"I am quite sure now that often, very often, in matters concerning religion and politics a man's reasoning powers are not above the monkey's." –Mark Twain
Although Mark Twain articulated the idea much better, the real quote I am referring to is, “Never discuss politics or religion in polite company.”
That general rule - to not talk about religion or politics - is simply to avoid conflict. It’s always awkward at a family dinner when all of sudden your crazy uncle starts yelling at grandma because they disagree about who the President should be.
And while that scene (your uncle yelling at your grandma) is probably pretty common considering today’s world politics, don’t think for a second that it was any different 100 years ago.
That’s why the saying, “Never discuss politics or religion in polite company” is just as true today as it was centuries ago.
Well, I’d like to add a third topic that you should never talk about: home ownership.
I have written about this many MANY times. I won’t repeat it again, but here is my basic thought: Home ownership is not a one size fits all solution. There are many times when it does NOT make financial sense to own a home. There are also times when it DOES make sense to own a home.
Home ownership, like religion and politics, is a very emotional topic. People are connected to the idea of owning their home, just like a relationship with an actual human being.
For some, home ownership is a MUST, because renting is a symbol of instability and uncertainty. For others, a home is simply a tool - like a vehicle or computer - that you use and can easily be changed at any time.
Personally, I believe that this topic is one of the big divides between the boomer generation and all generations coming after. Boomers believe home ownership represents a successful life. All of the generations after boomers believe experiences represent a successful life.
From an investing standpoint, it’s difficult to make a blanket statement in regards to real estate. There are always pockets of opportunity in all markets.
But… right now, in many major housing markets throughout the world, it does NOT make sense to buy a home. Prices are high and the carrying cost of owning a home is much higher than many rental markets.
Most home buyers are banking on the idea that their home will continue to appreciate in value, rather than buying with the idea that it currently makes financial sense. This is especially true in hot markets like San Francisco, Los Angeles, Miami, and New York.
Just like any investment, it’s the entry price that matters the most.
The age-old argument is that the money you are paying towards your loan pays down your principal, which builds up your equity. On the other end, renting is like throwing money out the window. HOWEVER, when you actually compare the numbers side by side, there are many costs when buying a home (like property taxes, HOA dues, maintenance, insurance, etc.) that are not going towards any equity. In many markets right now, the cost of home ownership is almost the same as renting. That means that buying a home will not put you any further ahead than renting. Furthermore, the down payment that is required for an expensive residence means that you are locking up a significant amount of capital that could be deployed in more liquid areas with better upside potential. Again, it’s the entry price that matters the most when buying.
But why do prices go so high? Is it just because buyers drive the market up?
That’s partly true, but another reason is because bankers come up with financial engineering schemes which allow buyers to afford more and more.
As a quick example, if you look at a housing market with high borrowing costs, you will see low real estate prices. Conversely, a market (such as the US and much of Europe) has extremely low borrowing costs, which makes real estate prices higher.
That’s because buyers that have low borrowing costs only worry about their monthly payment, rather than the total purchase price.
Buyers in markets with expensive lending are more likely to purchase real estate outright, which drives prices down, because they don’t want to pay the high borrowing cost.
One of the major concerns in today’s market is that millennials are not purchasing homes. Millennials can often pay the monthly mortgage payment for the home they want, but they can’t come up with the down payment which is usually 20% of the purchase price.
That 20% down payment serves two main purposes:
#1 It protects the lender from downside risks. If the borrower were to stop making payments on their home, the lender would have the 20% deposit plus the actual house itself as collateral.
#2 The down payment shows that the borrower is responsible. If a buyer can’t save up 20% of the purchase price of the home they’d like to buy, then are they even responsible enough to be buying a home in the first place?
Well… CMG Financial thinks that this 20% down payment ‘thing’ shouldn’t keep millennials out of the housing market. So, they figured out a way to make it easier for home buyers who can’t pony-up a down payment…
Let me introduce you to HomeFundMe.com, “the first online platform that allows borrowers to crowdfund the down payment on a home purchase without fees and with the backing of mortgage giants Fannie Mae and Freddie Mac.”
Now, on the surface this doesn’t seem like an issue. The truth is that most first time home buyers get help from their family and friends when buying a home, so this model seems the same.
But, CMG Financial encourages those trying to get help with their down payment to tell their story, in a similar way that the website “GoFundMe.com" does. Basically, those who can communicate their story the best will get the most donations to fund their down payment.
”This allows you to tell your story. It allows for folks to be able to buy into the story of what it is you have, your loan story, your home story," said Christopher George, CEO of CMG Financial
In theory, I have no problem with this. If people want to donate money to others so that they can buy a house, then more power to them. If it doesn’t effect me, then go for it.
However, here is what I do have a problem with…
The last housing crisis was fueled by a lot of poorly thought out financial schemes. One of the most popular loans available at the time allowed borrowers to put little to no money down. This allowed people to buy homes with very little skin in the game.
All they had to do was make their monthly mortgage payment and they could keep there house. If, for some reason, they couldn’t make payments anymore, they could easily walk away from the house because they had no significant investment in the home. All they were doing was paying a monthly payment to live in the house. They had no big sunk in costs (the down payment) that would prevent them from walking away from the home and loan obligation.
While crowdfunding a down payment isn't exactly like a low or zero down payment loan, it is similar.
If a borrow cannot come up with a down payment for a home, then they are probably more likely to default, versus a borrower who can come up with a down payment.
The bigger picture here is the relaxation of lending standards.
And the even bigger picture is the continued creation of financial engineering to allow people to spend more money - even those people who should NOT be spending more money.
This happens towards the end of every single credit cycle. Credit gets easier and easier to get, which drives up asset prices, which makes things harder to pay for, which means people have to borrow more money.
And then one day, the music stops. Borrowers can't repay their debts, lenders get burned, then credit contracts, and the economy slows.
But, that's ok for you and me. We can see this coming from a mile away, and we'll be just fine.