Realtor's Home Purchase Ensures That Chicago Home Prices Will Crash
On Friday, after renting for 12 years, my wife and I became homeowners for the 4th time. Obviously buying a home in Chicago was not a decision that we entered into lightly. When we first arrived in Chicago in 2000 we suffered from major sticker shock at the outlandish prices in this area - and home prices just kept going up. Then there was the oft repeated chorus from friends and colleagues that "Chicago home prices always go up", which was a major red flag.
On top of all that I'm a numbers guy and when I ran the numbers on this decision renting was consistently cheaper than buying. You know how people like to say that renting is throwing your money away? Bullshit. There's a cost to buying and there's a cost to renting and you just need to compare the two properly. Paying interest on a mortgage and property taxes is no different than paying rent.
The other big factor in our decision to rent was that I absolutely hate having to deal with physical assets:
- Physical assets - especially homes - are subject to entropy and that makes me nervous. While the rain assaults my house while I'm asleep every molecule of water will be looking for a way to get inside and destroy everything in its path.
- I really don't like having to deal with mundane problems like broken closet doors (entropy at work). I much prefer letting a landlord deal with them.
- If I need to leave the country on short notice because class warfare has just broken out my liquid assets follow me anywhere I go. Not so with a house. It will be confiscated by the Occupy movement.
But buying a home finally just got way too attractive.
Chicago Home Prices Are Really Low
According to the Case Shiller home price index for Chicago home prices on average have fallen almost 35% from the bubble peak and are tracking almost 27% below the long term trend line - pretty close to an all time low since the bubble burst. There is also a variety of evidence that Chicago's housing market is coming back and we think we were able to get a good deal on a short sale. Of course, now that we bought the market is sure to enter another free fall.
The Impact Of Low Interest Rates
Interest rates got stupid low, which actually had several implications. Obviously that means low mortgage rates. I was able to borrow at 2.875% on a 7 year ARM loan from Guaranteed Rate and 42% of my monthly payment will go towards principal reduction right out of the gate and the other 58% of the payment is tax deductible - for the time being. But low interest rates also meant that money I had sitting on the sidelines was earning zero interest in a money market fund so I might as well let it sit idle in a down payment.
With these low rates I also figured out that I could borrow money at zero interest in the short run rather than liquidate higher yielding investments. But one word of caution here. This "borrowing" technique is not recommended for the average person. It has way too many caveats and requirements.
Chicago Rents Are Rising
When you buy a house you lock in a monthly cost - except for any monthly assessments or property taxes - for as long as 30 years. However, rents will rise over time and that's exactly what's been happening in Chicago lately. In fact Chicago rents have risen 9.1% in the last year.
How The Math Worked Out For Us
Today we pay $3200/ month to rent a 2700 square foot (the developer included the garage and called it 3100) townhome in University Village - $38,400/ year. That rent is a bargain because we've been here for 9 or 10 years and our landlords have had no vacancies or problems collecting rent. But you can bet that in the long run our rent is going up.
Compare that to the 4300 square foot single family home in West Town that we just closed on and will cost us $700,000 after all the work is done. If we assume that the average cost of the money tied up in the home is 3% in the current environment then the cost of the money is $21,000 per year. Add in another $11,200 for property taxes (assuming I successfully appeal them) and the total comes out to $32,200 per year - all of which is tax deductible for the time being. Now there will also be annual maintenance but with all the work we are having done I'm hoping the maintenance won't be much for a while.
So it was pretty clear that we were looking at more home for less money. It was a no-brainer. You can do the same simple analysis for your own personal circumstances or you can get really sophisticated and use the NY Times rent vs. buy calculator, which takes into account additional factors like home price appreciation and rent increases. There is a good chance that you will see that buying trumps renting right now.
BTW, I also shorted a small amount of treasury bonds on Friday, thus ensuring that bonds will continue their rally. The last time I shorted treasuries that's exactly what happened and I lost my ass. Bonds are already up in early morning activity.