The biggest challenge I always had working with investors over the past 25 years was their inability to make decisions based on facts and not emotions. As my old buddy Joe Matson used to say about his clients, “I don’t have people (clients) with investment problems, I have investments with people problems”. When markets are near new historical highs, it is easy to get investors to buy. When markets are low, the behavior is just the opposite. In early 2008 when the S&P 500 was over 1500 it was easy to get people to increase their investment in equities. One year later with the S&P at 700 no one wanted to invest. It’s crazy but this is precisely the kind of behavior Joe was speaking about.
Exactly the same emotional dysfunction is one of the biggest problems in the housing market today. And it is an even bigger problem than with stocks. Here’s why—back at the beginning of 2008, when home prices peaked everybody was a buyer. But today with prices down 30-40 percent everyone is reluctant to buy or invest in real estate. But the real kicker is that mortgage rates are at the lowest point in over 50 years. Obviously, when considering the purchase of a home you look at the price and the mortgage rate. Usually prices and rates move inversely because high mortgage rates drive prices down, and vice/versa, lower rates lead to higher prices. The owner/borrower is primarily looking at the monthly cost, when making their decision.
But over the past few years we find that mortgage rates and prices have fallen in tandem creating an opportunity I doubt we may ever see again. To illustrate, lets look at a hypothetical example of a home priced at $1 million in 2007, which is now priced at $600,000.00.
Year: 2007 2011
Home Price: $1,000,000.00 $600,000.00
Loan: $750,000.00 $450,000.00
Mortgage Rate: 6% 3.5%
Monthly Payment: $4,496.00 $2,020.00
Unfortunately this hypothetical example is all too real in today’s world. But–The opportunities we see today are separating “rational” investors/home buyers from the dysfunctional majority. And how many of us have heard, friends, family, colleagues say over the years-“Gee, I wish I had bought this or that when I had the chance.” We all have and maybe we have said it ourselves. But unless you believe “the end is near”, don’t let your emotions keep you from behaving as a rational individual.
Note 1: This example assumes a 30 year fixed rate mortgage.
Note 2: If mortgage rates return to 6% the $2,000.00 monthly payment will get you a $443,000.00 house.