Wednesday, March 9, 2016

Let's talk housing

My mom came and visited this weekend. It was great to have her and get a break. J and I went house shopping and got some errands done, which was nice. No update on a new house. Still waiting. And that's okay. I sometimes feel like I can be a very impatient person, so it's hard to wait and want something. But, I also feel like it teaches me lessons every time, and that there is value in waiting. Our touring agent this weekend asked us our timeline, which I replied, "Well, either before mid-summer or we wait until next year." We won't move unless it's right, which means there is no pressure. Besides our own. I've thought about making a "best of redfin" post about some of the ridiculousness I have seen on the market in our searching, but have decided I would rather write about a more serious issue, and I hope this doesn't offend too many.

This weekend, we watched, "The Big Short," which was nominated for best picture. Christian Bale was also nominated for best supporting actor (and did a really good job). I highly recommend that you watch that movie. It makes what happened during the Housing Market crash of 2007/2008 more tangible and understandable. And it leaves you angry. I have been studying the housing market since we have started thinking about moving again, so when I saw clips from the movie during the Oscars, I begged J to watch it. What got me so interested is that the prices now are so much higher than they were in 2011. During a period with relatively little economic expansion and inflation. Is what happened then, happening again? After doing a fair amount of research, I'm coming to the conclusion of, "no, but..." A couple of things have happened since the downturn in 2008. First let's take a look at the housing market index.

Graph of historical house prices

The red line is the one you want to to look at. Starting in the late 90s, the bubble is pretty clear. How did the first one happen? We'd like to think that the fault entirely lies with the big banks making huge profits for about 10 years, but the blame is much more spread out. The government had decided that the path to homeownership should be easier. They encouraged lending agencies to start lowering their standards from 20%+ down and fixed mortgages to 3% down (or even 0% down) adjustable rate mortgages. Eventually standards downgraded to the subprime stuff you hear about - bad credit scores, 0% down, interest only, adjustable rate, no income verification. Of course these types of loans are incredibly risky. So, to mitigate risk, they packaged all these loans into a CDO (collaterized debt obligation). The idea was that some percentage of the mortgages may default, but they won't all default and in the meantime, the interest generated was quite high. What's terrible is that these CDOs got high investment scores by the ratings agencies, placing them as safe bets in the stock market, when they weren't safe at all. That led to bonds and pensions being based off of these funds that were backed by subprime mortgages. With lower lending policies, people began to flood the market. Houses that were once not affordable became attainable. At 0% down, an individual has unlimited leveraging power. And as long as prices were going up, people thought they could easily flip a house if it didn't work out. Not only that, but people that were not real estate investors began buying property for investment purposes. Eventually, the market became saturated and the intro rates for those adjustable rate mortgages began to expire. But people were unable to refinance because the market was saturated and the prices began to fall. As this happened, more and more people defaulted on their mortgages. And it should be noted... with relatively few consequences. Defaulting on one's mortgage and being foreclosed means losing the money you put into a house. If you put down 0% or even 3%, that isn't a whole lot of loss (besides the hit to the credit score, which for many was already low). As defaults rose, the CDO market evaporated, which took down the banking sector and led to the Great Recession. So, who's at fault? The government for encouraging lax lending strategies and lowering requirements for Fannie/Freddie. For backing many mortgages that should never have been written? For bailing out the banks, who then used the money for bonuses? Absolutely. The government did a horrible, very bad thing. How about the individuals taking on loans they couldn't handle? Individuals were taking on trillions in debt on a gamble that the market would go up indefinitely. When a system is hacked, do you blame the hacker or the sysadmin who left the door unlocked and the window open? You blame both. The hacker obviously didn't do the right thing, but hackers as well as individuals usually exploit the system given to them. The lending agencies left the door unlocked, the window opened and had a sign pointing, "this way to financial ruin!" Then there were the predatory lenders, who would be like those guys from "Microsoft" asking to VPN into your computer. Yes, the government was to blame, the banks were to blame, the lenders were to blame and the individuals were to blame. And then the American people bailed out the banks. The responsible ones who saved up 20% for their house saw their investment go down the drain and were left holding the check. And no one learned their lesson. The American people were left worse for the wear and the 1%ers left richer. No one was even prosecuted. And if this doesn't make you angry, it should. It should make you sick to your stomach.

But why am I going on about this? Because prices are climbing back to 2004/2005 levels. And my question is why? Why after all that are prices not returning to their pre-1998 trend of gradual climb? One reason is that interest rates are still low. And as they remain low, the monthly payment on a 30 year fixed mortgage can be reasonable even for higher prices. Also, inventory is still low because builders haven't been building as much. Okay, fair enough, but...

Not to mention the national association of realtors is one of the leading lobbyists and PAC in Washington. Subprime mortgages are back! And so are CDOs. It's almost like banks and lenders didn't really learn a lesson since the American people are here to bail out big money. Remember, they're "too big to fail"! What concerned me and left me very worried was the conversation I had with the builder before we backed out of our new construction house. When I explained that it was so much money and more than we were wanting to spend, she replied, "well, I see you want to put down 20%. Why would you want to do that? That's insane! No one puts down more than 10%. I would never put down more than 10%. There are other options than a fixed rate mortgage." If I wasn't backing out before, that statement had me running for the hills.

Life in America is becoming increasingly difficult for middle America. There are few incentives for responsible decision making. And people are living with higher and higher debt to income ratios. If someone let their child run around with no consequences for their actions, we would condemn the parent. But our government, our corporations are given just that. It makes me so upset that our society is driven by this instant gratification mindset. Instead of letting the banks fail and prosecuting the scum that engaged in fraud, which would have led to better lending practices and a stronger economy eventually, we bailed them out. What lesson does that teach us? What does that teach our children? Gambling is easy when it's not your money on the line. And I can't help but think that history may very well repeat itself.

If you read all this, thanks for listening to my tirade.

If you made it to the end, here's a fun photo. Metro areas have a lot of cars. L has to tell me about each one.


  1. Very true. 20% down is definitely the way to go, protects you a little from market fluctuations, eliminates PMI, and allows for better mortgage terms since it's less risky for the bank. That builder sounds shady!

  2. So given the knowledge that a new bubble is about to begin or already begun, how should responsible home owners and home buyers react? Are prices already inflated so it's risky to buy a home unless you want to live there for 30 years, or is it sufficient to not take out those bad mortgages yourself? (Also comments should have an edit option!)

    1. I have no idea. I think in general you can look at the break even point. Meaning, the point at which you would break even between renting and buying. I think DC right now is around 4.5 years, so you should rent unless you plan on living in the place you buy for 4.5 years or more. I think there is always some risk associated with buying a home. I know people who bought in the height of the previous bubble who are still paying the price. For us, we are still looking. However, we are being extremely picky, and probably won't go for asking. I've been seeing the markets drop from what they were last year already. I think in general, long term investments seem to be the way to go. But there's just a lot of volatility since early 2000s.