Kids with huge mortgages:be happy. Debt-free parents: worry

[This blog. I'm sure I read that a post a year was all it took to get a huge readership. Turns out it was once a day. I'm going to try one more time to get closer to once-a-"something closer to a day than a year". What better way to restart than an attempt to scare the bejeebies out of some of you? ...]

This article recently appeared in the Globe "Is it the right time to sell..."

For the better part of a decade, Lee and I have been unhelpfully telling people that all we know is that we don't know, and that a real estate market correction, while inevitable, is a crapshoot in terms of the all-important "when?" and "how big?".

If you haven't heard the rant at all or recently, it goes like this: On any given day I can find a well-researched article in the Report On Business by a very smart respected expert that clearly proves the market is going to crash ... now.  And about 3 pages before or after is an equally well researched article by a very smart respected expert proving that everything is fine ... relax.

Six or seven years ago I would have advised caution; I was not totally stupid or totally disrespected and I did have some middling expertise, and I was totally wrong.

Our current thinking is that whatever happens, whenever it happens, will be fairly gentle -- maybe a flattening rather than an actual fall.  But I could be wrong again ... the most worrisome point being that a lot of those smart experts now agree with that theory.

So why is this latest article worthy of note?  It suggests the same story:  real estate goes up and down over time, but over time the overall direction is up. It suggests there has to be a correction and maybe soon, but if you hang on you'll be fine.

But the author touches on an interpretation that I haven't seen talked about much, and which somewhat counters a fear that is being talked about all the time.

Younger folk are taking on massive amounts of debt to get into what may be a too-hot market. Danger Danger Danger!  Well, so long as they can handle an increase in interest rates without losing the house they will be fine in a few years, maybe a decade.  Hang tough and let that price curve get back to its historic upward run.

Meanwhile their baby-boomer parents think life is golden.  They bought a house back in the day for what is now their credit card limit. Now it's worth one or two zillion dollars. Once the last kid leaves for the last time and retirement is imminent, they can cash in on the 4 bedroom detached, buy the nice two bedroom condo and live the good life on the equity that is now a huge gob of cash in their investment accounts.

Financial planning types occasionally scare the crap out of their clients by noting the massive difference that a bust/boom in the first few years of retirement can make to the whole rest of your life.  A 10 or 15% drop in the value of your finances in the first year or two can be hard or impossible to replace if you aren't careful.

The point: If the equity of your house is important to your retirement years, you might want to lock that in rather than just waiting until your hips hurt and you don't like the stairs anymore.

Think about it as a regular investment. If you invested half your savings in a stock (Apple or Blackberry, take your pick based on your optimistic/pessimistic tendencies) and it doubled in a few years and you were getting close to retirement, would you hang on to it or take some profits and diversify a bit?

If that home equity is just gravy to pay for an extra cruise each year, then continue as you were and move whenever you are ready.  But if it is key to your envisioned lifestyle, manage it as the important financial asset that it is.

UPDATE: And CBC hopped onto this issue, but with a bit of an emphasis on Halifax and some other markets that may have already peaked and a few senior owners having an "uh-oh" moment.

Assignment: Rent vs Buy? Agree AND Disagree

I may have to go back to school.  I would love to take on Frank Tristiani's student assignment.

Rob Carrick, the Globe and Mail's personal finance columnist, has been on a bit of a run these days with several columns trying to get people to think more favourably about renting vs. buying.  His latest article (read it here) discusses a McMaster prof who runs his students through a comparison assignment every year.  Frank Tristiani, the prof, says "Over six years, no one has been able to substantiate buying as creating more wealth over the long term”.

His sample analysis involves buying vs. renting in Hamilton and leads to a renter being a half million bucks better off in 25 years.

That is a challenge.  First of all, some disclosure.  If you are reading this, you know I'm an agent.  So you are probably expecting some half-baked biased rant about buying always being better, especially right now ... call me and I'll help.  On the other hand, if you've read a couple of these, you know that isn't how we work.  More significantly, we rent! Wait. A Realtor who rents.  According to a couple of our competing agents when we made this move -- we must be retiring, in financial trouble, and/or have lost confidence in the market.  None of those are true.  The truth is the subject of a whole other discussion about life planning, some of which is covered elsewhere in this blog (starts right about here)

Back to the column.  Rob's article and Tristiani's assignment are great.  Tristiani is a finance guy who wants his students to apply some finance logic to what is a major financial decision.  Good idea.  And Rob himself points out a few of the arguable assumptions in the analysis -- like long term mortgage rates and investment returns.

But ...
I think there are a few huge "arguable assumptions" in Trisiani's sample analysis that Carrick did not mention or didn't give enough space.  If you are using the above link to read the article, be sure to click on the "infographic" mentioned on the left side.  This table was in the original article and you probably need it to follow along.  I've also included it at the bottom of this post.

• Carrick notes that the analysis applies to "renters with steely savings discipline".  I'll say. A bunch of the gain requires the renter to assiduously invest the difference in costs each month. I'd probably bet you the present value of that half million that you couldn't find me 3 people in Hamilton who could, would or have done that. Tristiani notes that owners aren't good savers either -- OK, so's your mother, but it doesn't really answer the issue.  The way I read it, this alone would account for all or most of the wealth difference over 25 years.
• Here's a little one.  I have no idea what research went into coming up with $1500/month (apparently with all utilities included) as the comparable to a $400,000 house.  Based on my Toronto experience, it seems low.
• A much bigger sleeper assumption on the rent is that rent will only go up at 1.5% per year over 25 years, despite the other assumption that inflation is 3% per year.  Since he also assumes that you make zero real capital gain on owning (house prices are also assumed to only rise with inflation) ... Never mind the rent vs. buy debate, whatever you do if you believe this: Don't buy an investment property.  I'm not convinced that landlords are going to eat half of their inflationary costs over 25 years just because they are nice people. 
• Here's another huge one. A quiet little assumption in there is that maintenance on a home comes to 4% of the value of the home per year.  Holy crap.  Either you bought a falling-down dump or you just like to tear your house apart and rebuild it every year or two.  He does include utilities and taxes in "maintenance", but I ran the numbers for our old house for the last 8 years and couldn't get it to 2%.  A quick google surf came up with estimates of 1% (before the utilities).  The Feds have a worksheet for you to do your own calculation  (you can play with it here) . This alone also would account for the wealth difference after 25 years

There could be more but I think that's enough to convince me (and maybe you) that the decision is not nearly this big and probably not even in this direction.

Both Carrick and Tristiani note that there are lifestyle and personal preference/value issues that are not covered by the analysis.  And I absolutely agree that you should do the numbers before you make the decision.

So don't just read the headline, skim the article and glance at the table. FIGURE IT OUT. Then decide, with the financial analysis as one of several major variables.

A final example, more an analogy, from my everyday job.  Imagine yourself looking at two good houses.  One is going to be a maintenance headache, at least for a while, but it has an absolutely gorgeous [fill in your blank].  We don't encourage people to buy the low-maintenance option and we certainly don't promote the one with the gorgeous whatchamacallit.  We do try to help you figure out how much you are paying for pretty or cool or functional or whatever-it-is.  Then decide.

[And finally... One reason that I keep falling off the wagon (the wagon which is this blog) is that I'm pretty sure the number of people who read it rounds to nada.  At least the ones who say so, or follow, or "like".  When I force friends and family to read them, they usually say nice things.  I think they migh not be lying, since there usually follows a decent and related discussion.  So, if this was even vaguely worthwhile, say so, tell someone, share, like, follow, something.  Thanks]

And really finally, as promised, here is the sample analysis that I just kind of dissed: