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April 24, 2008 Rent!...Don't Buy? - Part 2 THIS DAD OPINES ON THE REAL ESTATE MARKET AGAIN It seems as if it was just yesterday that my daughter Julie and her new husband Jeff, were asking my advice on whether it was wiser to purchase or rent a condo in Denver. Back then, in 2005, the Denver real estate market, similar to most real estate markets across the country was hot and it seemed as if there would be no end to the upward movement in home priceJulie and Jeff were eager to buy into the American dream of homeownership and to begin the equity building process. They hoped to sell at a profit when they would leave the area a few years later and put the money towards the purchase of their next home.
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However, as most of you remember, I advised them to rent, and published my thoughts about what I believed to be a rapidly over-heating real estate market (Click here to read Rent...Don't Buy-Part 1). While that advice may seem obvious now, after the crash, warning my children and clients to avoid buying real estate in 2005 was antithetical to the common wisdom at the time. Indeed, I took quite a lashing from many in the real estate industry who wrote or called to complain about my pessimistic, down right blasphemous advice; I was vilified for daring to question investing in real estate. NOW THE COUPLE HEAD TO NORTH CAROLINAJulie and Jeff are now bound for Durham, North Carolina where Jeff will begin a medical residency program at Duke University and Julie, with a newly acquired MBA, will continue pursuing her Advertising/Branding career. Had they purchased that condo in Denver 3 years ago, not only would the value have plummeted, it would have been close to impossible to sell it. Dear old Dad wasn’t so crazy after all… BUT DID I HAVE TO BE SO RIGHT?Risky, irresponsible behavior on the part of mortgage lenders, secondary market investment re-packagers (“slicers and dicers,”) and borrowers all played a part in the creation of a wildly over inflated, housing market. As the real estate market cooled and prices began to fall, the harsh reality of the underlying dynamic and weakness was exposed. This set off a domino effect that ultimately resulted in a global credit panic and, virtually, wiped out financial liquidity throughout the world. The U.S. economy was thrown in to a downward spiral, resulting in what is seeming more and more like a recession (no-I am not afraid to use the “R” word). The combination of overly risky practices and the rapidly weakening U.S. economy caused some of our most respected financial giants to crumble. DADDY, CAN YOU GIVE US ADVICE ABOUT BUYING A NEW HOME NOW?Here we go again. About a month ago, Julie calls to let me know that they are ‘heart set’ on buying a home in Durham and they are flying there from Denver to house hunt the next weekend….and they want to know if my wife and I can meet them there and guide them in the process. What’s a doting, financial advisor Dad to do? I scramble to do a little research on the Durham housing market and book a flight from Fort Lauderdale to Durham for the next weekend. It seems housing prices in the Durham market have remained stable over the past few years; avoiding the speculative phase that led to over-inflated prices in many major markets throughout the country. Consequently, prices never dropped off during the retraction phase we are still experiencing. I call the kids with one more question, “How long do you expect to stay in Durham?” “Three-five years,” is their response. Hmmm… I am concerned about the wisdom of buying for such a short term and my wife is fretting that they may become enamored with their new community and decide to stay there, rather than return home, to raise her future grandchildren. DURHAM IS AFFORDABLE….BUT As I have often stressed in previous columns, when it comes to investing, the ability to control one’s emotions plays a major role in determining whether or not one will have a successful outcome. When emotional and instinct driven behavior trumps a sensible approach, based on rational thought, dire consequences can often result. Indeed, the single greatest benefit a financial advisor can provide to investment clients, is to help them establish a plan and a rational process on which to base decisions. The advisor’s steady hand can be invaluable in helping an investor settle down and keep emotions at bay, in good times, as well as bad. In any event (pardon the diversion), Julie and Jeff make it clear to me from the get-go that they want to buy a house, whether or not it is the best move from my analytic perspective, and that my role is to help them through the acquisition process…period. But 3-5 years, is that enough time? But all the sellers seem to be following Julie and Jeff’s plan; they moved to Durham to begin their residencies and opted to purchase homes for their relatively short stays there. Now ready to relocate, some are having difficulty selling…shouldn’t we take this into account? These questions run through my head, but remain unasked. THE HOUSES ARE BEAUTIFUL AND THE PRICES MORE BEAUTIFUL Over two days, we visit at least 10 homes. I just manage to survive the process, while my wife and children, inexplicably; seem to have the patience to go on indefinitely. The homes we see are all newish, freshly painted in “Pottery Barn,” current colors, and spotless. Evidently the realtors in this community know how to “stage” a home. A typical nice 2500 sq. ft starter home in Durham (with 2 story entry-ways, beautiful crown molding, wainscoting, wood floors, fireplaces, granite counter tops, etc.,) in a lovely, well-kept neighborhood is in the $300,000 range. Yes, you read that right! In South Florida, a comparable home would cost 2-3 times as much. We experience a new form of sticker shock -the prices are too low! We all agree on the same dream home and an offer is made. After a relatively minimal amount of haggling back and forth from afar, a deal is made and a closing is scheduled for late May…. Dad, who has already been assigned his role in the process, expresses no dissent, and shares in the children’s excitement. WAS BUYING THE RIGHT DECISION? Given that the children were so eager to fulfill the American dream of home ownership and given that they were somewhat indifferent to the economic realities that they might face on the back end, it was the right decision for them. But if they are to live in Durham for only 3 years, I would opine that from a purely economic standpoint, renting would have made more sense. 5 years? Again given the transaction costs of buying and selling and possibly getting stuck…. who knows? More than 5 years? Unthinkable, they need to come back home to South Florida where they belong! In any event, I promise my readers that we will revisit this transaction again when they are selling and do the actual analysis. I hope we are all still together then in peace and prosperity. Postscript: The kids arrived home for a visit this week, and proudly announced that they were just approved for a mortgage with a five year fixed rate of 5.25% (5 year ARM). They explained that since they plan on returning to Miami after 3 years this financing structure was a great option for them. YES! Not only did they handle the financing wisely, it appears that they will be coming back, after all. Hopefully, the next installment in this continuing saga will take place right here in our very own South Florida…Should be interesting.
Austin A. Frye, MBA, JD, CFP® If you know of someone who may enjoy reading this newsletter, click here Securities and advisory services offered through LPL Financial-- Member FINRA/SIPC
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