Personal Finances - Edmonton Housing Bust

Category: Personal Finances

Tuesday, April 7, 2009

Mortgages – Fixed Rate Mechanics

Filed Under: Mortgages, Personal Finances

Some of you may recall a month ago I did an entry on why weekly and bi-weekly payments really were not as good as they were cracked up to be. Today I’m going to be my second piece in the mortgage series, this time looking at fixed rate mortgages and their mechanics.

Despite homes being the largest purchases most people make, and mortgages often being a households largest monthly expense, I’m never ceased to be amazed at how many people really don’t have a sound understanding of how they work. So this is my little attempt to shed some light on them.

We’re not going to get into the whole buying high/low thing today, just examine the basic structure of mortgages and how they work.

A lot of people are likely familiar with graphs like the one above if they’ve taken out a mortgage… at least I’d hope they would be, at the very least your bank or mortgage broker should have tried to explain one to you regardless of what type of mortgage you have.

It shows you how over time your equity builds exponentially, while your principle owing correspondingly decreases. The values of these and the proportions paid off can change substantially depending on the variables, but the general pattern remains the same.

The basic gist is that it shows you how little equity you make up in the early years, but as time goes by, more and more of your payments go toward equity rather then interest. Just from this example you can see you make up more equity in the last 9 years then you do in the first 16.

While it’s a pretty pattern, the only number in there that matters to me is the amount owing. The equity really doesn’t mean a lick. All that matters is what you owe.

When your mortgage comes up for renewal, at that point it matters what the bank thinks your place is work matters in relation to what you owe… or if you are selling it matters what someone is willing to pay for it… but the rest of the time, what you think your home is worth, or what your neighbours house sells for, or what the cities median price is, really doesn’t mean a damn thing.

Alright, end of rant. Now lets get on to how 5 year fixed rate mortgages work, and I think the best way to do that is to work through an example. So lets say we purchased an “average residence” in Edmonton in January of 1988, with a conventional 25 year amortization, 5-year fixed terms. These a probably the most popular type of mortgages in Canada.

In January 1988 we bought a house, and paid $77,792 for it, which was the residential average at the time. In reality we would have needed a significant down-payment, but for the sake of this example we’re going to ignore that and say we financed the entire thing. Down-payments are really not material for what we’re doing here today.

So we walk into the bank, finance $77,792 at the going rate for a 5-year fixed of the day at 11.73%. Which result in monthly payments of $804 for the next 5 years… at which point our mortgage comes up for renewal.

Here is a graph kind of incorporating the first two graphs. We have the monthly payments and we see the amount owing declining, telling us what we owe the bank as of each January. We now find ourselves in January of 1993, and owning the bank $74,271… which means we haven’t made up a whole lot of equity in the first five years, less then 5% in this example.

This doesn’t give us all the variables needed to give us our next payment though (ignoring that you can already see in on the chart), for that we need the interest rates…

If the interest rate in 1993 was still 11.73% like it was five years earlier we would still be paying $804 a month… but fortunately for us, interest rates came down!

Now the 5-year fixed rate is 9.47%, we owe the bank $74,271 and now our amortization is down to 20 years… so for the next five years our payments will be $691 a month.

Skip ahead to 1998, our term is up and we do it again, we owe $66,274, rate are down again, now at 6.9% and amortization is 15 years… so we’ll pay $592 a month.

Do it all again in 2003, $51,213 at 6.26% over 10 years… equals $563 a month.

Finally we get to 2008, only five years left, the last renewal! $29,272 owing, the rate actually rose slightly to 6.81% so we’ll be paying slightly more, $577 a month…. but come 2013, that house will be entirely paid off.

What I want to show in the graph is that with our style of mortgages, even with fixed rate ones, every five years your payments will change depending on the going mortgage rate of the time. In our example we were very fortunate in that interest rates just kept on going down, so the monthly payments kept dropping for the most part.

What the fixed rate mortgage shields you from is upward fluctuations of interest rates. As you can see from the graphs, the only interest rates that mattered to us were in the shaded areas, but outside of that they shot up and down quite a bit.

Just take our first renewal for example… if it hadn’t came up until 1994, we would have saved even more since rates dropped over 2 points in that year… but if it had came up in 1995 we would have paid even more since rates spiked that year. So, it can kind of be luck of the draw when your mortgage comes up for renewal, but over time it tends to even out.

The advantage of fixed rate mortgages is that you know what you’ll be paying every month, you don’t have to worry about your payments swinging as they would with a variable rate. The drawback is that you often pay a premium of a point or two more for this stability when you lock in.

So, should interest rates shoot up, at least your protected until your next renewal… should they stay about the same, you lose out because you’re paying a premium for the fixed rate… and should rates go down, you really lose out because you’re not only paying a premium, but you’re paying it on top of a higher rate.

Over the last quarter century we’ve seen rates consistently dropping, which have made variable rate mortgages very attractive… but today, the thing to keep in mind that that we’ve reached a point where rates really cannot get any lower… which means they can only go up, and it’s when rates are rising that fixed rate mortgages are not only safer, but often cheaper.

So it really depends on what you’re comfortable with, and whether you feel the premium you pay is worth it.

The last thing I want to touch on is the differences between Canada and the US when it comes to fixed rate mortgages. As mentioned before, traditionally 25 years has been the normal amortization period, and 5-year fixed the most popular terms.

South of the border, it’s a little different. There, 30 year amortizations are the most common period, and 30 year fixed the most common term. That’s right, with one of those you know exactly what you’ll be paying the entire life of your mortgage.

So using the purchase from our example above, and the going rate for 30-year fixed mortgages in January of 1988, we would have been paying $715 a month (for a better apples-to-apples idea, if the term was 25-year fixed it would have been $737 a month).

So, as you can see, by doing it with traditional Canadian 5-yr terms, we saved a lot of money… but this is because interest rates were dropping. If rates were going up, we would have done a lot worse. Basically it just boils down to that we’re more exposed to market fluctuations here in Canada, and that can be both very beneficial, or very detrimental.

One interesting thing you may have noted is that in 1988, the US 30-year fixed rate is actually lower then the Canadian 5-year fixed rate. This seems counter-intuitive as generally when you go into a bank, the longer the term you ask for, the higher the rate.

TD for example, their current advertised rates are 5-yr fixed at 5.45% and 10-yr fixed at 6.7%. Pretty typical.

Same actually also holds true in the US… this is really more a statement about the rates in the US just being more competitive, cause today you can get a 30-yr fixed from Wachovia for 4.75%… lower then our 5-yr fixed. So if you didn’t think it was bad enough that they can deduct mortgage interest from their taxes, they also get much better interest rates. So, if you’ve ever wondered why our banks are so profitable, there is a big part of the answer, Canadians pay a whole lot more interest.

11 comments

Wednesday, March 25, 2009

Incomes and Interest Rates

Filed Under: Historical Prices, Personal Finances

I had been wanting to do this for while, but could never find a solid set of data regarding historical incomes in Edmonton… but late last night I finally stumbled upon a Statcan report that was my dream come true.

So today I’m going to take a look at incomes, interest rates and prices over the last 30 or so years here in Edmonton. This may get a bit long and be a bit graph heavy, but their are a lot of different angles to look at, but I’m going to try to narrow things down as best as possible.

To get things rolling lets take a look at this graph (like all the graphs, you can click on the image to get a view of a larger version).

Edmonton - Median and Average Economic Family Incomes

Here we see the median and average economic family incomes for Edmonton from 1976 through 2006 in nominal dollars. A fairly steady, gentle curve up as time goes on. We’ll also note the average always is proportionately higher then the median, but that they track very similar patterns. As I’ve mentioned before, I think median is the more reflective stat, so we’ll be using it rather then the average.

Now the same graph adjusted for inflation (2009 dollars).

Edmonton - Median and Average Economic Family Incomes - Inflation Adjusted

It’s striking how relatively flat earnings have been over the last 30 years. It’s also interesting to note this chart picks up in 1976, during the run up of the last big housing boom in Edmonton (as discussed in this entry) and ends in 2006, effectively the run up of the current boom.

Unlike home values which has seen a small growth above inflation, earnings have experienced negligible growth above inflation. You may be asking yourself how we can afford to be paying more for homes when earnings are stagnant… that ties into this next graph.

This graph shows the values of average interest rates on mortgages (5 year terms) in Canada since 1962. As you can see, they have been very volatile and have a huge range. We can also see that historically we’re currently at very low levels… even lower still when you consider todays rates are not represented in the graph (though it is worth noting that in the early-60′s, rates then were in around 7%).

To get back to the earlier question of why we can afford to pay more for homes when earning effectively earning the same income… it’s because interest rates are historically low. As you can see from the graph we’re well below the long term trendline, and have been to varying degrees for most of the last 15 years.

It’s also interesting to note the contrast of interest rates during the last housing bubble to the current one. The last one saw prices increase then hold from about ’73 to ’81… a period when interest rates were climbing. Significantly. Rates were already trending up leading into it, then went from about 10% in ’73 to as high as 22% in ’81.

Numbers like that are unheard of today, credit cards aren’t even into the 20′s! Prices were rocketing up, even when the cost of borrowing was doing the same… compare that to our current bubble when the cost of borrowing was a relatively paltry 6-7%.

Now that we have the interest rates and the prices, we can figure out what income it would take to qualify for a conventional mortgage (25 year amortization) using the 32% Gross Debt Service Ratio (but ignoring taxes and heating costs, so effectively people would actually have to earn more, but for the purposes of this example they’re ignored).

Edmonton - Median Family Income vs Income Required for Financing

This is unadjusted for inflation. We can clearly see the two bubbles, when the income required for financing blows WAY past the median family income of the city. This was also for Single-Family Homes, the same graph for residential average can be viewed here.

It’s interesting that both bubbles appear roughly similar in that graph, but when we adjust for inflation…

Suddenly that boom in the late 70′s-early 80′s looks massive…. and that big spike it almost entirely due to the staggering increase in interest rates, as prices relative to inflation had largely plateaued from ’76 to ’81. Rising interest kept putting more and more downward pressure on prices, and eventually prices gave as affordability disappeared.

In any case, as we can see, eventually prices got back in line with earnings (interest rates coming down also contributing to that) and stayed relatively close for about 20 years or so… until the current bubble took off. It should be noted, the income data is not as current as the real estate prices, hence they cut out two years early.

Another factor to take a quite look at is interest rates and inflation rates… here is a little graph of that (these are yearly averages unlike the earlier graph of interest rates, which were monthly).

Not surprisingly, they track together. Like interest rates were much higher during the last boom, so was inflation. This revelation also reveals that lowering interest rates would have cushioned the fall during the last bust… so even if you overpaid at least you’re going to see your payments decrease in the future and inflation would be bringing up incomes thus improving affordability at higher prices. This is in stark contrast to where we find ourselves now when the prime rate is already effectively at rock bottom and inflation is minimal if not negative.

Since the 90′s economic policies have been trying to minimize inflation, trying to keep it 1-2% a year when possible… contrast this to the last bubble when inflation was anywhere from 6-12% annually. So, while inflation could go back up to those levels, it would also cause interest rates to go up and these effects would largely offset each other.

Which begs the question, what happens this time?

It’s a good question… because prices are still out of line, interest rates are effectively as low as they can go and inflation currently is negligible (and some are even speculating we may see some deflation)… in this situation, prices are the only thing that can give.

Even in the event of inflation because of all the printing of money, interest rates will inevitably also increase… which will still leave prices as needing to make up most of the difference and financially destroy most who bought during the boom when their mortgage comes up for renewal or are on variable rate. It seems there is going to be no cushion for falling home prices as they get back in line with earnings.

Ultimately it’s really hard to say what’s exactly going to happen in the long run, other then eventually prices and incomes will get back in line… how, is anyones guess, because the global financial crisis largely being uncharted waters.

In the short term though, real estate prices only appear to have one way to go. Down.

27 comments

Sunday, March 22, 2009

If not now, when?

Filed Under: Personal Finances

I don’t want those that read this blog to think I’m against buying real estate… I’m all for it, I just don’t think it’s a good idea to buy now.

If I had not been looking to buy last summer, I would have never dived into the numbers and ultimately started this blog. Up until then I pretty much accepted the idioms that real estate only goes up, and after seeing prices go so high, watching them come back down suddenly made them seem affordable.

Then you roll back the time frame a few years and, holy shit, you realize we’re ridiculously out of line with historical means… and then you start thinking there must be something more to the story… and for those who have been reading this blog for any length of time, you will have noticed I’ve been trying to tell it.

So, for those of you who were like me, my advice is this… wait.

Don’t try to time the bottom. It can’t be done without exposing yourself to extra risk and requiring a great deal of luck. The bottom will not be apparent until six months to a year later, maybe even more depending on how volatile the economy remains.

As they say in the investment world, don’t try to catch a falling knife. These prices are falling for a reason, there is not going to be another big run up immediately after bottoming out. The potential downside of prices continuing to drop is far greater then the small upside that would be realized from hitting the bottom perfectly.

This is just my take, but as a first-time buyer I’d rather pay a little bit more and know I’m buying an appreciating asset, then risk prices dropping another 50K, losing my down-payment and being trapped in the purgatory of negative equity for a decade.

Those that bought in 2007 are already there, I have several friends that took the plunge and they’re definitely taking a bath. It’s not a situation you want to find yourself in.

Speaking to those other potential first-time buyers out there, it is all about price and buying into an appreciating market.

The price you enter the market at will be felt throughout the rest of your life. No matter how successful those that entered during the bubble will be in future endeavours, their finances will never be as good as they could have been. That’s why bubbles are so dangerous, as much wealth as they may create, people tend to over-do it during the up-tick, and by time things have came back down to Earth more wealth is destroyed then was ever created.

The reason price at entry is so important is that all your future moves on the property ladder will be relative, you’ll be trading up based on the equity built up over time. That’s why being in negative equity is such a sticky situation, cause when you owe the bank more then what your house would sell for, even if prices of bigger places come down to a point you’d qualify to buy them, you’re not going anywhere.

You’ll probably buy bigger homes, probably carry bigger mortgages, but you’ll never made a more important decision then when to enter the market. And generally it’s pretty safe, for 20 years before 2005 it was probably fairly safe to buy-in at any time in there… but then we entered the bubble, and as people have been finding out, it’s now a very dangerous game.

Beyond that, most first-timers are not buying places they intend to stay in for every long. Often it smaller condo’s and town-homes and as they progress through life those are not enough to accommodate significant others and kids. These developments are coming hard and fast at those in their late 20′s – early 30′s, so often they only hold that initial property for only 2-5 years before trading up.

If you’re taking a 25 year mortgage on the place, you’re not making up much equity. After three years you’ll be lucky to have made up enough to cover your agent commissions and closing costs. After five years, you’ll have maybe that +5% (and god forbid you have one of those 30- or 35-year mortgages). So you need to make sure your home is appreciating.

To give you an example of how bad things can go, lets look at someone who bought an average-ish condo two years ago and is looking to sell. In spring of ’07 the “average” condo was going for ~$265,000, and lets say that person was smart enough to have 5% down and a 25 year amortization at 6% (the going rate at the time). So lets say they put ~$15,000 down, and finance the rest.

After two years they’ve made up $10,000 (actually closer to $9,200, but I like round numbers)… so they have $25,000 in equity, right?!

No. Problem is now the market rate for that condo is $227,000… and they still owe the bank $240,000.

They’re underwater for over ten grand, and we haven’t even factored in moving costs, realtor commissions and closing costs which is probably another 15 grand… and this was a person smart enough to have a down payment and not take a longer term.

If that person took a 0/40, that person would still owes that bank over $260,000, assuming they didn’t take the interest-only plan, which they might as well have for all they would have saved.

This is why I’m of the opinion that it’s really irrelevant how much someone thinks their house is worth, or how much equity they think they have in it. The only number that matters is how much you owe on it… everything else is trivial.

I’m also of the opinion that if you can’t pay it off in 20 years you probably can’t afford it… and if you can’t pay it off in 25, you definitely can’t afford it.

Anyway, end of rant.

Of course for the majority out there, they already have bought, and for those of you looking to trade up or down, it’s probably not a terrible time to buy actually, selection will never be better… just make sure you have the sold your old place before you even think of committing to another.

Like I mentioned before, for these people the property ladder is all relative… so if they overpay for their new place it really isn’t as big a deal since odds are someone overpaid for their place proportionately.

Though, if you’re looking to upgrade in a big way I might suggest holding off on that… cause if you’re living in a place worth $300,000, and looking at something worth $800,000, waiting until we’re closer to the bottom would be well worth it. All percent declines are not equal when it comes to nominal dollars, if the market goes down 10% sure your selling price would drop 30K, but your buying price would drop 80K… 50K is a pretty nice return for sitting on your wallet… and assuming we return to the mean, our drop will be a lot more then 10%.

And don’t get scared by the prospect of interest rates rising… because interest rates going up, forces prices down. What should scare you is the prospect of buying in at inflated prices and todays ultra-low interest rates… cause in five years you’d have little equity and the mortgage will be coming up for renewal, and if rates are high then, at that point you’re screwed.

So, long story slightly longer… here is what I’d look for to indicate the market is coming back into balance.

Prices have stabilized for six months or more
Absorption Rate consistently below 4
Active Inventory consistently in the 3,500-4,500 range
Sales consistently in the 1000-1500 per month range during non-spring month

If I had to guess a price range, I’d say look for detached home median prices to be $250,000 or less, and the residential average $210,000 or less. Now, this is highly speculative, but if I saw prices go appreciably below those, I wouldn’t be surprised if we overshot the landing and might see a small bounce back to the long-term mean… but I kind of think we’ll just sort of level off around there and prices will remain fairly stagnant for quite a while afterwords.

As I said before, my advice is wait.

We’re a long way from any of that happening in my estimation, so I advise taking some time now to learn about the market.

There is tons of inventory, so you’ll never get a better chance to see just what’s out there. Look around, you don’t need to buy. Go to open houses, or take a weekday afternoon off and tour a bunch of places. Learn what you like and dislike, and decide what you really want so that when it comes time to buy you’re going to make the right decision.

15 comments

Thursday, March 12, 2009

Are agents feeling the pinch?

Filed Under: Personal Finances

So tomorrow is Friday the 13th… and if that doesn’t scare you, just wait until the Feds announce the latest employment numbers tomorrow. Very ouch, I’m sure.

Today I’m going to take a quick look at an angle of the real estate industry that doesn’t often get much attention from we outsiders… the agents and their commissions.

Oh sure, many may curse them out for whatever reason, some think the commissions are too high, or don’t like that the buyer is represented by someone with a vested interest in a higher price, or find it odd that they trademarked their job title and insist it be capitalized.

I don’t know, I always just kind of figured it is what it is, but the capitalization thing seems kind of pretentious… but I guess you have to have some way of distinguishing REALTORS® from, say, Sandwich Artists®.

Whatever, I’m not going to get into all that. What I’m going to look at is how the bubble has effected their industry from an overall personnel and revenue perspective.

One interesting little nugget in the monthly ~~sales pitch~~ press release that most probably overlook is their little blurb at the bottom. This month it reads:

The REALTORS® Association of Edmonton (Edmonton Real Estate Board), founded in 1927, is a professional association of 3,148 Brokers and Associates in the greater Edmonton area. The Association administers the Multiple Listing Service®, provides professional education to its members and enforces a strict Code of Ethics and Standards of Business Practice. The Association also advertises property listings and publishes consumer information on the Internet at REALTOR.ca (formerly mls.ca), as well as in the Real Estate Weekly and on their web site at rewedmonton.ca. The Association supports charities involving shelter and the homeless through the REALTORS® Community Foundation (RCF).

While at first glance it looks like just another disclaimer, or some small print… it actually includes a kind of interesting little factoid, that there are 3,148 agents in the city. They’ve been including that for several years now, and while it occasionally is a rounded figure, or blatantly copy and pasted from a prior years draft without bothering to update the tally, it gives a ballpark figure and when compiled actually reveals some interesting stuff.

Here we see that their ranks swelled in recent years. No surprise there. Between ’01 and ’08 their numbers grew by over 1,200 bodies, or about 59%. Also no surprise that with the market cooling we’ve seen a few leave recently, 133 to date according to their figures.

It is interesting to note that their membership was growing quite steadily even before the bubble really got going, and while it certainly picked up come ’06 and ’07, there actually wasn’t an explosion of new recruits.

From this data we can derive all sorts of (perhaps) interesting little figures when comparing it with their other stats.

Here we see the number of sales in a month, and the estimated commission per agent in that month. As we can clearly see, the seasonality in the sales is even further amplified in the estimated commission stat. According to these figures they earn 2-3x as much in any given May, then they do that December… 2007 in particular the difference was 3.6.

So if you think sellers are getting horny for Spring to arrive, you haven’t seen the inside of a real estate brokerage… and if you have, you probably needed a stick to get them off your leg.

And for those curious, no I didn’t just simply just calculate the commission by using the 7%/3% formula on that months average price, as sales <$100,000 would skew such numbers. I actually ran the numbers through about a dozen different calculations to account for sales by price range, et al in an effort to account for all the different variables. So while this number is not exact, I think it is a very good estimate. After all, ultimately there is no way of knowing the exact number without knowing the specifics of every transaction since there are instances of reduced commissions, etc. While that graph gives an excellent example of seasonality, and shows an overall trend reminiscent of the bubble, it doesn't really offer a relatable finding for those of us outside the industry. So for that, we'll use this chart.

This is a moving average of the estimated accumulated commissions an agent would earn over one year. As you can see, this one definitely does reflect the housing bubble.

Bear in mind, this is not before tax income. They have to pay all their expenses out of that… vehicle, gas, cell phone, incidentals, and then there is the multitude of memberships fees and licences they have to pay to their brokerage and organizations like the EREB, AREA, and CREA.

This is also just an “average” and there is a whole lot of range of income in that profession. The Terry Paranych‘s of the world are still going to be making obscene amounts of money, though perhaps not as obscene as in 2007… while many that just went into that line of work in the last couple years or are part-timers, and haven’t really established themselves, are really going to be seeing a difference and feeling the downturn.

Those newcomers will also quite likely be the first ones to leave and find other lines of work. Which will provide something of a necessary purging of excess agents.

Those in the middle, which make up the majority, should be able to weather the storm. Though their support staffs will likely get cut back from their peak levels, this is also necessary since the work level just isn’t there to justify them.

As far as things have fallen in the last two years, the commission per agent figure is still at almost $70,000. A very healthy level when looked at from a long term perspective. So while things certainly aren’t as good as they were in 2007, they still appear pretty good on the whole.

So for those established agents out there I wouldn’t think they’re feeling the pinch just yet.

That could of course change. If over the remainder of 2009 sales remain about 20% lower then 2008 and the number of agents stays the same, even if prices don’t go down any further… by December that commission per agent figure will drop to ~$55,000, which would be lower then it had been anytime in the least eight years.

So if this sales slump continues through ’09, we’ll start seeing agents getting very antsy… and if it continues into, if not through, 2010, I imagine we’ll see a fairly significant thinning of the ranks. But for now, I think it’s mainly just the part-timers and the johnny-come-lately’s that are feeling the pinch.

10 comments

Tuesday, March 10, 2009

A Contemporary Story – Update

Filed Under: Personal Finances

Some of you may recall my writing about the situation of a couple friends of mine two months back. Figured I should do an update with Spring fast approaching and all.

Anyway, now it’s been five months, four price drops, one re-listing and they still can’t even get so much as a low-ball offer on their place. Then again, winter does not do this already awful location any favours… off a loop, off a loop, off yet another loop on a hill no less… THEN down a long narrow alley.

It’s no joy to drive to this place at the best of times, but when there is snow, forget about it. The already narrow roads are that much narrower with the snowbanks which are never cleared since that’s the only place people can park, then add packed snow and ice to the mix. You get the picture… and as I described the place in the first entry…

… frankly their townhouse isn’t all that desirable. It’s in one of those developments where everyone is practically on top of each other, poorly and cheaply built, no view of anything other then the next buildings on either side, and a “yard” that is smaller then my Volkswagen. It’s the kind of yuppie ghetto that will pockmark the city and eventually become de facto low income housing, a sad reminder of the housing boom and bust.

They’ve now dropped their price to $260K, which if that was what they started at back in October they may have had a punchers chance, but now they’re just riding the market further down. They’re priced in the ballpark with the other listings in the area, but none of them are selling either and most are offering at least an extra bathroom, if not a bedroom… so even if there is a greater fool or two floating around they are not going to catch them.

It’s not like nothing in the city is selling. Sure sales are way down, but every week I peruse the new listings and make note of those that are well priced for the market… and if they look decent and are priced about 10-15% below the comparables, they sell, often within a month even.

So there is hope, and I imagine if they’d bite the bullet and drop their price down to $230K, they could probably sell it quick for close to asking. I guess it’s hard to imagine just giving away thirty grand out of your back pocket, which would effectively be what slashing their price like that would be doing… of course they’ve effectively already done it once with all the token cuts over the last five months.

Trouble is that it’s just a matter of time before someone in their complex does it themselves and at that point the bar is reset that low for everyone, and then they’d have to come in below the new standard to get a sale. It might hurt the ego in the short term, but in situations like this the first mover often ends up the best off for it.

They still are in an equity position to do it too, they paid $200K for it, and while their equity still isn’t enough to cover their realtors commission, they can still make a solid 10% profit… which isn’t bad considering they’ve only held it for about two years. Anywhere but in a bubble that’s a very solid return on real estate.

They’re holding out hope Spring will be their saviour. I don’t think they’re the only ones.

Problem is they’re still no where near market value, and not only is the market prices going down by $100-$200 everyday, but they’re still having to go out of pocket for all the carrying costs on a house no one is living in.

In the five months it’s been on the market they’ve paid over $8,000 in mortgage, strata and taxes… only of which about $1,300 ended up being equity. And that’s not even mentioning the utility costs, none of which are covered in their strata fee… then there are the unquantifiable, like the mental and emotional stress the situation has caused.

So they’re out of pocket several thousand dollars, five months of their lives, and are still no closer to getting rid of the place. Perhaps the ultimate irony is they’re paying all these expenses based on the expectation of getting their price… when in reality they’re just doubling up on their losses as it’s a declining market and the longer they holdout, the less they’ll ultimately get.

It’s not just the selling costs one must consider when trying to sell their home, but the carrying costs… especially when it’s sitting vacant.

7 comments

Monday, March 2, 2009

Mortgages – The myth of acceleration

Filed Under: Mortgages, Personal Finances

This is the first in something of an intermittent series I’m going to do on mortgages. Despite often being a persons single biggest monthly expense, all too often people really do not understand how they work. And since I also get all geeked up doing this sort of stuff… behold.

I sometimes hear people talking about how much faster and cheaper they’re paying off their mortgage by going to accelerated weekly or bi-weekly payments… this isn’t really true. What they’re really doing is just increasing how much they pay in a month.

They basically work by taking what a person typically pays in a month, lets say $2000 (to use a nice round number), and if one wants to pay bi-weekly, they’d just start paying $1000 every two weeks ($2000/2) or $500 every week ($2000/4).

Then, instead of paying $24,000 a year ($2000 x 12), they are paying $26,000 ($1000 x 26 or $500 x 52). So yes, it would be paid off sooner, and they would save a little on interest…. but the same thing can be accomplished just by upping one’s payments to $2167 per month though, which is effectively what they’d be paying anyway.

You’re not really gaining anything by changing the number of payments. To take a look at just how little one saves on interest, lets use $200,000 over 25 years, at 6% example. That could be paid off for $1288.60 per month, or $297.12 per week.

Over the course of one year a person would save a grand total of…. $12.79.

Slightly over a dollar a month. Which, if you’re on a automatic withdrawal, by all means, go weekly, it’ll earn you a free lunch once a year.

But if you’re doing the old school method of mailing in or dropping off a cheque at the bank, it’s really not worth your time…. between postage, time and/or gas you will probably end up going out of pocket.

Another thing to consider is your monthly budgeting. If you’re not carrying a decent balance and depending on your work pay schedule on the months you have to make an extra payment could obviously lead to some headaches.

So, in conclusion, there is little to be gained by going to weekly or bi-weekly payments that can’t be accomplished by merely increasing your monthly payment… which, if you can afford it, is a good idea regardless of your circumstances.

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Sunday, January 18, 2009

A Contemporary Story

Filed Under: Personal Finances

A lazy Sunday here, watching some football and figured I’d relate the story of a couple friends of mine and the situation they find themselves in… one that is unfortunately becoming a little too common and is only likely to become more so in the next few years.

So they’re a young couple, had been together for years and after graduating from university they had both been working for a couple years, getting established in their professional careers. So in the summer of ’06 they decided it was a good time to buy a starter home.

The real estate market had been hot for a couple years, but things had just started to get ridiculous price wise. Resale inventories were very low at the time, and bidding wars were all to common, so they decided to buy a spec townhouse in one of the new developments in Edmonton’s latest “it” neighbourhood, Terwillegar. They moved in that fall.

They ended up paying about $200,000 for the unit, which they figured that was alright since prices were seemingly going up about 10% a month and they got in rather early. They figured they’d spend a couple years there, then climb the property ladder a notch or two with some nice equity in their back pockets. A few of their neighbours did just that too… by the peak identical units were being flipped for 350-400K during the summer of ’07.

Flash forward to fall of ’08, she gets a new job in Calgary (and he has no trouble relocating with the same company), so the move is on. They list their place right away, in their words “aggressively priced” at ~$285,000, figure it will sell in no time. Three months on the market later, and three token price drops, they still haven’t gotten as much as a wiff of an offer, and it’s now listed about $270,000.

When they first listed it I tried to subtly tell them that they may be a bit over priced, and if they got an offer within 40K of their price they’d be wise to take it. They brushed me off, dollar signs in their eyes. They don’t seem any less confident that they’ll get their price today, and I know there isn’t any point trying to tell them otherwise. I’m afraid that if they don’t slash that price and quickly they’re quickly losing the chance they have of clearing some money after paying the realtor and other fees… in a few months the market could have so far passed them by they won’t even be able to break even, which considering they had one of those lovely zero down mortgages will leave them in a bit of a sticky situation.

They don’t seem to realize the gravity of the economic downturn, and frankly their townhouse isn’t all that desirable. It’s in one of those developments where everyone is practically on top of each other, poorly and cheaply built, no view of anything other then the next buildings on either side, and a “yard” that is smaller then my Volkswagen. It’s the kind of yuppie ghetto that will pockmark the city and eventually become de facto low income housing, a sad reminder of the housing boom and bust.

Sure, they seemed like a great investment at the time for the buyers, but now it’s been realized the city is majorly overbuilt, these places will likely be avoided in years to come. They could probably get rid of it quick now for $225,000, but in a couple years I wouldn’t be surprised if that dropped to around $150,000 or less.

That said, their situation as far as that goes isn’t that bad. They both make decent money and even if they have to take a bit of a loss it wouldn’t ruin them. Their real big mistake is they also rushed out and put down an offer on a house in Calgary when they first listed… then upped their offer when apparently another offer came (on a house that had been on that market for 120+ days with no action I might add). If it were me I would have lowered by offer by 20 grand and added a condition they had to include their lawnmower and first born in the sale.

Fortunately they have a condition requiring financing approval and the sale of their old place. Which is their potential saving grace, and my hope for them. Their place isn’t going to sell for what they priced it at, so they won’t be able to buy the new one… and when they finally smarten up and lower their price the won’t be able to afford to finance the new one. So despite their best efforts to screw themselves, I think they may be alright after all.

Not as well off if they dumped the townhouse now and rented for a couple years, then bought again, but who am I to tell someone how to lose money?!

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