The Coming Months Will Bring Some Great Home Values
Posted on August 10, 2008
Last week, I wrote about the real estate crisis, the Greater Fool Theory and the fact that many people are in trouble with real estate. They paid inflated market prices and then expected values to go up so they could sell for a profit. Their rationale was that prices were going up so fast it didn’t matter what they paid, there would always be bigger fools coming along to bail them out. These people were speculators, not investors. Now they are feeling the sting of a market gone cold.I’ve never speculated in real estate. I believe that if you buy right, you can make money even if the value never goes up. Historically, real estate prices, with few exceptions, have risen steadily even through recessionary times. The reason for this is twofold: scarcity and inflation.
As populations increase, the demand for housing grows. The problem is the amount of real estate remains constant. As the old saying goes, “They ain’t making any more of it.” Under normal market conditions, there are two factors that cause home prices to rise.
1. The number of people wanting to live in a particular area is increasing.
2. The regulations or terrain in that area restricts new building.
I live in Asheville, North Carolina, where both of these factors are very much in play. Terrain is limited and regulations make it virtually impossible to build housing that is considered affordable for average working people. Add to this an explosion of new comers wanting to live in one of the most desirable places in America and you had a recipe for rapidly escalating prices.
Areas like the Northeast corridor, the San Francisco peninsula and the Los Angeles basin have seen prices skyrocket as cities grew and the available land remained the same. The Asheville area is surrounded by mountainous terrain and growth is limited by the vast Biltmore Estate that lays in the center of the valley. These limiting factors coupled with the rest of the country discovering this wonderful area, have produced rapidly rising prices and a glut of expensive properties that will take years to absorb. This has opened the door for prudent buyers to take advantage of some exceptional opportunities.
Another factor contributing to rising prices is inflation, which occurs when there is more money available to buy than there are things to spend it on. In real estate, it is referred to as, “Too much money chasing too little property.” That’s what was happening in 2003-2006 when interest rates were at historic lows and there were millions of new buyers in the market. While the overall inflation rate was moderate, many areas saw annual double digit increases in real estate prices.
Real estate is an excellent hedge against inflation and large amounts of it can be leveraged with very little money. This makes it enormously attractive to speculators. During times of high inflation, they want to own as much as possible, but when the market cools and prices stabilize or fall, it’s a different story. These are times when you only want to own real estate that produces enough cash flow to support itself. They are also times when speculators find themselves awash in debt that they can’t support and have to sell at deeply discounted prices or face foreclosure.
While the current conditions are a crisis for some, they offer exceptional opportunities for others. A friend of mine recently looked at several new spec homes in expensive communities that builders had in their inventories. Asking prices were in the upper six to low seven figure range; hardly rental properties that might have interested me. What was interesting was the flexibility of builders who just a year ago wouldn’t think of coming off their price. Their offers to pay closing costs, give substantial discounts and make expensive upgrades still weren’t enough to entice my friend to buy. He said the deals would get much better before market conditions changed and I agreed with that assessment.
For over 35 years, I’ve lived by the philosophy that you make money when you buy, not when you sell. That’s why I’m an investor who has never sold a property. I’m different from people who buy a home in which to live. The residential properties I buy are to rent to average working people. Million dollar homes don’t fall into that category, but that’s where some of the best deals can be found today.
Here’s a tip! If you’re fortunate enough to be able to afford an expensive home, now is the time to go shopping. Builders are choking on unsold inventories. Banks are foreclosing on some very nice properties. In the coming months, many luxury homes will be sold at discounts of 30 - 50 percent off their original asking prices. The secret is to not being afraid to negotiate. Offers you feel comfortable making are probably too high. Don’t be afraid to ask for more than you expect to get; you might just get it.
Take advantage of the present opportunity. We may not see another time like this for 50 more years. When banks, builders and speculators get burned, it takes them a long time to get over the experience. There’s nothing like a tough dose of reality to bring common sense back to the marketplace. If you don’t believe it, just ask people who survived the Great Depression. It had a life long impact on their thinking about money and credit.
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