My wife’s going to hate me but…

[lendingbubblecontinues]

This is NOT advice, however, I don’t think it will be wise to buy anytime in the next five years, unless one really feels the need to waste a ton of money and desires to pay the tremendous “opportunity cost” that comes with tying up a large downpayment in a rising interest rate environment.

If we just stayed “flat” or “plateau” for five years as some would like us to believe will happen, that $1 million dollar home you are considering buying today will decline to $750,000 in real dollars (assume modest 4% inflation). This is the “soft-landing” folks…

Now, if you plunk down 20% of “move-up” equity, you are effectively tying up $200,000 into a depreciating asset (temporarily, some will argue?) that could earn a risk-free rate on order of 5% ($10,000 per year), so there is an additional $50,000 you would have made.

Consider that the cost of ownership of a million dollar home would be approximately $5000/month with “everything in” (perhaps too low), that’s $300,000 dollars in carrying costs over those five years. Granted..rent would cost you $3000 to $3500 for the same house and you have to live somewhere, right?

Conservatively, I’ll use a difference of $1500 per month differential between rent versus ownership costs and I’ll save $90,000 over those five years by renting. Now…$90,000 plus $50,000 on my downpayment in the bank (not the house) is $140,000.

I’ll have $140,000 more in five years and be able to pick up that house for 25% cheaper due to the erosion of inflation…BEST CASE SCENARIO for the soft landing crowd.

Worst case….house actually drops in price!! A mere 10% drop (which we are beginning to see builders undercutting prior sales by 10-15%) would wipe out many people who bought in 2004 and 2005 if they need to sell in the next five years. And it would make the above calculations(overly simplistic, I know) seem much milder. What happens if we see 25% or even 50%? Yikes!

Even if the market stays flat, people who bought in 2004/2005/2006 are going to soon realize that they were the greatest fool. Unless..

…if one can pick up a house today with close to ZERO down for 2011’s prices today (25% less than 2005’s comps), maybe that would be a good deal. I am not sure though as I believe we will see a modest to large price decline in most of San Diego. Be careful out there!

[an]

Very good post. I agree with your logic. I would definitely buy when I can get 25% less than current comps. The houses I’ve been looking at, 1600-1700sq-ft in Mira Mesa, were selling for $560-570k last year. Yesterday, I saw another one listing for $499k. When compare rent vs buy, it would make sense when it fall to $399k. So for me, that’s 20% drop. So 20%-25% drop is when I’ll jump in. Granted rates stays the same. If rates rise higher, then price would have to fall lower for it to make sense for me.

[anxvariety]

In the other thread we’ve been talking about the next generation of buyers and how right now most have no money saved…

I constantly wonder how anyone that has no money saved now in this period of economic prosperity will manage to save money over the next years with inflation and higher unemployment coming..

Especially if banks are going to revert back to the old 20% down payment stuff after the next 5 years of foreclosure and default.

BTW, your post makes me think the FED really is just going to start printing money and paying off debt.. and normalize money towards the current house prices.. so that a 500k house really is not overpriced in terms of other things.. The part that perplexes me the most is what are wages going to do?? Does everyone just get a 200% raise in this scenario?

[lendingbubblecontinues]

Good questions. Wish I had answers, of course. If FED does attempt to “normalize” money towards current house prices, inflation (purchasing power erosion) will be raging. Easier to justify “higher” wages when the value of the dollar is plummeting. Looks like a slight likelihood of hyper-inflation, in my view, followed by the need for a new monetary standard. I really don’t know, though.

Obviously, we (the U.S.) cannot continue to OVER-CONSUME while UNDER-PRODUCING into perpetuity. We can’t all be “fat, dumb, and happy” can we?

[PD]

The lady got fat, took a deep breath and is about to start singing (a very sad song).

[zk]

Lots of people are probably saying that they’ll jump in if prices drop 25%. But will they, really? It makes it sound like there’ll be a floor, or a support, for house prices at a certain level. And that is possible. But consider the following:

I’m not saying prices will drop 25%, but if they do, I think lots of people will say, “homeowners are getting hammered. Prices have dropped 25% in 3 years. Those bubble believers were right all along. If I buy a house now, I’ll lose money. I’ll wait until they stop dropping.” I think fewer people will say, “prices have dropped enough and I’m confident that they’ll stop going down and start going up.” Fear and greed seem to play a more important part in San Diego’s real estate cycles than anything else, and if prices drop 25% in 3 years or so, fear will approach panic, and there will be very, very few buyers.

[theplayers]

I agree with you zk. Psychology played a very large part in creating this bubble. Remember how intense the euphoria was here in San Diego in the spring of 2004, when everyone wanted to get in? We’ll see that same level of intensity on the opposite end of the scale when prices have fallen and people are fearful of getting in the market, afraid of buying a home that is going to fall even further in value.

This happened here in the mid-90’s. I have several friends who bought homes here then, and I ask them about what the market was like at that time. Everyone of them tells me that they had virtually no competition, lots of inventory to choose from, that they were looking at homes that had been on the market for over a year, that sellers were pleading with them to buy their home. Some of the sellers had not even had anyone look at their home for 9 – 12 months! But my friends also say they were very hesitant to buy, because the market was so bad, no one else was buying, so why should they? Maybe if no one else was buying, there was a good reason, they thought. Of course, later on they did not regret their decision to buy.

I believe we will see that same dynamic play out again. Many of the people who now are saying that they will buy will be too afraid to buy when the “blood is in the streets”. There will be many, many people who will be forced to sell, lowering their prices, competing with each other. But buyers don’t have to buy, they can sit on the sidelines and wait. There will come a time, probably in a few years, when virtually no one will want to buy into San Diego’s housing market. That will be the time to buy, if you’re brave enough!

I know it’s not easy to time a market. However, one thing I’ll be looking at to help me decide when to buy is the rent-to-own ratio. In the mid-90’s, one could buy a house with 20% down and rent it out and break even or have positive cash flow. Obviously, we are not even close to that now. But when it happens again, investors (real investors, not speculators) will start to get back into the residential rental market again (the smart money has been out for awhile now). This is one of the factors that helped San Diego’s housing market come back to life in the late 90’s, as the smart money investors got back into the market and started buying homes, creating a demand.

I keep telling people (anyone who will willingly listen) to save money, stay out of debt, and just be patient. There will be some amazing bargains in a few years!

[Author]

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