Should You Buy A House Now?

For those trying to answer this question, you might take a peak at this short conversation with Gary Shilling and David Liniger of RE/Max.  Ever sensible, Mr. Shilling is calling for another 20% decline in prices, which might give you pause before entering this market.  Mr. Liniger, who makes his living selling homes, provides some reasonable counter-arguments.

There is little doubt, in my mind at least, that the fundamentals underpinning the owner sector of the market are, on balance, largely negative.  Consider that:

  1. Household incomes are not likely to increase substantially (in real terms) for the foreseeable future.
  2. Baby-boomers will continue to downsize, swap, or otherwise need to liquidate their housing assets as they retire.
  3. Interest rates will (eventually, almost certainly) rise, further reducing household buying power and the affordability of home ownership.

Against these trends, what advantage might you gain in the purchase of a (possible, probable) depreciating asset?  Well, our own Harry Dexter White posited one very useful point of view recently, “You’re not just buying a house, you’re investing in a mortgage.”  And that, my friends, may be one biggish issue to consider before getting scared out of the “apparent” losing proposition of home ownership.

Loosely translated, you might imagine that your “break-even” on any investment is geared to reflect the balance between the net cost and net benefit produced.  For housing, as Gary Shilling notes in the above interview, the primary benefit is that your house is “a place to live”; let’s call this the “utility value” of a home.  And – if you don’t already know it – you have to live somewhere.  If you don’t own and you don’t fancy yourself living “in a van down by the river”, then you’ll be renting.  So, let’s reconsider how you might compare these options. 

First, in present value terms, there is great sense to trying to find some measure of equivalency between net owner and net renter costs for any home you might consider.  In other words, don’t be lured by the unlikely prospect of leveraging yourself into the sort of fantastic (and unsustainable) appreciation that helped to blow the market up over the last decade.  In effect, don’t, don’t, don’t over-buy.  This is still a good time to live small, so start with your housing.

The Good News here is that deflating prices and (for the near term) continuing cheap money make it far easier to accomplish this goal.  While some markets remain “over-priced”, in terms of the utility value of local housing, many markets present ready opportunities to actually purchase as home with monthly outlays lower than would be incurred for an equivalent rental. 

Yes, it’s true that ownership comes with quite a few long-term obligations for maintenance, taxes, etc., all of which will tend to rise over time.  But, if we’re going to consider the longer-term implications, let’s at least recognize that your landlord will be incurring the same obligations and will, in aggregate, be passing these costs along to their tenants.  I call that a wash, really, although tenants retain the flexibility to move to cheaper digs as conditions warrant, so long as there is an ample supply of rental housing available.

And, on this point, consider these relevant trends:

  1. While the cost of new construction is down, somewhat, very little new rental housing stock is being built, largely due to the continuing credit problems in the market.
  2. While household formation rates are also down, the population is still growing.  More to the point, those babies born 18+ years ago haven’t gone away and they, too, need a place to live.
  3. While an excess supply of single-family (and/or condominium) housing was built over the past decade, new apartment construction was, correspondingly, neglected

On balance, it is increasingly clear that the market is on the verge of experiencing a significant shortage of rental housing.  Check your local market and I’ll bet you’ll find (or soon will) that apartment vacancy rates have been declining rapidly over the past six to twelve months.  (By the way, that’s generally what happens just before rents start going up.)

It’s true that some savvy investors have been buying up bargain-priced foreclosure properties and putting them into rental use.  To some extent, the conversion of owner housing to rental use has provided some additional supply.  But, truthfully, the credit crunch has limited the market’s ability to convert these units just as much as it has limited the development of new apartments.   

This problem, in fact, is so bad that in much of the country HUD has become the only lender available to finance new apartment construction and, “calling a spade ‘a spade'”, this ain’t gonna change the situation to any great extent.  Let’s face it, this country is on the verge of a very different sort of housing crisis.  A bit like going from the frying pan to the fire, we may well be facing a critical housing SHORTAGE within the very near term.

The most recent HUD data, for instance, indicates that new housing starts are presently occurring at an annualized rate of 565,000 units per year.  Considering that typical (minimum) household formation in the country amounts to a growth rate of roughly 1.0% to 1.5% of say the present 115,000,000 households, this would suggest nominal demand of 1.1 to 1.7 million housing units per year.  Do the math.

Within the local market, of course, your results may vary.  Migration – (“movement of the people”, as Bob Marley once sang) – tends to reflect the extreme (or marginal) forces in the economy, during both the good and the bad times.  In a nutshell, people go where the opportunities are, sometimes at a pretty rapid rate.  Add to that equation the growing influence of undocumented aliens being pressured at a greater rate in some parts of the country and you just might be surprised how fast your local population can grow – or shrink – in a down market.  By and large, you can expect people to be leaving markets with relatively high unemployment and moving to those areas where (they believe) more jobs might be found.  (Some of us like to call that “voting with your feet”.)

Finally, let’s consider inflation.  What?  You have to be kidding, right?  Well, OK, I know, most of the pundits you’ll hear on the boob-tube are telling you that inflation isn’t even remotely likely.  Of course, most of those folks don’t do their own grocery shopping and, it seems, are likely to believe whatever they’re told by the good folks in the US government.

Without descending into an unproductive rant on that subject, however, let’s just remember that excess money creation always (always, always) leads to inflation.  It might not be evident either immediately or in all sectors of the economy, but it is still the reason that you can’t buy a Hershey’s candy bar for a nickel anymore.   Yes, some sectors – mostly those dependent on debt – are, by all appearances, “deflating” right now.  Create an excess supply of single-family housing and depend on easily obtained financing to empower buyers to move all that product and, surprise, the bubble pops when you change the equation.  (We Austrians like to call this stuff “market forces”. )

Well, naturally, market forces are still at work.  At the moment, those forces are putting all available funds, it seems, into the US Treasury sector, a trend that will cease the moment the market realizes that yet another bubble has been formed.  Big deal, you say?  (And what’s this got to do with me buying a house, you say?)  The answer, in part, is found when we consider:  a) what happens when that particular bubble pops, and b) what happens, in the mean time,  to our (collective) ability to maintain control over our living expenses – for food, for housing, for whatever essentials.

In regards to “A”, let no one (especially those named Ben or Tim or Barrack) tell you differently:  interest rates will rise.  Why, you might ask, knowing that demand for money is so-deflatinarily-low?  Well, for one thing it isn’t really all that low. 

You’ve noticed, I would hope, that the Keynesians-in-charge have ensured us that the government, in our stead, will help to maintain the demand for debt, all in the name of propping up “aggregate demand”.  Thus, we find ourselves increasingly at the mercy of those willing to lend that money to our not-so-reliable political class, rather than their erstwhile bosses (us) who have, rather more prudently, decided that a little less debt might be a good idea.  And, those lenders, somewhere in the not-too-distant future, will realize the error of their judgment, rather like they did with Greece not so long ago, but more on that in a moment.

In this context, the savings of the nation – the most sustainable, domestic, source of funds available for borrowing – has been increasing.  The US savings rate has climbed from levels near (and below) 0% to nearer to 6% of disposable household income.  That’s an amount near some $600 billion per year at the moment.  The federal government, we should recall, is churning through something more than double that amount in this year’s deficit.  How’s that for a bit of context. 

In the mean time, we might expect interest rates to remain low, especially for mortgage rates as we can expect the Feds continue to try to prop up the failing housing sector.  But, as with Greece, a day of reckoning is on the horizon.  While it might not lead to a tripling of rates over the course of a week, we can certainly expect a bump, even a considerable one.  And, while this will almost certainly push home values even lower (in response to the higher cost of money), it will also make the cost of building new housing more expensive. 

But that’s just part of the story.  It will, in fact, make everything more expensive.  And, I mean everything.  Most of us just don’t realize how much influence loose monetary policy and fiscal profligacy has on our real cost of living…but, I digress.  Eventually, these taxes on the system both limit our real earnings and, equally important, raise the cost of doing business.  And, these days, we’re looking at something of a “perfect storm” as the combined influences of deferred, subsidized, public sector debt, over-regulation, and the misallocation of critical resources come home to roost. 

The tipping point we can expect, as it was for Greece, is the market’s sudden realization that a) the size of the debt, b) the short-term, revolving maturity of the debt, c) the inability of the economy to absorb – or grow faster – than the need for more debt, and d) the clear absence of the political will to negate these factors.   It’s a bit frightening to contemplate, but that “sudden realization” could just as easily happen tomorrow as next year or in five years.  Doesn’t matter really, when we’re balancing our consideration of a 30-year mortgage.  All I can say, (again, hat-tip to HDW) is that 4% money is almost “as good as gold” in that kind of environment.

It’s true, you might reasonably worry about your ability to serve that debt.  Balance that with the worry that, in two years (or five), you may have even more difficulty paying rents that 50% higher than you can find today.  You might also worry that you won’t be able to sell that house if you have to move to take that once-in-a-lifetime chicken plucking job in Texas.   OK, fine, keep your van – you know, “just in case”. 

But, in the meantime, you might just consider how you’ll manage to control your living expenses in an inflationary (or hyper-inflationary) environment.  In the context of the longer-term, this current nexus between deflating housing prices and government subsidized mortgages may well prove to be the last best chance to lock in your housing expense.

Harry Tuttle   

P.S.  Food for thought ~   A recent guest post on Zero Hedge noted the following:

“But hyperinflation is not an extension or amplification of inflation. Inflation and hyperinflation are two very distinct animals. They look the same—because in both cases, the currency loses its purchasing power—but they are not the same.  Inflation is when the economy overheats: It’s when an economy’s consumables (labor and commodities) are so in-demand because of economic growth, coupled with an expansionist credit environment, that the consumables rise in price. This forces all goods and services to rise in price as well, so that producers can keep up with costs. It is essentially a demand-driven phenomena.  Hyperinflation is the loss of faith in the currency. Prices rise in a hyperinflationary environment just like in an inflationary environment, but they rise not because people want more money for their labor or for commodities, but because people are trying to get out of the currency. It’s not that they want more money—they want less of the currency: So they will pay anything for a good which is not the currency.”

P.S.S.  More pertinent commentary on the US Treasury Bubble


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