Has anybody else noticed that there is something of an epidemic going around related to valuations, or maybe opinions of valuations?  I think it’s really common right now to be having a discussion about the market, or about pricing for a deal, and have that discussion result in a contest to see who can come up with the lowest valuation.

The epidemic that I’m talking about is different than just being realistic about where the market is.  The people that I see do this aren’t using comparables to come up with their prices.  They aren’t thinking about the attributes of the deal you’re talking about.  They just try to come up with the lowest valuation that they can think of, and then throw it out there as if you’re crazy if you disagree.

To be clear, I do think it’s dangerous to be on the wrong side of the pricing trend.  You don’t want to constantly have the highest opinion of valuation.  If you do, there’s probably something wrong.  But you still have to look at every deal and be able to figure out what it’s really worth, not just come up with the lowest price that you can think of.

I see “Buyers” do this a lot, most often to try to make excuses for why they aren’t pulling the trigger on something.  I see Brokers do this a lot, probably because they can’t be bothered to actually have an original thought during the course of a day.  But every time it happens I just wonder where the valuation is coming from.

There are no prizes awarded for being the most bearish.  Put on your thinking cap once in a while.

One of the most difficult things to avoid in the current environment is sending good money after bad, or to put it another way, being able to walk away from sunk costs.  Sometimes it’s difficult to realize when the market has robbed you of any equity you had in a deal.  You still want to believe that the investment can be the home run you envisioned when you got into it.

The Cincinnati Bengals, hardly a shining example of organizational excellence, recently displayed an almost ruthless recognition of a sunk cost and were able to walk away from it.  They signed wide receiver Antonio Bryant to a large free agent contract including $8 million in guaranteed money.  It was probably a questionable move at that time because Bryant was coming off of knee surgery.  In order to cover themselves they also signed wide receiver Terrell Owens, who has played well in the preseason.  Bryant’s knee has indeed become an issue, he hasn’t played in any of the preseason games because of it, and the Bengals have actually done a reasonably sensible thing.  They cut Bryant.

A lot of the sports talk radio has focused on the general theme of “You can’t cut him, you just paid him a lot of money.”  But the Bengals (against all odds it should be said) actually did what is probably the correct thing from an economic standpoint.  The $8 million guaranteed is gone.  They can’t get it back.  Thinking about the $8 million when they make future decisions isn’t going to help them on a going forward basis.  They feel like Bryant isn’t going to be worth the remaining portion of his contract and they’re going to try to better spend the money that they were going to pay him.

Human behavior suggests that what the Bengals did, essentially admit to your mistake early and cut your losses, is the more difficult of the actions available.  It would have been easier to keep paying Bryant and hope that he makes it back from his knee injury.  Doing that means deferring to the future the day when it will become apparent that the $8 million guaranteed becomes obvious as a huge mistake.

But then, if you’re the Bengals maybe you have an inherent advantage.  Maybe the fact that everyone expects you to make a mistake allows you to more readily admit the mistake.

I’ve been thinking a lot lately about the “smart money”.  I think it’s a really interesting term because it implies a group of people, in the know, making moves that are supposedly a step ahead of the rest of us.  While this elite group is on one hand smart enough to be making moves that wouldn’t occur to the rest of us, their moves somehow get picked up and repeated by the sort of people who might be prone to say “Well, the smart money is doing X right now.”  To go one step further, when you hear someone say that the smart money is doing something, don’t you immediately look at the person saying it and wonder how they would know because they seem like the kind of person who would have the least clue of what smart money is doing?

If you can’t tell, I don’t subscribe to the notion of the existence of smart money.  Sure, at any given time there are people who have a market figured out and can tell where it is going.  But the list of people who have every market figured out is small to non-existent.

Based on what I see on a daily basis, the smartest people do dumb things on a pretty regular basis.  When I say that, I’m not even knocking them.  Everybody has their own biases that make them more likely to catch certain trends, and more likely to miss others.  You could say that someone is a really smart investor, but maybe they’re just a really conservative investor and as a result they’ve looked pretty smart lately.  That same investor wouldn’t have looked that smart when the market was running up.

This is an interesting exercise.  Take every investor you know.  Count all of the investors who were aggressive in the 2002-2006 time period.  Then count out all of the investors who sold heavily in the 2007-2008 time period.  How many of the investors you know hit 2 for 2 over that stretch?  How many hit 1 for 2, and how many went 0 for 2?

On one hand, the investors that went 2 for 2 have shown themselves to be smart lately, but the thing about real estate is that there are such a limited number of observations, that you can’t even say conclusively that those investors are necessarily any smarter than they are lucky.

An interesting thing happened recently on Wall St.  One of the primary “geniuses” made by the subprime explosion, Paolo Pelligrini, decided to unwind his fund.  After having been right on one of the most important things to happen to our economy, Pelligrini is throwing in the towel, perhaps because his most recent trades haven’t panned out yet.

It’s a really difficult proposition to be not only right about the market, but also right as to timing.  Truly being the “smart money” is an elusive thing.

One of the commenters yesterday accused me of being negative on the potential for investment in the current market.  I didn’t think my post was really positive or negative, but it did strike me that I should probably clarify a little as to what I write about, when I write.

This is really not a forward looking, or predictive blog.  I am usually not commenting as to whether or not I think it’s a good environment for investment.  This blog is really more about the experience of being in the investment real estate business.

My real interest lies at the intersection of human behavior and real estate.  This is really not a blog about cap rates.  Cap rates are boring.  But our human reaction to cap rates, now that’s fascinating stuff.  I do not care whether the market is going up or going down.  I care about how market movements impact people who are involved in real estate.

I don’t care about human behavior because I am some closet anthropologist.  I care because knowing human behavior, and knowing how people react to various scenarios, is the key to being able to understand this business (IMHO).