Bailout results in rising mortgage costs
It’s funny how things change. When I first moved to the (SF) Bay Area back in 2001, I briefly joined and spent time with the local Nortel user’s group (a group of other telecom professionals who all work on the same telecom equipment I do). During my time with them about 6 years ago (2002 or 2003) I was talking with one of the members who said that historically the housing market goes through a cycle and, on average, that cycle is every 5-7 years. He said that the previous re-adjustment had been in 2000 or 2001 (I forget now) and that the next would come in 2007 or thereabouts.
Since I had really not been wise with my money prior to moving to the Bay Area, I really could not afford to buy a house. I could have done one of those interest only loans, and depending on where in the Bay Area I had been willing to live, I could have maybe even put a percentage of the total mortgage down, but since I could not manage to put down 20% it almost seemed smarter at the time to either keep my money in the bank/stocks/etc and get a 100% financed home or continue to wait.
I’m a patient person by nature and at the time, I decided it would be better to wait for the next down turn in the real estate market and save money between now and then, rather than having a lot of debt. After all, we’d had Sept 11 in 2001, and things were still very shook up and uncertain.
Now, 5-6 years after listening to that advise, the real estate market has definitely “adjusted.” Time authored an article which Yahoo is currently hosting about the bank bailout side effects. According to the article, the mortgage interest rate has had it’s largest one-week hike in 21 years. The by product of this increased interest rate is that a $600,000 home would now cost a buyer an extra $500 per month. Since the terms for houses are fairly fixed (30 year terms being the average length to repay), that works out to be about $4300 per month in payments.
Unfortunately, I tried to arrive at the same numbers that the author did and I couldn’t. Based on a $600K mortgage and a 6.74 interest rate with a 30 year term, I came up with a $3887 monthly payment. So, using my numbers… a $3887 monthly payment would have gained you an additional $32000 on your loan (at half an interest point lower).
What do all of these numbers mean? It means that in order for someone to afford a $3887 per month house payment, the house price has to drop $32000 (based on my figures, it’s probably quite a bit more based on whatever figures the original authored used.) Which means that the rising interest rate is likely to drive housing costs down.
What’s more, if you don’t have “perfect credit” (and I don’t, it’s good-near-excellent, but not perfect) you’re going to probably end up paying an additional half a percentage point, which means a downward adjustment of an additional $32000 (based on my numbers) to the housing price. All of which means that this week, in order for people to sell houses to the same people they would have sold them to last week, they have to drop their house price $64K, or almost an 11% downward adjustment in housing prices for a single point increase in interest. (Possibly a much higher downward adjustment, depending on whatever numbers the original author used.)
Failure to adjust the asking price means that your pool of potential buyers shrinks.
The upshot of all of this is that when I was having this discussion almost 7 years ago now saying that last year there should be a re-adjustment in the housing market, I anticipated in a down turn based on the information at my disposal. I would have never anticipated this economic crisis or it’s cause-effect relationship with the housing market.
As a result, I’m anticipating for at least the next year that housing prices will continue to adjust downward (especially in the Bay Area). If a previously $600000 home comes down to the $400000, I just might seriously consider buying in. Even with another point increase in interest, if the houses drop $200000 in price, my estimate $3887 monthly payment drops to less than $2800. And that’s whith an interest rate of 7.74%. I honestly don’t think it’ll drop that much, but while we struggle through this economy, fewer and fewer people who can afford housing in this economy will be buying, which means more and more houses on the market, more forclosures, and more opportunities to drive that housing cost down further. So we might see a 20-25% decline in housing costs before things begin to stabilize. Even at $450K-480K, that house is much more affordable in a year than it is today.
Granted, it’s all pure speculation, but it’ll be interesting to see how close my nearly uninformed/uneducated estimate comes to reality in a year.
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I think your odds are pretty good. If the credit crunch eases, the interest rate might decline at the same time that house prices decline… which would work in your favor on both ends. I hope that you’re able to buy something nice when you’re ready.