patrick.net

Anselm says

It seems that if your are financing a home that it is better to purchase a home now at an inflated price given the low interest rates than it is to wait for a further price drop

Very good point. Doing the math and figuring out what's best for oneself is really the only way to go here.

Future direction of interest rates is going to be up (where else can it go after it is already zero-bound) but the timing is very uncertain. At least until 2013 we know that the Fed will keep the ZIRP going.

Anselm says

Anybody thing that housing prices will not drop further at the low end of the market?

More than likely they won't. Because savvy investors will keep picking up these properties and convert them to cash-flow rentals.

Thanks for the response. What you say makes sense. I always here people say that housing will drop once interest rates go up but I never really heard anyone address total interest paid given specific assumptions.

Anselm says

I always here people say that housing will drop once interest rates go up but I never really heard anyone address total interest paid given specific assumptions.

It all depends on which segment of market you're looking at (low/mid/hi tier) and also the local RE market conditions itself.

If you cannot go all cash and have to take financing (arguably less risky also since you can do better things with cash other than just going all-in into Real Estate), then total interest paid needs to be taken into account.

Anselm says

Anybody think interest rates will remain low 3 years from now?

It will be the norm for a decade!

Anybody think interest rates will remain low 3 years from now?

St Louis Fed says rates can go negative:

http://research.stlouisfed.org/fred2/graph/?g=2lW

They're trying to tell us something : )

Well, actually that graph is saying the higher the debt load the lower the rates go.

This economy can't service a $60T debt load at 5%, that's $3T/yr in interest alone.

We've got medicare exploding as the baby boom hits their 60s, we've got a horrificly bloated "defense" establishment that could use 50% cuts, competition with Chindia for the world's oil is going to increase.

We're fucked.

http://research.stlouisfed.org/fred2/series/DGS10

You can't get massive inflation without money going to the masses.

The Republicans have positioned themselves against this, they might do a stealth pivot and go for another round of free money for everyone when they take over next year, but that would be somewhat surprising.

Anselm says

I always here people say that housing will drop once interest rates go up

ceteris paribus, higher rates mean lower prices.

but we won't get higher rates until wage inflation takes hold.

And it's unclear if & when that will happen.

Chinese factor workers make $1 or so an hour. The Republicans are at war against higher wages for workers in general.

I just don't see any upward wage pressures forming now or in the future.

Republicans seem like they want to cut government down to size. THAT'S NOT INFLATIONARY!

Construction is down 2 million jobs:
http://research.stlouisfed.org/fred2/series/USCONS?cid=32310

Manufacturing is down 6 million:
http://research.stlouisfed.org/fred2/series/MANEMP?cid=32311

Retail is down a million+:
http://research.stlouisfed.org/fred2/series/USTRADE?cid=32316

IT has sucked for a while:
http://research.stlouisfed.org/fred2/series/USINFO?cid=32319

Food service has had a rebound:
http://research.stlouisfed.org/fred2/series/CES7072200001?cid=32323

but those jobs don't pay shit.

Total government employment is flat:
http://research.stlouisfed.org/fred2/series/USGOVT?cid=32325

There's jobs in old folks homes:
http://research.stlouisfed.org/fred2/series/CES6562310001?cid=32322

and health in general:
http://research.stlouisfed.org/fred2/series/CES6562000101?cid=32322

but I fail to see how we can all be in health care. We pay $7000 per capita already for health care, we can't afford to keep scaling up this sector without cutting costs massively.

Back to OP's question,

One thing to consider is if you're in a position to make extra payments to pay the mortgage off before the 30 years.

If you are, that 20% drop in price really helps!

The last time the Fed tried to kill inflation by high rates, systemic leverage was very low:

http://research.stlouisfed.org/fred2/graph/?g=2lT

shows leverage went from 0.6 to 0.7 during the inflationary 1970s.

The Fed relented in 1981 and we were off to the races, leverage-wise.

2000-2008 was extra-special.

With leverage almost TWICE that of the 1970s, we're in no condition to be able to handle higher rates at all.

The solution is higher wages, but . . . yeah.

Disposable income is AFTER-TAX income, so today's low tax rates are kinda part of the problem, too. We need to raise taxes (if we don't cut spending), but that will increase the leverage too.

Conservatives say "cut spending!" but never say what to cut. Defense is the big boy on the block with its $800B/yr bill. We could stand to cut social welfare spending too, but if & when that happens you're going to want to be in a Fortress and only make sallies out in well-armed convoys, Mad Max style.

Federal tax rates are a ridiculous 8% of GDP:

http://research.stlouisfed.org/fred2/graph/?g=2m3

That's also a present price support for real estate.

The Government has 3 major options going forward:

1) Borrow more
2) Cut spending
3) Raise taxes

neither seem that inflationary wrt housing.

There is a -- 4) Print -- but when Perry wins he's going to hold a necktie party for the Fed apparently so that doesn't look to be in the cards, unless Perry is as full of shit as the previous Texans to win the WH proved to be.

austrian_man says

If you cannot go all cash and have to take financing (arguably less risky also since you can do better things with cash other than just going all-in into Real Estate), then total interest paid needs to be taken into account.

Very few people take total interest paid into account. Those that do buy a slightly smaller house and take out 15 year mortgages.

Well lets put this in perspective.
Last year I bought, at 4.75% with only 3.5% down, and only a measly MIP of $70.00.

Now the MIP has more than trippled and just yesterday, as part of Obama's debt plan, they want to impose another 25 a month fee on FHA mortgages.

So that's $140 more a month, that will eat up couple points, on my mortgage. So even if the rate falls to 3.75% I still wouldn't be able to refi, where I would paying less than I am paying now at 4.75% when I bought last year.

So If I were to buy a house for same price for 3.75% all else being equal, my mortgage payment would be about 90 more than it is right now. Then they still might add on that other frivolous $25 charge.

I think the problem we're experiencing with our economy is there are two camps.
There's those that think you can actually save money, by buying something at assumed reduce rate, even when you weren't planning on buying said item or service in the first place. Like a case of expired Menthol cigarettes, even when you don't smoke for $10. And then there's those that thinks that's just Hogwash.

Unfortunately the first is dictating our economic policy.

bob2356 says

Those that do buy a slightly smaller house and take out 15 year mortgages.

Haha. Now I know why am I always thinking of this as a last option if I can't pay all cash. LOL.

Another tidbit I take into account is CA Prop 13 and the fact that they can only raise your property tax 2% year-over-year. So to me buying a 250K house today vs a 200K house in 2 years, given that I'm planning to stay there 30+ years, that makes a very long-term difference.

Granted it's only $500 a year, +2% a year theoretically, times the number of years I plan to live there, but in 30 years when I retire that'll at least be worth an extra loaf of bread a month.

one of the best lessons learned from the bubble, IMO is never try to time the housing market.

This includes on the way down. You dont know what will happen 3 years from now. If you THINK the house will be worth 120k then offer that now and take the 4% rate.

Bellingham Bob says

but we won't get higher rates until wage inflation takes hold.

Wage inflation is not required for high inflation, that is what the Fed and many mainstream economists say, but it isn't true. Its quite possible to have stagnant or even declining wages in an inflationary economic environment, which is half the reason many other countries are so terrified of it rather than deflation.

tts says

. Its quite possible to have stagnant or even declining wages in an inflationary economic environment

Housing has done been built and has near-zero ongoing costs of production.

It won't inflate in an "inflationary economic environment" unless wages rise too.

Price inflation without wage inflation will result in reallocation between new winners (those who own wealth-creating assets) and losers (everyone else).

Troy, Oil & Gas employment is up.
http://research.stlouisfed.org/fred2/series/CEU1021100001?cid=32309
Still a drop in the bucket compared to construction losses.

"up" being "back to 1977 levels" LOL

We consume a fifth of the natural gas and oil production in the world, yet only have 200,000 people working in that field.

20 million barrels a day is $700B/yr, plus around $250B/yr on natgas.

$1T/200,000 is $5 million per worker. Just goes to show how the money we spend on energy is leaving the middle class (though energy does have a lot of capital equipment costs that supports industry that way)

Bellingham Bob says

Housing has done been built and has near-zero ongoing costs of production.

I'm not understanding what you're saying here, can you expand on this?

Bellingham Bob says

Price inflation without wage inflation will result in reallocation between new winners (those who own wealth-creating assets) and losers (everyone else).

True, unless the government decides to step in and start picking winners and losers a la TBTF and when they stopped shorts except for a select few.

Probably not. Even if they go to 2%. I'll try to explain my reasoning later this weekend in separate (longer) post. Too tired to do so now.

First off thanks for taking the time to reply and put some thought into it.

Bellingham Bob says

The housing sector doesn't really have that much in production costs. New stock is being built, and there's maintenance, but 99% of the investment in the stock has already been paid. There is no annual crop of housing that landlords have to bring to market. Active production of housing in many areas ended decades ago.

The problem I have with this is the wrong sort of housing exists in many places. That is lots of it is built for a low energy cost economic environment and is too far away from work. So technically you're right, we have a huge amount of supply and its mostly "paid" for but I think quite a bit of it will stay empty for years and end up being bulldozed with newer and smaller and more energy efficient homes built closer to jobs (read: cities).

The flip side to this is that people can't even afford today's "cheap" homes for the most part either because the jobs or wages aren't there to pay for the house or even afford a rental. So many of them stay at home longer, until their 30's now a days.

I think these 2 factors are going to produce some perverse outcomes in the housing market over the years. The general trend will still be for home prices and rents to drop however even if rents send mixed signals.

Anselm says

Both scenarios assume 20% down. Is there anything I am missing here? Anybody think interest rates will remain low 3 years from now? Anybody thing that housing prices will not drop further at the low end of the market?

Yes there is things you are missing:

1.) You assume the buyers have 20% down now and won't apply that amount to the future purchase at a lower price. Why you do this, I don't understand. If someone has $30K down now, why would they only put $24K down in the future.

2.) You assume the buyers will not continue to save, therefore having an even greater downpayment for the lower priced house in the future. Greater downpayment negates the affect of any rise in interest rates, which I think is a leap anyway....

3.) You assume higher interest rates. Yet currently, rates are about to drop again.

Redo your calculations assuming 45K down and 4% interest rates and I think you'll find your answer.

Anselm says

Are low interest rates enough to negate a future price drop?

No, because as history has shown in California we saw interest rates decline along with prices for many many years from 1988 to late 90s. Lower rates does not exclude further price drops.

DQNews Archived Article
http://archive.dqnews.com/AA1996MOR01.shtm
Mortgage Payments drop in California
by Real Estate Analyst John Karevoll
January, 1996
La Jolla, CA.—(BW) Thanks to lower prices and lower mortgage interest rates, the monthly mortgage payment that a new California home owner needs to make is far smaller than it was five years ago, bringing many potential homeowners into a market they used to be shut out of, a real estate information company reported. The typical monthly mortgage payment on a house bought during the last three months was $942. That was 28 percent lower than the $1,308 it was for the same period five years ago, according to DataQuick Information Systems.

Prices didnt start to decline until 2008 (think prior peak 1988 20 years ago!)... today we are equivalent to 1991.. while the prior bottom wasnt until 1996-97... so think it as 2016-2017.

Troy said: $1T/200,000 is $5 million per worker.
Does make you wonder how many ancillary jobs are created locally for each domestic barrel/BTU that is extracted (or energy flows harnessed in the case of renewables). An uphill battle for sure, but like I said in another thread, they're building a new steel plant in Youngstown. Whoddathunk it.

Bellingham Bob says

In the past landlords have gotten a free ride along with inflation, and in fact housing shortages were probably a driver of inflation in the 1970s and 80s (as the baby boomers either needed houses in their communities or went and colonized new developments in formerly greenfield sites).

How does building a house in a former cornfield generate inflation? Why did nominal housing prices increase at the same rate from 1970 to 2000? If the increases in price drive the inflation rate why don't they stay in sync?I don't buy this argument at all. Inflation was driven by the huge increase in energy prices. What inflation in the 80's??? From 82 on the rate was between 3-5% if I remember correctly.

bob2356 says

How does building a house in a former cornfield generate inflation?

Unless the house is made out of dried cornstalks and mud, this house is putting demand pressure on the supply of construction goods and labor.

Inflation was driven by the huge increase in energy prices.

If that is the case how did wages in non-energy fields rise so much? When the price of gas rose from 50c to $1, why did KMart wages rise too?

I think the wage-price spiral was coming regardless of energy. The Fed began raising rates well prior to the first Oil Shock of Oct 1973:

http://research.stlouisfed.org/fred2/graph/?g=2tF

shows the Fed DOUBLED the interest rate in 1973 from 5% to 10% -- they had finished prior to the Arab Embargo!

Israel aside, I kinda think that 1973 Oil Shock came in RESPONSE to inflation -- the oil producers were dissatisfied with getting paid a fixed amount of devaluating dollars.

bob2356 says

What inflation in the 80's??? From 82 on the rate was between 3-5% if I remember correctly.

So if there was no inflation in the 1980s why did the 1973 oil shock cause inflation and the 1979 oil shock (which was a greater price rise) did not?

But you don't remember correctly, alas.

Inflation was falling, but high, in the early 1980s.

http://research.stlouisfed.org/fred2/graph/?g=2tG