Makin' Money

Renting vs. owning

Chris Farrell May 23, 2012

Signs are multiplying that the housing market is stabilizing, 6 years after the bubble burst. Take the data from April released this week: 

  • Sales of existing homes in April rose by 3.4 percent.
  • The median price of an existing home is $177,400, 10 percent above last year’s level.
  • Purchases of new homes in April increased by 3.3 percent.
  • The median sales price of a new home gained 4.9 percent from a year ago.
  • Housing starts improved by 2.6 percent.
  • Home prices are up by 0.5 percent in the first quarter of 2012 vs. first quarter of 2011.

The rental and ownership markets compete for your shelter money. An underappreciated factor behind the improving fortunes of homes is higher rents. Demand has been strong enough that landlords in most cities have been able to hike rents. The monthly cost of owning is more affordable than it has been in 15 years, thanks to lower prices and mortgage rates. The monthly tab of ownership is less than renting in many cities (assuming a 20 percent down payment). In sharp contrast, during the bubble years, the cost of renting was much lower. Look at this chart from Segal Rogerscasey, a global investment advisory firm headquartered in New York City.   

As seen in the graph, rent and mortgage payments were similar from 1988 to 2005. The divergence between a rent payment and a mortgage payment occurred in 2005 when the housing market began to accelerate at a more rapid pace. By mid-2007, the implied median mortgage payment was approximately 50 percent higher than the asking rent. Mortgage payments hit a peak in 2008 and began a steep decline. During the third quarter of 2011, median mortgage payments had fallen to just 78 percent of the median asking rent. At current mortgage rates, home prices would have to rise by 35 percent to get back to their average relationships to rents.

It sure looks like a market reaching bottom to me. I do expect the recovery will be a drawn-out affair, as home values bounce along bottom for a considerable period of time. Think stagnation rather than rebound.

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