A lot of potential homebuyers have been sitting on the sidelines for quite some time now because a) they think they can time the market and buy a home at the lowest possible price ever and b) they are afraid that if they buy a home now they might lose money on it when they sell it. The difference in those two beliefs may become apparent momentarily. If not, you can always write me.
I can't help you with (a) except to tell you that if you really believe that you are clairvoyant then you should quit your day job and trade stocks. You can also enter my home price forecasting contest where I'm giving away $500. In general John Q Public tends to buy high and sell low.
However, I can help you with (b) - or at least a company named EquityLock Financial can. EquityLock has recently launched a home price protection product that I recently heard about on CNBC. CNBC made a point of saying that it's not insurance but if it looks like a duck and acts like a duck...but that's a different insurance company. I spoke with Mike Bishop, the COO of the company. Here are the key points of the program:
- You pay a one time fee. According to Mike it would be approximately 1.7% for Chicago.
- The "policy" is in effect for years 2 - 15 - i.e. you can't get a payout in the first 2 years or after the 15th year.
- The policy can be set up to be transferable between home owners.
- If you sell your home and move during the coverage period and your local real estate market has declined from when you bought it according to the FHFA price index for your area then they pay you the percent decline applied to your original purchase price.
- They use a single index for both single family homes and condos.
When you think about it 1.7% for home price insurance seems like a pretty good deal for people who are debating about buying now or next year. That's equivalent to the recent one month price drops in the Case Shiller home price index. In other words, no matter how good you are at picking the market bottom you are likely to be off by at least one month so just buy the damn policy.
You should note a few things about this program:
- The FHFA index is calculated using a methodology similar to the Case Shiller home price index - i.e. they look at repeat sales of individual homes to determine the price changes, not just a crude median price of all home sales.
- If you are in your 15th year and your market is significantly under water you should sell your house and move in order to collect the payout because you will never be able to collect it again. That's my suggestion, not Mike's.
- Because the policy is transferable this could be used as a sales incentive for buyers.
- The payout is not at all dependent upon the economics of your particular purchase, but rather your market and the purchase price of your home.
It turns out that Robert Shiller actually proposed home equity insurance back in 2000. I bet there are a few people who wish this product had been available back then. Early indications are that the product could have wide acceptance. According to Mike CNBC's instant poll (I couldn't find it on their Web site) indicated that 58% of their viewers would buy this product.
Of course there are a host of questions around whether or not the company would still be in business when you really need them and whether or not they are charging enough to make sure they have the wherewithal to make the payout. Mike and I discussed this a bit and here are some of the key points he made:
- The actual insurance is provided by a related company, Equity Assurance, that has recently been issued an insurance license.
- Their reserves (money held to make payouts) are monitored by the state.
- They are not transferring risk via derivatives.
- The reserves and premia were determined by standard actuarial methods, including monte carlo simulations that included the last 4 years of data (a really bad time period).
I found it hard to believe they could provide home price insurance for such a low premium but then Mike explained that the time period covered is long enough to where houses should appreciate and how many people are really going to move every year? Also, in skimming through the Robert Shiller paper above I noticed that his estimate of the policy cost was in the same ballpark as what EquityLock is charging. Shiller pointed out in his paper that one thing that saves the insurer is that inflation will drive up home prices.
OK. So can you stop worrying now about when the housing market is going to bottom?