Thursday, November 24, 2005

Playing Rising Rates (for the first timer)

by Osman Parvez


The Economist has another article about the housing bubble.

Here's a strategy for the first time home buyer. Find the right property by searching for a rental. Secure a lease with an option to buy, and explore owner financing if possible. The best properties are likely to be those by owners who find themselves caught in the rising interest rate tide.

There is a lot to choose from. Here in Boulder, there is a widely acknowledged soft rental market. It's said that 50% or more of the homes here are rentals.

While 50% of the homes are rentals, there are fewer quality renters to take them. Many of the qualified people who might have rented have stretched themselves to purchase, taking ARMS, piggy back mortgages, and other creative products to swing the deal. Here is an example: friends of ours just negotiated a deal to buy a $325K house up the street. Their monthly payment will be $1,200/month for the first four years, below interest only. Then it balloons substantially.

In a rising rate environment, those that stretch to purchase will find themselves with both little equity (or none) in their home and will be struggling to make payments. Recently, a law was passed to better protect creditors and make it harder for debtors to declare bankruptcy. This will surely have some impact as well, as owners try harder to avoid the process.

Not to be a vulture on another human's misery or mistakes, but this smells like an opportunity to me. For the last few years, real estate sales have been on fire. Now, the rate of mortgage applications has started to cool. Translation? More deals on the market for those willing to hunt in an unconventional way.

I'm not merely extolling this strategy. I'm practicing it. The house we are living in now, on a 4 month summer sublet for only $500/month (inclusive), may turn out to be the one we actually purchase. There is something to be said about bird in hand after all. The owners have told us that they are seeking to rent it (for about 15% higher than market rates for this type of property). They are also moving away in three months, and will need to either (a) rent it for less or (b) need to sell it. It's painful to be paying a mortgage on a rental property that isn't cash flowing. We may have a solution for them....


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The ideas and strategies described in this blog are the opinion of the writer and subject to business, economic, and competitive uncertainties.   We strongly recommend conducting rigorous due diligence and obtaining professional advice before buying or selling real estate. 

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