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Payments go down as prices drop

 
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PostPosted: Thu Aug 11, 2005 3:46 pm GMT    Post subject: Payments go down as prices drop Reply with quote

I've frequently heard the suspect argument that lower prices do not increase affordability because your monthly mortgage payments will remain the same. Here is a good refutation of that belief using historical data which shows that lower prices did lead to lower mortgage payments in the past:

http://forums.craigslist.org/?act=Q&ID=31357086

Even ignoring the historical precedent, this belief does not hold if prices fall beyond a certain point or you have substantial savings.

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PostPosted: Mon Aug 15, 2005 6:36 pm GMT    Post subject: More compelling refutations Reply with quote

I've come up with a few more counterpoints to the assumption that monthly payments will remain the same if prices drop.

Somebody made the excellent point on Craigslist that arguing that monthly payments will remain the same implies that the interest rate is the only thing limiting prices. This won't hold true once the herd mentality swings the other way and people are reluctant to pay as much for housing because they see prices dropping. See http://forums.boston.craigslist.org/?act=Q&ID=31505868

From another viewpoint, arguing monthly payments will remain the same so you might as well buy now implies that the only factor in determining when you should buy is your monthly payment. This is invalid because there are market forces and personal situations which should also be considered. The cost of renting an equivalent place should be a factor. If it is cheaper to rent than to buy (once you factor in the tax benefits of owning as well as equity and your own utility curve), then you would save money by renting either until rents increased or prices decreased. Another factor to consider is income. If the monthly payments are above what you can comfortably afford, you should wait until your income increases enough to afford it or until prices decrease.

Another response on Craigslist also pointed out that you will lose a lot more if you buy now and are forced to sell in a few years compared to if you had waited to buy. In other words, resale value is another good reason that just considering monthly payments is myopic. Furthermore, liquidity will be greatly constrained as well - you will have a harder time selling in a down market than in an up market.

Even if monthly payments do remain the same, it may be worth the wait so that you can purchase in a buyer's market rather than a seller's market. Why risk having to deal with unreasonable demands from sellers such as forgoing an inspection contingency? If you wait for a market slowdown, the terms of sales will swing back toward favoring buyers once again. You will also have a much broader selection of properties to choose from without the high pressure and rush to outflank competing bidders.

These are all valid reasons for discounting the argument that monthly payments will stay the same as prices go down, but the trump card is the historical data (in the original post) which shows that in the past monthly payments fell when prices fell.

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PostPosted: Fri Sep 09, 2005 3:10 pm GMT    Post subject: Monthly payments out of line with historical norm Reply with quote

Even though it is inadvisable to base a purchasing decision on monthly payments for the reasons outlined above, if you were to do so, now would still be a bad time to buy. Monthly payments as a percentage of income are substantially higher than they have been in the past. The Economist had this to say:

Quote:

The popular argument that high house prices are justified by low interest rates has also been stretched to its limit. The affordability of houses for first-time buyers, measured by the ratio of median income to median mortgage payments, is at its most daunting since 1989 — the market's previous peak, after which average nationwide home prices failed to keep pace with inflation for five years.


The above was an excerpt from the article A home-grown problem: America's housing boom is causing an enormous misallocation of resources. It's a premium content article, so you will need a subscription to The Economist in order to read it. I highly recommend The Economist - it consistently provides intelligent analysis on a broad range of current world events.

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PostPosted: Thu Dec 15, 2005 6:17 pm GMT    Post subject: Sensitivity analysis available Reply with quote

A guest posted in another thread a scenario which approximated the effect that interest rate changes would have on buying power. I took the analysis a step further and produced a chart that has relevance to this thread as well. For a mathematical discussion of the sensitivity of price to interest rate changes, see http://www.bostonbubble.com/forums/viewtopic.php?t=41

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