Home Prices: What Goes Up...

In the last few months, we’ve been given a pretty good example of one of the truest sayngs on record: The only constant is change.

After years of rising home prices, people are finding out that what goes up can also go down. What’s surprising is how shocked so many people seem to be, the number of homeowners now in serious trouble when it comes to their mortgage payments, and how many predictions of rising home prices are now proving wrong.

Today, for example, there was a story on the local TV news about a new subdivision full of $500,00 homes, perhaps half of them still unsold....and those that had been sold were now estimated to be worth $250,000 to $300,000. Their owners are stunned.

They shouldn’t be. There’s a fundamental rule of the law of supply and demand that many people don’t understand.....how much an item is worth depends on how much someone is willing to pay for it at any specific moment, not how much it orginally cost.

Anyone who’s studied history, or who’s old enough to have lived through a recession or two, finds this kind of situation painfully familiar. It wasn’t that long ago that thousands of people learned that the frenzied rise in the price of dot.com stocks could be followed by an equally frenzied fall. And that the seductive drumbeat of appreciation, appreciation, appreciation can be meaningless. The appreciation of real estate, like the appreciation of stocks, doesn’t put an extra dime in your pocket until you sell.....and if you sell at the wrong time, you can end up losing money.

As for those who listened to the glowing claims for mortgages with variable interest rates, they are now learning that they should have run the figures before signing on the dotted line. Instead, far too many of them listened to less-than-forthcoming lenders. "Go for that a low, low variable rate! Chances are the interest will never go up more than a few percent. How could that be a problem?"

Here's how.

I went to bankrate.com (a site that contains a lot of useful information) and used their mortgage calculator to figure out exactly how the increase in interest rates could affect a payment. This is for a $200,000, 30 year mortgage, and it illustrates the change in monthly payments created by a three-percent rise in the interest rate.

At 5.75% the payment is $1,167.15

At 6.75%, it’s $1,297.20

At 7.75%, it’s $1,432.82

At 8.75%, it’s $1,573.40.

In other words, a 3% increase in the interest rate results in a 34% increase in the monthly payment.

Shocked? Join the crowd.

And the many, many people who bought more house than they should have, because the low, but variable interest rate meant an affordable payment—at the time.

But now, as interest rates creep up, many of those homeowners are in trouble.....and promises that the appreciation of their home would insure that they came out ahead, no matter what, are proving equally false. What about those who were told appreciation, and the resulting increase in equity, meant they could take out home equity loans and use the money for whatever they wanted? In other words, use your home as a credit card! Some people are finding that they can’t make those payments either....and that they can lose their home for defaulting on a relatively small home equity loan.

If you’re in that situation, you have my sympathy. If you’re not, and you’re thinking of buying a home, look at that variable rate mortgage with a realistic eye. Run the numbers, and if you can’t afford the payment at the highest possible rate listed, back away and look for a lower, fixed rate mortgage. You may have to settle for a more modest home, but your fnancial situation will be much less precarious. Don't rely on appreciation to keep you out of trouble. Appreciation is never guaranteed.

And remember....the only constant is change.