Jul162012

Monthly cost of home ownership down over 50% from 2006

When I first began writing about the housing bubble in early 2007, I believed prices would crash because the cost of ownership using conventional financing far exceeded people’s ability to pay. I predicted prices would fall about 40% as rents and incomes increased and prices went down. I originally predicted a bottom around $425,000 in 2012 (see below).

Assuming prices have bottomed, the lowest tick was $470,000 in March of 2012. The nominal price decline was not as bad as I predicted staying about 10% above my predicted number. However, my reasoning was based on the total cost of ownership, and that declined much more than 40%. In fact, in Irvine, the cost of ownership fell from $3,800 in June of 2006 to $1,750 today. That’s a whopping 54% decline. In reality, the cost of ownership overshot to the downside, but it didn’t happen by dropping nominal prices, the dramatic drop in the cost of ownership occurred because interest rates declined from 6.68% to 3.65% during the same period.

If interest rates cut in half and if prices drop 30%, the cost of ownership plummets. Below is a comparison of the cost of ownership in 2006 versus 2012 based on the median home price and prevailing interest rate.

2006 cost of ownership

$745,000    ……….    Purchase Price
6/1/2006    ……….    Purchase Date

Cost of Home Ownership
——————————————————————————
$745,000    ……..    Asking Price
$149,000    …………    20% Down Conventional
6.68%    ………….    Mortgage Interest Rate
30    ………………    Number of Years
$596,000    ……..    Mortgage
$180,769    ……….    Income Requirement

$3,838    …………    Monthly Mortgage Payment
$646    …………    Property Tax at 1.04%
$0    …………    Mello Roos & Special Taxes
$186    …………    Homeowners Insurance at 0.3%
$0    …………    Private Mortgage Insurance
$0    …………    Homeowners Association Fees
============================================
$4,670    ……….    Monthly Cash Outlays

($991)    ……….    Tax Savings
($520)    ……….    Equity Hidden in Payment
$429    …………..    Lost Income to Down Payment
$206    …………..    Maintenance and Replacement Reserves
============================================
$3,794    ……….    Monthly Cost of Ownership June 2006

2012 cost of ownership

$500,000    ……….    Purchase Price
6/1/2012    ……….    Purchase Date

Cost of Home Ownership
——————————————————————————
$500,000    ……..    Asking Price
$100,000    …………    20% Down Conventional
3.65%    ………….    Mortgage Interest Rate
30    ………………    Number of Years
$400,000    ……..    Mortgage
$92,445    ……….    Income Requirement

$1,830    …………    Monthly Mortgage Payment
$433    …………    Property Tax at 1.04%
$0    …………    Mello Roos & Special Taxes
$125    …………    Homeowners Insurance at 0.3%
$0    …………    Private Mortgage Insurance
$0    …………    Homeowners Association Fees
============================================
$2,388    ……….    Monthly Cash Outlays

($289)    ……….    Tax Savings
($613)    ……….    Equity Hidden in Payment
$119    …………..    Lost Income to Down Payment
$145    …………..    Maintenance and Replacement Reserves
============================================
$1,751    ……….    Monthly Cost of Ownership June 2012

($3,794 – $1,751) / $3,794 = 54% decline

Houses are more affordable than any time during the 00s.

The same math holds true for most areas in California. Orange County is actually 57% less expensive than it was in 2006. Riverside County is more than 60% less expensive, and some areas are more than 70% cheaper.

Much attention has been drawn to the lack of inventory as the driving force behind the recent strength in the housing market. And while its true distressed inventory is no longer pushing prices lower, it’s the unprecedented affordability from super low interest rates that allows buyers to raise their bids. If lenders keep withholding product from the market by allowing delinquent borrowers to squat, 2012 will be the nominal bottom, and prices may get pushed up higher as the market seeks a new equilibrium based on today’s borrower’s increased buying power. Lenders are determined to reflate the housing bubble, and they just might succeed in doing it.