The Federal Reserve's summerlong initiative to keep mortgage interest rates low was a stunning success. By buying mortgage backed securities at incredibly high volumes, it simulated high demand. High demand kept the interest rates on those securities low. That meant people buying this summer were able to finance at historically unprecidented interest rates in the range of 4.5 to 5.0%.
Low interest rates meant that home buyers could place bids with a higher principle. This helped keep housing prices inflated. A key part of keeping housing inflated is making sure there are buyers who can bid inflated prices. If the Fed hadn't stepped in, interest rates would have risen and prices would have crashed harder.
Well, $300 Billion have been spent. The program is over. Mortgage rates should start rising.
I was surprised this past summer to not see as much price depreciation as I had anticipated. I didn't quite realize what was going on.
Irvine housing blog spent the week discussing various aspects of what to consider in a house purchase. Tuesday's post showed a table of interest rates vs principle that can be bid on a house given a fixed monthly payment. Going from a 5% interest rate to an 8% interest rate causes a 26% drop in the price of the house.
Can you imagine that? Save up for years until you have $100K to make a down payment on a $500K house, and after 2 years you're 6% under water? Consider that if you'd had all your money in the S&P at the height of the stock market in 2008, you would only be out 30%. That's still 70% remaining. 70% sucks, sure, but it's way better than -6%. SeattleBubbleBlog does a much better job making this point. Except the point The Tim made is to compare buying in 2007 vs investing in 2007. The point I want to make -- or rather to summarize from others -- is that there's still that much loss waiting! Buying a house now means you will be under water on that house in 2 years.
$300 Billion. Was that a good use of taxpayer money?
Thursday, October 29, 2009
Wednesday, October 21, 2009
Charlotte: 12% Unemployment
Interesting article on the Post about the effect Wachovia's demise has had on Charlotte.
I'm also enjoying the Vanity Fair article on the Wall Street meltdown back in September 2008. On Wachovia:
I'm also enjoying the Vanity Fair article on the Wall Street meltdown back in September 2008. On Wachovia:
Meanwhile, Jon Pruzan, the Morgan Stanley banker who had been assigned to review Wachovia’s $122 billion mortgage portfolio—to crack the tape—finally had some answers. A team of Morgan bankers in New York, London, and Hong Kong had worked overnight to sift through as many mortgages as they humanly could.
“Now I know why they didn’t want to give us the tape!” Pruzan announced dourly at a meeting before they headed over to Sullivan & Cromwell to begin due diligence on Wachovia. “It shows they’re expecting a 19 percent cumulative loss.”
“You’ve got to be fucking kidding me,” Robert Scully exclaimed. “We obviously can’t do this deal.”
To make it work, Morgan Stanley would have to raise some $20 to $24 billion of equity to capitalize the combined firms, a virtual impossibility under the current market conditions. Scully described Wachovia’s mortgage book as “a $40 to $50 billion problem. It’s huge. The junior Wachovia team is not disputing our analysis.”
Kelleher, who had been keeping a careful watch over the firm’s dwindling cash pile, had just taken a look at Wachovia’s numbers for himself and observed, “That’s a shit sandwich even I can’t get my big mouth around.”
Wednesday, October 14, 2009
Walk to Foster's
XXX E Columbia Place $215/sqft, Asking $409,000
One of my favorite restaurants in Chapel Hill is Foster's Market. Today's property is only a short walk from there. That's fortunate for today's owners because they'll be able to continue walking to Foster's for a long time. This house will not sell at this price.
I suppose it's fortunate for them that they didn't completely tap the housing ATM.
Total debt: $316K.
The prior owners bought the place for $238K in 2002. The owners before them bought the place for $225 in 2000 when it was new.
What a run up!
Monday, October 12, 2009
Interest rates
Having looked at the property records for several dozen houses now, I've gotten a general sense (not data) for average financing in Chapel Hill. The most common feature is 10% down. This is usually accomplished by a 80% first mortgage and a 10% second mortgage. Fairly often, I'll see an additional HELOC on top.
When you require 10% down, there are more people who can bid price X than if you require 20% down. Fewer people have twice as much in savings. This means that requiring 10% down inflated demand and prices rose. Now that banks are back to requiring a 20% down payment, prices will have to fall.
That's said and done. I think the price drop associated with the 10->20% DP increase will have been factored into the market by the end of next summer.
The other shoe to drop will be the increase in interest rates. If you buy at a 4.5% interest rate, and two years down the road, someone else is only able to get a 6.5% interest rate, then you loose some serious cash. (I'll get to that math below.) The fed succeeded this summer in keeping interest rates at historic lows. They gingerly placed delicious cheese wedges on the door steps of houses all across america to lure unsuspecting consumers into the debt trap that the previous owners had set for them. Todays borrowers were betrayed by their government. I feel sorry for them, and five years down the road, when they start going into default in record numbers or just start mailing their keys to the banks, I'll understand their protest.
On the other hand, they're idiots for buying now, and I have trouble feeling bad for idiots for very long.
Here's the deal with interest rates. There are X houses and X buyers. The houses are of varying qualities and the buyers have varying levels of income. If you were to sort all the buyers and houses by income and quality, then you would be able to assign each buyer to a house. This is more or less what the market does. Buyers with higher incomes are able to bid more agressively in order to obtain houses of higher quality. Everyone bids as much as they're willing and able.
A buyer's income dictates the monthly payment they're willing to shoulder. Monthly payment and interest rate together dictate the principle that the buyer is willing to bid. Assuming incomes don't change (they haven't for the past decade!) and that everyone gets the same interest rate, the principle is irrelevant. The real bid is the monthly payment burden. "My income is Y so I'll shoulder Z per month."
When a person with income Y willing to make a monthly payment Z takes out a loan at a 4.5% interest rate, the principle of the loan they're taking out is greater than if they are offered a 6.5% interest rate, but still constrained to a monthly payment Z.
Some real numbers. Plug them into this calculator if you'd like:
$500K house
4.5% interest rate, 30 yr
20% down.
400K loan
= $2,026 Month.
They have 100K "invested" in the house.
Now
Someone is going to purchase their house two years from now at a 6.5% interest rate. They also can afford a $2,026 monthly payment. What can they bid?
$2,026 Month
6.5%
$320,000
+20% downpayment
= $400K bid.
In two years, the $100K down payment evaporates. 20% loss on the property because the interest rates rose 2 points. This is why everyone is wondering worriedly about just how long the Fed can keep interest rates this low.
This is the worst possible time you could buy. Don't let a realtor tell you otherwise.
When you require 10% down, there are more people who can bid price X than if you require 20% down. Fewer people have twice as much in savings. This means that requiring 10% down inflated demand and prices rose. Now that banks are back to requiring a 20% down payment, prices will have to fall.
That's said and done. I think the price drop associated with the 10->20% DP increase will have been factored into the market by the end of next summer.
The other shoe to drop will be the increase in interest rates. If you buy at a 4.5% interest rate, and two years down the road, someone else is only able to get a 6.5% interest rate, then you loose some serious cash. (I'll get to that math below.) The fed succeeded this summer in keeping interest rates at historic lows. They gingerly placed delicious cheese wedges on the door steps of houses all across america to lure unsuspecting consumers into the debt trap that the previous owners had set for them. Todays borrowers were betrayed by their government. I feel sorry for them, and five years down the road, when they start going into default in record numbers or just start mailing their keys to the banks, I'll understand their protest.
On the other hand, they're idiots for buying now, and I have trouble feeling bad for idiots for very long.
Here's the deal with interest rates. There are X houses and X buyers. The houses are of varying qualities and the buyers have varying levels of income. If you were to sort all the buyers and houses by income and quality, then you would be able to assign each buyer to a house. This is more or less what the market does. Buyers with higher incomes are able to bid more agressively in order to obtain houses of higher quality. Everyone bids as much as they're willing and able.
A buyer's income dictates the monthly payment they're willing to shoulder. Monthly payment and interest rate together dictate the principle that the buyer is willing to bid. Assuming incomes don't change (they haven't for the past decade!) and that everyone gets the same interest rate, the principle is irrelevant. The real bid is the monthly payment burden. "My income is Y so I'll shoulder Z per month."
When a person with income Y willing to make a monthly payment Z takes out a loan at a 4.5% interest rate, the principle of the loan they're taking out is greater than if they are offered a 6.5% interest rate, but still constrained to a monthly payment Z.
Some real numbers. Plug them into this calculator if you'd like:
$500K house
4.5% interest rate, 30 yr
20% down.
400K loan
= $2,026 Month.
They have 100K "invested" in the house.
Now
Someone is going to purchase their house two years from now at a 6.5% interest rate. They also can afford a $2,026 monthly payment. What can they bid?
$2,026 Month
6.5%
$320,000
+20% downpayment
= $400K bid.
In two years, the $100K down payment evaporates. 20% loss on the property because the interest rates rose 2 points. This is why everyone is wondering worriedly about just how long the Fed can keep interest rates this low.
This is the worst possible time you could buy. Don't let a realtor tell you otherwise.
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