Thoughts on the Housing Market - part I (not sure if additional parts will follow)

Hi everyone,

I know that home ownership is an eventual goal of most of the members of this group. Right now, house prices are coming down, but they are still really, really high here in SoCal. Many analysts suspect that the "housing bubble" is bursting, but there is much speculation as to how much prices will decline, and when the rebound will begin. During this past week (when I have gotten sick of writing TA training workshops), I took some time to investigate news and views on the bubble. I will start with listing some sites that I have viewed (along with a brief one liner about the site). These sites are primarily blogs run by individuals who have distilled down current news, views, and trends into a more manageable form. All of the sites are definitely bearish about the housing market, but I believe that they do a better job of supporting their claims with hard data and arguing their philosophical points better. I will close by making a few observations of my own.

Professor's Piggington's Econo-Almanac for the landed poor - This would be like any of the numerous other housing blogs that I encountered, except for that there is a nice box on the top with a link to four articles that serve as a primer. Data focus is primarily on San Diego. This blog is also seems to be the most objective of the three that I am listing and less opinion filled than the other two.

Patrick - This links to a section with 3 consecutive pages detailing arguments for the author's position, reasons why the housing bulls want to promote their views, and counterarguments to many of the bulls' arguments. This site's arguments are in more of a bulleted form.

Irvine Housing blog - a traditional blog (no primer section), but really well written in my view. Focuses a little more on the psychology of bull markets. I've linked to three particularly good, specific articles that I found.

Houses should not be a commodity
Southern California's cultural pathology
Financially conservative home financing

Now for my bit.

One of the most common arguments that these sites use to argue for a bubble is the large discrepancy between the cost of owning a recently bought home and the cost of renting. I agree with this, and argue that the cost of renting is a true measure of the supply and demand of housing in a particular area. Factors such as the availability of nearby expansion land, location land monopolies, desirability of a location, and the local economy are reflected in the costs of renting. These factors explain why rents in most areas of California are more than the majority of the country and why renting in Irvine is more expensive than renting in Santa Ana, Compton or Yucca Valley. They do not explain why renting is cheaper than even an interest-only mortgage.

I agree with many of the authors that cheap, easy credit and shrewd marketing has pushed house prices to where they are today. I also agree with the prediction that homeowner financial difficulties and rising interest rates will drastically increase the cost of non-traditional mortgages, thus reducing number of prospective homeowners.

Therefore, I would agree with the more bearish speculation of a significant (>30%) and sustained (> 5 years) housing slump.

While there are some advantages to homeownership that would price it at a premium over renting (stability of costs, tax deductibility of mortgage interest, potential of special access to equity in retirement (reverse mortgages) and special legal protection of housing assets in some states), I do not see these justifying housing prices that are significantly above the cost of renting (especially when the liabilities of housing - repair, homeowners' associations, and relative lack of flexibility are included).

So what does this mean for us.

1. It means that, if homeownership is a goal, we should start setting aside money for a down payment so that we don't have to take on additional expenses with a non-traditional mortgage.

2. It means that we should view homes as a living expense to be compared with renting (with the attendant benefits and liabilities of each option). In particular, I agree with most of what the blogger Patrick says about homeownership.

"While a house is almost always a poor investment, it is a safe time to buy a house for enjoyment when:

• a 30-year mortgage + tax + insurance + maintenance is less than 30% of your gross pay and
• the loss from interest, tax, insurance, and maintenance is less than rent on an equivalent place and
• you plan on staying put for 10 years or more"

I would disagree with Patrick about having total expenses of buying less than renting. I would say approximately the same would be a good guideline (there are some minor homeowner benefits that would justify a small premium, but they aren't nearly as significant as the media, real-estate cabal, and politicians make them seem). I would wholeheartedly agree with the 30% rule (as this is the traditional definition of affordable housing) and with the 10 years rule (having witnessed aunts and uncles go through the hassle of selling a house less than three years after buying it).

Finally, I would recommend taking the time and effort to ensure that you are making a wise purchase based on fundamental factors instead of emotion. Think of it as pre-purchasing a necessary expense. Don't think of it as "investing in a home" as the real-estate agents would have you believe it.

I know this is a long post, but what are your thoughts?