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Thread: why housing prices and rents can both drop together ...

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    Banned Melonie's Avatar
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    Default why housing prices and rents can both drop together ...

    ... stranded flippers !!!! In other words, real estate speculators have purchased houses with the intent of quickly flipping them to a 'greater fool' at an even higher price than they themselves paid, but falling real estate prices prevent them from doing so. Thus the flippers are 'stranded', and must choose between selling the spec house at a loss or pulling the house off the market and renting it out while waiting for real estate prices to rise again.





    (snip)" We own some commercial income property, so I decided to use the same basic formula to the house we’re renting.

    I agree with whomever it was that said, “Real Estate Investing is Fifth Grade Math.”

    For your amusement… Here’s the math for our rented house in Arizona:

    Income:

    $ 14,400- We pay $ 1,200 in monthly rent

    Expenses: (estimated yearly)

    $ 1000 Vacancy Allowance & Collection Losses
    $ 1500 Prop Taxes (verified)
    $ 900 Insurance
    $ 1000 Maintenance & Repairs - normal & between tenants
    $ 400 Home Warranty
    $ 180 3 Home Warranty Deductible for Visits
    $ 200 yearly accounting & legal fees
    $ 1000 Property management, advertising & rental commissions
    $ 250 Utilities while vacant
    $ 250 HOA fees
    $ 250 misc. expenses & administrative costs
    ======
    $ 6,930 Total Yearly Expenses

    $ 7,470 Net Operating Income Before Debt Service

    $ 7,470 / $ 335,000 (they paid) = 2.23% ROI if they paid cash for the property

    or:

    $ 7,470 / 12 = $ 622 to make a payment at 100% financing to break even monthly

    $ 622 / month net monthly income ~ 30 year mortgage ~ 6.5% APR ==
    $ 98,407 Purchase Price
    (not counting transaction costs & other expenses when purchased)

    So… somewhere between $ 98K and $ 335K is probably what this place is “worth”

    Obviously I’ve rounded off the corners in the estimates, but these are pretty scary returns when looking at the “P/E” ratio of the house we’re living in here in the NW Valley of the Sun.

    So when you see somebody taking their new-build house “off the market” to rent it out for a while “waiting for the market to go back up” you can quickly estimate where they’re really at."(snip)



    Basically, in order to break even on renting out a 100% mortgaged property at current interest rates in a market that will support a $1200 per month rent price, the flipper had better not have paid more than $98K to purchase the property. Unfortunately, odds are that the flipper actually paid 3 times that amount, meaning that they are losing money every month that they continue to rent the house at prices that don't come close to covering their expenses plus mortgage payments.

    Additionally, there are probably thousands of other flippers who are in the same position in the same rental market, refusing to sell their spec property at a loss in the current real estate market and therefore attempting to also rent their vacant spec houses in order to recover some amount of monthly cash flow. This means yet more supply of rental properties, which will only create more downward pressure on local market rental costs.

    ~
    Last edited by Melonie; 02-21-2007 at 12:57 PM.

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    God/dess Emily's Avatar
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    Default Re: why housing prices and rents can both drop together ...

    I can see this being true in inflated areas, what about in areas where the rent is still higher than the landlord's mortgage payments?

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    Default Re: why housing prices and rents can both drop together ...

    Ah yeah. The rents are only going up here in Australia not down. Plus I personally don't think that the real estate market here in Australia (at the very least) is as bad as you are saying. The rental market is tight and rents are increasing ... doesn't necessarily mean prices are dropping. People are still buying.


    enter: E3167322D9 for your 10% discount

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    Banned Melonie's Avatar
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    Default Re: why housing prices and rents can both drop together ...

    obviously the supply of available rental properties versus demand by renters plays a part. Also, in areas where real estate values are not falling, any 'flippers' aren't trapped into having to sell their spec properties at a loss versus renting them out - they can sell tomorrow and break even at least.

    Also, in terms of the Aussie $ prices for Australian real estate, versus US$ prices for US real estate, you've got a different issue to take into account. Over the past year, the Aussie $ exchange rate has moved upwards by some 6%. Thus any Australian 'bubble' is not immediately apparent to real estate owners and renters who both view their economic world in terms of Aussie dollars (such that houses that are priced the same actually are gaining value in terms of a world market). But where the US is concerned the US$ exchange rate has moved down by some 10% over the past year (such that houses that are priced the same are actually losing value in terms of a world market). Same applies to rent payments (where the landlord gains or loses from the strength or weakness of the currency involved)

    ~
    Last edited by Melonie; 02-22-2007 at 04:28 AM.

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    Default Re: why housing prices and rents can both drop together ...

    so, in other words....do your research before investing in real estate, but not all RE investments are bad. Don't buy in overly inflated areas.

    This is basically common sense.

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    Default Re: why housing prices and rents can both drop together ...

    ^^^ true in regard to buying and selling houses ... location is everything, especially where the local economy is strong vs weak, especially where the location itself is desireable for weather / culture / other reasons.

    However, it is not necessarily a common sense conclusion that, in 'bubble areas', sale prices of houses can go down while rental prices also go down. Common sense would lead to a demand side based conclusion that if people aren't buying houses they must be renting them, thus the sale price of houses and rental prices should be moving in opposite directions.

    But the existance of 'stranded flippers' creates a big variable on the supply side when those flippers make a decision not to sell at a loss. This reduces the supply of available houses for sale, and increases the supply of available rental properties. However, in 'bubble' areas where the supply of available houses for sale is massive to start with, and the number of houses being put on the foreclosure list / auction block is growing daily, a few hundred houses owned by 'stranded flippers' being yanked from the listings and converted into rental properties isn't enough to change the trend.

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    Default Re: why housing prices and rents can both drop together ...

    see, I wouldn't assume that all at....

    But maybe it's because I assume there are lots of vacant properties out there. The inventory of housing is always growing.

    Also, desirable renters are still hard to find. Remember that a lot of people are seeking to rent because they couldn't afford their house, many with foreclosures. A landlord doesn't want those people either.

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