Matthew Ferrara, Philosopher
 

Higher Mortgage Rates Mean More Buyers

Warren Buffet likes to say, “When others are greedy, I’m fearful; when others are fearful, then I’m greedy.” As a rule for when to invest in the stock markets, the Sage of Omaha is cautioning the average investor against the psychology of the markets. Mass markets – like stocks, bonds and even housing – are subject to mood swings by the consumer. And frenzies – to purchase or sell – are the scariest moods of all. Buffets advice: Do the opposite of the frenzy, and you’ll be just fine.

Now let’s apply that thinking to the “lower rates” frenzy gripping our policymakers.

Most of us aren’t economists, but we understand the fundamental law of supply and demand. When something is harder to get (supply is scarce) but it’s in demand, we pay more for the item. The classic example is diamonds which are actually common natural stones, but whose supply is tightly controlled to keep prices high. As long as demand remains high, so will prices. The exact opposite is true, too: Once a commodity becomes cheap and easy to get, the price plummets. Look at cell phones – they have to give them away these days, when once they topped $1000. The story repeats itself all the time: from gasoline to Cabbage Patch dolls.

When the consumer learns that they can get a commodity easily, anytime for a low price, they can defer their purchase and push prices even lower. That’s why are necessary, even for everyday low prices on everyday items.

How does this apply to buyers in the housing industry? Well, today’s common complaint is that buyers are sitting on the sidelines “willing but waiting” for prices to fall further. They have slowly learned that they can expect sellers, bankers and REALTORS to worry further, and keep dropping prices. Today we are faced with many capable buyers – worthy of credit, with down payment money taken out of the stock market – who just won’t pull the trigger.

There are two possibilities for buyers’ continued hesitation: They are unwilling to purchase. They are unable to purchase. If we take the latter case, that buyers are unable to purchase, it’s hard to find evidence for this in the marketplace. Prices are lower than at any time in the last five years. “It’s a great time to buy,” isn’t just a slogan, but an economic reality. The market is low; people are fearful; Buffet would say it’s time to buy.

Additionally, mortgage money is at a forty-year low – even lower than during the housing boom of this decade. Standard wisdom says that borrowing – for the average, prime borrower with a job and average debt burden – should be soaring. And 93% of Americans have jobs. And banks have lots of extra cash from the Fed, ready to lend out – in fact, being pressured to lend by their political masters. So why has borrowing stalled?

We are left with the other possibility: the vast majority of “willing but waiting” buyers are simply “unwilling” to purchase. Buyers are content to sit on the sidelines – even though prices of a desired commodity are at significantly low levels and mortgages are at half-century lows. Somehow even “price” is not inducing “demand.” Are economics broken?

Not at all. Once again, examine the psychology of the consumer. It’s not that they don’t recognize that prices are low, and mortgages nearly free. It’s that they fully expect them to go even lower. It’s a psychological frenzy in the opposite direction of the past boom. Consumers are being told – by the media, by real esate people, by the Federal – that housing has “further to fall.” They have learned that mortgage rates can be lowered further if the right pressure is applied to Congress. Smart consumers are actually enjoying the perfect storm. They can sit back and watch sellers squirm, politicians fret and builders buckle.

Which is ironic, because buyers aren’t panicking.  Sellers, politicians, even real estate agents are, and consumers know it.

No reason to get upset: It worked perfectly well when sellers were on the other end of the panic. That’s what the housing bubble was, in fact; An upside panic, a frenzy that worked in sellers favor. It’s simply working in the other direction today. For a few years, buyers panicked and made crazy offers while sellers reaped the benefit. Now, sellers (and others) have blinked.

So how do we get buyers to blink and get back into the game? What steps could the panicking partners of the downward housing market take to change the dynamics of supply and demand?

The answer is simple, but contrarian: Raise mortgage rates.

Rather than reward the “waiting” behavior further, introduce the possibility that the bottom has already come – and gone – so buyers blink and get back into the game. Counteract the psychology of “it will fall further” by introducing a price spike. Real estate agents could do this by raising the price of their listings – just a little, just for a while. Since the homes aren’t selling anyway, what’s the risk? But the message to buyers would be that prices are rising. No other explanation need be given; let the consumer draw their own conclusion.

The same could be done by the Fed, who sets interest rates capriciously anyway. Let them raise rates for a month or two; lowering them hasn’t worked, so try the opposite. Just introduce the possibility of a rate increase – issue a public statement that costs might go up. Consumers would snap out of their psychological frenzy. If borrowing “might” rise, they’d better act soon.

Raising mortgage rates for a few months would “create” the bottom we’ve been looking for in the market; It would stabilize home prices by creating scarcity of borrowing to fund the purchase. It might even slow the decline of appreciated value for owners. Sales would be a little higher in margin, which is good for sellers and even bankers, who are stuck lending at near-zero returns under the current policy.

Warren Buffet tells us that to be successful as an investor, we must do the opposite of the market psychology of the day. Perhaps the same lesson could be applied to producers, sellers and policy makers in the marketplace. While everyone is fearful – that prices will go lower – maybe it’s time to be greedy by raising mortgage rates.

  • Patrick Sullivan

    Great point Mathew. I had this exact discussion several times yesterday. We always see a bump in sales activity whith the threat of rising interest rates. I cringe everytime I see or hear a news report about rates destined to fall further later in the year. Let the fed buy down to 4.5% NOW and announce that rates will probably rise later this year.

  • Patrick Sullivan

    Great point Mathew. I had this exact discussion several times yesterday. We always see a bump in sales activity whith the threat of rising interest rates. I cringe everytime I see or hear a news report about rates destined to fall further later in the year. Let the fed buy down to 4.5% NOW and announce that rates will probably rise later this year.

  • Patrick Sullivan

    Great point Mathew. I had this exact discussion several times yesterday. We always see a bump in sales activity whith the threat of rising interest rates. I cringe everytime I see or hear a news report about rates destined to fall further later in the year. Let the fed buy down to 4.5% NOW and announce that rates will probably rise later this year.

  • Matthew Ferrara

    Thanks, Patrick, for your comment. I agree – and all we need to do is have the Fed start “talking about raising” the rates and we’ll start to see expectations – and behaviors – change within a few months… just like we did with gas prices: When they were high, it took a few months for people to modify their driving habits, and affect that market (supply and demand).

    Happy New Year!

  • Matthew Ferrara

    Thanks, Patrick, for your comment. I agree – and all we need to do is have the Fed start “talking about raising” the rates and we’ll start to see expectations – and behaviors – change within a few months… just like we did with gas prices: When they were high, it took a few months for people to modify their driving habits, and affect that market (supply and demand).

    Happy New Year!

  • Matthew Ferrara

    Thanks, Patrick, for your comment. I agree – and all we need to do is have the Fed start “talking about raising” the rates and we’ll start to see expectations – and behaviors – change within a few months… just like we did with gas prices: When they were high, it took a few months for people to modify their driving habits, and affect that market (supply and demand).

    Happy New Year!

  • On one hand the suggestion to raise the prices on our listings seems to make sense, however the reality is that the property has to appraise for the accepted offer value and when you live in a Rural state ( we are in Vermont) and the appraisers are only going out 90 days and certainly not more than 6 months, in a 5-10 mile radius and we have no recent sales to use as comps , the buyer’s will not be able to get the financing. We keep telling our sellers that the value is there we just don’t have recent comps. to support it. I do all the CMA’s for our company and in the last 6-8 months the number of comps available has been decreasing rapidly and I did two this week and I went out 365 days and there were zero comps. and the beautiful homes are in one of the larger Villages in our County. Will the appraisers start using the cost approach? We of course have fewer sales in the winter so I do not see this issue of comps going away any time soon. I pose another question regarding comps; as we see auction properties and short sales that are closing in this slow market and we already have so few normal sales how do we get these distressed prices out of the pool of com parables. I know our appraisers try not to use them, but if that is all that they find and they choose to use them then we are artificially lowering our property values. I am interested to see if other areas of the country have the same issues as we do.

  • On one hand the suggestion to raise the prices on our listings seems to make sense, however the reality is that the property has to appraise for the accepted offer value and when you live in a Rural state ( we are in Vermont) and the appraisers are only going out 90 days and certainly not more than 6 months, in a 5-10 mile radius and we have no recent sales to use as comps , the buyer’s will not be able to get the financing. We keep telling our sellers that the value is there we just don’t have recent comps. to support it. I do all the CMA’s for our company and in the last 6-8 months the number of comps available has been decreasing rapidly and I did two this week and I went out 365 days and there were zero comps. and the beautiful homes are in one of the larger Villages in our County. Will the appraisers start using the cost approach? We of course have fewer sales in the winter so I do not see this issue of comps going away any time soon. I pose another question regarding comps; as we see auction properties and short sales that are closing in this slow market and we already have so few normal sales how do we get these distressed prices out of the pool of com parables. I know our appraisers try not to use them, but if that is all that they find and they choose to use them then we are artificially lowering our property values. I am interested to see if other areas of the country have the same issues as we do.

  • On one hand the suggestion to raise the prices on our listings seems to make sense, however the reality is that the property has to appraise for the accepted offer value and when you live in a Rural state ( we are in Vermont) and the appraisers are only going out 90 days and certainly not more than 6 months, in a 5-10 mile radius and we have no recent sales to use as comps , the buyer’s will not be able to get the financing. We keep telling our sellers that the value is there we just don’t have recent comps. to support it. I do all the CMA’s for our company and in the last 6-8 months the number of comps available has been decreasing rapidly and I did two this week and I went out 365 days and there were zero comps. and the beautiful homes are in one of the larger Villages in our County. Will the appraisers start using the cost approach? We of course have fewer sales in the winter so I do not see this issue of comps going away any time soon. I pose another question regarding comps; as we see auction properties and short sales that are closing in this slow market and we already have so few normal sales how do we get these distressed prices out of the pool of com parables. I know our appraisers try not to use them, but if that is all that they find and they choose to use them then we are artificially lowering our property values. I am interested to see if other areas of the country have the same issues as we do.