Staying Upbeat In a Down Cycle

By Kenneth R. Harney
Saturday, April 29, 2006

Anybody thinking about buying or selling a house this spring probably is asking the same questions: In terms of historical real estate cycles, is this a smart time for me to be in the market?

After a record five-year boom in prices and sales, isn't it obvious to everybody that the party is pretty much over, especially in high-fizz, high-cost markets of the West Coast, Florida, Washington, Phoenix and Las Vegas? Won't rising mortgage rates and fast-accumulating inventories of unsold houses cool the market even further? Could appreciation rates sag -- or swing negative -- making any purchase this spring look like a dumb move a year or two down the road?

These are all intelligent questions, and let's be frank: Nobody has the answers. But new statistical research on the periodic ups and downs of home real estate cycles offers some insights into timing, lengths of ownership and rates of return on housing investments.

The research examined price data on 50 metropolitan housing markets from 1986 through 2005. During that period, price appreciation rates in some parts of the country, including California, Texas and New England, went through boom and bust cycles. In other areas, especially the Midwest, real estate appreciation was steady and moderate with almost no declines.

The study was conducted by Mark Milner, the chief risk officer for PMI Mortgage Insurance Co., a major loan underwriter that stands to lose large amounts of money when property values decline. The research used quarterly price data provided by the Office of Federal Housing Enterprise Oversight, which tracks home values in more than 300 metropolitan areas.

Milner concedes that his personal experience on timing home purchases hasn't been without setbacks. "I'm one of the unlucky ones," he said in the report. "In 1989, I bought a home in Los Angeles -- right before the bottom fell out of the market. When I got a job in another city and sold seven years later, I lost my down payment and everything I'd put in since, and I even wrote a check to the bank for a little bit extra."

Ouch! Many homes in the Los Angeles area lost 25 percent to 30 percent of their resale value during the early 1990s, but leveled off and began appreciating again by the mid-1990s.

"But here's the thing," Milner said, "I went on and bought another house, and then still another after that. Despite a loss during the first seven years, in 17 years of homeownership, I've recouped that initial loss and a lot more -- enough to make sending two kids to college a lot less daunting."

Milner's study assumed a 20 percent down payment on the median-priced home in each of the 50 metropolitan markets. Then it tracked the quarter-by-quarter appreciation performance of the median priced home, and came up with a statistical proxy for returns on investment in each market area.

Some of the report's broad conclusions are relevant to the questions posed above about timing and cycles and profits and losses:

· Anybody who thinks home real estate values can't go down is simply out to lunch. When local economies lose jobs, demand for houses drops and so do property values. Markets where prices have accelerated in part because of speculation by investors are particularly vulnerable when local economies go flat.

· The risk of loss is accentuated for buyers who do not hold on to their properties for extended periods. The longer you own a house, the greater your probability of making a profit on it, even if the local economy hits the skids for a while.

For example, looking at all 50 metropolitan areas during the recession-impaired 1991-1995 time period, owners who sold after just five years experienced the biggest losses, with 12 percent of owners losing about 10 percent of their investment at an annualized rate. People who purchased during that period and hung on for 10 years ultimately made money, despite the intervening recession years.

From 1996 to 2000, buyers who sold their houses within five years of purchase had a 1 in 20 chance of losing money on their investment, with annualized losses averaging 10 percent. From 1986 to 2005, 99.6 percent of home buyers who held on to their houses for at least 10 years made money.

The upshot: Yes, timing matters. If you buy at the top of an inflation cycle as a speculator and sell into an economic down cycle a couple of years later, you can lose a bunch. But if you buy a house and live in it for five, seven, 10 years, the odds are good that you will come out ahead -- even if, like Milner, you bought at the wrong time.

Kenneth R. Harney's e-mail address

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