Don't Be Stupid

I can't believe so many people objected to this bailout plan.  They wrote their congressperson and complained that they weren't getting their mortgage reduced but that banks were getting free money and that that wasn't fair since the banks are the ones that caused the problem.

Are they joking? 

This whole mess happened because millions of ordinary people bit off more than they could chew by buying a home, or upgrading their home, or buying a bigger home, or buying a second home with cheap loans that were being handed out liberally.  Now the borrower wants to blame the lenders.  That is simply stupid.

If she borrows money from someone because they are offering the loan to her with a very low interest rate and now she can't pay it back, how exactly does that become the fault of the lender?  Is she going to blame the lender for thinking that she is creditworthy?  Or she blaming the lender for encouraging her to do the deal because she isn't smart enough to make a decision based on the facts?  Or does she blame them because she isn't adult enough to take the blame for thinking real estate would go up forever?

Yup, the Big Guys screwed up.  They trusted her.  They treated that mortgage just like it was a real mortgage with a real borrower who really intended to pay it off.  They didn't realize the she was way over her head, had lied on her financial application or were speculating on real estate prices without a clue. 

Poor Bear Stearns thought her mortgage was actually good paper.  Poor AIG thought they didn't have to charge very much of a premium to insure the Bear Stearns mortgage holdings because they thought the risk of massive default was low.  She and everyone like her sucked in the pros big time.  They believed in her credit worthiness and she screwed them.

Now she's going to see just how tight money can get.  The lenders don't like to be the bad guy.  They thought they were being liberal good guys when they lent to marginal borrowers.  Now they are going to make us all demonstrate that we can pay the loan off.  Down payments will be larger.  Interest rates will be higher.  Appraisals will be lower.  And those things mean that buyers will be fewer.

And that means prices will continue to go down.  Which will result in more people who took a risk defaulting on their payments and more houses going on the market.  Which will lower appraisals and increase the concern of the banks to make the loan.

This downward spiral will continue until you can buy a home, put in a renter, pay the mortgage, insurance, taxes and ordinary maintenance and get a positive cash flow.

If you are thinking about diving into real estate, don't speculate.  Evaluate the property as if it were a business.  Assuming you put 20% down and get a 7% loan, you can probably do fine if you buy the house for ten times the annual gross rent.  For example, if you can rent the house for $1000 a month, $12,000 a year, you can buy it for about $120,000 and expect that it will be a decent business.

Heads up below, though.  In most markets in the U.S., real estate prices will have to drop like a brick or rents will have to increase dramatically.  And both things are going to happen.

Now go play.  And relax.   This is a great opportunity coming.