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What is missing from this newspaper story?

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Posted on Thu, Jun. 13, 2002

Jeff Brown | With stocks still slumping, a real estate bubble is a risk
By Jeff Brown
Inquirer Columnist

OK, so the stock market is in the dumps, but let's look on the bright side: Bond prices are rising, forcing mortgage rates down.

That enables homeowners to reduce their monthly costs by refinancing older mortgages, and it allows buyers to qualify for bigger loans.

Unfortunately, that makes it easier for people to get in over their heads. Perhaps this is a time to exercise some restraint, in case home prices fall sometime later.

It was only a few months ago that most experts expected mortgage rates to begin rising by the middle of the year. According to the thinking then, economic recovery would make inflation a bigger threat, and the Federal Reserve would respond by raising interest rates this summer.

Of course, it hasn't turned out that way. The recovery has turned out to be pretty sluggish. Earnings news at many companies hasn't been very good. Add to that the potential for war between India and Pakistan, troubles in the Middle East, persistent fear of another terrorist attack, and the Enron-Arthur Andersen fallout, and you have a stock market slump.

With stocks looking hazardous, many investors are turning to the safety of bonds. As demand for bonds goes up, prices rise, causing yields, or interest rates paid by bonds, to fall.

Yields on the 10-year U.S. Treasury bond have fallen below 5 percent this month for the first time since early March. Those rates were as high as 5.4 percent as recently as early April.

Result: Mortgage rates, which tend to follow the 10-year Treasury, are averaging around 6.7 percent, down from 7.2 percent in March.

Other aspects of borrowing also have become less expensive. These days, it's not hard to find a lender who requires a down payment of only 5 percent, and some require no down payment of customers with top credit ratings. You also can add the other closing costs to the loan instead of producing a wad of cash.

It wasn't many years ago that a 10 percent down payment was standard, and some borrowers had to pay 20 percent. Also, other closing costs once added 5 percent or 10 percent.

With easy lending terms, many people who could not have afforded to buy homes in the past can do so, and others can buy more expensive homes than they could when rates and closing costs were higher.

So what's wrong with that? Nothing, if you don't saddle yourself with too much house or debt.

But what will happen if things change?

Surely, interest rates will rise again someday.

When that happens, home buyers won't be able to borrow as much, so they won't be able to pay as much. In some parts of the country, home prices could fall. Think of the housing market as an auction. Prices depend on how much money the bidders have.

Today, home buyers are willing to pay a lot because they have easy access to lots of money - and because soaring real estate prices make homes look like a good investment.

Doesn't this sound familiar? It's frighteningly like the buying binge that drove the technology-stock bubble a few years ago. Many real estate markets may be in a bubble now.

People tend to think of housing as a sure thing. But it's not. When demand dries up, prices fall.

And when that happens, the biggest borrowers may be the worst off.

If you buy a $200,000 home with nothing down, and it falls in value by 10 percent, you end up with a $180,000 home - but still have $200,000 in debt. In order to sell for $180,000, you'd have to come up with $20,000 in cash to pay off your mortgage.

In fact, you'd have to come up with an additional $10,800 if you had sold through a broker charging a 6 percent commission. You could be trapped in the house, unable to take that new job or move to a better school district.

Imagine what that would be like if you lost your job and couldn't afford your house payment.

These are uncertain days. It's not a time to live at the limit. It's time to live within your means, build a rainy day fund - and resist the lure of the hot market of the day, whether it's Internet stocks or houses.
 

bradellis

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Jan 16, 2002
Bob,

This is drivel.

Old Jeff does not know the difference between a bond and a note.The 10 year is not even being used by most lenders today because the average life of a mortgage is much shorter.

A bubble- perhaps. It is going to depend upon the market for sure. But prices are going to pay much more attention to supply and demand than to the mortgage rates. SURE, higher rates will affect prices being offered. BUT, if demand outstrips supply, prices will continue to rise.

Out here in SoCal, they are all talking about the "bubble". The experienced agents and appraisers all remember the lat time prices escalalted like this only to crash. BUT, back then, it was a questin of employment as the aerospace and defense industries were such big employers. When their business contracted, so did jobs.

Today, however, the economy out here is much more diverse. CA has about 34 million people and growth is projected to be 50 million by 2020. That's nearly a 50% increase. So, where are all these new folks going to live? Prices are already too high in LA county, so they are looking in the Inland Empire (San Bernardino and Riverside counties). Growth is enormous as is the level of new home building. I do not think I am exaggerating when I say that there must be at least 250 new subdivisions underway (and maybe I am being conservative!).

The most respected housing economist in the area projects 25% appreciation over the next 18 months.

So, before one begins to use this data is considering value opinions, I strongly suggest that basic economics will be the driving force- as opposed to interest rates- which will obviously be a factor, but less of one than some might expect.

Brad Ellis, IFA, RAA
 

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Brad,

I was just thinking that he said nothing about inflated appraisals. Based on nothing more than my personal experience with reviews and other appraisals I get to see, INFLATED VALUES seems to be one of the larger problems and continues to artificially inflate home prices.

Somehow, the general public and a lot of real estate professionals seem to believe that real estate always, consistently and continuisly goes UP. That is not always the case.
I am with you, I don't worry too much about what a national article story or trend says. The local market is what I have to deal with.

Bob
 

Terrel L. Shields

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The market might go up in CA by 25 percent, but could do the same down. I find doing the opposite of conventional wisdom often is correct at least as often as following the herd. If the stock market does not regain some credibility, stocks cannot go up. And as more of the tech companies have to fess up to their cleaver boolkkeeping the trend may be quite spotty even in sunny California.
ter
 

Stephen J. Vertin MAI

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Jan 17, 2002
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Illinois
I saw the most interesting statistic yesterday. It said the U.S. allowed 31 million people to immigrate into our country in 2000. It was the largest percentage population/immigration ratio in our country's history. It said it was about 20 percent larger than the last largest immigration wave during 1900-1901.

Thirty one million, that is L.A., Chicago and Dallas metro areas. I believe this current round of buying is demand driven. Simply based on population surge. I do not think it is a bubble. A lot of immigrant families are willing to pool resources. Additionally a lot of the newer immigrants are highly educated. IMHO I believe this will last a while.

Steve Vertin
 
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