Discussion in 'Economics' started by illiquid, Nov 29, 2003.
I don't know much about real estate, but it sure sounds like home buyers are getting suckered by low mortgage rates. They don't realize that as mortgage rates rise, demand for real estate and the value of their homes will drop. :eek:
Real Estate is very cyclical it seems. I bought my first home in the Reagan years because rates dropped and then I saw my value climb by 50% in 3 years and then fall to zero basically because my area lost all it's defense sector jobs when peace broke out. I had 9 vacant, abandoned houses on my block of 14, did not invest in any of them, mainly because of focus on stock market. Right now I'm up 30% on the primary residence. Pretty rough ride but I never considered it an investment, just a place to live in a quiet area.
If I were retired and I saw loan rates falling I would get an RE license and sell the stuff right up to the end of the boom and then I would go back to retirement, otherwise I hate being an owner of anything but primary residence. I had a rental which I could not afford to repair and had to sell it near the bottom of the last RE cycle, took a profit but not much. It was in a high end neighborhood and it doubled in the 5 years since I got out of the deal. I could not sleep well being undercapitalized for the deal, couldn't afford the repairs let alone a good attorney when problems came up. I would never enter that business again without substantial capital.
The happiest guy I ever knew that was in that business was an RE attorney, plenty of capital and good, cheap legal representation.
It is symbiotic and once it starts it ids a vicious cycle.
With lower rents first time buyers are not so motivated to buy.
At some point weaker developers attempt to rent, or their lender forces them to rent, and they are adding to the available rental pool.
When this sort of housing hits the market it puts pressure on the rent levels in the older units and they drop even further.
I have been studying real estate and the claim is that rents and interest rates are the big factors. Because rates were low people could buy- driving residences up and leaving rentals empty.
Apparently the rental occupancy rate is an indicator for some investors.
I need to learn more becasue I want to get some income properties-- I just moved to the Sarasota Fla area. Of course I am also concerned about Interest rates going up and the price of homes falling. I do not know what the effect will be on rental properties but it probably wont be good if intersest rates rise?
In my favor I was a lawyer in California and I recently passed my real estate license exam here in Sarasota. So I should have a bit of an edge in the rental property arena. Plus I have some cash that I pulled out of my San Diego house. The down side is I am not making much trading anymore.
You might want to check this book out. http://www.realestatetiming.com/freepreview/intro.html
It's a very easy read, and outlines an objective method of real estate investing. The author is a second generation investor/ developer who outlines his good times, and the other times he unfortunately brought the pain home.
IMHO, real estate is a very long term investment. Since that is so, a good entry point can make or break the ownership experience. Buying at or near a cycle top can mean very long term financial pain, excessive negative cash flow, and high property taxes.
My opinion of this market is we are close to a cycle top. Of course bubbles are hard to see when you are right in the middle of one, much easier to say later "that point was exactly the top". Easy Al has been pouring money into this economy so consumers can re-fi and pull cash out of their inflated homes in order to prop up the economy. This will all change at the first sign of business spending pickup and the door will slam on residential real estate for many years.
I believe the smart money would be net sellers of real estate right now, selling into eager buyers with easy money. Re-entry later when max pain and blood in the streets in a few years.
I doubt if the "smart money" is selling their rental real estate right now. For instance, I've owned rental real estate for many years. I have large profits. If I sell I am going to pay something like 30+% in capital gains tax (Federal and State), along with depreciation recapture. Then I'm going to pay let's say another 10% in selling costs.
In other words, if I have a low cost basis my cost to sell is going to a large number....meaning that if I'm selling I have to sell with the expectation that the ensuing decline is going to be huge.
I'm not willing to bet that the next decline, whenever it starts, will decline let's say 30% from peak to trough. Meanwhile, while I'm waiting to see if we decline that far, I lose the very nice rate of return from rental income AND equity buildup from loan pay down.
This assumes of course that the "peak" is at this time as you suggest. Let me remind you that people have been calling the peak to the real estate market now for quite some time. If you're off a year, and the prices rise an additional 5-10% for instance, then the ensuing decline would have to be even bigger to make a sale today worthwhile.
Many people make the mistake of trying to compare real estate with the stock market. If we're talking about houses, they are not very comparable. The reason is that most people live in houses, they don't "trade" houses. Big difference.
Finally, while this is no prediction, I would point out that a decline in the dollar and large governmental spending could potentially signal a large jump in inflation coming somewhere down the road. So that decline that you think you see may well be a figment of your imagination.
IMO you should only voluntarily sell real estate if you see a truly major secular bear market ahead e.g. if you owned Texas real estate in the early 80s, or a place where the major employer in town is going to move out, or you are 99% sure that rates will double.
The huge costs of exiting then re-entering real estate mean that if you are wrong, you lose a fortune. That means that you need to be making an even bigger saving if you are right - and that is hard to do.
A 20% fall is not enough - you would at best time it to save 15% from peak to bottom, and you would pay most if not more than that in taxes, transactions costs, and the cost & time of acquiring a new property. More likely, you sell way too soon and sit on cash while prices soar, or you predict the fall but then don't get back in.
Remember time is money. Also remember tieing up money has a cost, even if you do not borrow it. Real Returns should be calculated correctly.
Also single family homes are not good "for rent" investments... unless you want to play landlord. There is not enough money in it.
Apartment bldgs and Office bldgs represent some good real estate opportunities and maybe.... I say maybe some triplexes could represent some good real estate opportunities.
Now....I am sure there are some of you single family house renters out there that have great tenants.....but I am telling you that the majority of the time it does not "pencil out".
There is no doubt market tops and bottoms are impossible to call and that markets can extend themselves in both directions much further than anyone can imagine.
Although I too own some residential rental property (since 1984 two single family homes, and help manage several more through a trust) and I also have no personal plans to sell, some groups are selling right now. I could bore you with details of my dentist's limited partnership that is selling a large apt complex that has doubled in value and a couple of others, etc, but you get the idea. Tax ramifications aside, I was trying to convey an exit point was a better idea than an entry point.
I have been closely linked to high beta S. Ca real estate for almost 30 years and have seen the giddy expansions and contractions that are ruinous. In the several severe downturns each time people were in complete denial, thinking this time things were different and that the market could only be headed back up shortly. Each time nervous investors would talk about how how California was a growth state, how land was scarce, how housing was in short supply, how families needed a place to live, etc. It didn't stop the market from taking two steps forward, and then one step back for as long as time itself.
One of my subjective indicators I see again repeating itself (I have several) like in the final days of the last real estate boom is the access of easy money. No qualifying loans, 103% and 110% purchase money loans, and equity sharing partnerships. Just in time to get all the marginal players aboard the train for a shakeout one way trip. While there is no doubt the masses can be right for a period of time, in the long run many of these weak hands are shaken out. And I do believe there is a "significant" element of real estate newbies that are flocking to home ownership recently because of stock market uncertainty. Interviews I have seen with these buyers indicate to me they view real estate as a "sure thing". Casino atmospheres in real estate or stock markets are a danger sign.
My point was that I don't feel todayâs extended multi year high real estate market makes now a good entry point for investors. In every instance for decades, generations even, the best entry points for real estate has been when things just start to stabilize after a painful pullback. This is why I suggested the book I linked in the above post as a way to objectively see pivot points those individuals would have a more subjective response to while in the thick of mass thinking.
I think a much better entry point is in the future. There is no doubt Greenspan is flooding the market with easy money to inflate real estate and encourage people to tap and spend this money to prop things up. He will have no choice one of these days to pull the punchbowl away and still another real estate cycle will be complete along with a new group of bagholders. I have no idea if this will be in 6 months or 2 years, but it will happen. People will then wonder how the rug got pulled out from them again, banks will be flush with REO's, marginal builders bankrupt, and real estate agents will go back to their Starbucks jobs, etc.
At some point the parade will reach its end, everyone will spend some time licking their wounds, and eventually the world will get back up and start moving again. Eventually. I think.
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