If you don’t heed the warnings of the academics, at least take a lesson from the history books. Excerpts from a recent article in Knowledge@Wharton:
What’s driving this [real estate] market? Most important: Are these [adjustable rate] loans ticking time bombs that could shock the financial markets and economy if rising interest rates or falling home values cause a rash of defaults? A flood of failed real estate loans torpedoed the Japanese economy in the early 1990s, and that country has yet to recover…
“The question is: Are we at that tipping point in the United States? And clearly we are not,” says Wharton real estate professor Susan M. Wachter. Nonetheless, she says, these loans are contributing to soaring housing prices, setting the stage for a potentially rough pullback that could make the next recession far more severe than it otherwise would be. “Undoubtedly, these new instruments bring us into uncharted territory. This is unprecedented.”
There are no doubts about it, the ways that people are investing in real estate are definitely changing. For example, take the current surge in people deciding to purchase management letting rights. Management Letting Rights businesses (MLRs), which are essentially enterprises that involve the caretaking and letting of townhouse and unit complexes, offer an alternative way for people to invest in real estate and earn an income, all the while building a saleable asset. You can click here to see an excellent resource on management letting rights, directly from specialists in the field.
MLRs to one side though, some experts argue that true home-price bubbles are rare, and usually confined to a few overheated pockets. Owners cannot sell homes with the click of a mouse, as they can stocks, so it’s difficult for housing prices to cascade as stock prices do when a bubble bursts. Typically, a home-price run-up is followed by a period of flattening prices rather than a wide-ranging collapse.
But Wachter says some overheated markets in California and the Boston area did see home prices fall by 30 to 40% after the 1980s bubble burst. Prices tend to fall the most where they have previously gone up the most, and many, many markets have seen enormous gains in the past few years. Hence, many parts of the country could experience falling home prices, she argues. “We could have 30 or 40 of those areas instead of one or two.” The risk of borrower defaults is clearly higher because of the heavy use of I-O and option loans, she adds.
Could Risky Mortgage Lending Practices Prick the Housing Bubble? [Wharton]