, QOZ zones don't have to be or QOZ fund don't have to be totally comprised of real estate investments. By default, it seems like the bulk of the activity has gone that way so far. Um, given the requirements of the minimum 10 year hold period. Uh, so my activity really revolves around, um, you know, equity investments in real estate projects, uh, which, uh, I raised capital, I present family office and QOZ Fund solutions to capital solutions to individual sponsors of developers at the individual project level. And at addition, what's pretty exciting is I, I'm also raising capital for QOZ funds, targeting REAs and wealth managers. So I'm coming to involved in both sides of the chain here. Pretty, pretty vertically involved.
Jack:Yeah, I guess. So, it sounds like when do you sleep? Is that the question that comes to mind?
Jim:It’s definitely the QOZ actual has spiked a tremendous amount of activity, you know, without a doubt. And I think we're going to find that a lot of the deals in a lot of the funds, um, probably aren't the best choices, uh, things that spring up to meet an opportunity. Um, as opposed to you, you know, there's, there's probably going to be a small minority of really quality deals. It really quality fund managers and you mentioned the subprime mortgage market earlier. So we have a situation with the 2017 tax rule where the amount of capital gains that could invest under this rule, you know, could dwarf the viable amount of investments by multiple, uh, anywhere between 10 or, or 50 to one.
Jim:Um, it, just give an example. I've heard total capital gains, you know, on the books of North County, get the treasury put out a number that it was maybe $6 trillion an unrealized capital gains.
Jack:That's what I heard
Jim:If you look at, uh, how much, how many billions were raised by private equity managers for real estate in 2018 in general. Um, according to Pere, uh, that newsletter and event organizer, um, Pere. I think number was about 110 billion total raised by private equity funds for real estate and admittedly me that may not capture all the investment that's gone to real estate or all the very capable investment in 2019, but you're starting with two numbers that are pretty, pretty widely divergent and uh, that's why it's going to be very important for people, for investors with capital gains to choose the right manager and manager selection when you're choosing an alternative fund by default is always the main story and the main decision. But I think in the QOZ space, the manager selection process needs to be on steroids.
Jim:Really because of that mismatch in supply demand. And, um, I think it's going to be a great space that is going to be very advantageous for investors and advantageous for communities. And I hate to use the term win, win, that Cliché, but it will and can be, but we have to all be honest with ourselves that the disproportionate amount of noise that could in and invade the space in terms of, um, you know, suboptimal deal flow and suboptimal fund managers, we have to acknowledge that there could be a potential here given that supply demand mismatch that we just, you know, mentioned. 6 trillion in the potential capital gains we can for a home under the rule versus what's the, you know, how big is the pie of viable moneymaking investments.
So, people need to approach this investment the same way as any other investment they need to make money. Um, you know, a 20% loss, the tax rate on a 20% loss in a bad real estate deal, is 20%.
The developer, not the IRS. Um, and so I, on the one hand I urge generalists, um, in the space to exercise some caution but also point out that there are great solutions out there. Um, my involvement, in the space is real estate focused.
Uh, it doesn't have to be the rule. There are uh, there's project finance deals that are happening in QOZ zones in the energy space. Uh, there also is direct lending and in equity investing in private businesses that are domiciled within QOZ zones. I, um, I think the real estate has dominated the discussion and given the fact that one, we have that supply demand mismatch where there's a lot of money potentially looking at limited deal flow. Two in real estate in and of itself. You know, we're 10 years into a bull cycle here over 10 years into a macro cycle with a quantitative quantitative easing is behind us.
We're now in a quantitative tapering period. Europe hasn't even begun. You know, German tenures are still zero. They have yet to even start tightening over there. So, you know, the, I think the central bank wind is against us more than for us. That being said, there are still major growth there is in the U.S> you know, and great deals to happen. And, uh, how do you solve for that? If you're a generalist, a like an REA wealth manager that normally doesn't embrace these alternative illiquid investments, it's really manager selection and, um, uh, you know, like that's even more important because of the type of real estate that is involved here. Because of the, the tax roll mandating, you have to spend 100% of the dollars on improvement of the asset you're purchasing. And I think for a vacant building, there's an exemption to that.
But, um, this investing, you can't buy stabilized buildings or assets in real estate, um, and have them be compliant with the rule. So when you're engaging in ground up construction, that segment of real estate, it's logistically riskier type of real estate investing where you absolutely need to be investing with a manager who has solid, deep developer and general and GC expertise. So not just in choosing good investments, but really in the nuts and bolts, street level knowledge of the [Melvin] and construction. You know, that that's key. Um, it's, uh, a different and somewhat riskier angle of real estate, doesn't have to be when it's being run by the right people. So manager selection is even more important than it is by default when choosing an alternative under the regular tax scenario.
Jack:Yes. I'm going to ask you to expand on that based on your background, specifically the risks that you're talking about. You and I have both lived through the S&I crisis, the Southeast Asia currency crisis, long-term capital debt, long term capital management. Um, let's see. We had the internet meltdown in 2001 or 2000, I guess it was and we had 9/11. Um, we had Enron, WorldCom and company and then we had 2008. So those of us who've been through this kind of stuff really, really, really have, I, I can't help but think that we have been, um, I'm not sure what the word is scarred by the series of financial, um, financial risk events that were high impact in the same way that our grandparents were scarred by the Great Depression. Although you know, we've had these were by and large, smaller, more contained events, just the sheer number of them over the last 30 years, um, makes folks who've been through it, I think very, very aware of risk. Whereas somebody who, you know, like my kids, I've got a son who's a financial adviser, um, you know, he, he kind of just first he when he woke up in a post 2008 world so he doesn't know what, what we've been through. So, expand on that, expand on your experience with actual risk events. Um, what that really means at the, at the street level for the, for the everyday person who's trying to make a little bit of money, those kinds of things. Just talk about that.
Jim:No, I've certainly seen bubbles. You're absolutely, and when you have a large amount of capital, a viable investment universe that is much smaller than the accessible capital. There, there is a tendency for bubbles to be created. But, um, and I think there's going to be, you can't make a deal happen just to try to leverage the tax rule in investment or deal has to make sense on his own.
On its own. And I think for a lot of people out there, they might not find that investment and the simple answer will be to do nothing. Um, you investing shouldn't happen. Uh, investing should we based on what are the fundamentals of that particular deal or that fund, rather than use a tax rule to spur the investment. And a lot of people are already making these poor choices and 1031 exchanges of that happens a lot already, right?
Uh, they, they wanted to for taxes and maybe make a decision within a particular time window that they maybe should not have made. You know, in the end, uh, the, the fund or the civic deal has to make money. Uh, you're, you're not deferring taxes to lose money. You're just paying, then you just paying those taxes to somebody else. Um, that being said, uh, you know, the limited type of investment choices within the QOZ rule are by their nature considered riskier investments. We can't go buy a portfolio of liquid stocks and bonds within a QOZ fund. Um, we can't go buy publicly traded stocks, Fang stocks where the two year note [inaudible] fund, we have to engage in, in private equity and private debt type transactions that are by their nature considered riskier given their illiquidity they might be considered higher Beta, higher correlation to the macro economy.
We are now 10 years into this bull economy. Um, so the decision has to be made more carefully. But I, uh, that being said, the textual creates incredible opportunities and within the United States there are still amazing growth stories. I myself am not convinced that the flatness of the, of the treasury curve, you know, between fed funds with the tenure as indicative that we're about to slide into a recession. That's just my personal opinion. I'm not the macro economist from my broker dealer. There's a lot of technical at play in this world today, with German tenure at zero and Japan in negatives with the whole curve that may be contributing to that. It might, they might break that, that correlation and that regression model, that recession indicator that we relied on the years past. Um, so the manager selection is really key here in, and I think
Jack:Well talk about that. I think you're absolutely right. So, so if you are advising someone how to select a manager, you know, obviously you, you're, you're talking your book a little bit, but you can't take all the lessons. How do you tell somebody, how do you advise somebody? How to vet a manager?
Jim:I think if you're looking at a manager and be able to state it, given the nature of the type of real estate investing in, we'll just grounded construction. It really has to be a developer heavy developer led QOZ Fund. You want the principle, the key principles in the fund to have multi decade experience in, in developing and managing and being a construction manager of projects?
You know, across the nation. I think you absolutely. If you're a generalist to real estate, if you're an REA, a wealth manager or a high net worth individual, I think you really need to consider a diversified multi-asset fund that invest nationwide across all asset classes. Now, if you're a family office with a lot of expertise and real estate investing, um, you can face off I think against individual projects. It might be more efficient from a fee standpoint and also the ability to cherry pick what assets you want to invest in, in, in family offices are doing that.
They're investing in interval individual projects and not funds, but they have a diverse portfolio of projects. So I absolutely would not advise an individual or a wealth manager RIA to really invest in an individual projects. Do they have the expertise to face off against the developer sponsor in managing a ground up construction project? I don't think so. You're taking on idiosyncratic risks. You're putting a lot of eggs in one basket. You're taking risks by, by region. Um, you know, if you're investing in something in Hartford, Connecticut and United Technologies, the main employer there merges with Honeywell and they decide to move. Um, you've got a major risk event that you didn't really model and that sort of type of risk could be solved when investing in a diverse multi-asset portfolio, you know, across the USA. Um, so developer led fund, if you're investing in real estate, I think that's very key, that is capable of underwriting nationwide that has, you know, a vast network of tentacles with other principals perhaps in the national real estate brokerage industry.
Um, that has assets that can rely on to underwrite, you know, every asset class. You know, when the country in every region. I think some of the bias that's willing to look away from primary gateway markets, you know, in New York and San Francisco, that basis is pretty high. You could argue there's been some artificial inflation, um, driven by foreign investors that don't have the same commercial objectives.
Um, those investors will be looking at, you know, Denver, Austin, Arizona, certain parts of Florida or Nevada and that might be good. Um, and the, the, the basis is lower the cost basis is lower in those other reasons I just mentioned. Um, and the growth is higher. So those two are the growth in population, the growth and companies moving to those areas. Uh, so, uh, uh, nationwide diverse fund that's looking at all different asset classes within real estate.
Within all different regions I think is key. And the principals have to be pretty prominent names in real estate because there's no central repository for deal flow. Like an exchange.
Jim:It's really your reputation and your network that gets you access to seeing the premium deal flow. There's no fintech solution here yet. So, the better known, you know, better quality, um, folks with MultiTech could experience, are going to see better flow. And that's the Alpha generation and real estate that separates them from other, other managers. And lastly, I think early mover advantage is key here. And there's a few funds and you know; I'm definitely talking my own book. I like met a few funds, have been able to invest starting last November before they've actually closed the fund. And they have warehouse wines from banks, uh, that will underwrite their, the collateral, their equity investments in real estate.
And then when they close the fund, they'll buy down the warehouse line, um, uh, with the fund assets. So they've been able to cherry pick these early deals that were well baked prior to this tax law because there's no doubt nine months down the road from now, we're going to see a lot of noise in the space deals created to fit the tax rule where you're kind of trying to jam a square peg in a circle hole.
Those deals won't work because professional real estate managers in the end, it all comes down to the pro forma and that's the excel model from which we derive current and future evaluation for this asset. And, um, you know, the good real estate mentors with a haircut that proforma based on real data. Um, from the local economy. I'm real supply demand data where existing rents, what's vacancy and they're going to be able to vet out the west suboptimal deals, you know, very quickly. Um, so I am working with a fund that has been able to leverage the warehouse line model and scoop up deals that were conceived, you know, prior to when anyone was aware of the tax rule and what QOZs were. Um, you know, they are around. Um, again, I'm talking my own book there.
Jack:Yeah. It's your show. I'm letting you do it.
Jim:They, those being five points. Develop her led prominent principles. I can see the primary deal flow, a nationally diverse fund. Forth, they got the resources to underwrite nationally. Um, their principals have a vast number. Five that what they capable of or we mover advantage in scooping up having early capital, which I really do think is correlated with, uh, with better deals with higher IRRs.
Jack:Right. I've got one more technical question for you and then we're going to dive into a little bit more of the, who is Jim Sanford? Um, you ask a question on, on LinkedIn. That is a question I've had as well, and I don't know that you found an answer to it. You ask about, I think you called it the two at bats at the plate, uh, within the 10-year rule. Did you find, have you gotten an answer to that question? If you, if you get an exit from a refined, a permanent financing exit and then start over again within the teen years, did you get an answer?
Jim:Yeah. Admittedly, I'm not an accountant and being a FINRA regulated by just took rep, they look askance at us all pining on accounting and legal matters. I'll tell you this, I'll tell you this, people are excited about the latest regs that came out without a doubt. Um, so I, I have not received a definitive answer, yet. I'd, whether one can invest in the ground up real estate project and exited once it has stabilized and you refinanced in a perm financing and then we invest those proceeds into a second project.
From what I've heard out there, in the coming world and we've, you can, is it as beneficial as one thinks? Um, does it, would it increase your basis in the first investment? I'd like to pass it off to some of the expert accountants out there to a pine on in the end. I think most people would believe the ball rolled our way into the investor category and everyone's pretty happy with that aspect of the regulations.
In terms of the specifics and implications, not sure yet, but what I can say is in a ground up real estate project, you know, the, the bulk of your IRR are generated, you know, in the first five years when you can complete construction. Um, we set up stabilize and then refi or constructional loan at a permanent financing and that creates a major distribution to the equity investors. When you stretch that IRR up, 10 years, it can get diluted. Um, if you look at it over five years, it can be, you know, 50 to 100% higher returns in that shorter durations.
So naturally, um, real estate folks, if they're allowed to exit a projects and then we invest the proceeds, uh, and get maybe two deals within the whole period window, a genetically, that would be very create that much higher IRR assumptions. Then when we started talking about this, so thank you know the specifics of which I would admittedly defer to the accounting world.
Jack:I'm going to, I'm going to call a couple of the accounting gurus that I've, I've talked to. I'm going to lay that in front of them specifically the way you ask it. I liked the way you asked the question. All right, so let's, uh, let's dive into who Jim Sanford is. Um, what is it, what, what are the qualities that you either innately possess because you were born with it or, um, maybe recognized and developed early that have allowed you to succeed in, in this business?
Jim:I think quite honestly, transparency, uh, really works. And being honest and transparent about the product you're, you're putting in front of somebody about the risk factors out there. Uh, not only the right thing to do with whether it is or not, it's, it's, you know, I'll put it to you this way, Jack irrational, selfish interest to operate that way. I really do think it's an irrational Selfless interest for our interest read, just to be aligned with, with our clients. And you know, in the end, none of us are going to convince anybody Santa Claus exists and, you know, act, there is a lot of great institutional quality business to do out there. Um, and you know, I'm pretty excited about the QOZ rule and I, I think that would be one feature of how I operate that way that I, I'd stand out there.
Jack:But where did that come from? Um, you know, uh, a lot of people will, will say that, but I've done, I've read some of the stuff that you've written in that and one of the first thoughts I have, I'll, I'll back up. Um, I always approach guys who are lifelong in the finance, particularly on, on Wall Street with a certain amount of skepticism. So, I was skeptical when I started researching you and then I started reading some of this stuff that you read, and it completely changed my opinion. Um, I saw what I think is, is frankly that attitude of transparency, not just exercising it, but calling for it as well. And I really appreciate it and it made me doubly excited to talk to you, to tell you the truth, but the question then becomes, well, where did that come from? Why are you that way when, when dissembling and, and shading the truth seems to come so easy, um, in this business?
Jim:Yeah. You know what, I'll tell you at the beginning, I, I've been working on Wall Street since 1991 when they started the American Stock Exchange, and I'll be honest with you, I've seen a heck of a lot of nonsense out there.
Jim:Within finance and I think, yeah, I like the industry operate in and I think I'm not calling out, uh, those, those type of sales practices or businesses or products that don't mean to make it seem to make sense, um, tends to dilute the industry that I work in and I just don't like that feeling. And secondly, you know, I've sold complex products to complex people for a long time and I find one of the most effective selling tactics is just to believe in what you have in hand. If you really believe in what you're marketing and the product that you're operating in, you become such a more effective operator and happier employee and better salesperson if you absolutely believe it.
I couldn't sell annuities, Jack, if you put a gun to my head, I don't believe in the product. You're probably referring to one of the articles I wrote when I was an RIA about the topic. I couldn't do it. Um, and uh, I think in the end and I said before none of us are convinced anyone Santa Claus exists, I think transparency is going to catch up on, on everybody. Um, not only is it the right thing to do, but in terms of the general way about how you feel about yourself in this industry.
It's a lot more creative to operate in a transparent and honest manner. Um, so we all feel much better at the end of the day. Uh, I don't think some of these nonsense products are viable in the long run. I don't think. And nothing that I wouldn't invest in or embrace myself. I really have the capability of presenting to a potential client.
I just don't have the talent base to be able to do that. There is plenty of opportunity, um, and you know, lucrative outcomes within the industry operating within, you know, an honest, transparent framework. We have good products that makes sense, that have very appropriate fee structures attached to them. That are beneficial to all people. Plenty of business to do there.
Jim:I think on the end, on the institutional grade side, um, and I really think that those of us in the institutional sector of this industry really need to call out the BS and the nonsense rather than just, you know, avoid operating and we, we really need to call it out and I it and if not for it's the right thing to do, it'll make our industry stronger and it's an irrational, selfish interest to do that in addition to being the right thing to do.
Jack:Well and isn't it funny that that money is the wrong word, but ironic perhaps that when you engage in that rational self-interest that it actually creates a stronger, more resilient economy for all of us. The environment just is strengthened by that kind of rational self-interest. I just, it amazes me. I want to ask, I want to just because this is a personal interest of mine, I want to think back to, I remember the spring of 2007 was when I first learned about credit default swaps and they sounded dodgy to me, but I wasn't, I wouldn't deep enough in the industry to really understand what was going on. Did you realize back then when you were with credit a Credit Suisse what we were dealing with credit default swaps and what was, what was going on in the industry with buying fire insurance on your neighbor's house? Basically.
Jim:I think towards the final year or two before 2008 I started to realize that credit default swaps their derivative, they enabled certain institutions to take an incredible amount of risk without putting a lot of money down. For instance, dawning on me that AIG and GE had, you know, financing units where they were just selling, they could protection collecting premium because they were AAA entities. They didn't have to put any collateral down. So at the product itself, I have no beef with, I think CDS was created to hedge risks. It's very important and essential, but the leverage one was able to take on risk via that product.
Jim:That wasn't this price and this allocated. So I started to realize that the leverage in the system, um, was way off. And you know, the Muni bond insurers were writing, um, credit default swaps on, on media insurance in cities and this came up and in Puerto Rico and then the, the, um, the second lien, of home mortgage insurers, you know, did they have the right amount of capital versus just portfolio of risk where they were kind of guaranteeing writing default insurance out of secondly mortgage, you know, the home mortgage insurance market. You know, it definitely started to realize around, um, uh, 2007 that, uh, the amount of risk you could take with little capital from the product, uh, not only those entities but within the synthetic CDO market. And the ratings [inaudible]
Jack:The CDO squared stuff you talking about?
Jim:I had some smart hedge funds that were buying CDS on CDOS and the market was created by those that wanted to sell it. They wanted to take long risk on this portfolio and they needed someone to bet against it. And it fell right into the, you know, short sellers. But you know, it's comes back to the supply demand mismatch.
Jim:And really happened at the end 2000 you know, the Clinton era and a surplus. So, they limited as 30-year bond. So at the same time you had the agencies, Fannie and Freddie's swelling up massive amounts of mortgages and crowding out the private market. And because of the lack of a 30-year bond, foreigners that want to own US dollar government guaranteed assets started to really look at the agency mortgage market as a way to buy government bonds for an extra spread.
You know? Okay. So I have to tolerate this prepayment derivative to the behavior of the U.S. homeowner. No problem. I just want US Dollar risk period. And you know, there's no more 30 year bond issuance. So you had, then you had synthetic CDO is enter the mix with their own demand for ABS because it added quote unquote diversity to the pool and got you a better rating. So you had a lot of demand for mortgages. And what happens when you have demand outstripping supply, someone creates a new product to meet demand.
And Voila, the subprime mortgages your product that didn't exist prior to 2000. Really it was created to meet, you know, the massive demand for mortgage risk really from people that looked at it quantitatively. And there were some of the smartest people in the room and they didn't really look outside the box and say, you know, the model, I have historically never involved this type of home buyer. Well how can I model it? Used historical data to analyze what home price loss assumptions could be in the United States because we've got a new home buyer at a new mortgage borrower that never existed before. And I think I was a critical mistake that was made. Um, a lot of the demand came from overseas. Absolutely. Um Hm.
Jack:Is it, are we seeing the same thing today? Demand from overseas because of, of,
Jim:you know what, I'll tell you what I'm seeing today and um, you know who, who has replaced those third parties, subprime mortgage lenders. To a huge extent. It's been the Sha and they've continually loosened lending standards and they've decreased the down payment required. You can get a three and a half percent down payment mortgage. In my personal opinion, just Jim Sanford, that shouldn't happen. When you lend money to people to buy a home and they can't afford it. By default, you're going to create a crisis.
Jack:Isn't that crazy? He was doing that today. I've learned this lesson we did this 10 years ago. Come on, people.
Jim:I don't think about the agency's role in the problem then and today, Fannie and Freddie, we do not have a free market capitalist market in the home mortgage market. Um, I don't even think Sweden and Norway, uh, have a, a government entity that's swelling up. You know, how much is it now? It was at 90% of all home mortgages outstanding out there. I forget the number. Maybe it's, that was a number of post crisis. Maybe it's come down, but if you're calling yourself a capitalist society, the government should not own 90% of all home mortgages within securitized [Inaudible] So sorry if I digressed there,
Jack:But oh well I'm in violent agreement with you. So, hey, I want to ask you a question because this may be the field that you play in. I think it is. Why are municipal bonds outperforming taxable bonds?
Jim:In terms of less interest rate sensitivity or in terms of higher yield or higher spread?
Jack:Yeah, specifically a higher yield, higher spread.
Jim:Um, you know, I don't know. It's not a market I follow. I follow that closely. I think we made it in my own personal portfolio. They can be this little bonds, you know, have a lot of interest rate risk. Um, and they tend to have a 10 year duration. Me personally, I'm speaking for no one else. I'd rather not have, you know, 10 year duration risk right here when we're pretty flat to the 30 day bill. I'd rather just own 30-day bills, take the tax consequences.
Um, so, and then you've got some municipalities and states that are a little bit underwater. Um, it went away mainly, you know, we found out the hard way with Puerto Rico. Uh, so, you know, the fiscal scenario for me as a private investor, I am just speaking for myself, uh, hasn't made, you know, that asset class, you know, look attractive enough even given it's uh, you know, tax optimality.
Jack:Yeah. All right, so time for my time for my favorite question. Um, put on your imagination cap here. You're going to get to be king of the world for one day, actual king of the whole world, but it's just one day and you get to solve one problem and one problem only. What problem are you going to solve as King of the world?
Jim:Oh yeah, I think a lot about that, and I wish our politicians would talk a lot more about it. Um, we have a pension and social security time bomb problem and I'll tell ya, FDR in the 1930s deem to the retirement age to be 65 and life expectancy was 68 and the retirement age, and this is still 65, you had life expectancy is somewhere between 78 and 81. And the problem we have is I don't think the concept of pensions and social security were designed to fund a 20 year retirement.
And I sound like I'm being a Grinch here, but let's just speak from simple math. You have a declining birth rate, a declining amount of workers and you can't make people start working at 12 to help pay into the social security system. Uh, and you have an ever increasing number of retirees.
You've got a time bomb problem that's just not going to work. And it's not working on the state level with pensions and places. I go away in Chicago and uh, the math just what would I do? We have to raise the retirement age, um, gradually and acknowledge that since the 30s, when the concept was introduced, it wasn't designed to fund. We just, the math doesn't work to fund retirement this long. We have to make younger people work harder and harder and be taxed more and more to fund longer and longer pensions and social security benefits. It's going to blow up either with or without us. So, we, we've got to raise the age and I think I'm the, in the pension fund front at the state level, states really have to start raising the age of eligibility.
You know, in some states it's 55 once you put with firefighters and policemen, different story, you know, you maybe we look at them like veterans, they're putting themselves in harm's way. Can I do that for 40 years? Probably not. But let's talk about other civil, you know, government workers and public sector unions. I solve that problem. It's, it's going to sound it or we can solve it.
Jack:That's a great answer because as king of the world for one day, you actually could do that. You could just by decree that the retirement age is now 75 and probably,
Jim:maybe you start at 68 years solely a creep higher. Okay,
Jack:Well you've only got a day. So yeah.
Jim:Um, well, and I think the federal government could mandate that states start doing this as well and uh, not fund certain state programs unless they start doing this. Um, the worker class, the younger class under 55, there's not enough income generated to pay this ever-increasing benefits stack.
And, uh, I think if you prepare people 55 and under myself and you give them time to plan and you say, okay, this won't apply to anyone 56 or older, so that we want to give people 10 to 20 years to plan for this. You're giving people a lot of runway to plan. I honestly don't think I'm going to stop working at 65, Jack. Um, I've worked in the private sector. I have no pension. It's a 401k, you know, IRA plan and, and, and savings. So a lot of us were already there and we're prepared for it.
Um, in the problem will solve itself. They'll blow up on his own or we can solve it slowly um, you know, ourselves and I think we can do, it can be politically deliverable if we do so, uh, and apply it, he changes that to anyone, you know, 55 and under, so that we leave a lot of run late for it. You can't just spring on somebody, you're 64, by the way, got to cancel your plans next year because we're changing the age. You've got to provide a lot of runway. Right. But I think that's a problem that's going to lead to major potential the fall where the retirees won't get the benefits.
The existing retirees won't get them. If it had happened to people in Detroit and um, certain cities in California and in Rhode Island, I think it was [Krantz] I forget, but they did lose benefits and we don't want that to happen. We don't want the lead to, uh, you know, a chapter nine bankruptcy, um, close to where Puerto Rico is dealing with. Yeah. Uh, so is there are altruistic motives there. I, I'd seen that way. We also have to think of, you know, the present working class under 55 rather than continually ask our population to be taxed more and more and work longer and harder to fund benefits that probably they aren't going to see at 65.
Jack:Yeah, exactly. Right. That's a great answer. I love that answer. I'm going to make sure that everybody in my family under the age of 45 of listens to at, at the very least, this part of it. Cause that was good stuff. Well, Jim, this has been a fabulous conversation. I've really enjoyed it. Um, you got any closing words for us before we sign off?
Jim:I'm looking forward to it. Convention in Vegas on May 9th and 10th. I went to the first one in LA. It was incredibly lucrative from a social and business networking standpoint and, uh, appreciate the Opportunity Zones to speak again at the Vegas one that you guys have been great. You know, there's a lot of folks looking to get everybody engaged and the QOZ space, and you guys have done a fantastic job. So thanks for the time letting me be on the show.
Jack:Absolutely. It's been a great conversation. Um, if folks want to get ahold of you or Sag Harbor Advisors, what's the best way to do that?
Jim:Uh, my website sagharboradvisors.com. It's got my email and phone number there. I do. I'd love to. Definitely have a sit down conversation with folks like sagharboradvisors.com all one word.
Jack:All right, and I will remind our listeners this information is also going to be available on the podcast website. Well, thank you Jim. I appreciate you being with us today. On behalf of Jim Sanford of Sag Harbor Advisors, I am Jack Heald for the OZExpo Podcast. Thank you for listening. Be sure to subscribe for future additions and we will talk to you next time. me.
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