Wednesday, March 30, 2005

The risks from falling home prices

By Chuck Jaffe, MarketWatch

BOSTON (MarketWatch) -- When I interviewed for the job that first brought me to New England in 1994, I met with seven different executives.

Four of them were underwater on their mortgage, meaning that if they had to sell their home in the Boston suburbs, they would have to bring money to the table to pay off their lender because the home had declined in value.

They spent more time talking to me about how nervous the situation was making them, and wondering aloud what might happen next, than they did asking me about my thoughts and feelings for what became my job.

Just over a decade later, in most regions of the country, the idea of people lying awake at night worried about home values seems like ancient history, the stuff of legend.

But that may be about to change.

The winter 2005 Risk Index issued by PMI Mortgage Insurance Co. shows that homeowners in 11 of the top 50 metro market have at least a 25 percent chance of experiencing a housing-price decline over the next two years. My home base in the Boston-Cambridge-Quincy, Mass/N.H. metropolitan area had the worst score, a 53.3 percent probability of weaker home prices in the next two years. Six California markets rank in the top 10 most likely to see a price decline. (For a look at the full report, click here.)

In real estate markets that tend to go through cycles of being super-heated and then cooling off, declines don't necessarily last for just a year or two. In those situations, past history shows that a housing-price decline can last a decade or more.

While consumers in many parts of the country have grown accustomed to feeling like housing prices will grow forever, the PMI Risk Index should make homeowners start to wonder just how much things have changed.

The boom in housing prices in hot markets has been fueled by a number of factors, demand chief among them. But with mortgage interest rates at the lowest levels in decades, consumers took advantage of cheap money to push prices higher.

Now, rates are on the rise, cutting into buying power, which in turn takes some air out of the demand balloon.

The result is a changing environment, one which affects homebuyers and some -- but not all -- homeowners.

"People should not count on their house selling for a certain price in a certain year as they look ahead at their financial future," says Valerie Patterson of "They should not count on some huge sum of money being there, because they could be looking at a long stretch where their house is not appreciating in value, or is growing in value very slowly."

If, indeed, residential real estate is headed for a turn, reactions to the change should vary based on circumstance.

Homebuyers, for example, need to worry about buying at the top of the market cycle, particularly if they do not expect to be in the house for long.

While flipping houses -- buying one, fixing it and then selling -- has made for some fast profits in many markets in recent years, if that trend is going to change, you don't want to be the one to buy in and get stuck.

Typically, financial advisers suggest considering a house a "use asset," meaning you get your value from it by using it every day, with appreciation being a secondary benefit.

For homeowners, a potential decline in home prices raises several issues.

Anyone hoping to maximize their home's value as they downsize or retire may want to speed up the process in an effort to capture top dollar. Without the ability to make a change now, advisers note that homeowners planning on a big windfall from their home may have to postpone plans and build their nest egg in other ways.

"Some people have let the real estate market save for them, figuring their house would make enough money to put them over the top for retirement," says Lisette Smith of Smith Rapacz, a Boston advisory firm. "If selling at a certain price will make or break someone's retirement, then a decline in home prices means they may fall short of their goals and will either have to work longer or save more to make up for it."

Likewise, homeowners planning major renovations may need to reconsider whether they can get the money out of their improvements in the future. They also need to avoid taking on too much home-equity debt, because the higher debt loads increase the potential to be underwater on financing.

"In a down market, people need to be more careful to keep their heads above water," says Patterson. "People have been spending, thinking everything would keep going up -- particularly in the hottest markets -- and now they might want to cut back a little."

Experts also suggest that in an environment that mixes declining home prices with rising interest rates, consumers who borrow against their home equity use the money on things closely related to the home. Upgrading a bathroom or the kitchen, for example, keeps the money in the house; paying for a vacation uses the cash for something with no relation to the home.

Whether a downturn in home prices is short and fast or steep and long -- or happens at all -- is likely to depend on local conditions, but failing to see it coming -- especially for people who are likely to want to cash out from their current property in the next five years -- is shortsighted.

Says Patterson: "You haven't heard of people being underwater on their mortgage for a long time, but you are about to hear about it more and more, because it's going to be a real problem for a lot of homeowners."


At 11:59 PM, Anonymous Flockmeister said...

Thanks for posting these articles. I have it on my yahoo home page. The bubble-burst has happened and the writing is on the wall: Japan, now UK and Australia... hmm who's next?
I'm surprised that there aren't any comments. Any right-wingers out there who want to rant about socialists causing the housing bubble? Come on ranters, give me some material.

At 1:13 PM, Anonymous Anonymous said...

No real movement in house prices in North Wembley and specifically in the Sudbury Court Estate.

Many muppets are still marketing 3-bed semis with shared drives and crap interiors for silly money (circa £329k) and these are sticking to EAs windows.

Daniels is one of the main agents that serves the Sudbury Court Estate and they have had the same properties on their books for close on a year now.

A few properties have sold only to return to the market.

Most notable recent sale was on 126 Norval Road. On the market at £319k and in excellent condition inside and out. According to Nethouseprices sold for £287k. Worth the money imho. 32k drop in price!!! Many other vendors should do the same to secure a sale.

A 3 bed house at 66 Carlton Ave West was on the market at £329k before Christmas 04 was dropped to £319k earlier this year and is now on the market at £315k. It is a dirty smelly house that needs lots of work - no chance of shifting that until it comes down to £270k.

A 3-bed shared drive house at 14 Paxford Road - excellent condition inside and out, was on the market at £309k and sold for 290k in February.

Many other vendors are holding out for close to asking price - they will be the ones chasing the market down. Anyone buying a property at inflated prices needs their head examining as most people in the area now expect prices to drop about 10% by Christmas 05.

At 1:45 AM, Blogger NotApp said...

I take a break from real estate every now and then and click the “next url” link to see what’s up (or down) in the world of blogging. Brought me to your site, which I enjoyed reading. But now I have to get back to my Boca Raton real estate site. Busy market, but also a troubled one with all the hurricane devastation down here in Florida. Stay safe :o)

At 8:06 AM, Blogger sam said...

Hi, coming across this post, I thought maybe someone down here might have some good advice on how to sell your own house without a real estate agent. I’ve heard that according to a number of different sources, between 80% and 90% of owners who attempt to sell their homes on their own eventually enlist the aid of a realtor. Would anyone reccomend to deal with these guys sell house fast ? I’m afraid I might be in for a loss or getting much less then the market value. Thanks for your insight.

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