Don’t buy a house right now! HOLD!!!

In the movie Braveheart, there’s a memorable scene where Mel Gibson’s character instructs his men to “hold!” The Scots devised a scheme to dismantle the English cavalry, but it would only work if they waited until the very last moment to strike. With the English cavalry bearing down, Wallace and the Scots probably felt pressured to unleash their plan prematurely, but this would surely have caused it to fail.

Like the Scots, many Americans feel pressured to buy a house in this inflated market because “children need a home to grow up in.” This is the emotional plea that you will typically get from the National Association of Realtors (NAR) and organizations like it.  They play on your emotions, so you foolishly buy into the propaganda even though homes in many areas are more expensive than they were in 2005-2006.  I’m of the position that kids do need a house, but buying one in this second housing bubble is just foolish.

Home ownership now sits at approximately a 50 year low, and that’s because homes are still too expensive for the average family to afford. Several months ago, a housing economist from Zillow reported that it is still a seller’s market with high prices, low inventory, and even bidding wars. Call me crazy, but I’ve always wanted to buy things when they’re on sale.  In many ways this market is more expensive than the one before the 2008 financial crisis because real wages have declined and the net worth of most middle class families has been cut in half.

According to a recently released NAR report, existing home sales for February 2016 were down 7.1%! This could be the start of the softness that I have been looking for, but by no means does it mean that renters should commence their house hunting. Continue to stay on the sidelines while keeping a watchful eye on home prices in your area.  I like to save homes on my Zillow app and check back periodically to see the settlement price.  Although there is little inventory, and listings are moving fast here in Northern VA, homes are usually selling below asking and well below the “Zestimate.”

Like children who have been promised candy, most Americans want it and they want it now! But if you can have the discipline to “hold”, then there is going to be a handsome reward for you after this second housing bubble bursts.

Super Bowl 50: A Consumer Case Study

One of the worst commercials of Super Bowl 50 had nothing to do with beer, cars or shaving. It was a commercial from Quicken Loans touting their new “Rocket Mortgages.” For a financial counselor, this commercial instantly made me nauseous. The ad suggested that getting a mortgage should be as easy as ordering a pizza. After you have that brand new overpriced house, it needs to be filled with brand new expensive artifacts. Those artifacts are made by low wage hourly workers who will in turn also buy an overpriced house an attempt to fill it with credit card purchases. The whole disgusting cycle repeats itself until one day someone realizes that their brand new house is falling in value. Instead of mailing in a check, they send their keys instead, and the whole house of cards comes crashing down.

This was the playbook that brought about the 2008 financial crisis, and it’s happening all over again.  Memories are short in the United States, and no one wants to ever focus on the lessons of austere times.  That is why the exact same mistakes are being made all over again.  Fortunately, for most parts of the country, housing prices seemed to have topped and are even falling in some metropolitan areas. Here in Northern Virginia, some homes have been sitting on the market for months without an offer.  Many other homes have been reduced, but not by an amount that will lure renters back into the “dream of home ownership.”

My family has been renting for the last two years since we sold are starter home for a handsome profit.  We just signed another 18 month extension, and locked in our original monthly rent of $2,750 a month.  Why does this matter? Well, our neighbor just listed his similar home for $639,000.  Assuming he gets his asking price (which I highly doubt), the new owner will have a mortgage of almost $3,100 a month (includes $120 HOA dues).  That’s after a 20% down payment of $128,000!

I don’t know about you, but I don’t know that many people who have that much cash lying around right now.  Even if you do have it, why would you want to put it into an illiquid investment like a house?  Let’s say you’re smart and you only make the minimum down payment of 3%.  Your down payment will only be $19,200, but thanks to PMI your monthly mortgage payment skyrockets to $4,081 A MONTH!  That means that I would have to pay $1,350 more per month for the “privilege” of owning in my neighborhood.  Sure, I’ve ignored the “tax benefits” of home ownership, but those are usually wiped out by the maintenance costs.

As I have said before, there’s a reason that home ownership is at a 50 year low.  They cost too much!  I know that the figures I’ve shared are much higher than the median home price and income, but the principles can be applied to your own financial situation.  Do not succumb to the temptation to purchase a house at these prices, even if someone tries to lure you with a cool “Rocket Mortgage” app!

Renting: The New American Dream

rent own

Janet Yellen thinks the economy is doing so well that next week she may raise interest rates for the first time in nine years.  But many of America’s renters would probably beg to differ.  Twenty-five percent of Americans spend more than 50% of their take home pay on rent.  This amounts to 11.4 million people who are simply working to pay their landlord’s mortgage.  With less than 50% of their take home available, many of these rent burdened folks have little to contribute toward an emergency fund or retirement account.

What’s more frightening is that over half of all renters are over the age of 40!  The number of Americans now renting is at a 30 year high while the homeownership rate currently sits at a 48 year low.  Many of these renters are unemployed or underemployed with insurmountable credit card, student loan and vehicle loan debt.  It’s now clear to everyone that the National Association of Realtors dream of homeownership for all Americans is dead.  Well, at least temporarily.

The sustainability of this system is as likely as Bernie Madoff’s investment fraud.  Eventually, market forces will reveal that home prices are too high for real American incomes.  In many markets, home prices will need to fall by 40-50% to reasonably turn renters into homeowners again, and I can prove it.  Currently, the median priced American home is around $280,00, but the median income is only about $55,000.  This means that a typical house is about 5 times a typical income, which is 2-3 times greater for you than it was for your grandparents (1.5-2 times income).

Let’s say that you are lucky enough to have the $56,000 (20%) down payment for a $280,000 house.  Your monthly mortgage payment will be approximatley $1,400.  You earn $2,300 a pay day 24 times a year, but it’s only about $1,700 after Uncle Sam steals his “fair share.”  This typical American will need to spend over 40% of his take home pay on their mortgage, and that’s why Americans are renting.  Most of them can’t even come up with $500 for an emergency, let alone a 20% down payment.  And even if they could, 40% of their take home pay doesn’t leave room to make burdensome debt payments.

In order for our median income renter to be able to afford a home, he should only have to spend 25% or about $850 a month.  To accomplish this at today’s rates (3.75%), the home would have to cost about $165,000 or 40% less than it does now.  This will still be three times greater than the median income, but that will be a much needed improvement to what we have now.  A $165,000 home price would have a down payment of $33,000, which is $23,000 lower (40% off) than it is now.

Renters will become owners again, but not until the U.S. experiences another inevitable correction like we did in 2008.