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Bubble bubble toil and trouble III: Forewarned is fore-ARMed

April 5, 2005 By Charley on the MTA

Yikes:

"There are a lot more people questioningthe prevailing wisdom" of traditional fixed-rate mortgages, Lewis says.Many don’t plan to stay in their homes for more than a few years andare unwilling to pay a premium for a 30-year fixed rate, he says.

That’s just fine, until "a few years" becomes "now". And then, if you’ve taken out a big Adjustable Rate Mortgage (ARM) that was a good fit for your finances at the low interest rate, and now find it difficult to pay at the higher rate, you need to find a Greater Fool to sell to. (Hah. Maybe I’ll start a finance site, and call it "The Greater Fool.")

The degree to which the current housing market is sound or bubbly depends on elasticity of demand: if there are a lot of folks who don’t need to/can’t afford to stay owners in this market, then that will make the pop that much louder. Speculators don’t need their investments to live in, and folks maxing out their budget on an ARM "just for a few years" aren’t going to be able to afford it, as rates creep ever upward.

Update: Wonk out on some graphs at Angry Bear via Ezra Klein:

A recent report by the National Association of Realtors (NAR) reportedthat 23% of all homes nationwide were bought by investors. Another 13%of homes were purchased as second homes. In Miami, it was reportedthat 85% of "all condominium sales in the downtown Miami market areaccounted for by investors and speculators". This is clear evidence ofspeculation.

Double yikes.

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Comments

  1. brittain33 says

    April 5, 2005 at 3:08 pm

    I can’t believe that 6% for a 30-year fixed-rate mortgage is now considered “paying a premium.”

  2. charley-on-the-mta says

    April 5, 2005 at 3:15 pm

    The question is, 6% of what? The number doesn’t mean much out of context.

  3. brittain33 says

    April 5, 2005 at 3:48 pm

    The context I had in mind was the rates available on 30 year mortgages for most of the past 40 years. Only four years ago, rates were closer to 8%. 15 years ago they were a lot higher. Borrowing a lot of money for 30 years at 6% is an excellent deal by historical standards.But housing prices have gone up so much that people are choosing other financial instruments that carry much more risk. Yes, if housing costs have gone up so much that people can’t afford to pay a mortgage at 6% of current sales prices, that’s a problem, but borrowing the same inflated amount on an ARM or an interest-only loan isn’t really any better in the long run.

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