Analyzing the risks may shock you!

It’s hard to be optimistic when everybody is and has been saying how bad everything is. Now, many people are saying that the worst of the real estate crisis is behind us. I see some everyday saying that prices are picking up. I hope they are right. The most pessimistic projections that I have seen recently indicate that we may be in for another 10% decrease in home values.

That sounds pretty bad. However to better understand the risk, I ran 3 scenarios based on equivalent $200,000 homes with 20% down, each for a 5 year period.

Scenario 1 - the market is flat for the first 2 years and then starts to appreciate at about 3% a year.

Scenario 2 – the market declines 10% in the first 2 years and starts to appreciate in year 3 at 3% a year.

Scenario 3 – the market declines 10% for the first 2 years and starts to appreciate in year 3 at 3% a year, but the purchase is not made until the end of year 2 at the market bottom.

Before I give the results, let’s take a look at interest rates. We know that they are at a low point for our home buying lifetimes right now. The presumption is that they will go up. If the economy starts to grow and jobs pick up, we should see rate increases to keep bonds and mortgage backed securities attractive as investments. In addition the fed will have to increase rates to keep inflation in check.

These scenarios use a current interest rate of 5% since most don’t qualify for the near 4% rate that is being reported as I write this. The future rate for the purchase 2 years from now is still a low 6% or a 1% increase over current rates. (If that hasn’t happened, then the economy is likely not growing, jobs are still a problem and we have a lot more problems than if we bought or sold a house or held onto our money.)

So using these scenarios for comparison purposes, what we find is not surprising for scenario number one; we have a positive result with a net advantage based on appreciation and cost savings of about $22,000. Because of the initial loss of 10% in scenario number 2 we actually are only ahead about $1,000 after tax savings. The most surprise is actually generated by scenario number 3. When you calculate the lack of tax savings, and costs of renting for the first 2 years, versus buying at the reduced price with a 1% increase in interest rates. the result is a net loss of approximately $8,000.

Like most investments, for many of us, buying a home now is a better strategy than waiting. MARKETS CAN’T BE TIMED.