Postponing a Home Purchase Waiting for Home Values to Decline Further May Price You Out of the Market
Posted by Ted C. Jones on April 2, 2009
Images for this post are temporaraly unavailable.
U.S. home prices have declined across the nation in the past year—albeit at varying levels. Latest national price declines (and again I invoke the TINSTAANREM Clause — There Is No Such Thing As A National Real Estate Market) range from as little as 4.5 percent (Dallas, Texas) on a year-over-year basis in February to as great as 35.2 percent (Phoenix, AZ) according to S&P’s Case-Shiller Home Price Indices.
It is the anticipation by many prospective buyers for further home price erosion that keeps them on the sidelines and from participating in homeownership despite the lowest interest rates since Freddie Mac commenced the statistical series in 1971.
While further price declines may be realized, I believe the likelihood of rising interest rates makes purchasing now a better option than waiting for further potential value declines. Simply stated, there is a greater possibility of interest rate increases than potential value declines. Even with the price decline, the interest rate increase may result in the buyer no longer being able to qualify for a loan on a home they wish to purchase for which they qualify today. Despite facing a potential in declining home values, now may be a better time to buy.
To make the comparison simple, let’s assume a loan amount today of $100,000 with a 30-year fixed-rate residential loan at 5 percent. Nationwide at the time of this writing, the average 30-year rate was 4.85 percent per Freddie Mac. Fannie Mae forecasts an average rate in all of 2009 of 5.13 percent. So the 5 percent is a reasonable assumption.
The following table shows the monthly payment for each loan amount and interest rate. A buyer today at 5 percent interest borrowing $100,000 has a monthly principle and interest payment of $536.82. If prices decline 5 percent (and the loan amount does also) and interest rates rise just ½ of 1 percent, then the monthly payment remains the same ($539.40).
So if rates go up just 1 percent to 6 percent per year, then prices must drop at least 10 percent for that same buyer to qualify for the same monthly payment. A 1.5 percent increase in rates to 6.5 percent requires a 15 percent price decline, and a 2 percent increase necessitates a 20 percent price decline to qualify. Note: This 1 percent interest rate change to a 10 percent price change is only true when interest rates are 5 percent as they are today.
Admittedly, at the same loan-to-value ratio, as prices decline so does the down payment. Since, however, many buyers select the price range of homes they consider buying based on their monthly payment potential, rising rates may force future buyers into less expensive homes and hence properties they find less desirable.
Why do I expect rates to increase in the future more than price declines? First examine the Case-Shiller Table above. Aggregate 20-city prices have already declined 29.1 percent since peaking in July 2006. I believe much of the price decline has already taken place. And why do I anticipate rate increases? There are several reasons. Interest rates are the lowest in recorded history. But perhaps most important is the record deficit spending by Congress and the Administration and the expectation for that to continue. Borrowing a couple of trillion dollars this year coupled with a now-projected decade of deficits of at least $1 trillion per year sets the stage for a weakened dollar and corresponding rising interest rates. In plain speak—the massive deficit spending has a high potential to drive up inflation and hence interest rates. A topic to be discussed in a future blog.
If you agree with me, quote me. “Postponing a home purchase waiting for home prices to decline further may price you out of the market.” Ted C. Jones, PhD, Senior Vice President—Chief Economist, Stewart Title Guaranty Company.
Agree or disagree, let’s have some comments.
Ted
More people need to see this information as you have broken it down. Why do these stories fail to hit the headlines? This is exactly what I’ve been telling our potenital home buyers.
I agree with Ryan. I am in new home sales and have posted this link on our website, twitter and facebook. Thanks for this great explanation for our potential home buyers.
Dr.Jones
Excellent blog. With your permission, I will use some of the information at next weeks Greater McAllen BOR meeting.
Thanks y Buena suerte
Saludos
AAA
By all means share this. Ted
Very well said and one of the key points in helping buyers to understand that now is as good a time as any to pursue their purchase. Here on a small island we mostly deal with 2nd home buyers, and there is not as much urgency here as in a primary residence market. However, the financial principles are certainly applicable.
Yes, I agree with you , Ted. If the Buyers out there don’t wake up and smell the roses, they will miss the boat. Then 5 to 10 years down the road they are going to wish they would have taken advantage of these wonderful interest rates.
Yes, I agree with you , Ted. If the Buyers out there don’t wake up and smell the roses, they will miss the boat. Then 5 to 10 years down the road they are going to wish they would have taken advantage of these wounerful interest rates.
I think we all will look back in 2 to 3 years and realize given the combination of low interet rates and the best pricing in two decades we should have acted. Ted
I only wish I had enough money to buy several homes in today’s market. There’s a lot of profit potential sitting out there.
Any potential for short-term loss is offset by the potential for longer-term hikes in interest rates.
Looking at the above charts, the date for the peak for Las Vegas and Phoenix must be wrong. Their peak was long before that, maybe it should be ’05.
Thank you. We have made the corrections.
Maybe the unemployment rate being almost double the current interest rate has something to do with it?
As usual, you are right on the money. I’ll share the blog with my network. We really should be getting the word out. It is a part of our job.
When rates go up prices will come down even further. We are in this situation because incomes are stagnant while expenses continue to rise. In fact if you include things like the dissolution of the pension system in the private sector and increased contributions to health care premiums and higher co-pays it is argueable that real incomes have fallen. Meanwhile lenders have reduced their max debt ratios, higher real estate taxes continue to take a bigger chunk of that ratio and minimum credit card payment increases as well. If you look at this from a practical perspective it appears that home prices have nowhere to go but down if the sellers truly want to sell in the short term.
Thanks for the useful info. It’s so interesting
Pingback: Still sitting on the sidelines? You're about to get burned. | AustinTXEstates
Pingback: Buying Smart in Santa Fe Real Estate
United States pending home sales climbed in April wildly as purchasers signed contracts to gain a federal tax credit. The National Association of Realtors’ measure for pending sales of used homesincreased by 6.0% to 110.9 in April, the industry group said Wednesday. The gain was the third consecutive one. Economists surveyed by Dow Jones Newswires had expected pending home sales would climb in April by 5.0%. First-time home-buyers raced to beat the April 30 deadline for the tax credit. The incentive was an extension of a subsidy originally enacted in February 2009.
Hi, a lot I saved the post Jones on Real Estate » Blog Archive » Postponing a Home Purchase Waiting for Home Values to Decline Further May Price You Out of the Market done well By the way what about mid east amazing tv news? Peace … Rob Rasner Comic
I agree this is a good analysis BUT you make a BIG assumption– that all buyers are financing. This is similar to the sleazy car salesman approach of saying “What do you want your payment to be?” and then they simply stretch the loan further out to a 6 or 7 yr. term instead of lowering the price of the car. When buying a car or home, I ALWAYS care more about the purchase price– as for the financing, that’s flexible. I can refinance to a lower rate, different term, pay off the debt early, etc. This is probably a good analysis to do with clients in the lower end of the real estate market but most of the folks I deal with make significant down payments or pay cash for their homes so a 1% change in interest rates is nothing compared to the potentially $100,000 they will lose if their house goes down another 10%.
In May, 30 percent of all home sales were cash. The latest sales data (released yesterday by NAR) showed that prices are no longer going down.
You state that that a 10 percent price decline would cost the buyer $100,000—which implicitly says they are buying a $1 million dollar home –yet the latest median price (for June) was $184,300 compared to $182,900 in June of 2010 (and, no, I ma not saying prices went up, but just that they are no longer going down.
While we will agree that not all markets are the same, I still contend that the probability of interest rates going up 1 percent is greater than the likelihood of an additional 10 percent price decline.
Ted
Ted, Your economic update in Austin was again outstanding. So many items for those of in real estate to use for our business. I seldom miss your talks when in Austin.
Keep the info coming. Thanks so much.
Peg Braxton
Keller Williams Lake Travis
This continues to be relevant today in the Minneapolis/St Paul market.