Chart of the day: Let’s go buy a house!

By Felix Salmon
May 8, 2012


Many thanks to Ben Walsh for putting this chart together for me. The source is this data at the Census bureau, inspired by page two of the first-quarter 2012 Census bureau report on rental vacancies and homeownership.

The first thing to look at here is the blue line, which shows that the median asking rent for vacant rent units tends to rise pretty steadily. It doesn’t spike during housing bubbles, and it doesn’t plunge when those bubbles burst. Which is one reason why if you can, it’s always a good idea, when you’re buying a home, to take a look at what rents are like in the area. That’ll help you work out whether prices are too high.

David Leonhardt performed this exercise two years ago, and came to the conclusion that in some parts of the country, including South Florida, Phoenix and Las Vegas, buy-to-rent ratios were making houses look attractive again. I wasn’t completely convinced, but over the past two years, prices have continued to fall, while rents have continued to rise — sometimes painfully so.

In the chart, the red line shows the mortgage payment you’d have to make if you took out a standard 30-year mortgage for the median asking sales price for vacant sale units. In reality, your mortgage payment would be lower, since this doesn’t take into account any downpayment. But in any case, thanks to ludicrously low mortgage rates below 9% 4%, that number is now lower than the median national rental price. This is the first time that’s happened since 1988, and probably for quite some time before that, too.

Remember that houses for sale tend to be bigger and more valuable than houses for rent, too — which only goes to underscore how good a deal buying is versus renting right now.

Of course, not all markets work this way: around New York, there are lots of places where it’s still a lot cheaper to rent than to buy. But if rental prices are a good gauge of the value of housing — and I think they are — then I think we might finally have reached the point at which most Americans are getting good value when they buy a house.

To put it another way, we can now take advantage of long-term fixed financing (thanks, Uncle Sam!) to own a home for a monthly payment less than the cost of renting. Which doesn’t mean that prices won’t fall further, of course. But at least there’s a good chance that if you do buy a house right now, with a fixed-rate mortgage, then if push comes to shove you’ll probably be able to rent it out and more than cover your mortgage payments.


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I prefer to look at price-to-rent, not payment-to-rent, for a few reasons: 1) Low rates should signal slow future growth for rents and income. Therefore, your fixed mortgage payment won’t fall nearly as fast versus rents/income as it would in a higher-rate environment. I.e. you’ll benefit less in the future from the fact that your payment is fixed. 2) In today’s rate environment, it’s very unlikely that you will never have the chance to refinance at lower rates ever again. The potential for future refinancing is a hidden benefit. 3) Theoretically you can rent your old place if you have to move and the house is underwater (which it certainly will be if rates rise moving monthly payments out of reach), but practically you’ll need to come up with another downpayment for your new house. Do you want to be doubly levered to the housing market in a rising-rate environment? My feeling is that you want to buy when rates are high and prices are low. The questions is how long it will take before rates start rising.

Posted by KCCC | Report as abusive

Felix, a typo perhaps? Mortgage rates are very much below 9%. In fact they are below 4%.

I’ve argued the case for homeownership enough times in the past, I’ll flip and argue the case for renting here.

(1) Houses are very expensive to buy and sell. Once you account for mortgage fees, realtor commissions, prep costs, title insurance, assessments and inspections, you can easily drop ten percent of the value of the property in a buy-and-sell turnaround transaction. Unless you can amortize that over a sufficiently long holding period (at least a decade), owning your home does not make financial sense.

(2) The cost of ownership is much more than the cost of the mortgage. The payment on a $300k mortgage is around $17k/year, but taxes ($4k?), insurance ($1k?), and upkeep ($6k) increase that significantly. At least initially, your cash flow for ownership is much higher than for renting.

(3) Depending on your market, price/income ratios remain sky high. The affordability is being driven by the cost of borrowing, not by the prices. When (if) interest rates rise, the prices will fall another 20% or more. That isn’t a big deal if you own for a couple decades, since inflation will eat up any real decline, but shorter-term owners could realize heavy losses on a purchase today.

The moral of the story is the same as it has (almost) always been — buy if you have stable finances, a stable situation, and have found a home that perfectly suits your needs for 10++ years that doesn’t cost much more than you are presently paying for rent.

Otherwise be very cautious.

Posted by TFF | Report as abusive

“My feeling is that you want to buy when rates are high and prices are low.”

That might be ideal, but these cycles seem to be measured in decades. Doubt you can wait that long for the perfect opportunity.

“if push comes to shove you’ll probably be able to rent it out and more than cover your mortgage payments.”

Depends on the property and location. Don’t try renting out a SFH in a rural area. Disaster! But a nice condo in a university town can be rented very profitably.

Posted by TFF | Report as abusive

We just upgraded our housing last year and held on to the old home for a rental. We own 20% of the new place and 40% of the old one. I’m comfortable, because I’m pretty firmly rooted here, and I think I could make these houses work as rentals, even paying a property management company.

Rates will assuredly rise at some point, and that will put downward pressure on sale prices. But I’m pretty happy buying in a low-rate, low-price environment, even if that means I may never get to refinance. The point of refinancing is to get a lower rate, right? So I’m cutting out the middleman by borrowing at three and a half to start with.

Now, we’re scrambling to help my wife’s sister with a down payment. The time to buy is when there’s blood all over the streets, but the gunfire is dying down. Remember the stock market three years ago?

Posted by ckbryant | Report as abusive

TFF speaks the truth. Buying is right for some people, and renting for others. That’s why I’m happy to be a landlord today, as I was happy to be a renter fifteen years ago-it is, or can be, a win-win relationship, beneficial to both. That’s really the only kind of investment I make.

Posted by ckbryant | Report as abusive

ckbryant, the whole “rising interest rates will put downward pressure on sale prices” dynamic is one that to this day is still being studied by M.S.-level students in economics and lots of papers have been published on it. The result is that in the real world, either it isn’t true at all or there is very little evidence to support it, even though it makes sense from the logical deduction from first principles point of view.

Posted by Strych09 | Report as abusive

Strych09, at least in the Boston metro area, we are in a situation where Price/Income ratios are over 4 (over 5?), nominal incomes are flat, real incomes are declining, and population is stagnant. Are those Masters-level research projects using data that is sufficiently relevant?

I have a hard time imagining rents increasing much further in this environment, and a increase in borrowing costs WITHOUT a decrease in price will put most families out of the market entirely.

Of course you could argue that interest rates will remain low until growth reappears and incomes pick up…

Posted by TFF | Report as abusive

so if interest rates go back up a few percent & you want to sell that house, what will the ratio look like to a potential buyer?

Posted by rjs0 | Report as abusive

Cap rates on leases are heavily impacted by general economic conditions. Future rent increases can’t reliably be anticipated unless one is confident about future growth in incomes. As a landlord, I have to be prepared to accept that this might be as good as it gets for rents for a while. It might get worse.

It’s certainly close to as good as it ever gets for nominal interest rates. Borrowing fixed and long makes sense, and that’s why government is damn near the only source dumb enough to fund such loans. (That’s why the Street wants Treasury to start issuing floating rate 30-yr paper; they see what’s eventually coming for rates.)

Rates aren’t going anywhere until the Fed decides that some “austerity” is needed in the US. That’s not on my radar screen. The Fed will keep rates down by QE – which means eventual inflation is probable. I like owning realestate in an inflationary setting.

The risk is all in the rents on these deals. If the CAP rate is comfortably above my fixed borrowing and other costs, these deals have appeal. This unusual situation with CAP rates and i-rates isn’t likely to last all that long. I’d start looking hard at it right now if I was still in the game.

Posted by MrRFox | Report as abusive

Is that an interest-only mortgage or does it include repayment? In which case it’s a lot cheaper to buy the house (which is then offset by the taxes, running costs etc mentioned in the comments).

Posted by mjturner | Report as abusive

@MJT – in calculating the econ of the deal I’d use interest-only payments to determine my basic “profit-loss” costs. I walk on the deal if I don’t see a comfortable profit margin here. I’d aim for a CAP rate higher than my costs using debt service on a fully amortized loan. If the CAP rate doesn’t cover all that I’ll have to pony-up the difference – but it’s repayment of principal, not an actual cost.

I’d worry more about finding a long-term tenant to nail down my income stream. That pretty much means a commercial property – consumers don’t make 20-year leases on apartments or houses; they wouldn’t be worth the paper …

Posted by MrRFox | Report as abusive

Location location location.

Posted by krimsonpage | Report as abusive

If buying a house makes sense, then buying several houses makes more sense. That is, if have what it takes to be a financially successful homeowner (stable job, responsible, willing to do some minor repairs yourself and oversee more extensive repairs, understand basic legal and finance concepts, etc), then you probably have what it takes to be a landlord. If you aren’t cut out to be a landlord, then you probably aren’t cut out to be a homeowner either.

Striving to be self-sufficient and nothing more is small-minded. Only hillbilly’s grow their own food and no one else’s, repair their own cars and no one else’s, etc. If you’re going to farm, go big and grow for yourself and many other people. If you’re goign to repair autos, repair lots of autos, not jsut your own. Ditto for housing services. Think economies of scale.

Posted by revelo | Report as abusive

TFF–Here in the Boston Metro area, the price/income ratio has been pretty high for twenty or thirty years–if you’re waiting for it to go down to 3, forget it, it’s not going to happen, unless you’re thinking we’re going back to the early 1970s. We bought our house here in Cambridge in 2009, and our mortgage is definitely less than apartment rentals in our neighborhood, and residential taxes are low. We got a deal that was good for us, and we’re satisfied. In the end, everyone has to make their own decisions based on their circumstances and needs.

Posted by Moopheus | Report as abusive

Moopheus, did I mention a price/income ratio of 3? It is closer to 5 in your neighborhood, maybe higher.

We bought in 2000 (not in Cambridge) at a price/income ratio around 3. Worked very well for us, but I’m not expecting to see the rapid price appreciation of the 90s any time again soon. If your rationale is based on that expectation, you will be sadly disappointed.

Much depends on your ability to service the debt comfortably.

Posted by TFF | Report as abusive

“Location location location.” (Krimson)

Yes, as always. What makes the present situation so special is the possibility like never before to get top quality stuff at prices and rates that make cash-flow sense. It’s so tempting, it almost seems like it has to be a trap, but ….

Posted by MrRFox | Report as abusive

No, TFF, I do not have that expectation. But when we decided to move closer to work, we did not find any decent affordable apartments. We had savings and could afford a normal downpayment, so buying was actually the better option for us. Our house is much nicer than any apartment we saw (weirdly (it seems weird to us) condos were the most expensive option–we looked at some condos, too, but the condos were small and overpriced–not a good deal at all). We’re paying more than at the apartment we left, but our daily commuting cost is basically zero.

Posted by Moopheus | Report as abusive

Sounds like a good decision for the right reasons, Moopheus.

Posted by TFF | Report as abusive

A direct comparison of mortgage payment vs rent is so simplistic as to be nearly useless. When you own a house, in addition to the mortgage payment, you have a number of expenses typically not incurred by renters. This includes property taxes, heat, homeowners association or condominium fees, maintenance, and homeowners insurance. These expenses are only partially offset by tax deductions.

Then there are significant transaction costs for buying and selling.

Posted by qrt145 | Report as abusive

In my previous message, I forgot to mention the other factor in favor of buying: that part of the mortgage payment goes to increasing your equity instead of going to the bank/landlord (however, with a 30-year fixed loan, the first few years it is only a small faction).

The buy-vs-rent calculator in the NYT website is good because it includes all these factors. After playing with it for a while and noticing the huge effect of any of the huge number of unpredictable variables, it becomes obvious that buying a house is always a gamble (with odds sometimes more favorable and sometimes less).

Posted by qrt145 | Report as abusive

qrt145, one way to look at buying a house is as an exercise in capital allocation. You can borrow the capital (in which case you pay mortgage interest) or you can put up the money out of savings (in which case you forgo investment gains). Since the value of the house will tend to increase with inflation, the real cost of that capital is 2%-3% lower than the nominal cost of the funds.

The real benefit of that outlay is the difference between the cost to rent and the cost to own (taxes, insurance, maintenance). All of these items should presumably increase with inflation.

E.g. Our house might sell for $330k or so, would rent for around $24k/year, and costs about $8k-$12k/year to own. The cost of our capital is the difference between what we might earn in a comparably secure investment (3% bond yields?) and the inflation rate (2%?), or about $3k/year. Thus it is much cheaper for us to own than to rent.

But as you say, this analysis presumes that the value of the home trends with inflation. Over long periods of time, beginning from a normal situation, that tends to be true. Over shorter periods of time you can end up with large trading gains or losses.

Posted by TFF | Report as abusive