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Can you Win in this Real Estate Market?

As I write this the whole world is going through an economic crisis.  Congress just passed a bill to “bail-out” Wall Street.  Stock markets all over the world have tumbled, and some have closed their markets to avoid further losses.  The main issue in the presidential debate has become the economy.  Voters want to know which candidate can get us out of “this mess we’re in.” 

In the real estate market, lending standards have tightened.  Fewer people are able to purchase homes than could purchase them just two or three years ago.  The money needed for a down payment has increased from 0% to 20%.  The very big exceptions to this are government loans: FHA loans, which require a 3% down payment, and VA loans (for veterans of the armed services) which don’t require any down payment at all.  Both of these government loans and have recently increased their loan limit to $729,750 for homes in Northern Virginia.  As you can imagine, government loans have become very popular. 

Prices have dropped nationwide as well as here in Northern Virginia.  Price changes are neighborhood specific, but in some neighborhoods in places like Prince William and Loudoun Counties, prices have been cut in half.  In some of the more desired neighborhoods in close-to-DC locations like Arlington and Alexandria prices are very similar to what they were three years ago; they just stopped going up.  The drop in prices, along with the tougher economy, has resulted in more foreclosures, and a large number of short-sales on the market.  (Short Sale:  when an owner sells his house for less than he owes the bank, and gets the bank to agree to take less than they are owed). 

So who wants to dive into a mess like this?  The people buying homes in this market are very different from the ones buying homes in 2005.  Both markets had plenty of buyers who were simply looking for a home to purchase and live in.  But the 2005 market also had many people who were trying to make a quick dollar from the real estate market.  These people helped to drive the market to the high levels it reached in 2005.  

For example, a strategy used by many in the years leading up to 2005 was to purchase a new home before it was built.  The builder would need to build the home before the purchase was finalized, which typically took about a year.  The buyer never planned to live in the house, rent it out, or even make their first payment.  The were simply assuming that the market would be so much higher before the builder finished it that they could quickly sell the brand new home at a huge profit without taking possession for more that a few weeks.  This practice became so prevalent that many builders in Northern Virginia changed their sales contracts to prevent the practice. 

The attitude among these investors and among people who just needed a home to live in was to buy a house fast (and even at a premium price), because it would be more expensive next month, and even next week.  And they were right in a sense.  I did see prices increasing by the week.  Every house that came on the market in a neighborhood would be priced higher than the last one; and then it would sell the first weekend it was on the market.  Buyers were afraid to wait. 

Many people who bought in the years 2004 and 2005 would have a hard time selling their homes right now.  Some have taken the short sale route, and others are just staying put.  I’ve talked to people in the last couple of weeks who needed more space for a growing family, but were planning to stay in their smaller home because they couldn’t afford to sell their home.  Their mortgage is higher than the value of their house.  I talked with another person who was considering a job transfer, but would not be able to take the new job because of their house.  A job transfer would mean losing the large down payment they had put down on their home or renting the house out at a loss each month. 

So why are some people buying houses right now and who are the people that are buying?  In general, I have seen three types of people buy homes, and all for different reasons: 

The Financial Conservative.  This person sat out the real estate market of 2002-2007 when the market quickly rose and then dropped.  If they owned a home they sat tight, and if they were renting they saved their money.  This person lives off less than they make and saves money every month in conservative investment vehicles.  They do not like to take major financial risks and are not emotional about the market. 

Financial Conservatives see this market as an opportunity to buy their home at an attractive price.  They are also willing to sell their existing home at today’s market prices because they will save even more on the larger house they plan to purchase.  The house purchase is value driven.  Though prices are low, they are still looking for the best-priced houses on the market.  Condition is important to this group of buyers also, because they are making the purchase for their own home.  Often this group of people will make a significant down payment (20% or more) towards the purchase of their home, but some will use an FHA loan with a 3% down payment for their purchase. 

The Value Investor.  Value investors look to purchase homes that have a high annual return on investment.  They are not primarily looking at appreciation when they purchase a house, but how much money they will make on a monthly and yearly basis from owning a particular property in relation to how much they had to spend to acquire it. 

They are the exact opposite of the investors I wrote of earlier who invested in new homes hoping they would increase in value before they were built and selling as soon as possible.  The Value Investor benefits on a monthly basis from their investment.  They plan on having their properties increase in value on a long-term basis, but it is not at all important that it happens over the next year or even the next several years. 

This is the first opportunity in at least the last 20 years to invest in properties for value in Northern Virginia.  Prices have not been this low in relation to rents since before 1990.  Before our current market, appreciation of the house’s value had to be a significant consideration in the purchase of an investment property.  Today an investor can purchase a property based on the income it provides and simply wait until that property rises with the rest of the market sometime in the future. 

The Chance of a Lifetime Buyer.  This is a person with an income that would not allow them to purchase a home anytime in recent history.  Many in this group felt that they would never be able to own a home in Northern Virginia.  This home buyer is taking advantage of low prices and low rates on 3% down FHA loans or no-money-down VA loans for veterans simply to become home owners.  People who purchase a home that is similar to the one they’ve been renting are typically finding that their monthly payments go down as an owner. 

The two key elements for this buyer are to have 3% of the house price in cash and good (I don’t mean perfect!) credit.  Obviously you also need the income to sustain the monthly payments, but if you are consistently paying rent on a monthly basis, you probably have it. 

These three types of buyers are the people who are benefiting from the current financial strains on our county and on Northern Virginia.  The one thing all three have in common is that they are not in a hurry to sell the properties they are buying, but are willing to hold the property through turbulent times.  All of these buyers will find their decision to purchase property in this market rewarding when the market recovers, which it will eventually do.

 

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  • Randy Warner

    With the interest rates inching down, the buyer is definitely in the driver’s seat. A friend took far less on their house/barn (started at $690k last Aug and sold for $590K) than they hoped. But at the same time they were able to work a deal on a house three times the size of their old place. They paid $750K for a house that was selling for $850K last year.

    Hopefully the markets will have stabilized and the buyers will be eager in April when ours goes on the market.