In some U.S. markets, prices appear to have fallen enough to make buying cheaper than renting.

TO BE NOTED: From Reuters:

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By Julie Haviv

NEW YORK (Reuters) - After six years of renting in San Francisco, Kate Wilusz jumped at the chance to swap her tiny apartment for a roomy four-bedroom Victorian home. But she is paying a mortgage instead of rent -- and coming out even.

"I could not be more thrilled," said Wilusz, a financial planner who recently closed on the dream house with her husband, Charley.

In some U.S. markets, prices appear to have fallen enough to make buying cheaper than renting. Mix that with mortgage rates that are near record lows and renters who want to become buyers are rejoicing.

"The U.S. government is helping bail out those who bought at the top, but I got my own personal stimulus package through falling home prices and low interest rates on mortgages," said Wilusz, who works at Ameriprise Financial.

Wilusz said instinct told her it was time to buy, and her new home costs her as much to own as it would have to rent.

"Everyone was saying home prices in San Francisco would never go down, but any time someone says something will never happen, it usually happens and it is time to be a contrarian," she said.

San Francisco, one of the metropolitan areas covered in the widely watched Standard & Poor's S&P/Case-Shiller Home Price Indices, has shown significant home price depreciation. Home prices fell 3.8 percent in December from November.

San Francisco was also one of the worst-performing cities in terms of year-over-year declines in December, with home prices dropping an average 31.2 percent.

The silver lining in these clouds over California's housing market is clear: Lower prices are luring buyers.

Home sales in California rose 42.5 percent in February from a year earlier as the median home price slid 39.9 percent, driven by sales of foreclosed properties, according to a MDA DataQuick report last week.

The report said 29,225 new and resale houses and condominiums were sold in California last month, down 0.8 percent from January. The median price for a home in the most populous U.S. state was unchanged from January at $373,000.

OWNING COSTS LESS

"You can now own a home in so many areas of the country for less than it costs to rent," said Mollie Carmichael, senior vice president at John Burns Real Estate Consulting in Irvine, California.

Out of the 76 metropolitan area markets across the United States tracked by the company, a whopping 50 percent show that a person can buy a house for less than renting when considering the after-tax cost of homeownership, she said.

Prices have dropped so much in some areas of California that monthly mortgage payments on single-family detached homes are significantly lower than apartment rents.

Carmichael said that in California's foreclosure-plagued Inland Empire, Riverside and San Bernardino counties east of Los Angeles, the average monthly rent for an apartment is $1,157 and the average after-tax monthly mortgage payment on a median-priced single-family detached home is $971 - and is projected to decline to $872 by mid-year.

"It is one of the best times to buy a home," she said.

The U.S. housing market is in the worst downturn since the Great Depression and its impact has rippled through the recession-hit economy, as well as the rest of the world. Economists contend that the economy might not emerge from its slump unless the housing market stabilizes.

Affordability, at least by some measures, is at a record high right now.

The National Association of Realtors' housing affordability index surged 13.6 percentage points in January to 166.8, the highest since tracking began in 1970.

"A family earning the median income could afford to purchase a home that cost 59 percent more than the median priced home," said Celia Chen, a director of housing economics at Moody's Economy.com in West Chester, Pennsylvania.

"Low mortgage rates and rapidly falling house prices are causing the surge in affordability, even though income growth has slowed," she said.

Home prices should fall even further from a weak economy, rising unemployment, significantly tighter lending standards and foreclosures continuing to flood the market, she said.

Interest rates on U.S. 30-year fixed-rate mortgages averaged 4.98 percent for the week ending March 19, according to Freddie Mac. Nine weeks earlier, mortgage rates were 4.96 percent, the lowest since Freddie Mac began surveying them in 1971.

Wellie Chao, an entrepreneur and founder of Micro Office Solutions in New York, plans to buy a Manhattan apartment.

"I am a pragmatic person and prices are starting to come down to where owning really makes more sense and it is always best to buy on the downswing," he said.

A person can rent a one-bedroom apartment in a doorman building in Manhattan for around $2,700 per month, but that person can buy a similar place for $600,000, according to Ray Schmitz of Coldwell Banker Previews International in New York.

Schmitz said with the downpayment and a 740 credit score they can borrow 80 percent and lock in a low 30-year fixed-rate mortgage, lowering their payment to $2,600 per month. The taxes and maintenance fee are usually more than made up for with tax deductions of homeowners, he said.

"The numbers speak for themselves," he said.

(Additional Reporting by Lucia Mutikani in Washington and Jim Christie in San Francisco; Editing by Doina Chiacu)"

it's much harder to stimulate housing than many people think because you have to take into account the rental market

From Alex Tabarrok:

"The difficulties of a housing stimulus

Ed Olsen, one of the nation's foremost housing experts, points out that it's much harder to stimulate housing than many people think because you have to take into account the rental market.

The primary effect of many proposals directed at the housing market would be to decrease the demand for rental units by about the same amount as they would increase the demand for owner-occupied units. This would be the effect of the proposed tax credits or loans at below-market interest rates to new homebuyers.

...The impact of preventing foreclosures on housing prices is overstated for the same reason. The overwhelming majority of families who default on their mortgages move to another unit that they do not share with others. Therefore, preventing foreclosures would have little effect on the total demand for dwelling units and hence little overall effect on market prices.

...Subprime mortgages did induce some people to buy houses beyond their means, and foreclosures would decrease the demand for the types of houses bought by these people. This would decrease the prices of similar houses. However, when they default on their mortgages, the families involved move to more modest houses or apartments, thereby increasing the demand for other types of units in other locations and the prices of units of these types. Preventing foreclosures would lead to higher prices for some properties and lower prices for others.

Read the whole thing (doc).

Posted by Alex Tabarrok on February 4, 2009 at 03:24 PM in Economics | Permalink"

Me:

"...Subprime mortgages did induce some people to buy houses beyond their means, and foreclosures would decrease the demand for the types of houses bought by these people."

This is, in my opinion, the problem in the Central Valley in California where I'm from. Oddly, many of the worst loans were at the height of the bubble. In other words, the buyers, who were going to have a hard time in any case, were buying at the top of the market. I have no idea how low the prices on many of these houses will have to go before people would buy them again.

In the meantime, renting allows you, in a downturn, the possibility of getting a cheaper place a lot easier than having a mortgage. In the Central Valley, we could be talking about a very long time for a housing recovery. Maybe I'm wrong.

Posted by: Don the libertarian Democrat | Feb 04, 2009 at 11:38 AM

"it is entirely rational that a new mortgage should cost less than prevailing rents"

Felix Salmon on Mortgages VS Rents:

"Why Mortgage Payments Should be Lower than Rents

It's clearly Ryan Avent morning here at Market Movers, since I also find myself with a minor case of siwoti ( SIWOTI: Someone Is Wrong on the Internet (PZ Myers) FROM DON ) upon reading this:

We have folks trying to sell homes of necessity (and increasingly this will be due to job loss, rather than foolish borrowing) and finding that even prices corresponding to mortgage payments below prevailing rents are failing to draw interesting. This is not a desirable place to be, and it's worth government attention.

It is not the job of government to prop up house prices to the point at which mortgages cost more than prevailing rents. In fact, right now, it is entirely rational that a new mortgage should cost less than prevailing rents. Here's a few reasons why:

1. Mortgage rates are extremely low -- which means that when you come to sell the house, they'll probably be higher. Since resale value is an enormous part of the price you're willing to pay for the house, this is a very important consideration.( GOOD POINT )
   
2. Cash is king, right now -- everybody wants liquidity. To get a mortgage, you need to make a downpayment, in cash. The opportunity cost of that downpayment has never been higher. ( GOOD POINT )
   
3. House prices rose for over a decade; they've been falling for a couple of years. It's entirely reasonable to expect them to continue to fall, whatever happens to rents, for many years yet.( IT'S POSSIBLE )
   
4. A house, right now, is a liability, not an asset( SO WAS MINE FOR A TIME AFTER I BOUGHT IT. ). It ties you down to one place, which makes it harder to get a good job if you become unemployed( TRUE, BUT THIS DOESN'T APPLY TO EVERYONE. ). It needs constant maintenance( I DON'T MISS THIS ONE ), it comes with obligations to pay property taxes and insurance( WHERE I USED TO LIVE, THEY WERE OUTRAGEOUS. ), and, if you do end up renting it out, there's all the inevitable hassles with the renters( A PAIN ). Without much if any expectation of house-price appreciation, why go there?( ANOTHER GOOD POINT. I STILL BELIEVE THAT OWNING A HOUSE CAN MAKE VERY GOOD SENSE, BUT THERE ARE A LOT OF NEGATIVES TO BUYING OUT THERE NOW. OF COURSE, I HEARD SIMILAR WARNINGS WHEN I BOUGHT MY HOUSE. )
   

If government attention is to be paid to housing, I would love to see it concentrated on the affordable-housing front( I BELIEVE IN A GENERAL HOUSING SUBSIDY, BUT ONLY FOR THE TRULY NEEDY. ) (which might conceivably include lower interest rates) rather than on the higher-house-prices front (which really do no good to anybody in the long term). Yes, falling house prices are very bad for credit markets( ACTUALLY, THE MAIN PROBLEM RECENTLY HAS BEEN THAT THEY CONTRIBUTED TO A CALLING RUN. ), and we might need to intervene for that reason( FINE ). But worrying about mortgages being lower than rents is silly.

Update: Avent adds that if someone can rent out an apartment for more than the cost of the mortgage, "money is lying on the ground, waiting to be picked up( SO IS IBS. )". Not true.

Yes, you need to look at the cost of the mortgage, but you also need to consider the total annualized rent, including the periods the apartment is empty and looking for a renter, and including the risk of rent default, not to mention the cost of eviction should that become necessary. You also need to consider the opportunity cost of both your home equity and your own time. And then, of course, you need to discount for the risk that home prices will fall.

Yes, it's possible to make money being a landlord. But it's not an easy occupation, nor is it risk-free. Some people are suited to it; most aren't. And generally it's something best done by professionals( I WOULDN'T DO IT )."

My point is that every individual needs to make this decision based upon their own needs and level of understanding of what the investment entails. Do the research! Get some help! I'm telling you, everybody can be helped to understand these issues.

"we have to distinguish between speculators and investors"

From Calculated Risk, one reason lower mortgage rates aren't luring more home buyers:

"Housing: Declining Rents

by CalculatedRisk on 1/08/2009 02:07:00 PM

With investors buying low priced homes to rent (see previous post) and the economy in recession, guess what happens? More rental supply, less demand and falling rents ...

From the LA Times: Housing downturn hits L.A.-area rents (hat tip Charlie)

After rising for several years, rents in the Los Angeles area are declining because of the economic recession and depressed home prices, researchers, real estate agents and property managers say.

The lower local rents match a national trend, according to a report released Wednesday showing apartment rents fell in 54 out of 79 U.S. metropolitan areas in the fourth quarter of 2008. Softening rents add another obstacle to a housing market recovery, economists say, because tenants with low rent payments feel less urgency to buy a home.( TRUE )


Nationwide, apartment rents eased 0.1% in the fourth quarter, the first drop since 2002, according to the analysis by research firm Reis Inc."

Here's the earlier post:

"Speculators or Investors?

by CalculatedRisk on 1/08/2009 11:14:00 AM

From Bloomberg: No Recovery for Real Estate as Speculators Dominate Sales (hat tip James)

As the U.S. housing recession enters its fourth year, there’s no sign of a recovery because speculators account for most of the rise in sales.
...
While the purchases are trimming the inventory of unsold properties, most of those bought by speculators will likely return to the market when prices rise again, hampering any recovery, said Nobel laureate economist Joseph Stiglitz and Yale University Professor Robert Shiller in interviews.

“We’re creating a shadow inventory of homes that will be right back on the market as soon as the economy and the housing market begin to improve,” said Stiglitz, a Columbia University professor of economics. “We could see a double-dip in the housing recession if that happens.”
...
“You don’t have it in strong hands, you have flippers,” said Shiller, who helped create the S&P/Case Shiller real estate price indexes. “These speculators are preventing the market from crashing now, and when they get out it could fall again.”( OF COURSE, IF PRICES CONTINUE TO FALL OR REMAIN STAGNANT... )

Uh, no. In this case I believe Shiller is wrong.

First, we have to distinguish between speculators and investors. My view is speculators buy with the intention of flipping or re-selling as soon as possible( THEY MAKE A DECENT PROFIT AFTER TAXES ). Investors buy for cash flow. The Bloomberg article offers this example:

Robert Arnold, a real estate investor who rents out a dozen homes near Orlando, Florida ... bought an Orlando foreclosure in June for $60,000, about a third of its appraised value, and spent $20,000 repairing it. Four months ago he rented it for $950 a month....

“Most of the houses I buy are junkers, but with a little work they become cash cows,” Arnold said.

Arnold is not a flipper, and according to the real estate agents I've spoken with recently, most of the recent non-owner occupied buyers are buying for cash flow just like Arnold.

Yes, these investors will probably keep price appreciation down in the future, but I'd argue a cash flow investor is a "strong hand" and I think they will hold the property longer than Shiller expects. ( THAT DEPENDS UPON THE RENTAL MARKET. OF COURSE, IT ALSO DEPENDS UPON THE TYPE OF HOUSES BEING BOUGHT. THESE SOUND LIKE HOUSES THAT ARE IN POOR CONDITION, BUT THAT CAN BE MADE HABITABLE FOR VERY LITTLE MONEY. THERE'S A LIMIT TO THIS TYPE OF HOUSE AND OPPORTUNITY. )

There are a lot of bets being made now, but no clear winners have as yet emerged. I still see home prices when averaged going down another 5 to 10 % from here.

"All of which is to say: take another look at that rent vs buy calculator"

Felix Salmon with an important post:

"Rent vs Buy: Buying Becomes More Attractive

I've been playing around with mortgage calculators this morning, after getting an email from a renter in Long Island who wants to buy but isn't happy with falling mortgage rates:

I have saved enough for a substantial down payment - and was looking forward to taking advantage of my savings and higher mortgage rates by buying a home for a lot less then current asking prices.
Lowering rates will only keep these d_mn home prices artificially high. Prices need to come down. Why shouldn't renters have a chance to build equity over time in a home (with 4.5% mortgage rates - you'll never build equity, you'll just really be renting again!)

This is actually the wrong way round. The lower your mortgage rate, the faster you build equity in your home, and the less money you waste in interest payments to the bank( YOU ALSO HAVE TO FIGURE IN THE HIGHER PRICE OF THE HOUSE IN YOUR CALCULATIONS, AND THE EFFECTS OF LOWER PRICES VERSUS LOWER INTEREST RATES ON THE HOUSING MARKET GOING FORWARD. ).

Let's say our friend in Long Island is currently paying $1,000 a month in rent, and would rather spend that $1,000 a month on a mortgage payment instead( THIS IS IMPORTANT ). If he got a 30-year fixed-rate mortgage at 7%, that would cover a $150,000 loan. Since $1,000 a month for 360 months works out at a total of $360,000 in mortgage repayments, on average about 42 cents of his mortgage-payment dollar will go towards building equity. What's more, most of that is back-ended: after five years, he will have paid down his principal amount outstanding by just $8,820.64, or less than 15% of his total payments.

On the other hand, a $1,000 payment on a 30-year fixed-rate mortgage at 4.5% would cover a $200,000 loan -- which means that 56 cents of every dollar you spend on your mortgage goes towards equity. And after five years, he will have paid down his principal amount outstanding by $17,450.82, which is 29% of his first five years' payments.

So yes, the house is $50,000 more expensive, but it's just as affordable, and you're building up more equity, not less, with the lower mortgage rate( THAT'S WHY YOU HAVE TO CONSIDER ALL OF THE VARIABLES ).

Of course, there's always the risk that a house bought with a 4.5% mortgage could fall in price more than a house bought when interest rates are higher -- or that the cheaper house has more room for price appreciation. So the calculation isn't really this simple( TRUE ). But if you look at an amortization curve for a high-interest-rate mortgage, it starts off pretty flat: most of your mortgage payments are going to interest( TRUE ). The lower that mortgage rates fall, the more equity you build up in the early years.

All of which is to say: take another look at that rent vs buy calculator. Even at 0% house price appreciation, buying looks much more attractive when mortgage rates plunge, as they have done recently. ( PLEASE DO )

The best part about this post is that it isn't discouraging home buying even for people who can afford it. It was an investment that worked well for me. A person should generally buy rather than rent, unless that you believe that with the money that you have left over after you pay the rent, you can invest in ways that make up for the total loss of the rent. I simply doubt most people's ability to do so.

So posts like this on Start Making Sense, don't make sense to me:

"The cult of home ownership

Good article in today's Times about how the Bush Administraton helped light the fuse under the current economic meltdown by pushing universal home ownership and hence encouraging( THIS IS PURE MECHANICAL THINKING. THE ONLY THING THAT ENCOURAGES BAD LOANS IS BELIEVING THAT YOU'RE GOING TO GET AWAY WITH IT ) bad mortgage loans.

Needless to say, there's plenty of blame to go around. Just look at the tax code, both its decades-old features and the Clinton Administration-directed changes thereto that I noted in a recent entry here. The only thing distinctive about the Bush Administration's adding a bit more gas to the fire is the lack of fit with its ostensibly pro-market attitudes( THE TAX CODE WAS A DISINCENTIVE ).

But I must say, I've never gotten this political cult of homeownership. True, there is some at least slight evidence of positive externalities from home ownership in some settings because people are more committed to the location. (This can have nasty playouts as well, however, e.g., more assiduous racial exclusion.) But on the other hand, investment in more economically productive assets, e.g., via stock ownership, might have positive social externalities as well( YOU BELIEVE THE AVERAGE PERSON CAN BEAT THE LOSS OF THE RENT PAID ? ). Plus, home ownership is often (usually?) a really lousy investment choice from a personal standpoint ( THAT'S PREPOSTEROUS ). It's wildly under-diversified( COMPARED TO WHAT? ), if you're not rich enough to have a home plus lots of other assets, and leveraging it creates huge downside economic risk (as we've seen)( ONLY IF YOU CAN'T AFFORD IT ).( BUT YOU'RE NOT PAYING RENT, WHICH MEANS THAT YOU'VE TURNED A LOSS INTO AN INVESTMENT)

Once the dust settles, perhaps the government should seek from now on to discourage home ownership( WHY ? ), encouraging those who aren't enormously investment-savvy( YOU BELIEVE THAT THESE PEOPLE'S INVESTEMENTS CAN BEAT THE LOSS OF MONEY IN RENT. THEY WOULD HAVE TO BE VERY SAVVY ) to hold more diversified asset portfolios that are much less leveraged."

There is no way to make an a priori decision about whether to rent or buy, but, for God's sake, if you can't beat the loss of the money in rent by investing, you should consider a house. Otherwise, there's no other way to look at it, you're losing money.