The Mortgage

As I mentioned in a post below, I've just passed the 1 year anniversary of owning my house here in the beautiful Texas suburb of Frisco. One thing I noticed while house shopping is that there are a whole lot of really expensive houses in the Dallas metro area. My question has always been, who the heck are buying these houses? How is it possible there are that many people making that much money?

It's really about math, and for me the numbers were never adding up. My house is not very expensive because I wanted to keep the mortgage payment under 1/3rd of my take home pay, and I've just managed to do that while having a 15 year fixed rate loan. Now, given that I work as an engineer, and own an affordable house for me that leaves 2/3 take home pay in my pocket every month, I wonder just how it is that all these expensive homes are selling like crazy?

This is a good analysis from the LA Times, link here:

The article describes California specifically, but I think it can be applied many places. After reading that article, I get it. It's all about the interest only loans.

Confronted with soaring home prices, Californians are adopting a "buy now, pay later" strategy on a massive scale. The boom in interest-only loans — nearly half the state's home buyers used them last year, up from virtually none in 2001— is the engine behind California's surging home prices.

Nearly half! I get it - people aren't really paying for their homes, they are just renting while being on the hook for a mortgage. I suspect a lot of them think the prices will continue to increase and they'll make money selling the house.

It's quite an ugly cycle, described perfectly as:

Of course, everyone else using an interest-only loan can stretch too. The result is that prices keep rising. That, in turn, encourages still more people to use interest-only mortgages, which fuels still more appreciation.

It's only a matter of time before the real bill comes due.

Here's how he thinks a collapse could occur: Rising interest rates put a brake on price appreciation and refinancings. People realize their interest-only period is coming to an end, raising their monthly payments substantially. Since they have no equity in the house, they choose to default.

"If housing prices go down or even are flat, heaven help us," said DeFranco.

So the premise behind nearly half of all home sales in California is the belief that the ridiculous price increases from year to year will continue unabated. Truly with the combination of the rise in interest rates, and the rise in sale prices, people won't be able to afford them even with interest only loans. Demand will decrease, and prices will flatten out, principal payments will come due, and then the whole thing comes crashing down.

I don't think the Dallas area has the same percentage of interest only loans, so that might be why the market here is reasonable. It might be that rising interest rates push people into interest only loans, but they will qualify for less house due to the interest rates. There is also more room to expand in Dallas then there is in most places in California.

I guess the moral of the story is - live within your means, and if you have to finance something, don't leave it to a roll of the dice if you'll ever be able to pay the bill.

Oh.. and finally.. I can stop feeling inferior because I can't afford a $300,000 house. It would seem a lot of the people that own them can't afford them either. When the shit hits the fan, my payment will still be less than 1/3rd of my take home pay, while some people will be lucky to find a nice apartment.