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http://www.iht.com/articles/2005/09/02/yourmoney/mhouse.php

House-rich or poorhouse?

By Sharon Reier International Herald Tribune

SATURDAY, SEPTEMBER 3, 2005

Anyone concerned about recent signs that red-hot real estate markets may be cooling off - a group that would include Alan Greenspan, the Bank of England and many homeowners on both sides of the Atlantic - might want to review the cautionary tale of the Three Little Pigs.

Two of the pigs, who wanted to play all day, built their houses quickly out of material so fragile that the wolf could knock the structures down just by blowing on them. Only the third pig heeded what psychologists call the reality principle and foiled the wolf by building with solid brick.

While more houses are made of sturdier material these days, danger still lurks in the financial engineering that underlies many home purchases - an infrastructure that is solid in boom times but starts to look precarious in the event a home's price begins to fall.

It was a concern about a hard landing for home prices, especially in London, that underlay the Bank of England's decision to lower interest rates a quarter point on Aug. 4 after 10 increases in a year. Greenspan, the chairman of the Federal Reserve, raised the specter of a cooler U.S. housing market in a speech last Saturday, noting that "home price increases will slow, and prices could even decrease." A day earlier, Greenspan warned that a big increase in wealth, like the one produced by rising house prices, "is too often viewed by market participants as structural and permanent" but "can readily disappear."

The latest economic data from a broad array of countries indicate that house prices are either rising at a slower rate (France), stagnating (the Netherlands), or dropping (Australia).

No one is panicking, especially since underlying economic indicators are good. But there are signs of psychological effects. Robert Burdett, a director at Credit Suisse Asset Management, noted that shares in retailers of both clothing and consumer electronics goods had dropped as homeowners feel a lessening of the "wealth effect" that accompanies rising home prices.

Against this backdrop, it seems almost counterintuitive that banks, especially and lately in Continental Europe, are shoveling mortgage money out the door at near-record rates to take advantage of hot housing markets and the prospective buyers who want to get in on them before it's too late. Yet that is what is happening.

According to the European Central Bank, mortgage lending for the 12 euro-zone countries increased 10 percent in July, while home prices increased 6.7 percent. (These numbers give a somewhat distorted picture since the markets in fast-growing Ireland and Spain, for example, are different from those in the Netherlands and Germany.)

The picture in Britain is one of rising numbers of mortgages but for smaller amounts - an indication that prices are coming down. The number of home loans approved by mortgage lenders rose 97,000 in July, the highest monthly increase in a year, according to Bank of England figures released this past week. But net lending for home purchases grew £6.5 billion, or $11.9 billion, down from £7.1 billion in June. A report this week from the Nationwide Building Society indicated that average British house prices fell 0.2 percent in August.

In some countries, like Britain and the Netherlands, generous terms and low interest rates have encouraged home buyers to use their mortgages as piggy banks to fund home renovation and even vacations.

Banks have been more than willing to push money at home buyers for several reasons. First of all, demand for loans from the corporate world is drying up, with many major companies cash-rich. That leaves consumer loans, like mortgages and credit cards, as one of banks' few growing profit centers.

Second, most mortgages today are immediately sold on the secondary market to institutional investors - insurance companies, pension funds, mutual funds and hedge funds - which have demonstrated a voracious appetite for mortgage-backed bonds because they now yield more than government bonds. As an example, in Europe, AAA-rated mortgage-backed bonds yield 25 basis points, or one-fourth of 1 percent, over 10-year German bunds.

Finally, some banks appear to have loosened criteria for mortgage lending because they are competing against aggressive new players, like the finance arms of industrial companies.

Lori Thicke's recent experience buying her dream house in Paris is an example of this new mortgage mania. Thicke, who owns Eurotexte, a translation agency in Paris, found a triplex apartment with a price tag of 500,000, or $628,000. She called her French bank to arrange a mortgage, expecting to need a bridge loan until she could sell her smaller apartment. "Unnecessary," the bank said to her great surprise. "The paperwork is too complicated."

The second surprise came when Thicke discussed the down payment the bank would require. "Unnecessary," the bank said again, and approved a 20-year, fixed-rate mortgage at 3.8 percent. "You would do better to take a full 500,000 mortgage and invest the money."

Thicke, who has never invested in stocks or bonds, lives in her 500,000 dream house and paid only 15,000 in transaction fees plus 7 percent to a notaire, the real estate official who does the title search. She is researching ways to invest the proceeds from the sale of her old apartment at a higher return than the tax-free 2.75 percent her bank suggested.

In the financial community, borrowing at low rates and investing at a higher return is called arbitrage. Financial institutions and institutions that invest in mortgages view borrowers like Thicke as essentially risk-free, since they have plenty of funds for repayment no matter how their investment goes.

But whether a first-time home buyer or a wealthy one who uses the mortgage to finance investment, a mortgage holder with no home equity is inviting a higher risk profile. After all, both assets can fall in price.

At the moment, both banks and buyers may consider this downside theoretical because surging home prices have created expectations that over the long run, at least, home prices will always rise - an argument refuted by common sense, and by the Yale University economist Robert Shiller in the latest edition of his best-selling book on investment psychology, "Irrational Exuberance."

But at the higher reaches of home finance, people who know the market well are nervous because they are seeing a decline in mortgage quality. High-quality mortgage pools have lower loan-to-home value ratios and comprise borrowers who meet strict criteria as to income and assets.

"On average, the mortgage pools that are coming to the market have a higher risk than several years ago," said Felix Blomenkamp, who is responsible for European mortgage-backed securities at Pacific Investment Management, one of the biggest players in the bond market.

If some savvy institutional investors are shying away from greater risk, home buyers should probably also re-evaluate their risks.

First among those is the risk inherent to having most of one's assets in one place, the eggs-in-one-basket problem that afflicts many new homeowners.

One answer is diversification, and some financial advisers, like Thicke's, see investing mortgage money as a solution to the problem. But navigating this kind of tricky decision depends a lot on confidence in one's ability to earn, and in the general economy.

"The only way to safely capitalize on a rise in a house's price is to sell it and buy a smaller home, or to rent," said Peter Bruin, director of Robeco Direct in Rotterdam, which offers an assortment of mortgages in the Netherlands. "If you sell it and buy another, bigger house, you are just buying someone else's bubble."

Those who cannot sell their homes and realize a profit may just have to change their attitude. For those who have seen price rises of 70 percent and more, a 20 percent drop should not be cause for crisis, experts say, unless it is accompanied by a major increase in payments caused by significantly higher interest rates, or by job loss.

This is one reason, despite signs that the London housing market is cooling off, financial advisers are far from panicking about a burst bubble.

"The economy is relatively benign in the United Kingdom, especially," said Ben Yearsley of Hargreaves Lansdown in Bristol, England. "And you don't see interest rates shooting up to 8 percent or massive unemployment," he said.

Finally, like the dieter at a party confronting a rich assortment of cakes, new home buyers should use discipline when selecting a mortgage.

"Home buyers must be absolutely sure they can afford the mortgage even if they lose the investment," said John Vogel, professor of real estate at the Tuck School of Business at Dartmouth. "You must ask: 'Can I afford this mortgage based on my salary or my income?' Just because the bank gave you bad advice and encouraged you do something foolish doesn't mean you should put yourself in that position."

Anyone concerned about recent signs that red-hot real estate markets may be cooling off - a group that would include Alan Greenspan, the Bank of England and many homeowners on both sides of the Atlantic - might want to review the cautionary tale of the Three Little Pigs.

Two of the pigs, who wanted to play all day, built their houses quickly out of material so fragile that the wolf could knock the structures down just by blowing on them. Only the third pig heeded what psychologists call the reality principle and foiled the wolf by building with solid brick.

While more houses are made of sturdier material these days, danger still lurks in the financial engineering that underlies many home purchases - an infrastructure that is solid in boom times but starts to look precarious in the event a home's price begins to fall.

It was a concern about a hard landing for home prices, especially in London, that underlay the Bank of England's decision to lower interest rates a quarter point on Aug. 4 after 10 increases in a year. Greenspan, the chairman of the Federal Reserve, raised the specter of a cooler U.S. housing market in a speech last Saturday, noting that "home price increases will slow, and prices could even decrease." A day earlier, Greenspan warned that a big increase in wealth, like the one produced by rising house prices, "is too often viewed by market participants as structural and permanent" but "can readily disappear."

The latest economic data from a broad array of countries indicate that house prices are either rising at a slower rate (France), stagnating (the Netherlands), or dropping (Australia).

No one is panicking, especially since underlying economic indicators are good. But there are signs of psychological effects. Robert Burdett, a director at Credit Suisse Asset Management, noted that shares in retailers of both clothing and consumer electronics goods had dropped as homeowners feel a lessening of the "wealth effect" that accompanies rising home prices.

Against this backdrop, it seems almost counterintuitive that banks, especially and lately in Continental Europe, are shoveling mortgage money out the door at near-record rates to take advantage of hot housing markets and the prospective buyers who want to get in on them before it's too late. Yet that is what is happening.

According to the European Central Bank, mortgage lending for the 12 euro-zone countries increased 10 percent in July, while home prices increased 6.7 percent. (These numbers give a somewhat distorted picture since the markets in fast-growing Ireland and Spain, for example, are different from those in the Netherlands and Germany.)

The picture in Britain is one of rising numbers of mortgages but for smaller amounts - an indication that prices are coming down. The number of home loans approved by mortgage lenders rose 97,000 in July, the highest monthly increase in a year, according to Bank of England figures released this past week. But net lending for home purchases grew £6.5 billion, or $11.9 billion, down from £7.1 billion in June. A report this week from the Nationwide Building Society indicated that average British house prices fell 0.2 percent in August.

In some countries, like Britain and the Netherlands, generous terms and low interest rates have encouraged home buyers to use their mortgages as piggy banks to fund home renovation and even vacations.

Banks have been more than willing to push money at home buyers for several reasons. First of all, demand for loans from the corporate world is drying up, with many major companies cash-rich. That leaves consumer loans, like mortgages and credit cards, as one of banks' few growing profit centers.

Second, most mortgages today are immediately sold on the secondary market to institutional investors - insurance companies, pension funds, mutual funds and hedge funds - which have demonstrated a voracious appetite for mortgage-backed bonds because they now yield more than government bonds. As an example, in Europe, AAA-rated mortgage-backed bonds yield 25 basis points, or one-fourth of 1 percent, over 10-year German bunds.

Finally, some banks appear to have loosened criteria for mortgage lending because they are competing against aggressive new players, like the finance arms of industrial companies.

Lori Thicke's recent experience buying her dream house in Paris is an example of this new mortgage mania. Thicke, who owns Eurotexte, a translation agency in Paris, found a triplex apartment with a price tag of 500,000, or $628,000. She called her French bank to arrange a mortgage, expecting to need a bridge loan until she could sell her smaller apartment. "Unnecessary," the bank said to her great surprise. "The paperwork is too complicated."

The second surprise came when Thicke discussed the down payment the bank would require. "Unnecessary," the bank said again, and approved a 20-year, fixed-rate mortgage at 3.8 percent. "You would do better to take a full 500,000 mortgage and invest the money."

Thicke, who has never invested in stocks or bonds, lives in her 500,000 dream house and paid only 15,000 in transaction fees plus 7 percent to a notaire, the real estate official who does the title search. She is researching ways to invest the proceeds from the sale of her old apartment at a higher return than the tax-free 2.75 percent her bank suggested.

In the financial community, borrowing at low rates and investing at a higher return is called arbitrage. Financial institutions and institutions that invest in mortgages view borrowers like Thicke as essentially risk-free, since they have plenty of funds for repayment no matter how their investment goes.

But whether a first-time home buyer or a wealthy one who uses the mortgage to finance investment, a mortgage holder with no home equity is inviting a higher risk profile. After all, both assets can fall in price.

At the moment, both banks and buyers may consider this downside theoretical because surging home prices have created expectations that over the long run, at least, home prices will always rise - an argument refuted by common sense, and by the Yale University economist Robert Shiller in the latest edition of his best-selling book on investment psychology, "Irrational Exuberance."

But at the higher reaches of home finance, people who know the market well are nervous because they are seeing a decline in mortgage quality. High-quality mortgage pools have lower loan-to-home value ratios and comprise borrowers who meet strict criteria as to income and assets.

"On average, the mortgage pools that are coming to the market have a higher risk than several years ago," said Felix Blomenkamp, who is responsible for European mortgage-backed securities at Pacific Investment Management, one of the biggest players in the bond market.

If some savvy institutional investors are shying away from greater risk, home buyers should probably also re-evaluate their risks.

First among those is the risk inherent to having most of one's assets in one place, the eggs-in-one-basket problem that afflicts many new homeowners.

One answer is diversification, and some financial advisers, like Thicke's, see investing mortgage money as a solution to the problem. But navigating this kind of tricky decision depends a lot on confidence in one's ability to earn, and in the general economy.

"The only way to safely capitalize on a rise in a house's price is to sell it and buy a smaller home, or to rent," said Peter Bruin, director of Robeco Direct in Rotterdam, which offers an assortment of mortgages in the Netherlands. "If you sell it and buy another, bigger house, you are just buying someone else's bubble."

Those who cannot sell their homes and realize a profit may just have to change their attitude. For those who have seen price rises of 70 percent and more, a 20 percent drop should not be cause for crisis, experts say, unless it is accompanied by a major increase in payments caused by significantly higher interest rates, or by job loss.

This is one reason, despite signs that the London housing market is cooling off, financial advisers are far from panicking about a burst bubble.

"The economy is relatively benign in the United Kingdom, especially," said Ben Yearsley of Hargreaves Lansdown in Bristol, England. "And you don't see interest rates shooting up to 8 percent or massive unemployment," he said.

Finally, like the dieter at a party confronting a rich assortment of cakes, new home buyers should use discipline when selecting a mortgage.

"Home buyers must be absolutely sure they can afford the mortgage even if they lose the investment," said John Vogel, professor of real estate at the Tuck School of Business at Dartmouth. "You must ask: 'Can I afford this mortgage based on my salary or my income?' Just because the bank gave you bad advice and encouraged you do something foolish doesn't mean you should put yourself in that position."

Anyone concerned about recent signs that red-hot real estate markets may be cooling off - a group that would include Alan Greenspan, the Bank of England and many homeowners on both sides of the Atlantic - might want to review the cautionary tale of the Three Little Pigs.

Two of the pigs, who wanted to play all day, built their houses quickly out of material so fragile that the wolf could knock the structures down just by blowing on them. Only the third pig heeded what psychologists call the reality principle and foiled the wolf by building with solid brick.

While more houses are made of sturdier material these days, danger still lurks in the financial engineering that underlies many home purchases - an infrastructure that is solid in boom times but starts to look precarious in the event a home's price begins to fall.

It was a concern about a hard landing for home prices, especially in London, that underlay the Bank of England's decision to lower interest rates a quarter point on Aug. 4 after 10 increases in a year. Greenspan, the chairman of the Federal Reserve, raised the specter of a cooler U.S. housing market in a speech last Saturday, noting that "home price increases will slow, and prices could even decrease." A day earlier, Greenspan warned that a big increase in wealth, like the one produced by rising house prices, "is too often viewed by market participants as structural and permanent" but "can readily disappear."

The latest economic data from a broad array of countries indicate that house prices are either rising at a slower rate (France), stagnating (the Netherlands), or dropping (Australia).

No one is panicking, especially since underlying economic indicators are good. But there are signs of psychological effects. Robert Burdett, a director at Credit Suisse Asset Management, noted that shares in retailers of both clothing and consumer electronics goods had dropped as homeowners feel a lessening of the "wealth effect" that accompanies rising home prices.

Against this backdrop, it seems almost counterintuitive that banks, especially and lately in Continental Europe, are shoveling mortgage money out the door at near-record rates to take advantage of hot housing markets and the prospective buyers who want to get in on them before it's too late. Yet that is what is happening.

According to the European Central Bank, mortgage lending for the 12 euro-zone countries increased 10 percent in July, while home prices increased 6.7 percent. (These numbers give a somewhat distorted picture since the markets in fast-growing Ireland and Spain, for example, are different from those in the Netherlands and Germany.)

The picture in Britain is one of rising numbers of mortgages but for smaller amounts - an indication that prices are coming down. The number of home loans approved by mortgage lenders rose 97,000 in July, the highest monthly increase in a year, according to Bank of England figures released this past week. But net lending for home purchases grew £6.5 billion, or $11.9 billion, down from £7.1 billion in June. A report this week from the Nationwide Building Society indicated that average British house prices fell 0.2 percent in August.

In some countries, like Britain and the Netherlands, generous terms and low interest rates have encouraged home buyers to use their mortgages as piggy banks to fund home renovation and even vacations.

Banks have been more than willing to push money at home buyers for several reasons. First of all, demand for loans from the corporate world is drying up, with many major companies cash-rich. That leaves consumer loans, like mortgages and credit cards, as one of banks' few growing profit centers.

Second, most mortgages today are immediately sold on the secondary market to institutional investors - insurance companies, pension funds, mutual funds and hedge funds - which have demonstrated a voracious appetite for mortgage-backed bonds because they now yield more than government bonds. As an example, in Europe, AAA-rated mortgage-backed bonds yield 25 basis points, or one-fourth of 1 percent, over 10-year German bunds.

Finally, some banks appear to have loosened criteria for mortgage lending because they are competing against aggressive new players, like the finance arms of industrial companies.

Lori Thicke's recent experience buying her dream house in Paris is an example of this new mortgage mania. Thicke, who owns Eurotexte, a translation agency in Paris, found a triplex apartment with a price tag of 500,000, or $628,000. She called her French bank to arrange a mortgage, expecting to need a bridge loan until she could sell her smaller apartment. "Unnecessary," the bank said to her great surprise. "The paperwork is too complicated."

The second surprise came when Thicke discussed the down payment the bank would require. "Unnecessary," the bank said again, and approved a 20-year, fixed-rate mortgage at 3.8 percent. "You would do better to take a full 500,000 mortgage and invest the money."

Thicke, who has never invested in stocks or bonds, lives in her 500,000 dream house and paid only 15,000 in transaction fees plus 7 percent to a notaire, the real estate official who does the title search. She is researching ways to invest the proceeds from the sale of her old apartment at a higher return than the tax-free 2.75 percent her bank suggested.

In the financial community, borrowing at low rates and investing at a higher return is called arbitrage. Financial institutions and institutions that invest in mortgages view borrowers like Thicke as essentially risk-free, since they have plenty of funds for repayment no matter how their investment goes.

But whether a first-time home buyer or a wealthy one who uses the mortgage to finance investment, a mortgage holder with no home equity is inviting a higher risk profile. After all, both assets can fall in price.

At the moment, both banks and buyers may consider this downside theoretical because surging home prices have created expectations that over the long run, at least, home prices will always rise - an argument refuted by common sense, and by the Yale University economist Robert Shiller in the latest edition of his best-selling book on investment psychology, "Irrational Exuberance."

But at the higher reaches of home finance, people who know the market well are nervous because they are seeing a decline in mortgage quality. High-quality mortgage pools have lower loan-to-home value ratios and comprise borrowers who meet strict criteria as to income and assets.

"On average, the mortgage pools that are coming to the market have a higher risk than several years ago," said Felix Blomenkamp, who is responsible for European mortgage-backed securities at Pacific Investment Management, one of the biggest players in the bond market.

If some savvy institutional investors are shying away from greater risk, home buyers should probably also re-evaluate their risks.

First among those is the risk inherent to having most of one's assets in one place, the eggs-in-one-basket problem that afflicts many new homeowners.

One answer is diversification, and some financial advisers, like Thicke's, see investing mortgage money as a solution to the problem. But navigating this kind of tricky decision depends a lot on confidence in one's ability to earn, and in the general economy.

"The only way to safely capitalize on a rise in a house's price is to sell it and buy a smaller home, or to rent," said Peter Bruin, director of Robeco Direct in Rotterdam, which offers an assortment of mortgages in the Netherlands. "If you sell it and buy another, bigger house, you are just buying someone else's bubble."

Those who cannot sell their homes and realize a profit may just have to change their attitude. For those who have seen price rises of 70 percent and more, a 20 percent drop should not be cause for crisis, experts say, unless it is accompanied by a major increase in payments caused by significantly higher interest rates, or by job loss.

This is one reason, despite signs that the London housing market is cooling off, financial advisers are far from panicking about a burst bubble.

"The economy is relatively benign in the United Kingdom, especially," said Ben Yearsley of Hargreaves Lansdown in Bristol, England. "And you don't see interest rates shooting up to 8 percent or massive unemployment," he said.

Finally, like the dieter at a party confronting a rich assortment of cakes, new home buyers should use discipline when selecting a mortgage.

"Home buyers must be absolutely sure they can afford the mortgage even if they lose the investment," said John Vogel, professor of real estate at the Tuck School of Business at Dartmouth. "You must ask: 'Can I afford this mortgage based on my salary or my income?' Just because the bank gave you bad advice and encouraged you do something foolish doesn't mean you should put yourself in that position."

Anyone concerned about recent signs that red-hot real estate markets may be cooling off - a group that would include Alan Greenspan, the Bank of England and many homeowners on both sides of the Atlantic - might want to review the cautionary tale of the Three Little Pigs.

Two of the pigs, who wanted to play all day, built their houses quickly out of material so fragile that the wolf could knock the structures down just by blowing on them. Only the third pig heeded what psychologists call the reality principle and foiled the wolf by building with solid brick.

While more houses are made of sturdier material these days, danger still lurks in the financial engineering that underlies many home purchases - an infrastructure that is solid in boom times but starts to look precarious in the event a home's price begins to fall

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  • 301 Brexit, House prices and Summer 2020

    1. 1. Including the effects Brexit, where do you think average UK house prices will be relative to now in June 2020?


      • down 5% +
      • down 2.5%
      • Even
      • up 2.5%
      • up 5%



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