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Is Now The Time To Get Into Real Estate?


ASK BART: Is Now The Time To Get Into Real Estate?

 - By The Notorious CFP®


Summary

The short answer is almost certainly No.


Another possible answer is "Oh hellllll no. Please don't do [this]..." with "this" being anything you are considering in real estate that your wife or mother would have reservations with. 

The longer, more nuanced answer is that if you're getting in now, and buying the right property in the right location for a reasonable price that is within your budget and with low/no debt... then maybe there's a good chance that the property or land will appreciate over the long-term. But probably not.

The Fed's financial repression- specifically low rates, are the #1 reason for the exponential growth in real estate, and the widening wealth gap. Yet, the FOMC continues to walk free. It is interesting to point out that their dual mandate is price stability and maximum employment.

Typically, the goal of successful investing is to buy low and sell high, but you may still come out okay if you buy high and then sell high many years down the road (i.e. more than 10 years). But anything under that opens you up to risk of significant loss if mortgage rates rise and stay high (which is very likely), local demographics deteriorate (which is very likely) or you or they fail to maintain the property. Real estate that is income-generating is the ideal scenario, of course, as long as it also doesn't require debt to purchase and is part of a high-quality, diversified portfolio including securities and other alternative assets that complement real estate's strengths and weaknesses.  

Real Estate

Right now, we're fielding a lot of questions about the real estate market- both residential and commercial. Those with assets and disposable income are desperate for alternatives to the stock market where their principal and income won't decrease. Everyone is piling into one side of the boat, and I've given up trying to explain to them why this is bad and encourage them to grab a floatation device.

So I totally get it. Perhaps I am just jealous or sour grapes. At a time when so many other investments have lost significant value or carry with them enormous risk, people understandably perceive land and property (especially income- generating) as can't-lose propositions. Land and property "are something you can touch," seem to 'never go down," "they're not making more of it.." and "if all goes to pot, at least I have something" (to pay taxes on). 

The problem is that it's all over.


For anyone annoyed or upset by the above reality, I would recommend directing your wrath at anyone who a.) approved stimulus checks to people that didn't need them, b.) gave PPP forgivable loans to businesses that lied on their application and c.) forgave student loans that freed up and flooded the American economy with billions of dollars, in addition to the additional billions that were secretly forgiven before the recent debt jubilee / purge over the past two years under fraudulent and corrupt auspices (i.e. "predatory loan"). The costs to Americans- primarily poor and middle-class, will be 10x the amount deposited into their bank account. My recommendation is to start electing people who aren't evil morons. But what do I know.

The real estate bonanza that was fueled by low interest rates and lit on fire by COVID and George Floyd insurrection is unsustainable and likely to result in the greatest housing bust in a decade. Anyone who owns paid off real estate will probably survive  (presuming no need to sell for a decade and no risk of government interventions like those we saw in 2020, 2021 and still on-going in certain states. Also as long as it's not commercial, which is likely to follow the largest Real Estate indexes, like Vanguard's VNQ (now down more than the stock market...)

Property like rental real estate and the ubiquitous B&B / slot machine currently offer a reliable source of income, of which there are no shortage of desperate interested parties in a zero-interest world. They believe the recent market trajectories in residential homes post-pandemic are real and sustainable, especially in Texas and The Hill Country. Like stocks, real estate has historically offered a degree of protection in a hyper-inflationary environment like we've experienced in 2022. 

Still other investors perceive the sector as artificially propped up by dwindling government incentives and reckless Federal Reserve manipulation of the financial markets, and heading for trouble in a rising interest rate environment. They fret over how many commercial buildings and strip malls can actually be converted into Amazon warehouses or will instead be sitting empty and unleased in a year from now. And with a much smaller portion of the population ever returning to full-time office, I think all of us wonder how much longer this property building and buying can continue, and at what point do we run out of those fortunate buyers, renters and builders for which money is no object? The only question that I get more often than the above is, "How much money can I take out of my stock market investments (at a loss) to buy real estate (at all-time highs?) [Emphasis mine.] 

The answer is specific, individual and nuanced (what financial questions aren't, right?!) but the short answer is, "How much paper loss on your investments do you want to make permanent?"

Some clients concerned about the greater economy are paying close attention to a collision of interest rates, inflation, supply chain and war/oil challenges in 2022 and 2023 and anxious about what else might be out there that could potential derail this already disabled domestic situation. They wonder whether a slowing economy may or may not be on the horizon this year or next. Even sectors that have demonstrated remarkable resilience in 2022 but literately could not survive on their own without huge amounts of borrowed government money (for instance real estate and energy), are heading for the own day of reckoning as interest rates creep higher and higher. Mortgage rates have already moved from 3% in December to above 5% - after only two rate hikes. Most economists are already factoring in further hikes in June and September. And that's in a best-case scenario.


 

Historically, as mortgage rates rise, inventory increases. Which is great news for all-cash buyers, realtors and America. Not so much for house flippers, speculators, builders and those who use debt to finance property purchases.


All of this might lead one to wonder how much longer the economically-critical and rate-sensitive housing sector can continue their red-hot growth of the past. As shown above, new monthly mortgage payments are up over 70% in the last five years. With home borrowing rates likely to hit or surpass 7% before year-end, monthly payments for home buyers (i.e. borrowers) could double from 2018 levels.  And this for a country where  2/3rds of households could not cover a thousand dollar emergency with cash. Most investors sense that now is definitely not the time to be making large bets or speculating on land or property...

Last month (May 2022), the MEDIAN price of an existing home sale rose to $407,600. And today's rates are now over 6% (and that's with 800+ excellent credit). So you do the math...


Just kidding! You know I can't let others do something that I can do on my own. With the average credit score of Americans at 700 (in an overheating economy with tons of jobs!), this is the significant barrier to entry for all homeowners in the "early innings" of this rate tightening cycle (translation: caveat emptor for any investment that requires sustained land/property prices, solvent borrowers and tenants that will go screaming to their closest politician to pause rent until they are "stimmy ballers" again.)

From Wells Fargo's own mortgage website...


How many first-time homebuyers do you know that could easily handle this mortgage payment (not including insurance and property taxes)?

The time has long since passed for a new generation of leaders (of any political denomination) to step up to find a solution (one that doesn't involve stealing from someone else's property via taxes or wealth distribution.)

"The rising rents leave more and more renters with little to live on. Today, one in four renters pays over half of their monthly income toward rent, leaving barely enough to cover food, clothing and healthcare, much less save for emergencies or build wealth. The typical renter saves less than $500 a year, not enough to cover run-of-the-mill financial emergencies let alone save for a down payment on a home." - Overcoming the Nation’s Daunting Housing Supply Shortage (Moody's Analytics)

When the stock market becomes this unpopular, my clients raise their voices and I begin looking for second jobs. Yet clients keep pulling money out of their investments to buy more real estate. 


If my brilliance and good looks haven't yet convinced potential home buyers to sit on their hands (and home sellers to move PDQ) for a few more years months, perhaps the following chart of residential real estate inventory will be more convincing. As shown below, the real estate does not enjoy the jagged edge, random and volatile movements of the stock markets, instead moving in broad and lengthy cycles due to their unique (relative) illiquidity and dependence on their (absolute) reliance on interest rates (i.e. cheap money.) That is, of course, why the fate of the real estate market will have the Fed's finger prints all over it.

If 2020-21 was the absolute worst time in a generation to buy a home or property, perhaps the next few years will offer a respite for those who believe that real investors "make money on the buy and not the sell."