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“I Can Own Cheaper Than I Can Rent”

Thursday, March 4th, 2010

One of the commonly stated reasons for buying a home now, as opposed to renting, is that “I can own (a home) cheaper than I can rent.”

This is no doubt the case in many areas of the country, especially those that have experienced large declines in residential real estate prices.

Is this condition, where one can own cheaper than renting, a valid justification for buying a home?

I would argue that it is not, for many reasons.  Here are three of the many reasons:

First, “I can own cheaper than I can rent” usually refers to the condition that the monthly mortgage payment is cheaper than the monthly rent payment.  Is this the main criteria that one should use when evaluating what is likely the largest financial commitment one will ever make, that of buying a house?  Of course not -  there should be many factors that weigh into such a decision.

Second, as indicated in the real estate valuation story in my last post, historically when house prices fell to or below the equivalent rent levels, a “bottom in (home) prices” had either been realized or was close.   However, as I have written in previous posts, our national real estate situation is far dissimilar to that of prior years.  As such, comparisons need to be adjusted accordingly.

Third, one should be very mindful of one’s ability to sell real estate in today’s real estate market, should one need to.  Normally, the ability to sell real estate in a timely fashion, and at a “decent price,” is not a major issue.  However, for many people currently looking to sell a house, it has become a very significant factor.  While I could post some statistics with regard to unsold home inventories and the like, I will not do so as I feel these statistics are significantly skewed (and as such unrepresentative) due to a variety of factors.

For these three reasons, as well as many others, I feel that on an “all things considered” basis, the fact that one “can own cheaper than renting” in many areas is to be considered more of a “red flag” than a “green light” as far as buying a house is concerned.

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An Interesting Article On Housing Prices

Tuesday, March 2nd, 2010

I came across an interesting Fortune Magazine story dated February 16 titled “Where’s housing headed? Follow rents.”  The link can be found here.

Of course, given my previous posts on residential real estate I don’t agree with many aspects of the story, especially the statement “Given that analysis, it’s likely that prices will fall another 5% or so nationwide.”

However, I do find the story interesting as it portrays a case for the commonly-held belief that the residential real estate market decline is nearly over.

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Fannie Mae And Freddie Mac Situation

Wednesday, February 10th, 2010

An article in yesterday’s Wall Street Journal presents a thorough summary of the situation at Fannie Mae and Freddie Mac.  The article is titled, “No Exit in Sight for U.S. As Fannie, Freddie Flail.”  Here is the link to the story:

http://online.wsj.com/article/SB10001424052748704362004575001042824028862.html?KEYWORDS=no+exit+in+sight+for+us

I’ve commented extensively on the U.S. real estate situation, and the national attempts to intervene in this market.  Those posts can be found under the “Real Estate” and “Intervention” categories.

With regard to the aforementioned article, there are three items that I feel are especially notable.  For now, I will post them without comment; I may comment on them in the future.  The first is this:

“On a recent afternoon, employees at Freddie’s headquarters here peppered Mr. Haldeman with concerns about the company’s future. He responded that they were “fortunate” to have such a clear mission—the government’s foreclosure-prevention drive. “We’re doing what’s best for the country,” he told them.”

The second is this:

“We’re making decisions on [loan modifications] and other issues, without being guided solely by profitability, that no purely private bank ever could,” Mr. Haldeman said in late January in a speech to the Detroit Economic Club.”

The third is this:

“The government is willing to tolerate such open-ended exposure for two reasons. First, it sees the companies as essential cogs in the fragile housing market. Fannie and Freddie buy mortgages originated by others, holding some as investments and repackaging others for sale to investors as securities. Together with the Federal Housing Administration, they fund nine in 10 American mortgages. Worries about potential insolvency would cripple their ability to fund home loans, which would hamstring the market….By using Fannie and Freddie for such initiatives, the White House doesn’t have to go to Congress for funding. The Treasury and White House can simply issue instructions to Fannie and Freddie via their federal regulator, the Federal Housing Finance Agency, or FHFA.”

_______

In December 2008, I wrote an article titled, “Business Planning Principles Applied to the Stimulus / Intervention Efforts.”  That article can be found listed along the right-hand side of the home page.

I wrote the article for many reasons…perhaps chief among them because it was clear that the various interventions lacked a suitable managerial framework.  The “exit strategy” bullet point in the article seems particularly germane to the current intervention efforts being orchestrated through Fannie Mae and Freddie Mac.

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Article On Strategic Defaults

Tuesday, January 26th, 2010

I ran across this article from U.S. News & World Report, dated 1/19/10 concerning “strategic defaults”:

http://www.usnews.com/money/personal-finance/real-estate/articles/2010/01/19/strategic-defaults-and-the-foreclosure-crisis.html

The article is interesting in that it summarizes various facets of the “strategic default” situation and presents an interesting example of the dynamics that one “underwater” homeowner faces. 

I have mentioned “strategic defaults” on numerous occasions.  It is a very important “wildcard” in the residential real estate equation.

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Characteristics Of The Housing Bubble

Friday, January 8th, 2010

Given the incredibly outsized intervention efforts in the residential real estate market, I think it is important to examine some dynamics of the real estate bubble.

Here is a chart from the 12/15/09 Contrary Investor commentary that I believe is interesting, as it depicts some underlying residential real estate fundamentals.  It shows the equity and mortgage debt situation.  The underlying data is from the Federal Reserve Flow of Funds:

http://www.contraryinvestor.com/

As far as real estate prices are concerned, I would like to show two charts, both from the CalculatedRisk blog:

http://www.calculatedriskblog.com/

The first chart was posted on 12/21/09 and is the LoanPerformance Price Index from 1976:

Next, a chart posted on 12/29/09 showing the LoanPerformance Index as well as Case-Shiller, from January 2000:

As others have commented, it appears as if the overall intervention efforts are aimed at reflating (or to re-inflate) the housing bubble.  Conventional (investment) wisdom has held that reflating a burst bubble is impossible.

However, I think given the tremendously outsized intervention efforts in housing, we are truly in a unique situation.  I don’t believe there has ever been such a large intervention effort in our country, at least in the last 150 years.  Depending upon how one would measure such intervention efforts, it might even be among the largest interventions in world economic history.

A casual observer might assume that such an outsized effort would be destined to be successful.  However, (economic) life is not that simple.

From an ”all things considered” standpoint, I don’t believe the residential real estate bubble has actually burst.  It appears to me that it has somewhat deflated.  I base this view on a variety of fundamental and technical factors. 

Assuming this view is correct – that the residential real estate hasn’t popped – the implications are immense.   I think it is likely that one of two possibilities will occur from here, and each could happen in a relatively rapid fashion.  The first possibility is a “successful” reflation of the residential real estate market, with accompanying economic activity.  The second possibility is a collapse of the residential real estate market with accompanying economic repercussions.  As to the path real estate will travel from here - my previous writings on interventions, bubbles and real estate indicate my thoughts on the subject.

If a “successful” relation occurs, one is led to wonder as to the characteristics of such a “successful” reflation of the real estate bubble.  Among other critical questions is how long would such a reflation last?

I think it very important to note the quality and durability of the economic activity that occurred in the first phase of the bubble, which peaked in 2006.  Can one hope for any better outcome during a subsequent reflation?

These issues are critical to the concept of Sustainable Prosperity, of which I have previously frequently commented.

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More On The Fannie/Freddie Developments Of December 24

Thursday, January 7th, 2010

Here is a Wall Street Journal editorial on the December 24 developments at Fannie Mae and Freddie Mac.  This editorial provides some new perspectives on the matter:

http://online.wsj.com/article/SB10001424052748704152804574628350980043082.html

My original comments on these developments was on December 28.

I feel it is critically important to understand the extent of intervention as it pertains to the housing market.  Fannie Mae and Freddie Mac continue to play an very large role in these intervention efforts. 

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Ben Bernanke’s January 3rd Speech

Wednesday, January 6th, 2010

I would like to make a couple of comments regarding the speech Ben Bernanke gave on January 3.  It was titled “Monetary Policy and The Housing Bubble,” and the pdf link can be found here:

http://www.federalreserve.gov/newsevents/speech/bernanke20100103a.pdf

I could make a significant amount of comments regarding this speech, as I partly or fully disagree with many of the points presented. 

I will, however, briefly comment on a couple aspects of the speech.  First, from page 21:

“Although the house price bubble appears obvious in retrospect–all bubbles appear obvious in retrospect–in its earlier stages, economists differed considerably about whether the increase in house prices was sustainable; or, if it was a bubble, whether the bubble was national or confined to a few local markets.”

I agree with the general premise that bubbles aren’t always obvious.  As I said in my December 2 post, “Some bubbles are harder to spot than others.”  As far as the housing bubble was concerned, in my opinion it was a relatively easy bubble to identify as it occurred, based upon a variety of characteristics.

Second, from page 22:

“That said, having experienced the damage that asset price bubbles can cause, we must be especially vigilant in ensuring that the recent experiences are not repeated. All efforts should be made to strengthen our regulatory system to prevent a recurrence of the crisis, and to cushion the effects if another crisis occurs.”

I think it can be strongly inferred from this excerpt, as well as other statements that he has recently made, that he doesn’t believe there are asset bubbles currently in existence.  My analysis indicates otherwise, as I discussed in my December 2 & December 16 posts.

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Fannie Mae And Freddie Mac Developments Of December 24

Monday, December 28th, 2009

For those who may have missed it, there was a notable development on December 24 concerning Fannie Mae and Freddie Mac.  Here is The Wall Street Journal link and the Treasury Dept link:

http://www.ustreas.gov/press/releases/2009122415345924543.htm

http://online.wsj.com/article/SB126168307200704747.html

Basically the government announced plans to cover an unlimited amount of losses at both companies.

It is yet another testament to the extent of intervention in the real estate markets.

I think this “blank check” approach carries many risks.  A while back I wrote an article about how interventions could be effectively managed.  The article is not intended to condone or support the concept of interventions.  However, there should be a regimented approach to their administration.  These interventions carry a tremendous amount of risk, aside from the substantial amounts of money being expended.  Here is the link (it is also listed among the articles on the right-hand side of the home page):

http://www.economicgreenfield.com/prosperitybypencom-directory/business-planning-principles-applied-to-the-stimulus-intervention-efforts/

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Wall Street Journal Article On “Strategic Defaults”

Friday, December 18th, 2009

Yesterday The Wall Street Journal had an article titled “Debtor’s Dilemma: Pay the Mortgage or Walk Away.”  Here is the link:

http://online.wsj.com/article/SB126100260600594531.html

The article has a variety of statistics and views on the issue of “strategic defaults.”  As well, it discusses the legality and consequences of such.

I have previously written numerous blog posts on the issue of “strategic defaults.” (Those posts can be found under the “Real Estate” category listed along the right side of the home page).  ”Strategic defaults” is an exceedingly important concept for a variety of reasons.  Like many economic issues, it is a very complex topic dependent upon many factors.  I find the topic fascinating.   

It should be very interesting to see the course of “strategic defaults” as time progresses.

 

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“Underwater Mortgages” Statistics

Wednesday, November 25th, 2009

Yesterday The Wall Street Journal published an article titled “One in Four Borrowers Is Underwater.”  Here is the link:

http://online.wsj.com/article/SB125903489722661849.html#articleTabs%3Darticle

The story contains a variety of statistics with regard to homeowner equity and home ownership issues.  It gives a good overview of the situation, and this facet of the residential real estate situation is not pretty.  As the headline states, 23% of all mortgage holders are “underwater,” i.e. they owe more on their mortgages than the underlying house is worth.

There are several reasons that this situation is important.  A couple include:

  1. These statistics are being generated despite the fact that there has been massive intervention and stimulus programs directed toward residential real estate.  The majority of intervention and stimulus programs in some way, either directly or indirectly, are aimed toward supporting housing.  It is highly disconcerting that we have such a dire situation despite such outsized intervention efforts.  We, as a nation, have committed, both directly and indirectly (via various “guarantees”) an epic amount of money toward this problem.
  2. As I have stated before, I do not believe that we have even come near the bottom of residential real estate prices.  To the extent that residential real estate prices fall from here, this “underwater mortgage” situation will be exacerbated.  A resumption of falling house prices would fuel many other problems, including the temptation of homeowners to commit “strategic defaults.”

As I have written previously (my other Real Estate posts are under the “Real Estate” Category listed on the right-hand side of the home page) the real estate issues facing this country are severe, very complex, and not well understood. 

 

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