Housing - A Time to Buy?

Morningstar, a well known financial and investing website, has an article which might be of interest. At present, it does not require a log-in or subscription to access. The article is by Dr. David Kelly, chief market strategist and  David M. Levowitz, market analyst, both for JP Morgan Funds. This is a link to the original article, but I'd suggest you read this post first:

 Click for Morningstar- Housing- A Time to Buy?

The article subtitle is: "Home prices look downright cheap, not only from the perspective of mortgage rates and income, but also relative to the cost of renting or the cost of constructing a new home."

The article includes a few metrics I've found to be useful over the years. There are a number of charts in the article, and they are all somewhat interesting, in my opinion. It is important to remember the "all real estate is local." That means that to make generalities from articles such as the one at Morningstar, or to accept general statements, whether made by me here, or by a Realtor, may be asking for trouble. It's easy to quote out of context and to pick and choose information. Such an approach is considered to be intellectually dishonest. So, as a caveat, I suggest the reader who is interested, go to the Morningstar website and read the entire article, or do further research on their own, and then draw their own conclusion.

I do think generalities are somewhat useful. But I would never purchase anything because of generalities. For example, to say that "Long term, stocks are a good investment" is a truism and can be substantiated. However, I'd never purchase a stock in any company, or even a mutual fund, based solely on that statement. Why? Because it can also be stated that we have experienced "a lost decade in stocks." My point is, converting generalities to specifics may involve stretching the facts, misinterpretation, or being untruthful.

With that said, here are a few comments on the information contained in the article.

The authors state "Although the U.S. housing market remains extremely depressed, we believe that given current valuations and demographic dynamics, now may be the time to consider an investment in housing." They then go on to say "Few financial manias in history have had as devastating an economic impact as the American real estate bubble of the 2000s. From soaring boom to dismal and continuing bust, it has shipwrecked the financial plans of millions of American families, led to an absolute collapse in the construction industry and, through the magic of modern financial leverage, led to the biggest global recession since World War II."

It was too much of a good thing? Well, it does seem to have been a binge. Is the hangover now subsiding? I think there is some daylight. Nationally, revolving debt which was mostly credit card debt, peaked at over $22,000 per household. Recently it was reported to have dropped below $18,000. So it seems some households are slowly getting their financial 'house in order.' The dark side of this statistic comes with the realization that these are averages, and there is a possibility that for every household which is living with no revolving debt, there may be another with $36,000 in credit card and other revolving debt. Ouch! I do know that's a simplification of the statistics, but it is sobering. With the tightening of home mortgage standards, many households today cannot be qualified for a home mortgage, and with good reason.

However, there are also many households which do qualify. Mortgages are available, but will again require some financial wherewithal to qualify. Saving for a down payment is not repression. It's an opportunity to demonstrate that the homeowner has sufficient financial discipline and the income to pay for ownership, which is a long term commitment.  Signing that mortgage is a promise to repay a debt. Or it was, until recently. Today, for the millions who most likely would qualify for a home mortgage, the question remains, is this an opportune time for a home or condo purchase? This post is one of a series which attempts to provide the reader with some insights into that question, and sources of possible answers.


Why do the authors state "A Time to Buy?" 
Are the authors optimistic at this time? The authors look at several metrics, including these three; the first is affordability as a measure of the price of the housing compared to annual income. The lower, the more affordable. Second is percent annual income spent on housing, and again, the lower the more affordable. Third, monthly rent versus monthly mortgage payments, when comparing comparable properties. There are other metrics and they are included in the article, but I think these three are the most important.

According to the authors, since 1966, the median price of an existing single-family home in the U.S. has varied between 150% and 251% of personal income per household. However, roughly three-quarters of the time it has been in a relatively narrow band between 185% and 230%. In September 2011, the ratio was just 153%.

Of Specific Interest in the Article
One item of interest is "Chart A," which is a graph of average, per-household personal income and home prices over the period 1966 to the present. Comparing adjusted, average personal income to the price of housing gives a good indicator of the "affordability" of housing. That graph shows two housing bubbles. One occurred in the late 1970s and the other began in 2000 and peaked in 2006-7. I recall the exuberance of the early 1980s in DuPage country as depicted in the chart. That's when housing in south Wheaton and Naperville "took off." At the time of the bust, about 1984, there were partially completed houses sitting empty and fallow. That downturn was not nearly as nasty as the current one because it wasn't nearly as pronounced, housing was not overbuilt, as it is today, and households had no where near the current debt. The chart indicates that from about 1989-2001 was a good time to buy, with prices stable relative to income. The lowest period since 1989 was 2000-2001 which appears to have been an ideal time to buy. After 2001 housing prices soared, becoming less and less affordable until the "bubble burst" in 2008.

In 2001 a home was priced at about double the average annual personal income, or 190%. By 2006 it was about 250%. Today is the lowest on the chart, at about 153%. In other words, housing on a dollar basis, is implied to be a good investment today; the best since the chart began in 1966. This is based on median existing home prices.

"Chart B" indicates the mortgage paid as a percent of personal family income. That too, indicates that it is the lowest since the chart begins, in 1966. At 6.9% that is lower than the average 14.4% according to the authors. This can be attributed to the Federal Reserve policies and those of our government. For anyone who has accumulated some wealth, be it in certain annuities, in money market funds and CDs, etc. it is a conscious decision on the part of the government to slowly throttle your returns, and for retirees who live beyond certain social security and other pensions, this directly reduces your income and lifestyle.

Savers are being penalized by the government in an attempt to stimulate the economy and that include stimulate housing and the construction industry. That's the way the cookie crumbles, and if you, the reader don't like this, complain to your Congressman or woman, Senators and President Obama.

"Chart C" indicates another measure of affordability, and that is the cost to buy versus the cost to rent. Since 1988, the beginning of the chart, these two measures usually tracked. However, according to the chart, in 2008-9, the price of a monthly mortgage dropped substantially, thanks to the government policies, and today it is less costly to buy the median house than to rent that same house. The chart indicates rent is $694 per month and purchase is $590 per month. The difference, or $1248 per year, may not be sufficient to offset the real estate taxes. On the other hand, rent is money spent. A mortgage payment is money invested. There is a difference.

There are several other charts, but I found "Chart I" to be particularly interesting.

"Chart I" pertains to the percentage of mortgages which are greater than 90 days delinquent. This is of personal interest, because it's important to understand how a relatively few individuals caused this financial crisis.  Currently, about 3.6% of all mortgages fall into this category. The chart peaked at about 5% in 2010. What does this mean for you and I, who I assume are current in our mortgages, and don't fall into this category? Well, I draw several conclusions. 1) Greater than 96% of all mortgages are current, or only slightly past due. 2) Since 1990, "home ownership" increased about 5% due to aggressive government policies. That is coincidentally about equal to the percentage of foreclosures in the US. 3) Of all homes in the US, about 32% are owned outright. That means that about 68% have mortgages, and that means that about 2.4% of the total homes in the US are distressed.

I suggest you read the article, and draw your own informed conclusions.

A Personal Perspective
The current 153% average, per-household personal income ratio to home prices is a very low value for this measurement. I personally used that measurement as a past indicator of an opportune time to purchase, and it is one of the reasons I did make my most recent decision to buy in 2001. At that time, the prices were about 180% and had dropped slightly to below the general prices for the previous 15 years, as compared to income. In hindsight, it was an ideal time to buy. Not because it was the lowest possible, but because it provided me with an opportunity to buy at a time which was very affordable. That, of course is very important. It is also why the authors make the statements they do. Will housing be less costly in the future? Who knows. However, the other two indicators, which are related to interest rates and to the price of rentals, also support the author's conclusions.

In the end, one has to live somewhere and there are advantages to owning as opposed to renting. Some advantages are lifestyle choices and others are financial. Both are important when making such a decision. Financially, the authors apparently think this is a historically good time to purchase housing. I do know there are others who think that housing prices will continue to decrease; in other words, they would say "it will be a better time tomorrow." However, will interest rates continue at this low rate? Already, inflation has increased. Will the Federal Reserve continue current policies? Can they continue current policies? They have pledged to keep rates low until mid 2013, but economic reality may interfere. Interest rates, and inflation have been below the long term historical averages; it is implied that this window of opportunity will close.

At present, it seems some potential buyers are having a problem because of tighter lending standards. It also seems true that there are also potential buyers who are sitting on the sidelines, waiting for even better prices. It's the old "wait for the lowest price to buy" and that dictum applies to real estate as well as to stocks. Of course, the problem is, one never knows the future, and to draw a comparison, in the relatively fast paced world of stocks, many financial advisers caution against attempts at market timing. In housing, even the experts, and that includes the National Association of Realtors, have been somewhat inaccurate with recent predictions. We all remember the rosy "this is the bottom" projections that the NAR has published in recent years.

I won't argue with the market timers, because I really don't know if this is the bottom of the housing market, which means the lowest possible prices, or not. Neither do they. However, pricing on websites such as Zillow.com seems to indicate that we have "bottomed out." Of course, we're attempting to talk rationally to buyers and sellers. That didn't work in 2003-2006 when the euphoria was "prices will just keep going up" and home purchasing became a bidding war. Today the opposite is true, and now it's "prices will just keep falling." I realize we're dealing with human nature here, and some of these are the same people who sometimes purchase lottery tickets, fully expecting to win, when the odds are such that it's much more likely that they today will die in an automobile accident (assuming they get into a car) or die of food poisoning, or even be struck by a bolt of lightening, than win the lottery. So you see the problem, and you now understand why I avoid certain arguments.

I do see some good in the current situation. From 2003 to 2006 there were an awful lot of people who purchased because of the prevailing attitude "you've just got to own a home." That was, and is, nonsense. For a time, too many people fell for the rhetoric, and many apparently weren't financially or emotionally ready to be owners, but piled into the housing market, anyway. Today, there is just a bit more sanity. Not 100%, as the promotions I get for "5/1 ARMs" seems to hint. I mean, after all the wealth destruction caused by the recent housing meltdown and defaults, you would think the government would be a bit more cautious, but some of the dim bulbs in Congress have been pressing Edward DeMarco, the acting director of the Federal Housing Finance Agency, to loosen up lending standards. The FHFA regulates Fannie Mae and Freddie Mac, which it is expected will require about $250 billion in total to cover failed mortgages; only one-quarter of a $Trillion. I guess that simply isn't enough failed mortgages, so our representatives want more. I don't know if Congress and the Obama Administration will succeed in their aims. Recent history indicates that standards will remain tight for new borrowers, and government financial firepower will be directed at existing mortgages which are in trouble. So new buyers may be on their own.

If you believe housing is awful, then don't buy; you can rent forever, and your landlord can pocket the profits. In south Wheaton, rents this year are up about 9.5%. However, if you consider housing a useful alternative to renting and a prudent means to assist you in building long-term wealth, then this may a good time to consider such a purchase.  It is also true that about 30% of home sales in the US are from "bottom fishers" who are buying distressed properties. Some of these new "home owners" will either be happy with their lowball purchases, or will be a new wave of slum landlords. Which is true? Time will tell!

Enough for Generalities, here's a 'real world' example
I'm glad I purchased in 2001, and that probably colors my perspective. But facts are facts, and as I have stated in previous posts, housing ownership is a long term purchase, and that's how I've approached it, each time I have purchased. It should be compared to the price of equivalent rental, and also to the possible advantages. My spouse did not like renting. We had some interesting experiences, including an owner who didn't like to spend money on snow plowing. So we and our neighbors had to shovel out the apartment parking lot several times, so we could drive to work. We discovered he and his spouse would 'disappear' for a few weeks each winter; apparently they were in Florida. From time to time, if a renter had a problem, we were on our own. I have learned that finding a good landlord can be as difficult as finding a good tenant. At the time, we deliberately went with a "less desirable" rental, and had been saving the difference between renting and owning, with intention that if we decided to again purchase a home, or decided to go "upscale" and rent a much better apartment or home, we would have the funds to do that. It was a good idea, as it provided an opportunity when the time came.

When we did decide to consider a home or condo purchase, we weren't 100% enthusiastic. We understood the financial consequences, and some of the risks. Here at BLMH, after reading all of the governing documents, and the financials, we had some real doubts. On the other hand, just about everything we looked at was a trade-off. So we categorized the risks and established some priorities. That made it easier to make a rational decision which we could live with.

My spouse DID NOT like our unit when we first saw it. The problem was the kitchen. I told her "I can fix this" and I made the promise and the commitment to do so, and I did just that. Now, 10 years later, after a "lost decade" in stocks, she is quite satisfied with the financial and lifestyle outcome. She has come to really like South Wheaton, and the proximity to stores and shopping, both here and at Yorktown and Oak Brook Malls.

True, we could have invested that money into stocks, or into bonds, or our local bank, and continued renting and dealing with landlords. But that rent would have been gone. How much rent? Probably about $144,000 as of last year. For comparison, my condo is worth about what I paid for it when I purchased it, and possibly more. I'm not unique. Many home or condo purchases prior to 2003 are today worth a dollar amount equal to that paid, not accounting for inflation.

If I compare the cost of purchase plus fees plus real estate taxes to rent, it indicates I've saved about $8,300 on the average, each year, as opposed to renting. That's not a huge amount, but if it were possible to put it in the bank each year, it would amount to $83,000. That's a nice chunk of change. It also seems that even in this "distressed market" it's likely I'll get back 100% of what I paid for the unit, when I sell (or if, and I expect at some time in the future I will sell). So was this a "bad" investment? I don't think so.

According to the data in the article, the financial situation is even better today than it was in 2001. So today's potential home buyer is in an even better situation than I was 10 years ago.

Will this be so in the future? Who knows. But I do agree with the authors of the article at Morningstar, that this is a good time to look at the possibilities of ownership.