Posted on 08/21/2005 11:40:06 PM PDT by ex-Texan
These days, "Get Rich Quick" has been the mantra for too many people trying to cash in while buying real estate speculatively. With so much "free" money still flowing from the Federal Reserve, it has become a real estate speculator's dream world.
These so called speculators have purchased over 3 million residences, practically with their eyes closed, with the sole intention of flipping them like pancakes to the next guy, marked up 25 percent or more. However, signs are beginning to appear that indicate this game of getting rich quick may soon be over.
Less than 20 percent of Californians can now afford a home with a fixed rate mortgage. The Federal Reserve is still raising variable interest rates. In 2004, when the housing bubble was really gathering steam, the National Association of Realtors calculated that 23 percent of homes purchased were for investment, and 13 percent were for second homes. With housing prices in some markets rising 20 to 40 percent in the past year - and 50 to 100 percent or more since 2000 - buying a house on spec looked like a sure thing to make a quick profit.
But this housing deck of cards, in an already over-heated market, could have a domino affect. Why?
Home sales run about 9 million a year (this includes housing starts of 2 million and existing home sales of 7 million). If over 20 percent of homes purchased are investor properties, it appears that practically all new housing starts in America are accounted for by speculative buying. If second home buyers are added into the equation, speculative and investment buying of real estate (not owning to live in) actually exceeds total housing starts!
There are problems associated with owning second homes and investor properties. Unless these properties are rented out, they yield no cash income and become cash vampires, sucking the owner dry because of escalating taxes, maintenance, the Alternative Minimum Tax, and higher floating-rate mortgage payments.
Let's look at the economics of a "poster property" in San Diego called Park Place. The New York Times reported recently that a one bedroom condo is being offered for $719,000. A prospective buyer would expect to pay about $3,775 a month for a mortgage, plus maintenance fees, taxes and insurance. These additional costs can bring the monthly out-of -pocket total to well over $5,000 a month, or $60,000 a year. However, a renter, who would benefit from the same granite countertops, hardwood floors and fantastic views, can rent a nearly identical unit for only $2,400 a month, or $28,800 a year. At these price levels, the speculator who bought in could run an annual negative cash flow of close to $31,000 if they were forced to rent because no buyers could be found.
Today's inexperienced housing investors may not realize that the hard costs (tax, insurance and maintenance) along with the soft costs (revenue lost due to vacancy, and property management services so you don't have to become the landlord) can easily eat up over 30 percent of rental income before even making the mortgage payment.
In looking at some cities with major price appreciation (New York, Boston, San Diego, Miami, to name a few), in today's world it just doesn't seem possible to buy a house or condo and expect to make an economic return renting it out! Nationwide, there are over 3.8 million vacant units available for rent. In some communities, the over-supply of rental units on the market has pushed the average rent down as much as 20 percent. There remains a surplus of rental units.
First quarter 2005 statistics indicate, nationwide, there are 440,000 new homes for sale and 2,400,000 used homes for sale. By recent historical standards, these numbers account for a 4-month supply and do not look worrisome.
However, given what is really going on, this is about as safe as saying "if you see ice on a pond, it must be safe to walk on".
The latest HUD statistics show that of the 107,775,000 occupied housing units, 74,488,000 - or over 69 percent - are owned (not rented). This level of home ownership is at an all time record high. In achieving this record home ownership, the following has occurred: Sub-prime buyers now account for more than 10 percent; Another 10 percent can only buy with a "negative amortization mortgage" (very popular in California where 40 percent of mortgages are negative amortization); Up to two-thirds of mortgages are Interest Only ("IO") or Adjustable Rate ("ARM"); Second homes now account for 8 percent of mortgages; and, 38 percent of homes this year have been purchased with less than 5 percent down (if this doesn't reflect scrapping the bottom of the barrel for homeowners, nothing ever would). Yet, household earnings haven't kept up!
If housing speculators stop buying, who's left to buy? The average American with a job has already bought. America has been creating new homes faster than new jobs, and it has been the home speculator, and second home investor, holding up the market for at least the past year. (The latest reports show that the time it takes to sell a home has increased, and price rises have been trailing off.)
One of the biggest problems I see for our housing speculator is the forward supply of new homes they have already been locked into. Certainly, on the east and west coasts and in Las Vegas - and other frothy vacation and major markets - high rise after high rise are coming out of the ground. Ivana Trump (long divorced from "the Donald") is marketing the Trump luxury brand name for a high-rise building going up with her name in Las Vegas where units will begin at $550,000 and top out at $35 million for the penthouse. (In South Florida alone, my wife and I recently drove south from Fort Lauderdale to South Beach and we counted over 50 new developments in various stages of construction on the coast road). There are twelve high-rises going up in West Palm Beach, and another twenty four jumbo projects in downtown Miami. Every single one of these projects is priced out of range for the middle class buyer.
There is another "dark side" to speculating in real estate. Hundreds of thousands of units that have been sold in advance by developers to speculators. This method is used by developers so they can get the construction finance they need. The speculator is responsible for the purchase but he won't actually "buy" the unit until the project is complete and the unit has a Certificate of Occupancy. Therefore, the sale will not be counted as a sale until the date of closing! (Moreover, the developer has gotten the speculator to sign an agreement preventing him from reselling the unit for at least a year - after the speculator has taken occupancy - so the developer won't be selling against himself. This leaves the speculator holding the bag, but they seem willing to take the risk.
It could get interesting over the next six months as interest rates continue to go up and thousands of high-priced housing units come on the market that have been artificially snapped up by the get rich quick crowd. It may pay to simply sit back and watch the slaughter from a distance and stay short some home builders and sub-prime mortgage companies.
"I wished the f'n tourons hadn't decided to stay."
Tourons? LOL, I went to Western, we called them Floridiots.
FYI in descending order: idiot, moron, then touron..... Get the picture?
Ain't in nice being a Tar heel? That doesn't mean we went to The Hill neither!!
"Ain't in nice being a Tar heel? That doesn't mean we went to The Hill neither!!"
Never even considered UNC-CH. Planned on going to State, but didn't much care for the campus once I went down for an extensive tour. Western had a well-regarded program in the field I wanted to enter at the time. Ended up with a BFA in Graphic Arts though, lol, which means I should have stuck with State. But, all in all, I can't complain, things have worked out well for me.
What part of NC do you call home, and what are you seeing in residential RE there? Coastal is still nuts to my understanding, as are certain areas in the mtns. Appreciation and days on market are improving in all the Piedmont cities last I saw. USA Today even had Durham listed as "hot," although I have no idea why they'd have appreciated over 30% since last year, when everybody else in the Piedmont region cities are between 5 and 10%. Must be some sort of statistical quirk?
"Is that old trailer without the wheels in the back of the picture the guest house?"
Yeah I think so. Maybe the 4th bedroom.
More cad than wuss, I guess a little of both. But I'm man enough to NEVER inflict a "mid-life crisis" on my beloved family, I hate any ba$+@rd that does that.
Actually, it's almost a wash. My bond purchase pays 4.125 at 5 years and I have a 5 year IO ARM at 4.25%. There's a slight amount of loss due to taxes and the difference in the rates, but it's less than I currently pay for my life insurance policy and just as important for my families financial well-being.
My plan is that if the bubble turns out to be a non issue in 4.5 more years, I'll cash out the bond and pay off the ARM (finding one with no prepayment penalty was a bear, but I got one). If, on the other hand, the bubble does turn out to be real, I'll have a large potential cash reserve to call on to help me through whatever difficulties may arise. I know that I'll still be on the hook for the debt even if the bank pulls the property, but that kind of cash gives you a LOT of options.
I also have the advantage that the outstanding debt on my first mortgage (a 30 year fixed) is about 30% less than its current appraised value, so our market can lose nearly a third of its current level before the bank-pull clause even becomes a possibility. My second doesn't have that clause at all.
"I know that I'll still be on the hook for the debt even if the bank pulls the property"
Now there's an ugly thought... in the event of a large-scale decline in value, a given mortgage company could conceivably call the mortgage, sell the property in the fear that it would lose further value, and then come after the mortgagee for the difference, thereby protecting their interests.
The laws governing foreclosure due to nonpayment surely don't apply identically, in a situation where mortgagee has continually paid on time, with mortgagor "pulling the note" due to "underperformance" beyond the control of the mortgagee, do they?
Whatever... if you don't realize that there are as many markets as there are grocery stores there is no use. I'll pay taxes if that means I have a fatter wallet.
Invest your money where you can afford. Have it fixed at 30 if you are uncomfortable with an ARM; save your money. Wait for 3-10 years. Sell or borrow of the equity; buy up somewhere else...
If you wait for everyone to go bankrupt you may as well buy in Mojave. At least you can afford plenty of tinfoil with the money you save.
If there is a clearance sell I'll be sure to buy the houses with the money I'm making now. How about you?
This is a marvelous point, and one that I think Marx sought to exploit. It's very simple. Capitalism is amoral (this of course is one place where Rand erred). However, it requires self-government to really reach it's fullest potential. There are times when the capitalist ought consider the plight of others (as in "not gleaning all your fields.") It's much better for everyone if it's done voluntarily rather than enforced by regulation. The institutionalization of anything ruins it if there is no room for the heart.
No, Houston housing is cheap. No one moves to a place like Houston voluntarily. Coastal California real estate can become overheated and overpriced, as it is now, but the underlying demand will always be there. Barring a major aerospace resurgence, there is nothing in Houston likely to create demand, so those cheap houses are going to stay cheap. And even at their currently low prices, they have more potential downside than upside, and will likely lose value in the event of a real estate downturn.
~ cue Erik Estrada~
"Get your piece of California real estate...in California City!!!" ;)
"Barring a major aerospace resurgence, there is nothing in Houston likely to create demand, so those cheap houses are going to stay cheap"
Continued high oil prices will drive domestic exploration and production. Housing in Houston is "cheap" as you put it, due to not having fully recovered from the "oil bust" back in the late eighties.
And, to state that no one would voluntarily move to Houston smacks of a sort of flyover-country mentality. Sure, the summer's hot and humid, as well as long. How much of the rest of the country could be similarly described, including several putatively "hot" markets? Orlando springs to mind, for one.
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Historically that's not so. NYC RE is fueled by Wall Street bonuses at the high end. If they go away (as happens from time to time) so does the value at the high end, a change that will drive all prices downward.
Also, one day of fifty dead on the subways from a London type attack will drive businesses away.
No, it completely misses the point. machogirl, like a lot of Americans, has been tricked by mortgage industry propaganda and family folk wisdom into thinking she has to own a house, and therefore must go out and compete with all the speculators in her area. Instead, she needs to do what any good capitalist would do - play the other side of the trade. Rent, save her money, let the fools bid the prices up, and take advantage of them when the market gives way.
The market doesn't owe you a house at a price you can afford. But neither do you owe the market your money when the value for the dollar isn't there.
A capitalist is only the victim of a bubble if he or she chooses to be. There is always another way to play the game.
I've been saying it for years, The Economist has done quantitative analyses of it, but this is a lovely calculator that makes it simple to wrap your head around. In many areas, renting is a superior investment to buying in terms of net worth due to a very soft rental market and very tight buying market.
Even accounting for write-offs and appreciation, renting and investing the money saved is a superior investment strategy in many, many markets.
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