Over the last couple of decades, many homeowners have considered their houses to be piggybanks, and used the home’s value to get cash for automobiles, vacations, tuition and repairs. Previously, homes were considered a very long-term consumption “good”. But somehow along the way, the piggybank concept has become a reasonable investment expectation.
Even today, in this post-bubble economy homebuyers still make their purchases with the hope of short-term rewards. When I tell my own clients that homes are dwellings, and not investments—they nod and wink and they still buy a home with the notion that it’s value will grow. But will it grow at a rate higher than inflation, or higher than the growth of salaries? Unless there’s a hyperinflation ahead or your house is located in the Hong Kong or London of the 21st century, the answer is no. Why? Because your house is ultimately a product -and products have an upper bound to their prices.
Suppose you bought a single-family house over a decade ago for $200K. At the peak of the housing bubble, the price reached $400K to your joy, and so you sold it and moved Florida. Can the house’s price go higher from here? For the sake of argument, let’s say that prices do keep rising. Eventually, the next owner sells to another buyer for $800K a decade later. Guy number two also peacefully retires in bounty. Well, where does that leave the third guy? Unless real salaries make an incredible jump in the same time period, no one will be able to afford the home next. As the recent real-estate bubble demonstrated, there’s an upper bound to housing prices – they can’t continue rising perpetually with no end to the growth of their value.
The top of the market is the highest amount the home can be sold for. If it is a mansion with waterfalls and tennis courts, located on a point in the ocean, maybe the value of this special home will be pretty high. But for most of us, our investment is in an average house. And the average house will be similar to a lot of other homes in a subdivision or development—and the value of these homes will be known. My point is you can’t get a mortgage on a house for more than it is worth. So the end value is known.
A house must be either sold to the next user or leased to the next renter. Houses are not magical money machines. Previous generations understood this very simple concept. One built a home as a place to live and escape the elements, in those days, homes were not retirement tools, but rather long-term goods. And back in the 1960’s, the value of homes depreciated over time—but when the baby boomer’s arrived and needed housing, we were off to the races.
Today you actually can still make real money trading houses. And I’m happy to share my time-tested system with you: buy low, and sell high. Your profit is the difference (between the buy price and the sell price, less the transaction expenses and costs of fix-up). But here’s the secret, since you can’t control the selling price, you must control the buy price. All your profits are established in your purchase price.
Step One is to buy low when the market is weak but rising—like right now. But what’s the right price? Ay, there’s the question, and it's one I can help you with. Just remember, this is a great time to buy.