Ba-Ba-Ba-Benny and the Fed

Aw come on and sing along with me (Benny and the Jets).   Ben just surprised many by dropping both the Fed Funds and the Discount Rate by 0.50%.    It’s too soon to tell how this may impact mortgage interest rates…however it (the Fed Funds rate) directly drops the rate home equity loans are based on to 7.75% (Prime Rate).    You can see by the chart below that waiting on rate reductions from the FOMC to impact long term mortgage interest rates may not be the move for you to make.


Chart compliments of Loan Tool Box

The Fed based this reduction due to ” the tightening of credit conditions has the potential to intensify the housing correction”.   To read the entire press release, click here.

174 thoughts on “Ba-Ba-Ba-Benny and the Fed

  1. I expect this is the first of many Fed Funds rate reductions we will see in the coming years. But I doubt very much it will help consumers. As Rhonda points out, mortgage rates don’t always follow the Fed rates. Further, low interest rates don’t do anything to loosen lending criteria and bring back loan products that have been discontinued.

    The recent Libor rate increases (on which many loans are based) despite no increases in central bank rates is a great case in point, illustrating how central bank rates don’t necessarily correlate to the rates consumers will see.

    In fact, we could see lending criteria continue to tighten at the SAME time that central banks lower interest rates. Look at Japan, they had extremely low interest rates for a decade, yet real-estate prices continued to tank the entire time. The biggest issue, by far, is going to be the availability of credit, not the interest rate.

  2. Sniglet, very true: “low interest rates don’t do anything to loosen lending criteria and bring back loan products that have been discontinued”

    This is also a big reason why people should not wait to review their ARMs with a Mortgage Professional. Dan Green CMPS, did a great post on this comparing vanishing mortgage programs to Trader Joes no longer carrying his favorite yogurt.

    With regards to mortgages based on LIBOR, ARMs do have CAPS limiting how much and when they can adjust. Even so, the amount a monthly payment can change will shock many home owners which is again why they should not casually wait for their ARM to adjust to see if what the payment will be.

    Instead, they should dig out the Note and call their mortgage professional to review what the possible worse case payment will be.

  3. Pingback: Fed Cuts Fed Funds Rate by .5 Percent | Phoenix Real Estate and Homes for Sale - Dalton’s Arizona Homes Blog

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  5. Sandy,

    People with large debt gt their debt reduced when inflation is high. People with little debt and large assets get their assets reduced when inflation in high. Inflation is basically a flat tax that transfers welath from those with assets to those with debt. This rate cut is going to cause high inflation. Suddenly people who took out huge house loans at low fixed interest rates are looking really smart.

  6. It amazes me when people write/talk as if they know for absolute certain what will happen in the future.

    From today’s FOMC Statement:

    “Readings on core inflation have improved modestly this year. However…some inflation risks remain, and it will continue to monitor inflation developments carefully.”

    I’m confident Ben will continue to keep tabs on inflation.

  7. Rhonda,

    It’s plain for all to see. Just look at what happened to the dollar, gold, and oil today when the rate cut occurred. The dollar dropped like a ROCK. That is inflationary. This means that virtually everything you and everyone else buys has just got more expensive – and as the dollar continues to decline it will just get worse. Everthing we consume is imported. The dollar has dropped 9% in the last 12 months. Every dollar you own (bank, 401K, house equity, etc) is worth 9% less today than a year ago. Oil is at an all time high – the price is rising because it is denominated in dollars and the dollar is falling. The fed is inlating, trying to prevent a recession but what they are really doing is debasing our currency. All the foreign investors who buy our bonds (yielding what – 4 or 5%) have lost 9% in the exchange rate in the last 12 months. How long do you think they’ll keep buying our bonds when they lose more on exchange rates than they make in yield on the bonds? What happens when they sell our bonds (capital flight) or just stop buying? Interest rates GO UP. What happened today to the 30 yr bond yeild in response to the Fed dropping the fed funds rate 50 bp? IT WENT UP. What happens when the 30 yr bond rate goes up? The economy and housing tanks. The faith in the fed ‘s ability to reinflate will be short lived. In the long term, they are just going to cause much more pain for everyone.

  8. Jay gets it.When oil goes north of 100 a barrel,those long suburban commutes and loss of jobs are going to result in a lot of empty dreams,not to mention houses.Foreign investment in our debt is nosediving,they see the truth of the dollars plight.If they stop buyin our debt,the party is over,plain+simple.If you dont think this rate cut was a panic move,you arnt paying attention.All great empires fail because of military overexpansion,and loss of control of immigration.We need these 3rd./4th worlders to cook+clean+pick our crops for almost nothing?Even John McCain,amnesty pimp,admitted 2million of 12 here now are felons,both numbers are low,btw.When you’re up to your belt in alligators,its too late to drain the swamp.Look familiar?Rome maybe???

  9. It’s a balancing act. There are reasons they didn’t lower rates last month. There are reasons they did this month. Different reasons.

  10. “It amazes me when people write/talk as if they know for absolute certain what will happen in the future.”

    So pumping more money into the system doesn’t devalue the dollar? What school of economics is that?

  11. Joel, other reports came in yesterday, such as the CPI, that indicated that inflation is in line. My point is that I’m not going to run around screaming fire. Like Kary mentioned in 15, it is a balancing act. It’s going to take time to see the full impact of the Fed’s move yesterday.

    And yes, I’m glad that I have my mortgage with a low rate as Alan mentions in 11.

  12. Errors predicting what will happen are often the result of only looking at one factor. An example would be bears on a particular stock that only look at its price/earnings ratio.

    Also, what’s the risk if they did nothing? Recession? Which is worse–inflation or recession? Obviously both together is the worst thing, but between the two, which is worse? Given the debt levels of most Americans (and the government), inflation is not all bad.

  13. “Given the debt levels of most Americans (and the government), inflation is not all bad.”

    Good luck getting foreign countries to continue to lend to us if we intend to screw them by devaluing their loans…

  14. The loans are more devalued after the unexpectedly large rate cut (look what happened to the value of the dollar yesterday).

    Also, encouraging inflation because “most Americans and the government” are in debt sends an interesting message regarding the fundamental stupidity of savings and thrift. Reward prolifigacy, and you will get more of it…

  15. It’s not encouraging inflation. It’s avoiding recession. It’s a balancing act. They felt the risk of recession was greater than the risk of inflation, and typically if you have a recession you don’t have inflation.

    Think of it as putting out a fire (inflation) in an apartment on the top floor of a ten story building. Once you have the fire under control, you need to start thinking about water damage (recession). You can’t just continue to fight the fire because that’s what you’d been doing in the past. You have to assess what the current situation is, and act on that.

  16. Rhonda,
    Thanks for posting the graph. I was just talking to a client of mine 10 minutes ago. He wanted to know the impact of the Fed’s lowering the rate by .5%. This will be a great tool to show him.

  17. Given the debt levels of most Americans (and the government), inflation is not all bad.

    Given my level of debt and my level of savings, inflation is very bad for me. The government has decided to tax me to support the people who priced me out of this housing market.

    I’m not surprised the government numbers on inflation are low. When a house is on fire you want everyone to remain calm. When the doors get smaller with every person who exits, you may not even want everyone else to know there is a fire until you are out.

    Yes, I am aware of how cynical that is.

  18. “Joel, other reports came in yesterday, such as the CPI, that indicated that inflation is in line.”

    Again, if inflation is “in line” right now, what happens when you start printing money?

    And a recession in coming whether we like it or not. Slashing rates over and over will just drag it out Japan-style.

  19. I thought Ben might have some balls, he does not. People keep talking about the “risk of recession”, but yet GDP has only been slowing, not turning negative. This cut was not about preventing a recession, but about bailing out speculators on Wall St. Unfortunately its not going to help homeowners, and its not going to help Joe Six Pack.

    The only reason for a 50 bps cut is that we are in some serious trouble. Bernanke could have just cut 25 bps and then sat back and see how the markets reacted. A 50 bps cut must signal that the situation is much worse than previously thought. I find this very dubious when just a few months ago B-52 Ben was stating that the subprime mess was “contained”.

    BTW, Saudi Arabia just dropped their peg on the dollar. You think the value of the dollar is dropping now? Wait until OPEC starts trading oil for EUROs instead of dollars. Wait until China drops their peg on the dollar and everything in stores increases by 50 percent in a week. The world is raising their interest rates and fighting inflation but the US is dropping theirs. UNFREAKINGBELIEVABLE.

    I can’t wait till oil hits 100 dollars a barrel and people start complaining. B-52 Ben just gave a heroin addict another shot of the juice instead of giving him a cup of coffee….

    Cut rates into a bull market has never been good. 1970’s here we come.

  20. so how did we come out of the 1970’s mess? how was saudi arabia dropped the peg on the $?wont others hurt too if the biggest economy slows?

  21. Kary, it’s clear you don’t know much about economics. Inflation is MUCH worse than a recession. The Fed’s NUBMER ONE PRIORITY is to prevent inflation. Even Alan Greenspan admitted that he had the lattitude to ease in the last few crises because inflationary pressures were less then – now he’s predicting inflation will rise to 8% ! How will the economy and real estate fare with an 8% inflation rate which will require massive interest rate increases? Recessions are just part of the business cycle historically they happened regularly. Not having a recession periodically due to constant fed intervention eliminates free market forces. When you play that game you end up setting up the groundwork for a possible depression. It’s like preventing naturally occuring forest fires. If you don’t have natural forest fires to periodically burn off pockets of dead grass and trees you eventually face a MASSIVE FIRESTORM. Be carefule what you wish for.

    Sandy – in asking how we come out of the 1970’s I suspect you weern’t born yet or too young to remember those times to even ask this question. How did we come out of it? We got a fed chairman (Volker) who massively raised interest rates to kill inflation. It was very painful for everyone. It was like administering chemotherapy – an awful experience – but without it the patient would die! And what do people think of Volker today? He’s considered a HERO – the man who broke the back of inflation that was killing us.

  22. “Jay, now that Greenspan is pushing his book, it’s hard for me to give what he has to say as much credit. It’s in his interest to create more drama and increase book sales.”

    By the same reasoning we should never listen to realtor for real estate advice or a mortgage broker for mortgage advice. You should be wary when the person giving advice has a vested interest in the unfolding events, but that doesn’t mean you can just discount them with no further analysis.

    So what part of Greenspan’s prediction doesn’t seem reasonable and why? Obviously the Saudis are also worried about increased inflation from cutting rates, or maybe it’s just because they have a book out too.

  23. Jay wrote: “Kary, it’s clear you don’t know much about economics. Inflation is MUCH worse than a recession.”

    That’s just crazy-talk. With a recession people are out of work and there are few winners. With inflation there are winners and losers. The worst is having both at the same time, but if I had to pick just one, I’d pick inflation.

  24. Kary said: :That’s just crazy-talk. With a recession people are out of work and there are few winners. With inflation there are winners and losers. The worst is having both at the same time, but if I had to pick just one, I’d pick inflation.”

    OK, Kary, lets try that one on for size:

    Recession: some people lose their job and the govenment supports them

    Inflation: no one can afford to eat, drive, or pay rent and it gets worse and worse indefinitely causing people to stop buying, businesses to stop making, and record numbers of people to lose their jobs.

    I think I’ll pick an itty bitty recession over inflation.

    Care to pick again?

  25. Jay, how old are you? Do you remember the 70s? I’ve lived through both inflationary periods, recessionary periods and the period of stagflation.

    This reminds me the good folks of Washington that voted a huge reduction in vehicle excise (license) taxes. They slashed the one tax you could easily avoid. Not terribly smart IMHO.

    While I’m not a fan of either inflation or recession, I’d prefer the one many people can at least position themselves for. When your job goes away and there are few jobs available that’s not good. And unemployment insurance isn’t as nice as you make is sound. Between paying more for bread and milk, or temporarily only getting a fraction of my past income (thereby effectively raising the price of everything), I know which I’d pick.

    I don’t want to say inflation is painless. There are obviously some that are hurt by it, especially those living on fixed incomes (e.g. pensions) that might not adjust. And I’m not discussing hyperinflation–just like you’re not talking about a depression.

    But as I said above in my first post, it’s a balancing act. You can’t be so afraid of one that you cause the other.

  26. Kary, I’ve lived through the same periods as you.

    You mentioned “when jobs go away” – the whole point of the business cycle is that there are some jobs that should go away!
    During periods of exuberance there is misallocation of resources. Look at how many excess people have worked in the whole real estate industrial comples over the last few years to support a housing bubble that should never have existed. Many of those jobs will go away and should go away. It’s called creative destruction and it’s necessary.

    When you allow inflation to become entrenched, it can stick around for a decade or longer. Then the only way to get rid of it is to creat FAR MORE PAIN than would have been caused by a normal recession. We’re corrupting free market capitalism and creating moral hazards by manipulating the system and for what? You still get the same end result. The fed is cutting short term rates and long term rates rose. Did he end up helping real estate? No. The fed is losing relevance because foreign investors are talking with their feet.

    Kary – you mentioned “I don’t want to say inflation is painless. There are obviously some that are hurt by it” – do you have any children? Do you know who will pay the most for the irrespoinsible actions of the recent past and the present? It will be your children who end up with a standard of living far less than you our your parents with no hope of a brighter future. That is unless we stop messing with free markets and let the system purge itself of it’s excesses.

  27. Actually, inflation would be a good thing for children. It would effectively reduce the national debt. 😀

    I don’t see this as “messing with free markets.” Fiscal and monetary policy should be used to smooth the ups and downs of the economy. You want to use those tools to avoid either inflation or recession, and to make recessions less frequent.

    BTW, I’ve been talking about this in another forum, but I think inflation is an irrational fear right now. The CPI numbers have been really low despite the fact that oil prices have been rising. Oil works its way through the economy, raising the price of everything, making it look like there is an inflation risk, when really there is not.

    Stated differently, to the extent that oil prices are causing the CPI numbers to rise at all, the tools to fix that are tools that increase the supply of oil or reduce the demand for oil. You don’t use fiscal or monetary policy to change that because it’s indirect and would require that you slow down the economy to reduce the demand for oil. That would be very damaging.

  28. If I can get a word in edgewise between the tete-a-tete fencing maneuvers of Kary and Jay….

    Yes, Alan is quite right, the Loonie and the Dollar are par. Remember in the 90’s when it was 70 cents for a loonie? Remember in the 90’s when it was 1.76 USD for 1 pound Sterling? It’s far worse now.

    Let’s try this.

    Look for the dollar to continue to tank, and the Fed will lower the Funds rate another 0.5% by the end of 2007. This will have the interesting affect of more international companies ‘buying in’ on American businesses (for better or worse). This will also trigger great Midwestern states appreciation because of the agricultural business (i.e. it will be too expensive to import foods rather than buy American).

    Then, look for the administration to continue to spend money on the needless wars, putting our fingers in other people’s pies where we do not belong, and forming a North-American-Union, which will increase the dollar (largley due to Canadian oil and diamond industry) and put us back closer to being competitive with the Euro.

    However, when we stop importing b/c it’s too pricy, those countries may cease to buy our debt, which will further constrain our efforts to pull out of recession.

    I ain’t no prophet, just opinionated!

  29. Kary,

    You said “Actually, inflation would be a good thing for children. It would effectively reduce the national debt”. So would a depression, want that also?

    You said “I don’t see this as “messing with free markets.

  30. David,

    “Remember in the 90’s when it was 70 cents for a loonie?”

    I’m too lazy to look it up but I believe it was about 63 cents toward the end of 2003. That would be less than 5 yrs ago. Reason I remember is that we made a fairly large purchase North of the border around that time.

    I am amazed at how the media and blogs such as this are celebrating this desperate move. These are sad times, to be surpassed by even worse times to come. I remember the 70’s very well and it was no fun the first time around. That being said, maybe orange wide-lapel sport suits will make a comeback.

  31. CZB, I think many, including myself, clearly are not celebrating. In fact, I personally am very upset that so many people have needlessly been placed in such a precarious position. However, those who don’t yet see the significance of the situation and add to public complacency only perpetuate to the problem. In my opinion, everyone should be writing their representatives demanding that the Fed stop debasing our currency. Instead if they hear nothing and get the impression everyone thinks “hey, that’s ok, inflation isn’t that bad” then we’ll implicitly be giving them permission to lower the standard of living for ourselves and our children. Remember, with an inflation rate of only 4%, prices will double in 17 years. As you also know, investment returns are lousy in inflationary times. With the exporting of our higher priced jobs, our incomes will not keep up on average. Do we want our children to be parking cars for foreign investors who own the majority of US assets?

  32. Rhonda – you’re right. Rather than “blogs such as this…” what I meant to say was something along the lines of “similar blogs…”, meaning those devoted primarily to real estate. It didn’t quite come out as intended and I wasn’t referring to your post – My apologies.

    Jay, be careful, that kind of subversive talk will get you on a watch list…

  33. Jay wrote: “Part of the reason CPI numbers have been down has been their dependence own owners equivalent rent instead of house prices. The housing boom combined with ludicrous lending standards depressed demand for rentals and therefore deppressed rental prices. Now the reverse is true, so rental prices are rising.”

    Huh? What part of the earth are you talking about? Rental rates down? In Seattle that was true maybe two years ago. Since then they’ve been up, along with housing prices. There’s no inverse correlation, and I’m not sure there ever has been.

  34. Jay wrote: “Kary.First, it’s pretty obvious that the government numbers are cooked. You don’t have to look too far to find that:

    Food prices: UP
    Oil prices: UP
    Healthcare prices: UP
    Housing prices: UP (compared with incomes)
    Rental prices: UP
    Insurance prices: UP
    Commodity prices: UP”

    Well I guess if we’re going to go off your numbers rather than real numbers I’d better just give up. 😉

    I’ll agree the CPI has issues, but that’s due to what it has to do. The impossible. Show how the average american consumer is affected by inflation. It’s sort of like the average American family having 2.2 children–doesn’t happen.

  35. czb–no problem. This market has me feeling a bit funky. I have a couple clients who refi’d with another LO and are now back with needing help out of option ARMs…it’s a mess.

    Regardless of the market, people will buy or sell homes. Volumes and prices may change…motivations may be different and timing may vary.

  36. Kary – regarding “Huh? What part of the earth are you talking about? Rental rates down? In Seattle that was true maybe two years ago. Since then they’ve been up, along with housing prices. There’s no inverse correlation, and I’m not sure there ever has been.”:
    I didn’t say rental prices were down, I said they were depressed, meaning they didn’t rise like they would have normally according to the inflation rate (or at multimples of the inflation rate like house prices did). This is true nationally and I think it was probably true also of Seattle. The statistics I’ve read show that rental rates over the last 5 years have been relatively flat instead of rising. I alsto stated that recently rental rates ARE RISING, but that is because of softening in the housing market.

    Regarding inflation, can you HONESTLY tell me you and everyone you know hasn’t seen food, housing, gas, insurance, etc prices rising?
    Your statement that measuring inflation via a CPI is “impossible” is pretty absurd. I mean, what kind of advanced math does it really require beyond simple ADDITION? It doesn’t have to show how the average american consumer is affected by inflation – it only has to show that the things average americans buy is GOING UP – that’s not only easy to do, it’s obvious to anyone who isn’t BLIND. I don’t mean to be insulting, but honestly, if you want to argue please bring some rationality the table.

  37. Kary, regarding rental prices being flat during the housing bubble, see:

    Here’s a small excerpt:

    “Recall that the crux of the issue, then as now, is the use of OER (owners’ equivalent rent) to represent home prices in the CPI (Consumer Price Index) and the distortions that arise as a result – OER is one of the poorest proxies the world has ever seen as demonstrated by the comparison below with the Case Shiller Home Price Index.

    (see graph in the original article)

    As you can see, the year-over-year change in home prices has gone from almost 20 percent a few years ago to low single-digit negative numbers just a couple months ago. During this time OER has remained flat by comparison, effectively taking home prices out of the consumer price statistics.”

    So, Kary, regarding “what part of the earth am I talking about?”, I am talking about the part of the earth known as the USA.

  38. Rents have been rising pretty strongly in Seattle the past two years. They were flat or depressed prior to that time, for a relatively short time. Compare that to housing prices and you won’t find an inverse correlation.

    As to the CPI, the reason it can’t be measured accurately is not all people are the same. People don’t go out and get a new mortgage every month as interest rates change. Other items, such as insurance, can be included, but insurance for the average homeowner is a very tiny portion of their annual budget, so it wouldn’t have much of an effect.

    Oh, and if you’re talking about the entire USA, real estate is local. National figures don’t really mean much to most (any?) people.

  39. Here is my two cents on what the fed has been doing; raised rate sharply to stem the secondary market trading of asset backed securities and collateralized debt obligations which have been used to fund the garbage loans that over inflated the housing market as well as the balance sheets of the lenders. After topping off and succeeding with the goal. The market froze up in mid July. Now some rate cuts are in order to slow deflation and keep or banks and insurance company’s solvent.
    At any rate what it all means to me as a small time investor at trustee sale to profit and make a living got allot more expensive for the lenders. I need to pencil a wider margin than pre July because my worse case is not as acceptable any more. I need an ALT-A loan in order to hold the property and rent out if I make a mistake. So that house I would have bought last Friday went back to the lender…….

  40. Kary, this post was on the national economy which is not local. It was about the fed lowering interest rates and the national effects of that. So my discussion, as far as rents and real estate are concerned was reltated to national trends. As far as Seattle is concerned, I doubt that rents have been rising “stongly” in the last two years. I think the rate of increase has been little more than a couple of percent over inflation at most on average. And prior to that it was flat. Regradless, that’s irrelevant for this discussion so your point is not pertinent. I provided data on a national level and you just ignore that and try to direct the discussion to local.

    And “all real estate is local”? That may have used to be true, but no longer! Are you the only person on the planet left who’s still holding out and saying there was no national housing bubble? Even the Fed and our elected politians now all agree about that. But I guess you know more than they do. Your denial is unbelievable. Seattle is now a buyers market, prices have been decelerating for most the last year, and by next year prices will be falling. When there’s a national housing bubble, all real estate is NOT local.

    Regarding CPI, people may not be the same, but a gallon of milk or a gallon of gas are the same, and those prices (as well as most other things average people consume on a daily basis) have been going up and will continue to do so as inflation increases further. Bury your head in the sand if you want and make lame excuses, in the end it really won’t matter.

    “People don’t go out and get a new mortgage every month as the interest rates change” – I never said they did, though I probably should have. Refi and MEW has been a national obcession. That game is now over.

    There’s really no point in continuing this converstaion – you just deny the obvious and re-iterate corny real estate cliches. I wish you the best but I suspect if you don’t become more honest about the situation with yourself and your clients you may find turbulent times ahead. Consumers are already backlashing against people in the real estate industry, particularly those who continued to tow the party line in an attempt to support the market instead of just being realistic about the situation and letting them know the risks so they could make the best long term decision.

  41. I believe we will see rents rise. Here’s why:
    1) home owners who either cannot afford their toxic mortgage will sale or be foreclosed on = MORE RENTERS.
    2) home owners with ARMs who do not have a “mortgage exit strategy” and cannot afford the new payment may be forced to sale or be foreclosed on = MORE RENTERS.
    3) investors tend to sell their rental properties before they’ll sacrafice their home = LESS RENTALS.

  42. Rhonda,
    I agree rents will continue to rise for a while, as I stated several times above. In addition to the items you listed, you could add:
    4) More buyers holding off buying waiting for the bubble to run its course
    5) Higher interest rates making mortgages less affordable to new buyers
    6) Overall inflation lowering the effective purchasing acting as a tax to effectively lower the incomes of potential buyers making homes less affordable
    7) The huge number of apartment to condo conversions effectively taking rental supply off the market.

    That being said, I think the phenomenon of rising rents will only be temporary. This is because:

    1) As housing prices decline, at some point investors will once again be able to buy them for rental since they will once again cash flow positively
    2) Huge inventories of new condos and recent condo conversions that never sold will be rented out
    3) People owning second homes they cannot sell will first try to rent them out hoping that the market will recover.
    4) People being squeezed by rising ARM resets will start renting out MIL or other parts of their homes
    5) As housing prices decline to once again be inline with incomes people will start buying homes again reducing demand for rental
    6) Real estate apartment REITs will build new apartment buildings as rents rise increasing supply

    So rents are certainly rising now after having been flat for many years but that rise will only be temporary. In the end, on average, increases in rent are constrained by income growth because, unlike home purchases, NO ONE LOANS YOU MONEY TO RENT. What’s truely ironic is that all those people buying houses with stupid loans were really just renting anyway.

  43. AMEN, Kary! Amen to that. By pretending everything is workable on large geographic areas by spreadsheet means, one reduces the responsibility of making wise choices on a case by case basis.

    I recently went to a housewarming party of clients who bought recently and I was never happier. There was no question that the family was so much better off in their home than they were in the rental for years with two children. No question whatsoever.

    Maybe I’ll have them write a guest post about the joys of owning their home vs. renting, on their first anniversary of owning the home.

  44. Ardell, I sincerely hope they are happy with their new pruchase. Unless they got one heck of a deal, it’s going to take a lot of happiness to make up for the financial losses they will have incurred by buying near the top. Fewer and fewer people are making that mistake these days, even in our local market. That’s why inventory levels have been rising relentlessly and prices have been decelerating for the last year. Price appreciation will go negative by Q2 of next year.

  45. Jay,

    Not necessarily “one heck of a deal”, but clearly a wise decision. single family home in North Seattle for $365,000. When they were stretching up toward $440,000, I realized that they didn’t really like the houses up there better than the lowest priced options. We went in reverse and found an estate sale house for $75,000 less and they added all new windows to the cheaper house instead of paying more for a house that still needed a lot of work.

    I’m 99% sure that they can sell it without taking a loss, even if the market dipped back 20% by the time they would sell it. They have made enough modest changes to improve the value by in a short time. A single family home in North Seattle that looks good and has all new windows priced at $399,950 would still sell well if the market dips back, and that is $35,000 more than they paid.

    Counseling people to buy wisely, is still better than not buying at all for many. Their standard of living improved dramatically as well. The house had everything they wanted in terms of yard and space to have a big barbecue. Attending the housewarming and seeing the picture of everything they had asked for being no longer a wish but a reality, was clearly the highlight of my year.

  46. Ardell,
    If somone REALLY needs to buy a house, even in a declining market, then buying intelligently certainly makes more sense than grossly overpaying. I think you did them a favor compared with another agent who might have pushed for the easier alternatives.

    On a realted note, what really strikes me as being absurd is how many people (ie, flippers and even many home owners) got into the mode of thinking that if you upgrade a kitchen for $15,000 that it means you’ve just increased the value of a house by $30,000, etc. What strikes me even more is how the buying public actually believed that for a while. It’s one thing to say that a given property with a view or in a particular location is worth more than another without that attribute because once bought you can never change it. Regarding renovations, that’s a commodity, ANYONE can easily hire contractors to come in at market rates and make cosmetic changes. In fact, updating interiors really shouldn’t increase the value of a house that much if it’s been properly maintained over the years – it should just make it a quicker sale. Houses that have been neglected over the years should be discounted by the amount it would cost to update them, not marketed at a price comparable to properly maintained and updated homes (which was the trend in the latter stages of the housing bubble). I remember when buying homes in the 80’s that appraisers told everyone that interior finishes really didn’t add value to a house – assuming the house was sound and well maintained the value was determined by SF, lot size, area, etc. This is because houses are a depreciating asset. It is only the land that has the potential to incrrease in value. That’s why every city ends up having derelict mansions from past eras – houses themselves deteriorate and are very expensive to maintain.

    The premium people have been willing to pay up to now for a flipper to come in and update things is just rediculous and I think a reflection of 1) too much cheap credit in the past combined with non-existant lending standards so anyone with a breath could get a loan for more than they could afford – therefore they had the capicity to overpay even though they couldn’t afford to, 2) the industry’s intentional marketing of “monthy payment affordability” instead of historical “house price affordability”, and 3) the societal trend of spoiled baby boomers who are too lazy and/or impatient to invest a bit of energy to do it themselves, instead opting for “I want it now, I want everything, I don’t care what it costs, I deserve it”. If there’s going to be any good that comes from all the hardship to follow it’s that many people will get shaken to the core in the process and hopefully emerge with less superfical values, more appreciation for what they have, and a bit more maturity.

  47. Jay,

    In my experience, those who are willing to pay a premium for not needing anything done to it, are those who work long hours and have no time or inclination to make improvements. Clearly the increase in value is not simply the cost of the improvement. The convenience of it being done is worth something more than the cost to improve, and the inconvenience of living through the workers in their home and time off to be there to supervise them, is worth something as well.

    Rule of thumb, 2X the cost of improvement, still holds for improvements made by the owners own labor. When they pay a third party to do it, the return decreases and they can even lose money. But even up, increase in value equaling cost of improvement, is not realistic in most cases.

    When Bob Villa and This Old House returns as one of the favorite shows, the trend may be tilting in your favor. Until then, Ugly Houses will still sell for less, and much less than the cost of the improvements needed.

    Best value is always the ugliest house with the best roof and heating, electrical and plumbing systems.

  48. Weird. Back when I owned a house I was considered adding a 2nd bathroom. Everything I read at the time said that bathrooms were one of the most financially ‘efficient’ improvements I could make on a house and that I could expect to get back 70% of what I put into it.

  49. Alan,
    I agree. I think the current trend to mark everything up is just part and parcel of the housing bubble. That trend too will fade with prices. When someone improves a house on spec, they don’t even pick the finishes you would have picked for yourself. Even busy people who buy a house needing updating can hire a contractor to supervise everything and have it done prior to their moving in. As we go forware: Flip that House is becoming Flop that House…

  50. My common sense tells me that there are ways that someone can make money doing improvements:
    – If they do the labor themselves then they increase the price by an amount that is related to the market price of that labor. If they do exception work they can charge more appropriate to the higer quality. Similarly, if they do the work more quickly than hired help then they get the appropriately higher hourly rate.
    – For serious problems — roof replacement, foundation repair, plumbing/electrical rework — a person who knows what they are doing can make money. They might have existing contacts with reliable and reasonably priced labor. They might be able to buy supplies at bulk prices. There is real value in having the knowledge and contacts to do that sort of work with high quality and low cost. But it takes a lot of experience to build those contacts and knowledge.

    Again, if they can do the work themselves then they can charge for the value of that labor in the home price. Buying a large rehab project could provide a large block of reliable and regular work for a professional plumber or electrician.

  51. I have a few clients who have found very reasonably priced contractors to do their renovations. Not flippers. Just people who are living in the house and making modest improvements for their own enjoyment without overpaying for the work. I think they will do well when they sell.

    One bought a house where the window didn’t extend toward a lake view. He replaced the window with a wider one, capturing a large piece of lake view from the dining room and kitchen. For the cost of a window, his value increased measureably.

    Some pretty smart home buyers out there. Not a lot, but I’ve been lucky to know many.

  52. I’m the client of Ardell’s who recently had the housewarming (a real person despite what the Bubble people think ;)). I gotta say it STILL seems very surreal that we are homeowners, and we’ve lived here since July. I keep waiting for the real owners to come home and ask what we did with their hideous wallpaper, cheap pickled wainscoting, red walls, and brown vinyl headboards tacked onto the wall. Not to mention the ALL-WHITE kitchen. All told, we’ve probably put about $11,000 into it, for windows, paint, counters, new frig, doing all the work but the counters ourselves. Still have a ways to go, but I feel pretty safe that even if the market goes down, we’ve improved it enough to stay even with what we paid at least. And since we have a fixed rate loan, and plan to be here for awhile, I do feel like we did pretty well. Got to stay in the City (meaning we could stay at our same school, AND we’ll feed into the best middle school), have some great neighbors and room to grow. We’re looking forward to the holidays in front of our fireplace, and many other firsts as well. Sometimes there actually is a happy ending…though I know it kills some of you to hear it.

  53. Ardell,

    Here is a hypothetical question for you. You see a house that is for sale for $500k. It has a typical master bathroom. Based on its size and condition, the price is correct compared to nearby houses. Someone buys it and two months later it is back on the market for $560k. You tour the house again with a client and see that the owner has completely renovated the master bathroom into something spectacular. You estimate it would cost the average person $30k to do that renovation. Would you tell your client that you think this house is now with $60k more after the $30k addition?

  54. homeowner in #74,

    technically your lender/bank owns 80% of the house. you only own %20% (minus 6% for the RE agents when you happen to sell it). you haven’t made much of a dent to the loan principle, so don’t feel too smug about it.

  55. Happy ending?

    Sounds more like a happy BEGINNING to me.

    I’d say you will need to wait until next year at least to decide exactly how happy your ending is…

  56. Jay wrote: “The premium people have been willing to pay up to now for a flipper to come in and update things is just rediculous . . ..”

    If you’re talking about how much money flippers have recently been making, what you’re ignoring is risk. Buying a house that is in the condition where it could be flipped is a great risk, especially if you buy it at foreclosure. With risk generally comes returns (or losses).

  57. Adrianna! Sorry I missed this yesterday. Seems to me we were hoping Santa Claus was going to be coming down your chimney last year. That gives people a bit about timeframe as to how long it could possibly take for someone to make a wise housing choice.

    My blog shows my first post tagged Adrianna as 9/27/06 and 12/09/06 was “multiple offers and meatballs” when we were hoping for a chimney for Santa to come down last year 🙂 So it took 9 or 10 months from beginning to end.

  58. Rhonda,

    #67 is Adrianna’s scenario in Seattle. #73 is someone else who bought in Bellevue.

    Maybe on my two year anniversary of blogging, 1/1/08, I’ll ask all the blogclients to write a “if I had to do it all over again, what might I have done differently”.

  59. Alan,

    We’re having a little trouble with your scenario, (Kim and I talking). A $500,000 house would not sustain a bump of $60,000 for a master bath, as the typical house for $500,000 would not have enough other things, or a large enough space for that bathroom, to accommodate the $60,000 bump on one single improvement. The appraiser’s old guideline for “extra value” is 10% of the value of the house without the extra, and that includes ALL extras.

    If you bump the price to a $730,000 purchase price, then it is more likely that it could go to $790,000, but only if they added extra space when they put in that Master Bath, and didn’t take it from the existing finished square footage.

    Say a rambler on a large lot where they added the master bath as an addition to the house. Simply remodeling the bath, in it’s same size, would not add $60,000 to pretty much any house that cost $500,000 to start with. If it had NO master bath, and you added a master bath while at the same time adding to the total square footage, then you might get back the $60,000.

  60. Adrianna,

    If you don’t mind my asking, what is the difference to you between owning now and renting all those years? I’m pretty sure you are my first client in 17 years who rented continuously until age 40 and with two children. Is there anything significantly different for you and your family owning vs. renting? I bought my house before I was married by six months or so in advance. So I have little perspective in the “rent vs. buy” scenario with children involved.

    The few times we did rent when we moved, for a short time, I always felt like we were living in someone else’s house. Like we were “camping out” there but it wasn’t really “home”.

    Do you or your husband or the children notice any difference other than you are paying more? Is the increase in monthly payment owning vs. renting “worth it”, and if so, how?

  61. I write this response at the risk of being pummeled by everyone who believes buying a house is a bad move financially – save me the preaching. YES, I KNOW THE BANK OWNS MOST OF THE HOUSE. And I don’t feel “smug” about anything. What I do feel is a sense of stability – as Ardell says above, renting even long term is not the same as owning your own space and being to do with it what you will. We also now know what our payments will be every month (though taxes and insurance will change), unlike renting. If something breaks, yes, it costs money to fix, but at least we know it will get done and done right. And I feel a certain pride in being able to buy a place in the first place, which I never felt in my rentals – at our age, I did feel like a loser being the only one of our peers who didn’t own a house. George is right in his comment above – this is the beginning of a big adventure, with hopefully a VERY happy ending…:)

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