rising rents: a prelude to crashing Real-Estate bubble

[sniglet]

We've been talking about the rising rents in the Seattle area on a number of other threads, but we haven't really discussed the possibility that increasing rents could actually be an indicator that the real-estate market is peaking and set to crash.

Here's the argument:
- At the peak of a real-estate bubble increasing numbers of potential buyers decide to rent instead of paying exhorbitant prices for purchasing their own home. Conversely, when a bubble is still healthily growing increasing numbers of people decide to buy rather than rent which lowers the demand for rental properties.
- The final mania of a real-estate bubble leads to a squeeze on rental inventory as many home/condo owners rush to "cash out" and benefit from the escalating property values. Condo conversions are a case in point, as rental inventory is taken off the market altogether. Further adding to the desire to sell rather than rent is the depressing returns landlords stand to make from renting (i.e. since rent P/Es go way out of wack in a bubble).

I think there is a great deal of anecdotal evidence to support this hypothesis (i.e. that rising rents are a sign of impending collapse) from numerous markets across the country that are further ahead in the cycle than Seattle. Miami, San Diego, and Las Vegas have all seen the phenomena of DECLINING rents as the bubble gathered pace several years ago, followed by a relatively short period of time when rents were rising (at the same time as over-all real-estate inventory).

Eventually, however, rents seem to go down again as the broader real-estate market falls apart and struggling home-owners/specuvestors decide to rent to stop the bleeding. Many of the new condos and homes that have been purchased with the intent to flip for a profit wind up coming back as rentals.

Does this theory hold any water, or am I making too many leaps of fancy?

[deejayoh]

[carlislematthew]

"If you look at renting and buying as substitutes, ceteris paribus, an increase in demand for one implies a decrease in demand for the other good. "

You just don't get it. Here are some examples of *how* you don't it, with regards to real estate:

1) Low interest rates will make prices go up, but high interest rates will not make prices go down.

2) When inventory is high it is a good time to buy, but when inventory is low it is STILL a good time to buy.

3) When prices are going up, it is a good time to buy. If prices are going down, it is a good time to buy.

4) Regardless of how much you spend on a house, the tax break ALWAYS makes you come out ahead. In fact, it would be awesome if the interest rates on mortgage went UP to 20% because then I'd have so much more to deduct from my taxes!!!! Eventually I could deduct so much, I'd actually get a refund. Just another way my house can generate income...

5) "Extracting equity" is not about borrow more money, it's about freeing money your house has earned for you. The money is otherwise locked in and useless. Free it!

[deejayoh]

yes, but I got to use the term "ceteris paribus" in a post and you didn't

[carlislematthew]

"yes, but I got to use the term "ceteris paribus" in a post and you didn't "

I have no idea why a spinal fluid disease has *any* relevance at all to this conversation.

[explorer]

[sniglet]

[explorer]

[small_far_ugly]

I am shocked at how much rents are going up. $1000 a month??!! Wow, at that kind of spike, I would still say you'd be safer buying. The woman in QA's rent went up to over $2000 a month, a good % of what she'd pay in a mortgage. Here's the story:

http://seattletimes.nwsource.com/html/l ... nny08.html

Unbelievable! Atrocious, but it really makes me think that the primary benefit to renting (rents logically must track incomes) just got shot down. If this trend spreads, I see no reason not to buy. Especially if I end up paying near what I would in a mortgage.

By the way, I don't agree with the assertion that you should free the money in your house. It's just a loan. I'm no expert, but the only way I see to truly free the equity in your house is something like a reverse mortgage, which you can't do until you've paid the thing off. But a HELOC is just a loan, quite similar to using a credit card.

You're right in that the value of your house means nothing unless you sell it, but that's one of the problems in looking at a primary residence as an investment. It's so horribly illiquid that the only way to use money that's 'yours' other than selling is to leverage yourself heavily with a loan from the bank.

Many people have lost their homes by doing exactly what you described.

So if you plan to sell, or have multiple properties, a house is probably a fantastic investment. If not, it's nothing more than a place to be at a fixed cost, IMO.

[sniglet]

[deejayoh]

[small_far_ugly]

Oh, OK. Sarcasm doesn't come across easily in writing.

And I got the bit about rents tracking incomes not from this thread, but from The Tim:

http://pricedoutforever.com/learn.html

Sniglet, you hit on a point that's pretty much been at the center of my deciding whether or not to buy. Does it seem like the Seattle market SHOULD correct itself? Yes. But I'm admittedly having a hard time balancing that with some insightful analysis I read earlier from Deejayoh which said (and you can correct me if I'm wrong) that based on the CA market in the 90s, it seems unlikely that anything more than a 10% drop would occur here.

That 10% drop would also probably take several years. Let's pick a number out of the air and say 4. My (grossly oversimplified) interpretation is that if the market slows gradually and averages (again, numbers out of the air) 2.5% appreciation annually over those 4 years before the 10% drop (which, for illustrative purposes, I'm assuming to be sudden), the much anticipated correction would only enable you to buy at today's prices anyway, but you'd have to wait 4 years to do so. Wouldn't you also have 4 years of inflation (~12-16% over 4 years) to wipe away any effects of a correction?

Where am I falling off the logic train here? I'm sure I am, but I know very little about real estate. I'm just a regular guy deciding whether to overpay for a crappy rambler or convince my local born and raised wife-to-be to pack it up.

I'm far from bullish, I just want to make an informed decision.

[rose-colored-coolaid]