Rental prices lead housing prices?

Quote from OldTrader:

You're right, there's a big difference. But the difference does not lie in affordability. It only lies in flexibility assuming that the price of residential real estate goes down.

The problem is that you're leaving part of the risk-reward scenario out. The part you leave out is that rates stay low and attractive for a while (although they may move somewhat higher). The strength in the economy continues to build. Corporations start to hire people in bigger numbers. All of these things are positive factors for real estate. There's no rule that real estate is going to go down.

Now lets assume that sometime over the next few years, inflation starts to pick. Let's assume that people want to own 'things' rather than paper. Real estate continues to rise eventhough rates rise. You think this scenario can't happen? It's happened in my lifetime.

I think it's safe to say that we all would like to buy a house 25% cheaper than it is right now. The funny thing is that in some areas you could have bought it 25% cheaper a couple of years ago! The problem is that a couple of years ago people were busy predicting the real estate crash!

The one question that no one ever answers for me is what is going to cause all these people to sell their houses when a) they have to live somewhere and b) it may be nearly as expensive after tax to rent as it is to own.

Stock market guys always think that real estate fluctuates just like the stock market. It doesn't. Part of the reason is that most people are living in houses, not day trading them.

I don't suppose anyone here remembers Harry Helmsley. At one time this guy was the richest guy in the US (he's dead now). He made it in real estate. He was a owner of the Empire State building at one time.

I heard Helmsley interviewed on 60 minutes years ago....he bragged at the time that he had never sold a piece of real estate, ever. He only bought.

One rule of thumb...you ARE going to buy a house. It's only a question of WHO you buy it for...yourself, or the landlord.

OldTrader
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Hi OldTrader,

I absolutely agree that the difference lies in flexibility. But that is so important in real estate when people have to suddenly make changes in their lives. And that they do, in the last dozen years many of our friends have moved suddenly with job opportunities. All different directions, Colorado, Northern California, Nevada, Idaho, etc. Having flexibility in pricing gave them the out, rather than the difficulty of having to add money at closing, negotiating with the bank for a short sale, or handing over the keys and going Chapter 7,11, or 13.

I believe what has happened to make real estate kick into hyper mode the last few years is the convergence of a "perfect storm". In a wicked post bubble economy where business spending has dropped off the radar, Greenspan has lowered interest rates to historically low levels to try to get business interested in borrowing. There is so much over capacity and so little demand from business to business, it is not really happening there. So Greenspan purposefully is letting consumers keep the economy going. By inflating the money supply to avoid deflation, people are seeing huge commodity inflation in their homes. People are seeing this huge price appreciation and flocking to real estate as a "safe haven" over the stock market. I have seen interviews with people saying "real estate only goes up" and the like. The affordable ways banks let people borrow against this equity is alarming to me (100% or more loans and no money down deals). People to a very large extent have taken quite a lot of cash out of their homes and pissed it away.

There are some problems brewing the way I see it now. We are getting into uncharted territory after this historically large run up in prices. If you look at a chart of the CPI and real estate it is parabolic. Usually this is answered by raising the interest rates. Since I believe people are ruled by the monthly payment amount, a rising interest rate will make property price appreciation cease. If interest rates continue to rise, real estate will be headed down so as to make the payment come into line with what people can afford similiar to what you outlined in your last post.

The perfect storm I believe will be headed in the opposite direction at that point and feed upon itself because many owners have highly leveraged properties. As we know a certain number of them have to be sold with the job transfer thing, sickness, financial hardship, divorce, etc, and they will be distressed sales. In a declining market, this accelerates the downward momentum.

I really feel this parabolic rise we are seeing will be equally met by a parabolic slow motion crash in the not distant future. Parabolic charts always end badly.... always. It does not matter if the parabolic rise ends here and turns, or extends a while longer...the result will be the same. Greenspan has created and allowed an unhealthy situation to fester that has enabled real estate to far advance above mean appreciation. It will return to the mean, just like it has for hundreds of years. The correction, since it was allowed to get so far out of hand and extended, will be ruinous for many people.

There will be people who will be there ready to profit from the masses and at some point buy this distressed real estate. Money flows from weak to strong hands for as long as time. Money does not go to money heaven. It quietly goes to conservative investors who are ready when the time comes to take it.
 
Quote from ElectricSavant:

The only thing that makes buying more than renting more attractive is the appreciation you get when owning. EVEN IF YOU WILL LIVE IN THE PLACE. Now as far as buying a single family residence and renting it out....this is a bad investment compared to other choices you have to invest/trade your money with. Ok, oldtrader maybe it is better in other parts of the country..but commercial real estate in those places would be better also, most likely. To invest to get the discount, appreciation and build equity gets eaten up without positive cash flow....Most people pencil it out wrong, and the gurus make their money on their seminars. Again I say, SINGLE FAMILY RESIDENCES ARE NOT GOOD RENTALS.
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I understand that single family homes are perhaps not the ultimate investment and agree with that. But I was lucky enough to buy my first in 1984 just when the local market turned up after a big price decline (from 1979-80) and enjoy the run up in California real estate up until 1990. I just kept the first when I bought the second. And kept the second when I bought the third (distressed).

The tax advantages of owning rental property is really pretty amazing, I am sure Old Trader would agree. I understand commercial real estate might beat it on a return per sq.foot basis, but that is not my background and I am not sure I completely understand it and have never been involved with it. So I continue with what I know, in the area where I know it. Perhaps commercial and residential investing are apples and oranges?

I absolutely agree with your comments about price appreciation
 
In the opinion of those in this discussion, what is the point that we have to reach before we see a housing deflation?

I look at the situation that we are in this way: We are at the apex, however if Greenspan and Co. Raise rates 1/4 point 8 times we are looking at a 7 1/2% rate for A paper borrowers (which is still pretty good historically). The question at hand is when will we reach a point that rates are going to be to high.....

I can certainly see one if rates are hiked above 10% but we have a long way to go before we get to that point.

Having made my living as a day trader over the past 3 1/2 years I have learned to change my mind and opinion about something in a split second..... But it will take a little more for me to believe that we are going to see a meltdown in the very near future.
 
Quote from ElectricSavant:

The only thing that makes buying more than renting more attractive is the appreciation you get when owning. EVEN IF YOU WILL LIVE IN THE PLACE. Now as far as buying a single family residence and renting it out....this is a bad investment compared to other choices you have to invest/trade your money with. Ok, oldtrader maybe it is better in other parts of the country..but commercial real estate in those places would be better also, most likely. To invest to get the discount, appreciation and build equity gets eaten up without positive cash flow....Most people pencil it out wrong, and the gurus make their money on their seminars. Again I say, SINGLE FAMILY RESIDENCES ARE NOT GOOD RENTALS.

Building equity is a non-issue as the extra costs involved eat that up when comparing to rent. This also assumes you put your savings from renting vs. buying to work and not spend them.

I have enclosed an analysis worksheet for evaluation just fill in the blanks.

http://www.mortgage101.com/partner-scripts/1177.asp?p=mtg101&pw=760

Michael B.
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Let me address a couple of issues here:

1. Renting is not more attractive than buying for the long term. Look at it this way: if you buy you own the place free and clear after the mortgage is paid off....15-30 years down the road. If you rent, you'll still be paying...although you'll undoubtedly be paying an increased rent at that point. And in this example, there is no appreciation in the house. Even if there is depreciation, you still end up in 15-30 years with free and clear house with no payment. So to say that renting is more attractive than buying? I think you need to rethink that one.

2. I find it amusing that you're telling me what a poor investment single family homes are when I've been investing in them for about 30 years. But I don't buy just any house. I buy houses that are deals. At one time I was buying houses that needed significant fix-up. I used to figure that if I could buy a house which AFTER fix-up could be rented for about a 33% gross return, I had a good investment. I never counted on appreciation, tax benefits, or equity buildup via mortgage paydown. I just looked at the gross rent. However, I can tell you that taxes, insurance, deferred maintenance (like the cost of a new roof), repairs, advertising, snow removal, lawn care, vacancy, etc will not exceed 35%-50% of your gross rents, depending on the type and age of the house.

There are a number of factors that make a house more attractive than a commercial property. One is that houses are much more liquid. Two, the buyers of houses don't pay for a house based on rent...they pay based on it's emotional appeal. Commercial properties are bought and sold strictly on the numbers. Three, the financing for 4 units or under is much more advantageous than for commerical property or over 4 units. Four, when I have a vacancy it's easy to advertise and get a new tenant. Try getting a new tenant for a commerical property sometime. At times they'll stand empty for years.

All in all, I bought houses because it was easier to find exceptional deals, and gave me a much better risk profile than a commerical property. When I pencil out a commerical property I am not able to get the return that I can get from a rental house. No kidding. And further, I was able to arrange attractive financing sometimes directly with the seller, other times to get a sharp discount for all cash.

Today I can sell one house to raise cash if desired, it's only one part of my real estate holding. This gives me some benefit in arranging my taxes. I don't sell everything to raise cash like I might in a commercial property.

It sounds like your mind is made up, which is okay with me. Every area is different....the numbers are all different. So perhaps your opinion is correct in your area. But I currently own a large number of houses or small (under 4 unit) apartment buildings, all of which pay large positive cash flows, sheltered to some extent by depreciation. I now own a number of these properties free and clear because the tenants paid them off. Others are well along the amortization schedule in terms of repayment, again, paid by the tenants. Appreciation? Well, it's been huge....but it was something I never counted on. I would have been happy just to own the property free and clear.

Finally, I would just point out to you that I own a house today that currently pays annual rent equal to my original cost basis in the house. I wonder if that would qualify as a good investment in your eyes!

OldTrader
 
How did you become such a good trader? .......while playing landlord in all these properties? How do you find good tenents? Do you use property management companies?

Michael B.



Quote from OldTrader:

Let me address a couple of issues here:

1. Renting is not more attractive than buying for the long term. Look at it this way: if you buy you own the place free and clear after the mortgage is paid off....15-30 years down the road. If you rent, you'll still be paying...although you'll undoubtedly be paying an increased rent at that point. And in this example, there is no appreciation in the house. Even if there is depreciation, you still end up in 15-30 years with free and clear house with no payment. So to say that renting is more attractive than buying? I think you need to rethink that one.

2. I find it amusing that you're telling me what a poor investment single family homes are when I've been investing in them for about 30 years. But I don't buy just any house. I buy houses that are deals. At one time I was buying houses that needed significant fix-up. I used to figure that if I could buy a house which AFTER fix-up could be rented for about a 33% gross return, I had a good investment. I never counted on appreciation, tax benefits, or equity buildup via mortgage paydown. I just looked at the gross rent. However, I can tell you that taxes, insurance, deferred maintenance (like the cost of a new roof), repairs, advertising, snow removal, lawn care, vacancy, etc will not exceed 35%-50% of your gross rents, depending on the type and age of the house.

There are a number of factors that make a house more attractive than a commercial property. One is that houses are much more liquid. Two, the buyers of houses don't pay for a house based on rent...they pay based on it's emotional appeal. Commercial properties are bought and sold strictly on the numbers. Three, the financing for 4 units or under is much more advantageous than for commerical property or over 4 units. Four, when I have a vacancy it's easy to advertise and get a new tenant. Try getting a new tenant for a commerical property sometime. At times they'll stand empty for years.

All in all, I bought houses because it was easier to find exceptional deals, and gave me a much better risk profile than a commerical property. When I pencil out a commerical property I am not able to get the return that I can get from a rental house. No kidding. And further, I was able to arrange attractive financing sometimes directly with the seller, other times to get a sharp discount for all cash.

Today I can sell one house to raise cash if desired, it's only one part of my real estate holding. This gives me some benefit in arranging my taxes. I don't sell everything to raise cash like I might in a commercial property.

It sounds like your mind is made up, which is okay with me. Every area is different....the numbers are all different. So perhaps your opinion is correct in your area. But I currently own a large number of houses or small (under 4 unit) apartment buildings, all of which pay large positive cash flows, sheltered to some extent by depreciation. I now own a number of these properties free and clear because the tenants paid them off. Others are well along the amortization schedule in terms of repayment, again, paid by the tenants. Appreciation? Well, it's been huge....but it was something I never counted on. I would have been happy just to own the property free and clear.

Finally, I would just point out to you that I own a house today that currently pays annual rent equal to my original cost basis in the house. I wonder if that would qualify as a good investment in your eyes!

OldTrader
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Quote from onewaypockets:



There will be people who will be there ready to profit from the masses and at some point buy this distressed real estate. Money flows from weak to strong hands for as long as time. Money does not go to money heaven. It quietly goes to conservative investors who are ready when the time comes to take it.
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For what it's worth, the only real estate I have ever bought has been distressed. Even in today's market it's probably possible to buy property at a large discount to it's retail value. Just a question of knowing where to look, and when. There are tax sales, foreclosure sales, houses in major disrepair.

I say "probably" because I'm not an active buyer today. I have plenty of real estate, so one more house won't make alot of difference. If the decline that you seem to see happening does take place, I'll be williing to buy. Whether it will happen though, we'll see.

To get real estate down as much as you seem to believe, there will need to be more of an external cause than simply a rate increase. The biggest reason in my opinion would be job loss. That was the problem in Texas. Oil went down, people lost jobs in the oil business....couldn't afford the house. A rise in rates alone won't do it. Most of my adult life rates have been 10% plus or minus a little. That type of rate did not get house prices down.

Anyway, I'm not arguing they won't go down. As I said, I'm not buying today. But I'm not selling much either. I sold a property about a year ago, and have no plans to sell more.

I can recall periods where real estate did nothing. And my guess is that this is the next period in real estate. Appreciation will be little to nothing.

OldTrader
 
Quote from ElectricSavant:

How did you become such a good trader? .......while playing landlord in all these properties? How do you find good tenents? Do you use property management companies?

Michael B.
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Actually being a landlord really has not taken as much time as you might think. No, I don't use property management companies....a waste of time and money in my eyes. Tenants are responsible for minor repairs in my houses. In return, I give the tenants an option to buy the property in a "rent to own" type of set up. The result is that I get virtually no repair calls from the houses. It helps when the houses are rehabbed so that major things typically don't go wrong.

By the way, we find tenants through advertising and signs....the rent to own idea is quite popular I might add.

Most people don't end up buying the house. If they do, I make a large profit. Usually though they don't. So the house turns over. Most of the time I also find out then that they have not repaired the house adequately either. So at that time I send the appropriate people back in to take care of the house, and then do the rent to own all over again.

My wife is also actively involved now so she handles various things that might come up during the trading day. If there is anything that needs my attention I do it after the market closes. I might add that my wife also plays the market, although prefers a somewhat longer term strategy in stocks...no futures or options.

We view the real estate as an area of safe, steady income. We are not concerned with whether it appreciates....although it has. What we are more concerned with is simply operating a rental business that throws off consistent cash flow.

But every day, during market hours, I'm in front of the computer watching prices, just as I have been for over 30 years. Some people have probably plowed their cash back into the markets. I have preferred to plow cash into real estate as an alternative. I have no regrets about that I might add. They have both dovetailed nicely.

OldTrader
 
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