“Buy Now Or Be Priced Out Forever!” The Real Estate Bubble Pitch Resurfaces With A Twist

This article was originally published on Realtor.com:

Most consumers can quickly recite a few of the ubiquitous pitches used in the real estate industry.

“It’s a great time to buy!”
“Now is the time to sell!”
“This is the chance of a lifetime!”

The real estate business is about sales, and although these lines may lack creativity or specificity, they are all true at certain points in time. Even if the generic nature of the pitch seems to show a lack of effort, most of these statements are viewed as a forgivable part of a sales-based business.

One sales pitch that we heard during the last real estate bubble, however, seems to draw more pointed ire than others. As home prices rocketed upward in the early 2000s, some real estate industry sales pitches shifted to drawing out a consumer’s fears as opposed to aspirations:

“Buy now or be priced out forever!”

This was the cry of many companies who projected never-ending home appreciation. The price of real estate was said to be outpacing gains in income and, since it would always continue at that pace, only those who owned a home and shared in those equity gains would be able to keep up with the market.

Of course, we all know what happened next. In the past 5 to 7 years, before our current recovery, we saw markets across the country take 20 to 50 percent hits in real estate values. Nearly every home became an affordable home. Many folks who bought a home out of fear were rightly upset when they ended up underwater by six figures.

No matter the cause or the blame for the downturn, the clear lesson to many was to make a real estate purchase decision based on fact, not on emotion. Of course that’s easier said than done when buying your first home for your family. Still, there are poignant reminders every day that refocus consumers on making rational buying decisions–short sales and foreclosures in our local markets.

The Fear Pitch Makes a Comeback

Interestingly, the much-maligned sales pitch is returning to our newly-recovering markets today. Real estate values are still down from their peak, and most analysts don’t see overvaluations at current prices. The new “priced out forever” pitch focuses much more on consumers’ buying power.

Historical data on home prices made it clear that we were heading into a bubble the last time around. Many just chose to ignore it. Home prices were on an unprecedented rise, and it was far out of line with historical peaks and valleys of the real estate market.

Home buyers today, wary of a repeated downturn should be focused on two things:

1. Are home prices likely to sustain their current values or appreciate?
2. Can I afford a home in this community long-term?

Today’s market looks much different than it did during the bubble. While we’ve seen an increase in prices during the recent recovery, the overall recovery is modest. Some areas are seeing greater gains than others, but these are often the cities that took the largest hits during the downturn. In general, our current market seems to be in a relatively healthy growth pattern. Adjusted for inflation, there appears to be slow, sustainable appreciation across the country.

Another indicator of the reliability of home prices is the relative value of buying vs. renting. Homes have a basic value as a place to live. Buying a home certainly has many additional benefits that consumers value which don’t apply to renting. However, there is a limit to that premium, and when we see renting becoming far cheaper than buying, we often see a downturn on the way.

It’s fairly clear that our current market points to well-priced, if not underpriced, real estate values. When buying becomes less expensive than renting in terms of monthly costs, it’s usually a sign that markets are undervalued and are ripe for investment.

Of course, interest rates have much to do with this affordability. Price decreases during the downturn certainly helped affordability somewhat. The dramatic drop in interest rates, however, has created more affordability than any other factor.

“Buy Now Or Lose Your Buying Power Forever?”

This is where the rubber of the new fear pitch meets the road. For cash buyers, these affordability concerns are not an issue. For home buyers who are financing the majority of their purchase, however, today’s ultra-low interest rates have created a yin and yang effect. Mortgages are cheaper than ever, but every increase of 0.25% has a far greater drag on their buying power than it ever has before.

A quick explanation of buying power: when mortgage rates are floating around 8% (the historical average), a market increase of 1 percent in rate would increase a buyer’s mortgage payment by 12.5 percent. That’s 12.5 percent more cost for the same loan, a significant strain on buying power, but not overwhelming. At today’s rates of 4 percent, a market increase of 1% would increase the mortgage payment by 25 percent, doubling the reduction in buying power. This is a major shift in what the buyer can afford.

Remember that 8% interest rates on 30-year mortgages are the norm. We’ve gotten used to cheap financing, but history points to a very strong likelihood that rates will turn upward soon. As a home buyer’s buying power is reduced by 10-25 percent annually, and home prices simultaneously appreciate, that buyer’s ability to purchase is weakened quickly and significantly.

Emotional Pitches Aside, Data Points To Buying Now

So, for the home buyer who is financing a purchase, could you actually be “priced out forever”? That probably depends on your local community’s real estate and job markets. There are certainly areas where incomes adjust to meet housing prices, and vice versa. At the same time, there are always communities that become “the next big thing” and rise in value far faster than their nearby surroundings.

Without a doubt, there will be consumers who don’t buy a home today in a certain community and realize years from now that they missed out. Current interest rates offer an opportunity to finance a home in a way that, in all likelihood, will not be available in the near future.

Rather than being priced out forever, we’ll probably just see many consumers who missed the opportunity of a lifetime. As overused as that statement may be, historical interest rate data points to it being highly likely. Buyers who can lock in long-term financing at today’s prices and today’s interest rates will be sitting on much more lucrative investments than if they were to wait until after rates rise.

Most home buyers won’t be priced out forever if they don’t buy in the current market. That being said, a few years from now there will be a large portion of them looking at the current cost of financing and kicking themselves for not buying earlier.