by Gary North
Whenever I write a report on residential real estate, I get a bunch of e-mails. It's the same question: "Should I sell my house?"
I am always amused at these letters. First, the person writing is always a male. This means that he has no authority to sell the house. His wife does. Wives buy houses; husbands, at best, retain only the right of veto. The wife has not sent the e-mail. Thus, the poor schnook has not a snowball's chance in Death Valley of selling his house. It's not his house. He merely makes the mortgage payments.
Second, the noun is always "house." Should he sell the house? But wives do not live in houses. They live in homes. Their homes. Homes that reflect their tastes, their dreams, their sense of the social pecking order, and their ability to wheedle their husbands into signing 30-year mortgages. What I do not get is this letter.
My wife and I are concerned that this may be the top of the residential real estate market in our area. We have talked this over, and we think the equity in our home may be at a peak. We are both willing to rent. In fact, we have talked about moving to a region that has a much lower cost of housing. What do you think?
Such a letter reflects a joint decision — which buying and selling a house ought to be. It reflects an awareness of economic options.
If a wife sees the options as "owning my own home" vs. "renting," she will take "owning my own home." If, on the other hand, it's a question of where to own her own home, and how nice a home, that's a different matter.
A WISE DECISION
Recently, I received a note from a specialist in real estate construction financing. He lives in northern California. He and his wife recently sold their house. Their decision process is quite illuminating. It offers a case study in how to make the decision. Notice his opening words:
I read your article with great interest. I want to share with you my experience regarding the purchase and sale of my family's home.
He speaks of a home. He also speaks of his family. He understands the difference between his house and her home. But as soon as he gets to the economics of the matter, he reverts back to "I." This, too, is reality. He has to pay for it. She gets to live in it. The motivations are entirely different.
I purchased my home in California at $320,000 or $16 per square foot in March 1993.
Either he bought a super bargain or else he made a typo. Sadly, he made a typo. He bought it for $160 per square foot, as his story later reveals. That is a lot of money in my book. I recently bought a comparably sized home — a little under 2,000 square feet — for $90,000, or $47 a square foot. It is 9 years old, clean, in a middle-class neighborhood in a boom area. But it's not in California.
The housing market was soft after a run-up in home prices in the late 80s peaking in 1990. The assessed value of my home was $380,000 which also indicated that the prior owner purchased the home at the top of the market in 1990.
Housing can go soft. I remember 1990 well. It was during Bush's recession. People started leaving California. The only areas where California residential real estate was not soft were Hispanic barrios, where multiple families lived and pooled their income to pay the mortgage.
The seller had offered the home for rent after taking back the home from his sister who could no longer afford to pay on the mortgage. The market was so soft at that point that he thought he could only rent out the property. I had been a renter prior to my purchase of this home and was moving into from Lodi after taking a new position in San Francisco. If it wasn't for the seller of the house offering seller 15% carry-back financing, I would not have been able to buy this house.
The seller, as it turned out, made a huge mistake — probably the biggest economic mistake of his career. He had a rentable property, but he decided to sell it. He sold it to someone at 15% — presumably a second mortgage.
To sell under these conditions is foolish. Either the buyer is an even bigger fool — 15% financing is outrageous — and will probably default or be forced to sell, or else interest rates will fall, and he will borrow cheap money and pay off the initial loan. The seller will be holding cash. But if rates come down, housing prices will rise. Conclusion: don't sell the house. Rent it.
Up until early 1997, my home's value remained at or lower than my purchase amount. From 1987 through 1997, I was employed as an income property loan work-out professional for three different Savings and Loans. In 1997, the housing appreciation boom was fueled by rapid expansion of technology inter-dependent companies in the Bay Area. Income property loan work-out died off and I went into Bank lending to help on the real estate construction boom beginning at that time.
What goes around comes around. Soon, this man will be out of the construction loan business and back in the property work-out business. In California and Boston, that's the business of the future.
Concerned over the dot-com bust in 2000 and 2001, I began thinking about selling my home, fearing we had hit the top of the market at $565,000 or $282 per square foot for my home.
He was thinking rationally. But the housing market in California is fueled by wives' emotion and husbands' credit ratings. "Rational" doesn't apply until lenders get a dose of it.
However, with kids in elementary and high school, my wife resisted intensely any discussions about selling our home. Also, real estate developers on both residential and income properties became increasingly bearish in their outlooks for about twelve months, which was bad for new business. I thought at that point, we had reached the pinnacle of the market.
This is understandable. But he did not count on one thing: Alan Greenspan's commitment to fiat money. Greenspan talks the "woe, woe — inflation is coming" line, but he worries most about recession. The FED in 2001 pumped in liquidity like there was no tomorrow. Rates fell.
Post 9/11 interest rate drops had changed housing outlook. With over 350,000 jobs lost and housing demand off, there was no doubt in my mind that a housing deflationary period would begin to occur. However, 40-year low interest rates together with hyper liquidity in the real estate markets began to emerge in home mortgage financing to an extent that demand for housing perked-up and has not slowed for the past three years.
This lucky soul was sitting in a 2,000 square foot house in the midst of a housing mania. Nice work if you can get it!
I sold and closed on my house in March 2005 at $900,000 or $450 per square foot. The demand for housing is so acute that all contingencies of sale were waived at the offer table on the first day of our open house. The buyers purchased the property with 100% financing and closed within 30 days.
Buy low, sell high. Not a bad way to do business. He has unloaded his house onto the shoulders of a much greater fool.
He did not retain ownership. He could have rented it. But he is in the real estate field. He senses what is likely to take place. The price offered was too good: $450 per square foot, cash. As my friend, real estate guru and certifiable good-old-boy Jimmy Napier says, "When someone puts a million dollars in your hand, close your hand."
I ended up renting a bigger 2,300 square foot home in a better residential neighborhood for a year lease at $2,500 month. With no debt, a great deal of liquidity, and excellent positive after-tax cash flow, I figure I can wait out the market until it swings back to a buyer's market. It is a good time to sell and be a renter in my case.
He is thinking clearly. The poor lump who bought his house wasn't. He will wait out the market. That is to say, he will buy some other poor lump's bad decision at a discount.
He says: "My wife was at first very resistant." I can imagine. But he had outside support: the local property tax assessor. There is nothing like a property tax assessor to bring a little dose of reality into the lives of mortgage-payers.
Living paycheck to paycheck with a mortgage, property taxes, and mounting maintenance costs was becoming very stressful for both of us.
Costs rise. This is the same in its effect as rising rents. Yet rents are not rising in California at a rate to match the housing mania. Why not? Because, at the margin, renters cannot and will not pay more. Renters vs. renters set the price. Consumers are sovereign, not producers.
Also, there are owners of rental units who bought early and who can do quite well by renting at today's rental prices. Life is therefore better for renters in California than for new buyers.
We now feel free to pick and choose how we want to live and not be dependent on consumer debt to pay unexpected expenses. We can now pay unexpected expenses with free monthly cash flow and actually save money every month. Being a serf is no fun and is no way to economically provide shelter for a family unless the monthly cost of shelter is 25% or less of your monthly income. Not the 45% or more many lenders are accepting as a minimum for qualifying for a ridiculous interest-only loan!
He can see it. She can see it. But the marginal home buyer and the marginal mortgage lender who loans him the money to buy do not see it. That will soon enough be their problem, not his. He is sitting on well over half a million dollars in the bank, or wherever it is.
It is maddening to see what I am observing in the home purchase marketplace. With the aggregation of incomes not increasing in the Bay Area for the past few yew years, it will be only a matter of time that the buyers at the margin will become distressed sellers. Those who are liquid and disinvested will be the few in the market that will be able to take advantage of these attractive home buying opportunities.
He has the picture! He will be a buyer in a buyer's market because he persuaded his wife to be a seller in a seller's market. But notice what persuaded her: not entrepreneurial timing but the financial pressure of ownership. They had become serfs. They were legally tied to a loan and a house. They could get free only by selling.
She was not thinking "Let's become real estate speculators." She was thinking: "How can I pay the bills?" She had outside pressure that she wanted to escape. They escaped, and took a pile of cash with them.
A house is not a home. (That would make a great book title.) A house is dwelling space. A home is a happy family. You can take your home with you when you sell your overpriced house. An overpriced house tends to disrupt homes.
If I were in the letter-writer's shoes, I would start looking for a new job in a new state. I would put my money to better use. That $600,000 in cash would buy six or seven houses debt-free in my area. He could be paid at least $7,000 a month in rental income, and probably would double his money in seven or eight years. Or he could make down payments, buy 20 homes, and get renters to pay off his mortgages in 20 years.
To stay where he is an expensive decision. It is costing him a fortune.
He should go to John Schaub's site and do exactly what it says.
But at least he is no longer a serf.
April 30, 2005
Copyright © 2005 LewRockwell.com