Dream Home 2 - Global Economy Monitor by Franteractive

(3/7/2007) Demand for housing to fall 40% this spring-selling season, should you be worried?

Article by Sam Mishra, President, Franteractive

The Wall-Street Journal Online reported today that 16% of all mortgages issued last year belong to the Alt-A category. Alt-A category falls in the gray area between prime and sub-prime mortgages. Considering that sub-prime mortgages contributed to 24% of all mortgages last year, the total of Alt-A and sub-prime mortgages added up to 16% + 24% = 40% of all mortgages issued last year.

Since 25 sub-prime mortgage issuers have closed shop or gone bankrupt, sub-prime mortgaging as a business venture is bound to stop. Added to this is the fact that Freddie Mac will toughen its standard on sub-prime loan issuers starting September 1, 2007. Considering the hue and cry over foreclosures rising 40% year over year, and people's inability to keep making mortgage payments for houses they purchased, the Alt-A category of mortgages is also currently under a microscope. In my opinion, the Alt-A loans should also not be issued, because the end result of a lot of these loans is, you guessed it, foreclosures and/or gullible Americans going bankrupt.

Let's assume that the rest of the mortgage market chugs along as it did last year. So, excluding the 40% of borrowers who fall into the Alt-A and sub-prime categories, we are left with the remaining 60%. In other words, only 60% of the number of people who qualified for all mortgages last year will qualify for mortgages this year. Let's also assume that these home-buyers, in their desire to get to that first dream-home this year, have enough saved up to be able to make the down-payment and the closing costs. Let us also assume that all of them ignore the fact that vacant U.S. homes are at all time highs, since the census bureau started recording these numbers 40 years ago. Let us further assume that all these home-buyers are fully confident that they will be able to make their mortgage payments on time for the next five to seven years (many of them won't, because the economy is bound to get into a recession in the next five years, and some of these people will be displaced from their jobs; and in some cases, from their homes, if they have to move to get that next job).

All of the above assumptions still do not make the number go higher than 60%, compared to the number of home-buyers last year. However, how about the number of home-sellers? This spring-selling season, their numbers are bound to be the same as last year, since nothing has changed for these home-sellers, expect may be an intuition that the housing market is melting down. This demand-supply disequilibrium will result in two things: number of houses sold will keep going down compared to last year (it has already happened for most major metropolitan areas for the last six months to a year), and may be, house prices will decline too, as a result.

Consequently, I recommend first-time home buyers to do the following:

1. Don't be in a rush to buy that dream home this spring-selling season. Why are you so excited about spring-selling? You are buying, remember; and not selling! The one who should be worried this spring-selling season is the home-seller, not the home-buyer.

2. If you have even a reasonable doubt about your ability to consistently pay mortgage for the next seven to ten years, consider renting for a year, as opposed to buying. If rent is cheaper than mortgage, after taking into account property taxes, closing costs, etc; you can save the difference towards your future down payment.

3. Remember, the more you pay as down-payment, the more you really own that home you purchase, and the less the debt overhang that hangs over you. Treat investing in your home as a business, for businesses shudder if debt level goes up beyond 60% of the total valuation.

4. If you argue that home-ownership is pleasure and not business, please consider the philosophy that pleasure and pain are two sides of the same coin. Ask those who had the pleasure of buying a few years ago, and who had to endure the pain of selling for a loss, or worse, the pain of getting their property foreclosed.

5. Negotiate hard with the seller, the seller's agent, and your real-estate agent too. There is always a way to extract value from these agents, who are nothing but middle-men. Some of them are currently switching professions, and not selling houses any more.

6. The housing bubble is bursting. It pays to be patient. Watch your local real-estate housing prices week after week. Compare weekly prices to prices last year. The number of houses being sold is coming down in most geographic markets. What you want to look for is whether the housing prices are coming down too, or not.

7. There is a positive correlation between Fed funds rate and mortgage rates. Monitor the moves of the Fed, and the speeches of Fed Chairman Ben Bernanke, closely. As long as he keeps the interest rates steady, or hikes them very slowly, the mortgage rates won't increase further. Alternately, we publish the latest mortgage rates from the Mortgage Bankers Association on the top of this page for your convenience, so please bookmark this site focused on analysis and insights on the current real-estate bubble and the housing market meltdown.