Jul202012
Practical advice for today’s prospective homebuyers
Usually when you come across a homebuying advice article, it’s a puff piece put out by realtors. These articles usually emphasize the emotional aspects of buying a home, ignore the troubles and potential downside, and try to create urgency to motivate buyers to act. In other words, homebuying advice articles are generally self-serving NAr bullshit. Today’s featured article from the Wall Street Journal was surprisingly different. Either that, or the changing market conditions have made these articles less objectionable. I’ll let you decide.
Yea! Home Prices Hitting Bottom. Now, the Bad News.
WSJ — July 14, 2012, 9:16 p.m. ET
This is a great time to buy a home in many parts of the country. There are signs that the downward price spiral is bottoming out. Mortgage rates are at historic lows.
The next few years could well be remembered as the best opportunity for Americans to buy homes since the postwar baby boom.
Usually I recoil at such bullish statements, but right now, those statements are true. As I pointed out earlier this week, monthly cost of home ownership down over 50% from 2006. Prices are below rental parity in most markets, and we all know how rare that is. Sure, there are reasons to be cautious. Interest rates are at record lows, and when they rise, affordability will plummet for your take-out buyer. Plus, the shadow inventory of future distressed sales is large, and with the recent slowdown in foreclosures, growing again. There are other reasons to be cautious as well.
But one group’s opportunity is another group’s problem. Tens of millions of baby boomers and other home owners have seen their equity shrunken or wiped out completely. Many were counting on their homes to help finance their retirements. Often they have been waiting for years for the market to turn. Now they find themselves on the short end of the deal, sellers into the buyer’s market of the century.
“It’s a really challenging environment to be a seller,” says Lawrence Glazer, wealth adviser at Mayflower Advisors in Boston. “Unfortunately, many people planning to retire may have no choice.”
Baby boomers are demanding the current generation of homebuyers must pay high prices in order to fund their retirements. The federal reserve has lowered interest rates to record lows to save the banks and the baby boomers.
So what if you are on the wrong side of the trade? As ever, there isn’t a single, simple answer, but if you’re in this situation, here’s a checklist to help you out.
1. Don’t hold your breath.
Yes, house prices nationwide have stabilized. Of the 20 cities tracked by the Standard & Poor’s/Case-Shiller Home Price index, 16 are in the black for this year. But the housing market isn’t like the stock market. Bouncebacks are typically slow.
The last crash took more than a decade to work through—and this market could take an especially long time because the huge accumulation of empty, foreclosed houses will hold down prices for all properties.
When adjusted for inflation, the Case-Shiller index didn’t return to its 1989 peak until 2000. Some markets, such as New York and Los Angeles, didn’t hit new highs until 2002. This time may be even worse because the bubble was much, much bigger. Some locations may not recover their inflation-adjusted peak in our lifetimes.
Harvard’s Joint Center for Housing Studies calculates that there is a backlog of around two million home loans in foreclosure, waiting to come onto the market. Some estimates put the number much higher, especially when you include “shadow inventory” held back by banks.
I have stated it a hundred times, but it’s nice to read the same comments in the Wall Street Journal. Liquidation of this overhead distressed inventory will prevent houses from appreciating wildly as many people hope. Unless the federal reserve really cranks up the printing presses, it will take a long time to reach the nominal peak in prices, and if they do start printing copious amounts of cash, inflation will run rampant, and the inflation-adjusted peak will be push that much farther out.
Unless you are willing to wait for a long time, you may not want to get too hung up waiting for a big rebound.
In the real world, most loanowners will be overly optimistic about their chances for recovery. This delusional optimism will be great for lenders because it will prompt many loanowners to keep paying rather than strategically default. Rising home prices are by far the best antidote for strategic default.
2. Look at your local market.
As the housing market recovers, expect to welcome back the old Realtor’s adage: Location, location, location.
Don’t expect all markets to rise at the same rate. According to Case-Shiller, Phoenix home prices are up 9% in a year. Meanwhile, Atlanta is down 17% and New York is down 4%.
Where will prices go from here? That’s likely to depend on two factors: rents and valuations. If it’s cheaper to own than to rent, and rents in your neighborhood are rising, you can expect prices to rise in due course. If it’s cheaper to rent, or if rents are stagnant, it’s another matter. The website housereal.net is a really good source of real estate information.
I have been writing daily about the housing market for over five years now. At first, there was value in simply telling people not to buy because prices were crashing. Now that buying is no longer financial suicide, to provide valuable information to prospective homebuyers, I developed the OC Housing News market newsletter to keep people informed on what’s happening in local markets around Orange County.
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3. Be realistic.
The true value of your home isn’t what you paid or refinanced for in 2006, but what it’s worth now. And the true value of your equity isn’t what you put into the home, it’s what you would get if you sold it.
Money spent on that new kitchen? Irrelevant. The pool? Ditto. Too many investors get hung up on past or “sunk” costs. Don’t hang around until you “get your money back.” That money is gone.
Sound advice. Unfortunately, it is almost universally ignored by homeowners.
4. Know your ‘negative equity.’
Harvard’s Joint Center estimates that 11 million American home owners are underwater on their mortgages—in other words, the loan is worth more than the home. Housing-data company Zillow puts the figure closer to 16 million—nearly one mortgage in three.
If you’re in this position, you need to understand your legal status. Home owners who are underwater typically feel they can’t sell until they are level again. But that isn’t true. Your bank may be willing to accept a “short sale,” where you sell for what you can get and they eat the loss.
Banks are currently taking advantage of the need for approval to keep houses off the market. The smartest thing deeply underwater loanowners could do is a strategic short sale. Sell now and buy again in a few years at a much lower price.
In about half of the states, banks can’t come after a mortgage borrower for a shortfall. Even in the rest, they can’t take what you don’t have.
If you are hoping to “get back to even” before selling, you will need to do some basic math. If your home is worth 20% less than the mortgage, you will need a 25% price rise from current levels to break even.
If your home is worth half the mortgage, as is the case in some of the worst-hit areas, you will need prices to double from here. So if you owe $400,000 on your Tampa home but it’s only worth $200,000 today, prices would have to rise by 7% a year for 10 years just to get you back to even. How likely is that?
This is a great point. Most people don’t understand the asymmetric nature of drawdowns. There are many people in Las Vegas who are 50% or more underwater who are hanging on because they expect prices to rise back to the peak in perhaps 10 years. I would love for that to be true, but it simply isn’t going to happen, at least not that fast. Even strong markets like Phoenix which are up substantially this year are not going to see peak prices any time soon.
So, ask yourself: How long are you willing to wait? And how much will it cost you—in time and money—while you do?
Deeply underwater loanowners who are paying more than the cost of a comparable rental should strategically default. It’s really that simple. It’s also what the author of this article implied but didn’t say.
5. Look at your cash flow.
Forget prices and the market for a moment, and look at your own cash flow.
Too many investors overcomplicate things. How much is it costing you per month or year to stay in your own home—in terms of mortgage, property taxes, fees, maintenance and other expenses?
Mortgage rates have collapsed to historic levels. Those with good credit can lock in a 30-year loan for less than 4%. As you can take a tax deduction for interest and property taxes, it may be costing you even less than it first appears.
On the other hand, how much would it cost to rent a home instead? If it is cheaper to own, which is true in many places now, it may make sense to hang on and wait for the market to recover. But if it is much cheaper to rent, you may be better off selling at a loss and renting instead.
When I developed the fundamental value reports Shevy now uses with all his clients, the intent was to show all the financial details described above as simply and as accurately as possible. Each day when I profile a property, you can see the total cost of ownership associated with acquiring and owning the property. Shevy and I believe everyone should carefully consider this information. Many don’t, and many don’t calculate their costs accurately. Unfortunately, most people do a glib financial analysis to justify an emotional decision. We prefer reality.
6. Put your own finances first.
Smart financial management, like charity, begins at home. Investors need to put more weight on their own financial and personal needs than on national economic or other data.
Many home owners have put their lives on hold—such as delaying a move to a retirement community or taking a job in another city—as they have waited for a rebound in home prices.
This is time lost. It rarely makes sense. Economists would point out that these home owners are ignoring hefty, but invisible, “opportunity costs.”
They are missing out on salaries, investments or life experiences that they otherwise would have enjoyed if they had sold earlier and moved.
This is another compelling argument in favor of the strategic short sale.
7. Sell today, buy tomorrow.
You live in, say, Chicago. You want to retire to, say, San Diego, to be near your children and grandchildren. You’ve been on hold. Why?
Yes, prices in Chicago are down 36% over the past six years. But San Diego is down 39%. What you lose with one hand, you gain with another. In your new home you may be able to lock in a low fixed-rate mortgage.
The bottom line? The national housing market may take many years to recover. It’s a buyer’s market, but home owners hoping to sell need to do their math first.
Most real estate advice in the mainstream media is complete crap peddled by the NAr. I found this article refreshing in its clarity of thought, accurate portrayal of today’s circumstances, and good advice.
Be patient
Since lenders are preventing inventory from coming to market, there is very little available for sale, and anything priced well is receiving multiple bids. Lenders are using their cartel pricing power to extract more money from prospective buyers. It’s important under those market conditions not to get carried away in bidding wars. Eventually, more inventory must come to market, so there is no reason to overpay for fear of getting priced out.
Donovan: Expanding refinancing programs will be ‘a real fight’
The Obama administration continued pressure on Congress Thursday to pass three bills that would help more creditworthy underwater borrowers refinance.
“It’s going to be a real fight to get this done,” said Department of Housing and Urban Development Secretary Shaun Donovan during a Google “hangout” with borrowers. “This is something that ought to go beyond politics. In the past we had Democrats and Republicans support things like this.”
More than 11.4 million borrowers owe more on their mortgage than their home is worth, according to CoreLogic ($20.45 0%). Although that number declined from the end of last year, home prices remain unsteady. Many waiting for the market to naturally return equity to their home face years of negative equity.
Donovan pitched three bills the administration is focusing on.
The first from Sens. Robert Menendez, D-N.J., and Barbara Boxer, D-Calif., would expand the Home Affordable Refinance Program once again. Some Senate Republicans may be on board. The Federal Housing Finance Agency removed some hurdles to the program last year including the cap on loan-to-value ratios, some appraisal requirements and repurchase risk on the old loan.
The result was a sharp increase in HARP refinancing beginning in March, but some borrowers are still left out, particularly those whose servicers do not participate in the program because of the remaining buyback risk.
The Menendez-Boxer bill would strip out all repurchase risk for Fannie Mae and Freddie Mac loans refinanced through the program and it would waive appraisal requirements for the remaining loans that still require it.
It also extends the HARP cut-off deadline to borrowers whose mortgage was originated before June 2010. As of now, only borrowers with loans taken out before June 2009 can qualify.
A second bill from Sen. Dianne Feinstein, D-Calif., introduced in May, would allow refinancing for underwater borrowers holding mortgages backed by the Federal Housing Administration. It creates a $6 billion fund to insure the new loans.
Donovan mentioned a third bill from Sen. Jeff Merkley, D-Ore., would allow borrowers to refinance under HARP and rebuild equity in their home a bit faster.
If it is passed, a borrower could refinance into a 20-year loan term or shorter, and Fannie or Freddie would cover the closing costs. Keeping the monthly payment the same, a borrower would then be able to rebuild equity faster.
Donovan said this option is still available to borrowers under the expanded HARP, but under the bill, the closing costs are covered.
Jaret Seiberg, a policy analyst at Guggenheim Partners, said these bills stand little chance of making it to Obama’s desk this year. Odds are highest for getting the Menendez-Boxer bill passed but much lower for the others. The Feinstein bill especially would be difficult given the still fragile state of the FHA emergency insurance fund.
“We see that as a poison pill designed to sink the entire package,” Seiberg said.
Donovan said the administration will continue to push the bills through in order to give some relief to struggling borrowers.
“Everyone here is still paying their mortgage,” Donovan said of the homeowners asking him questions over Google. “They’re meeting their responsibility. The president believes that we should give every one of them the ability to refinance into a lower-rate mortgage.”
Keep on fighting! If Obama wins big in November, and the Democrats pick up seats in the Senate and House, then my taxes are going up. But, I may be able to refi into a 120% LTV loan without raiding my savings. I’ll take that trade-off, I think?
The problem I have with this program is that it effectively nationalizes all the losses hidden in securitizations and bank balance sheets. Once these loans get refinanced, it has the backing of the GSEs and thereby the backing of the US taxpayer.
It does, and that reason alone is sufficient to reasonably oppose it.
I’ll make this argument in favor. If a family has been making their mortgage payments an on underwater home through this Great Recession going on five years, and we qualify them according to FHA’s lending standards today (the exception being a high, 125%?, LTV limit), how much greater is the default risk than any other typical FHA loan currently being originated? (I’m assuming the vast majority of option-ARMs out there with currently negative amortization payments are gone)
If you are 125% LTV, here’s what I think you’re next steps should be:
1. Not pay my mortgage
2. Live there as long as possible
3. Maximize my cash for keys money
4. Save every penny and dime as long as you can for the downpayment/rent on next place
5. Use saved money for 30-40% down on a positive cash flow condo in a few years/rent for a while
6. If anyone give you hell about your tactics, you can say “I value to security of my family and myself more than the mortgage bond holders,” and “I’m really not doing anything Hank Paulson, Ben Bernanke, Timothy Geithner, John Corzine, Jamie Dimon, Ken Lewis and other acclaimed and people wouldn’t do.” Life is tough…time to play hard ball.
I agree Petey, but there are a few people for whom the underwater portion isn’t “deadly” to their finances.
e.g. What if that family with a house underwater 25% has the cash to bring the house down to 100% LTV today, and that amount represents maybe 1-2 years’ savings (at their current rate)? That complicates the decision, no?
Perspective,
It isn’t just the default risk that’s the problem. If we allowed unlimited refinancing — and thereby transferring all future losses to taxpayers — what happens when people want to move? The losses on short sales will be absorbed by taxpayers even if the borrower doesn’t strategically default. I think many will wise up to the advantages of strategic short sales over the next several years, and each one of those is another loss absorbed by the US taxpayer.
Perspective,
I am sure you can find “creative” ways to move 25% of maybe 500K-700K around. If that is 1-2 years of savings….you guys are in great shape, but it would still kill me for overpaying for a wood frame and stucco box. That does complicate the decision, especially if you and your partner are on the hook for the current home because both of your credit scores would be shot for 3-5 years….but is your credit score worth $200K-$300K (principal and interest)?
Find a good safe or mattress. Probably not a good idea to keep the money at the institution who holds the note on the house. They can’t garnish that easily, but probably not a good idea to let them know you are able to pay. Good luck and hope everything works out best for you and the fam.
The shocking thing is, prices are going up in our neighborhood and townhomes are selling at 15% less than their 2007 prices. Detached homes are selling close to their 2007 prices!
The power of low interest rates on affordability…
OCC warns of rising HELOC risks
A significant amount of home equity lines of credit will reach the end of their draw period beginning in 2014, about the same time the Federal Reserve plans to end its downward pressure on interest rates.
The Office of the Comptroller of the Currency released its first semiannual report on threats it sees to the banking sector. Included are still elevated levels of foreclosures, loosening underwriting standards and a wave of new products these firms are beginning to venture into.
But past loans could still raise major problems as well.
In 2012, roughly $11 billion in HELOCs reached the end-of-draw period, marking the moment when a borrower can no longer draw equity from their home and must begin paying back the principal plus interest.
By 2014, this number grows to $29 billion, nearly doubles in 2015 to $53 billion and could reach $111 billion by 2018, according to the OCC.
“Generally, the term of the home equity contract including both the draw period and full amortization is 30 years although numerous other types of structures are prevalent including those with a draw period and a balloon payment,” the OCC said.
Banks most often offer a HELOC to borrowers, charging the prime rate plus a determined margin.
The Federal Reserve sets the prime rate, and for the past several years has kept it low in an effort to stimulate a still weakened economy. But the Fed said in its latest committee hearing that it plans to keep interest rates low only through the end of 2014, precisely the time when many HELOC borrowers will begin paying lenders back.
The Fed usually raises the rate in incremements, but the pain can still come quickly. Beginning in 2004, it raised the rate 25 basis points 20 times in a row, pushing prime to 8.25% from 4% before reversing course post-crisis.
More of these loans are already falling into trouble. The delinquency rate on HELOCs increased to 1.78% in the first quarter from 1.69% at the end of last year, according to the American Bankers Association.
“It will be many quarters before delinquencies on home equity loans get back to anything close to normal,” said ABA Chief Economist James Chessen.
The OCC said because home prices in many areas are still slow to recover since these loans were originated, many borrowers will struggle to refinance. This translates to heightened risk for banks still trying to untangle their balance sheets from the latest housing bust.
“Approximately 58% of all HELOC balances are due to start amortizing between 2014 and 2017,” the OCC said. “Housing price declines have led to questions for the banking industry about carrying values and allowance levels that support home equity portfolios.”
What Relief? Bank Of America Faces New Mortgage Claims Reaching $23 Billion
It seems that when Bank of America puts one mortgage-related problem behind it another pops up. This time the new problem is in the form of $6.8 billion in new repurchase claims.
The nation’s second largest bank had a decent quarter posting a $2.5 billion profit thanks to cost cuts, some improvements in its credit portfolio and lower provisions for loan losses. Bank analyst Nancy Bush calls is a “relatively clean quarter” compared to last year the bank reported a painful loss of $8.8 billion tied to a big settlement it made with some investors over mortgage securities gone sour.
Despite that huge settlement more investors are creeping up and demanding that BofA buy back securities they say were flawed. The increased claims had many analysts asking CEO Brian Moynihan when exactly the legal battles will level off.
In short, there’s no solid answer. Investors are going to keep battling BofA until they reach the best possible deal in repurchase claims. And when one big settlement is done with (like last year’s $8.5 payout to 22 investors including PIMCO, the Federal Reserve Bank of New York and BlackRock) others will fight harder to get their piece of the pie.
That’s one explaination for the increase in repurchase claims which were up by $12.8 billion from the second quarter last year and $6.8 billion from the first quarter of 2012. The latest numbers show total repurchase claims at $22.7 billion up from $16 billion at the end of March and $9.9 billion last year.
Who exactly is asking the the bank to buy back soured mortgage securties? Bank of America puts them into two categories: government sponsored entities (GSEs like Fannie Mae and Freddie Mac) and private label investors (those can be big institutions like BlackRock that bought into mortgage pools).
Mortgage Rates Slip Again
The third week of July brought news of more mortgage rate lows, according to Freddie Mac’s Primary Mortgage Market Survey (PMMS).
For the week ending July 19, the 30-year fixed averaged 3.53 percent (0.7 point), down from 3.56 percent the previous week and 4.52 percent the year before. In all of 2012, the average 30-year fixed has only gone to 4.00 percent or higher for one week.
The average 15-year fixed for the week was 2.83 percent (0.6 point), down from 2.86 percent the week before and 3.66 percent at the same time in 2011. This week marks the eighth consecutive week that the average 15-year fixed-rate mortgage has been below 3.00 percent.
The 5-year adjustable-rate mortgage (ARM) also fell, averaging 2.69 percent (0.6 point), a drop from 2.74 percent last week. The 1-year ARM saw no changes, hovering at 2.69 percent (0.4 point).
Frank Nothaft, VP and chief economist at Freddie Mac, explained how the low rates are aiding in the housing market’s recovery.
“With little signs of inflation and the Federal Reserve’s ‘Operation Twist’ keeping U.S. Treasury bond yields in check, fixed mortgage rates are remaining low and helping to stir the housing market,” said Nothaft. “For instance, the 12-month growth rate in the core Consumer Price Index has been in a narrow 2.1 to 2.3 percent band over the past nine months ending in June. Meanwhile, new construction on one-family homes rose for the fourth consecutive month in June to its strongest pace since April 2010 with builders restocking their lean inventories of new homes. In fact, homebuilder confidence for the next six months rose for the third month in a row in July to its highest reading since March 2007.”
Bankrate also posted new record lows, with the 30-year fixed falling to 3.78 percent from 3.79 percent the week before. The 15-year fixed averaged 3.04 percent, inching down from 3.05 percent in the previous survey. Meanwhile, the average 5/1 ARM rate fell to 2.89 percent, a slide down from 2.95 percent.
Little sign of inflation but the Fed is needed to keep treasuries in check???? That is complete nonsense.
Treasury investors want higher rates because they know CPI is hedonically adjusted to understate actual price increases. The more the Fed keeps treasuries in check, the more inflation they create. It is self perpetuating.
INTEREST RATES ARE HEADED FAR HIGHER THAN ANYTHING WE SAW IN THE LATE 70S EARLY 80S. Treasury holders are going to get scalped.
Since nominal = money illusory, when evaluating long term return on investment, ‘real’ terms is what matters. PERIOD.
Real Term Investing
When one considers the credit/debt funding boom behind the housing boom, it becomes clear that all homes effectively became financial assets – more akin to corporate equity shares than real estate.
So, we think mismatched funded real estate also seems to be a poor risk-adjusted bet in real terms – even despite the painful correction to date. (Yes, the graph shows that homeowners over the last forty years have either gained 2% or lost 72% in real terms, depending upon which CPI figure one chooses to use.)
http://www.scribd.com/doc/100443600/QBAMCO-Real-Return-Investing
What do you think people should invest in to get a positive return after adjustments for inflation? I think people taking out low-down mortgages who finance most of the purchase with 3.65% debt will be very happy when the federal reserve creates inflation. I could see inflation running higher than the interest rate on the mortgage. At that point, borrowers benefit as inflation makes the interest on the debt less and less costly — assuming of course that people make more money.
Since I’m not in the advice-giving bidness 😉 I’ll let this fella have at it….
fast forward to 20:31
http://www.youtube.com/watch?feature=player_embedded&v=LNIayoaqBu8#!
Negative real interest rates = big buy signal for gold.
The philosophy of “leveraging up in real estate” is a decent idea. If/when a sovereign debt crisis situation develops, affording necessities will become a higher priority. I guess you can always just default and squat for a while, worst case scenario. Be very conservative with the leverage. Be hedged against dollar devaluation.
Remember,
1% fed funds rate = housing bubble and bust
0% fed funds rate = treasury bubble and currency crisis
I think there are some buyers and sellers who believe the 2007 prices will be back in a few years. That is not going to happen until income increase to support those prices. So, really you need to look at rent parity, if you need to purchase a home.
“I think there are some buyers and sellers who believe the 2007 prices will be back in a few years.”
If you look at the MLS lately, some buyers think they can get those prices today.
Where I want to buy (Arlington, VA) people CAN get 2007 prices, and do so with regularity. Prices doubled from 2000 to 2007, and then fell only -5% to maybe -10% when they bottomed in early 2009. Since then, they have been rising a few % per year, such that new peak prices are now hit with regularity.
Seeing all this makes me shake with uncontrollable anger. In 2003, I was convinced a massive correction was in store. I relied heavily on bubble sites to justify my decision not to buy. As it turns out, I am now 10 years older, and price drops I were promised never materialized. It wasnt supposed to be like this…
I share your frustration. The correction did happen in many markets, and in markets like Las Vegas or Phoenix, the correction was extreme. Lenders managed to withhold inventory in most east coast markets, and so far, they have kept prices from correcting much there.
Theresa… what were the catalysts that caused prices to double in Arl. VA, from 2000-07?
Theresa, as we have witnessed the DC housing market is pretty resillient. Here is why: when a government can print and borrow money until the cows come home, there will be endless high paying government jobs in places like DC. Housing markets are definitely a function of local economies and DC has an unfair advantage there. And do you think the policy makers for this country who reside in that area want their house to go down much in value?
There you have it. Until massive cuts to government take place, the DC housing market will truly defy gravity.
Prices in DC burbs are driven more by the expansion and contraction of the Federal government, and the wages it pays. You presumably had no idea that a bunch of wild-eyed tax ‘n’ spenders was coming to town in 2009, and would “stimulate” the local real estate economy with taxpayer dollars.
Well, you’ll have a chance. That crew is moving out in January of 2013. I’m hopeful that Shaun Donovan’s and Eric Holder’s houses will be up at fire-sale prices, since they’ll be needing the cash to make bail.
Also I try and look at housing (SFR) as a consumption item, not an investment item. I think that helps before you get a $400,000 loan
Agreed. Think of that monthly cost (PITIA) as gone once it’s paid – very similar to that car payment each month. That should help you stay in the lower DTIs rather than pushing affordability.
Far too many people have come to view their house as an investment — a current cashflowing investment to boot. As long as so many people see the potential in the housing ATM, people will overpay to take their chance at free money.