Picking a Real Estate Bottom

Every so often I’ll get asked when I am going to buy a house again. My response is not until after prices bottom. This is when I’m asked to give a date prediction. It’s not that easy. Instead of picking a future date, I have a rule set that will be my guideline.

  1. Supply of inventory will be between 4 and 6 months. This is a healthy historical average. The last chart on February Existing Home Sales shows that the national supply is 9.6 months before the spring selling season even starts. When supply exceeds 6 months it means prices are too high for current demand. Notice that at the point inventory exceeded 6 months was the top of the real estate market.
  2. At least a quarter of price appreciation at normal inventory levels. I have no desire to bottom guess. Paying a few percent more after the bottom is fine with me.
  3. The normal historical relationship between renting and ownership returns. These can be calculated with the House P/E ratio and House Price-Rent Ratio which are covered on the Wikipedia page Real estate bubble.
  4. After the first three rules are satisfied, I will confirm with the Case-Shiller Index that the metro area I’m interested is predicted to have price stability going forward.

My last word is that I use national averages as a guideline. As those numbers move back to levels of sanity, I’ll focus on the metro areas that I’m most interested in living. Some areas will correct faster than others.

3 Comments

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  1. I read an article on the general state of the mortgage industry this weekend which had a statistic that shocked me. 58% of all mortgages over the last decade had a down payment of 0-2.99%. It’s amazing to me that the mortgage companies, banks, and builders have lowered the bar this far. Shame on them! I’m not an advocate for regulation at all but this is ridiculous. If you can’t afford to put at least 5% down (and really should be 10% or more) then you really, really should NOT be buying a home!

    The one underlying (but unstated) premise that many people have is the idea that a home is a great asset/investment. With all costs of upkeep, taxes, etc. it really is at best a very, very poor asset. And it borders on becoming a liability. This is in regard to most U.S. markets that have had more rational home price growth.

  2. Thankfully I read Shiller’s 2nd edition of Irrational Exuberance in 2005 and was able to sell at the top.

    I find it interesting that people that cheered the irrational market on the way up now expect the market to behave rationally on the way down. It will over correct in the same manner that tech stocks over corrected in 2002-2003.

  3. You may find this video interesting re the housing market. http://www.youtube.com/watch?v=2B1HJ3INc5k

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