For readers of this blog, the editorial that follows will not cover new ground. For the wider readership in California, what follows is pure sacrilege.
Why do we continue to think that rising home prices are a good thing?
By Michael Kinsley -- February 15, 2011
If President Obama could ask for one gift from the economy — one statistic that turns unexpectedly rosy — what would it be? If Americans in general could choose one change in their financial situation, what would they choose?
I suppose Obama would choose a decline in the unemployment rate. But a close second for Obama, and quite possibly first on the list of other Americans, would be a rebound in house prices. Although we all recognize now that real estate was a classic bubble, bubbles are wonderful fun. It's the burst that hurts. In the good old days — before 2007 — following the prices for which houses in your neighborhood were selling and then recalculating your own net worth was a national sport. Even the experts who correctly predicted a price decline or collapse generally delivered that prediction as bad news.
The first eighteen months of writing for this blog, I needed to do it anonymously for fear of repercussion for delivering my good news that house prices were going to go down.
The assumption is that ever-rising house prices are good, and that a decline in house prices is bad. Ordinarily we cheer when the price of an essential (product goes down, and complain when it goes up. Take oil, for example. We like it when the price of gasoline goes down and are unhappy when it goes up. But with homeownership, it's the other way around.
I wouldn't attempt to argue that the current mess of the real estate market — the irresponsible lending, the home loans underwater, the brutal foreclosures, the ramification for the economy in general — add up to a good thing. But before we start dreaming of a return to the days when ever-rising real estate prices were considered a constitutional right, let's think this through a bit. Why do we want home prices to go up?
I remember when I first started writing for the blog, some of the bulls accused me of talking down the market so i could profit from its demise. When I replied that I wanted prices to go down and stay down because it's better to spend less on housing, people responded to me as if I were insane.
The simple fact is people want higher house prices because they want the financial gain of owning an appreciating asset. Nothing more.
In very general terms (with plenty of exceptions and variations) the housing market affects three different groups. There are those trying to break in — generally young people searching for their first home. There are those in the middle, who want to trade up from a smaller house to a bigger one. And there are longtime homeowners, "empty nesters" who are approaching or already enjoying retirement and want to downsize or get out of the market completely.
How are each of these groups affected by rising house prices? The first group surely doesn't benefit. During the big housing bubble, stories about young couples watching helplessly as the American dream of homeownership passed out of their reach were a newspaper staple. As prices come down, more people can afford to buy a house. That's a good thing, isn't it?
I used to be surprised at how affordable housing advocates went silent when house prices started to go down. They should have been cheering, but I wonder if the loss of their cause or their livelihood prompted them to think high house prices aren't so bad after all. It does create a need for affordable housing advocates.
Then there are the people who want to trade one house for another. Mostly they are hoping to trade up — to a larger house for an expanding family, or a nicer neighborhood. These people are in the same situation as the first-time buyers. Obviously all house prices don't go up and down in unison. They are affected by neighborhood, by region of the country, and by changing fashions and tastes in home design. But on average the house you want to buy should have gone up or down in price by something like the same percentage as the house you want to sell. And if you're trading up, that means rising prices should hurt you just as they hurt the first-time home buyer.
The move up market is an illusion. Unless a homeowner gets a raise, saves prodigiously, or obtains a non-real estate windfall, there isn't any opportunity to move up. Gaining $100,000 in appreciation doesn't get a homeowner any closer to buying the move-up house that also went up $100,000 or more in value.
The only people who clearly benefit from rising home prices are those who are selling their last house or downsizing. This is the same group that benefited most from the previous run-up in prices — that is, typically, older people who have lived in the same house for years. Most of these people enjoyed the enormous past run-up in prices. In 1970, the median price of a house was $25,000. In 2006, at the top of the bubble, it was about $240,000. Even adjusted for inflation, that means home prices more than doubled during the period.
These homeowners are mostly not underwater. That is, the value of their houses is more than the remaining balance on their mortgages. In fact, they could still sell their houses at a profit even in the current market.
I don't think Mr. Kinsley realizes how many of these long-term homeowners spent their houses.
Whatever figure you may have stored in your head about the "value" of your house (removing this figure to polish and admire it when home prices are rising; leaving it to gather dust in some dresser drawer of your unconscious when they aren't), a house is worth only what someone will pay for it. That number has two components: one is the value of occupancy — that is, the privilege of living in the house, mowing the lawn, calling the plumber and so on. This should roughly equal what the house would rent for. The other component is the investment value — how much you think the price of the house will go up when you sell it.
Do you think he reads IHB? Rental parity was not a concept people wrote or talked about much prior to the housing bubble. He probably reads Dean Baker, an economist who writes frequently about rental parity and called the housing bubble.
Any investment value greater than zero (or zero plus inflation) is suspicious because it depends on the greater-fool theory.
Yes, that is a Ponzi scheme.
There is no physical reason why a house should become more valuable at all. It is not growing like a crop. It is not producing anything that you can turn around and sell, like a factory. It just sits there.
One of the many reasons our economy is suffering right now is because we diverted resources to housing that gained us nothing. If we had overbuilt factories, at least we could get some productive use from the factory. Houses are pure consumption. They produce nothing once built, except perhaps for the need for more stuff for the house.
It becomes more valuable because people believe that it will become more valuable. Worse, since the general assumption that it will become more valuable is already reflected in the price you paid, you need a buyer who believes that it will become more valuable even faster than the general consensus.
The larger issue in all this is the wisdom of encouraging homeownership — even if you don't get carried away with it as we did in 2007 to 2009, practically forcing mortgages on people at gunpoint. About two-thirds of Americans do live in homes that they own (along with the bank). There is no way all of them could cash out and collect that number in their heads — how much is their house worth? — even now that it's 30% or 40% lower than it was before. And it's hard to see why people should want that number to resume its relentless rise back up and beyond.
The fact that people are underwater is exactly why so many need and want house prices to go up.
Housing has been identifies by an entire generation as a fountain of free money. Many people in California are going to consume hundreds of thousands of dollars more than they earned due to owning HELOC producing California real estate. It is so embedded in our culture that only a multi-decade housing recession would purge the kool aid. That won't happen as long as the kool aid intoxicated have anything to say about the matter.
A little too much Ponzi
The owner of today's featured property paid $207,500 back on 5/30/1990 near the peak of the previous housing bubble. He held on through the previous decline, and he only had a $158,400 first mortgage on 5/20/1999.
On 4/18/2003 he refinanced with a $276,000 first mortgage he is now delinquent on. On 2/25/2004 he borrows $120,000 from someone with the same surname. The shortfall on the delinquency on the first mortgage will come out of proceeds available to pay the second; therefore, this is a short sale.
Foreclosure Record Recording Date: 10/08/2010 Document Type: Notice of Sale
Foreclosure Record Recording Date: 07/07/2010 Document Type: Notice of Default
If this is a relative holding the second mortgage, the short sale process is as easy or as complicated as that mortgage holder makes it. They should be motivated to settle. The servicer on the first mortgage in default is adding about 1.5% to principal balance each month which eats into the second mortgage recovery.
Home Purchase Price … $207,500 Home Purchase Date .... 5/30/1990
Net Gain (Loss) .......... $121,500 Percent Change .......... 58.6% Annual Appreciation … 2.5%
Cost of Ownership ------------------------------------------------- $350,000 .......... Asking Price $12,250 .......... 3.5% Down FHA Financing 5.02% ............... Mortgage Interest Rate $337,750 .......... 30-Year Mortgage $72,636 .......... Income Requirement
$1,817 .......... Monthly Mortgage Payment
$303 .......... Property Tax $0 .......... Special Taxes and Levies (Mello Roos) $58 .......... Homeowners Insurance $140 .......... Homeowners Association Fees ============================================ $2,319 .......... Monthly Cash Outlays
-$300 .......... Tax Savings (% of Interest and Property Tax) -$404 .......... Equity Hidden in Payment $24 .......... Lost Income to Down Payment (net of taxes) $44 .......... Maintenance and Replacement Reserves ============================================ $1,682 .......... Monthly Cost of Ownership
Cash Acquisition Demands ------------------------------------------------------------------------------ $3,500 .......... Furnishing and Move In @1% $3,500 .......... Closing Costs @1% $3,378 ............ Interest Points @1% of Loan $12,250 .......... Down Payment ============================================ $22,628 .......... Total Cash Costs $25,700 ............ Emergency Cash Reserves ============================================ $48,328 .......... Total Savings Needed
Property Details for 14 CARTIER AISLE Irvine, CA 92620 ------------------------------------------------------------------------------ Beds: 3 Baths: 2 Sq. Ft.: 1424 $246/SF Lot Size: - Property Type: Residential, Condominium Style: One Level, Mediterranean Year Built: 1989 Community: Northwood County: Orange MLS#: P769891 Source: SoCalMLS Status: ActiveThis listing is for sale and the sellers are accepting offers. On Redfin: 1 day ------------------------------------------------------------------------------
The Lowest price in Northwood Villa community! No Mello Roos! Conviniently located near Trabuco Grove shopping center, Heritage Library, and Heritage Park. Private small backyard with wood deck. Direct 1 car garage plus extra 1 deattached cover car garage that can be used as storage. Located in award winning Irvine Unified School District. Great location and investment potential.
Conviniently? deattached?
Thank you for reading the Irvine Housing Blog.
Astutely observing the housing market and combating California Kool-Aid since 2006.
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