Is homeownership a luxury or a necessity?

Adjustable-rate mortgages (ARMs), also known as zero ability to pay (ZAP) mortgages, were first introduced in 1982 by the U.S. Treasury before real estate prices had fully corrected. They became instantly popular — since ARMs allow homeowners to qualify for bigger loans, with more amenities — as part of the expanding government policy to encourage homeownership as a social norm after the initial transitory stay in rentals.

The Fed eventually muzzled inflation (1% by 1984), slowing the economy and allowing interest rates to decrease by half, which eventually facilitated economic stability and recovery by 1984. The brevity of this recession was not strong enough evidence that home prices wouldn’t always rebound shortly after a drop.

Throughout the 1980s the Baby Boomer generation flooded the housing market, competing to buy existing homes and driving a need for much more housing construction. This torrent of new apartment dwellers kept the market from then spiraling into a situation similar to our Great Recession with today’s contrasting dearth of new renters and first-timers.

Builders responded with massive amounts of new starts for apartments in the first part of the 1980s as Boomers got their first jobs; then home construction starts in the last part of the decade as they formed households and families. Prices rose and inflationary expectations were embedded with this exploding population of homebuyers. The thought of stable home prices and a controlled rate of consumer inflation had now become fully unanchored.

Then, Congress in 1986 reversed the prohibition of a second mortgage for homeowners, giving boomers even more incentive to purchase a home well beyond their means as an illusionary symbol of the wealth they pretended to have. The now permitted second mortgage triggered the ATM effect that culminated in the crash of real estate prices in 2006 — homeowners borrowing against their property to free up capital to be spent on whatever they wished. [For more information regarding home equity, see the November 2009 first tuesday article, Home equity to remain tight through 2010.]

The 1990s saw even more housing policy that encouraged homeowners to buy with the intention of selling to make money, not to provide long-term residency within a stable community. In 1997, married homeowners were given a $500,000 tax exemption for selling their home and were allowed to claim it again and again, every two years, which essentially sealed the deal for transitory homeownership. People were convinced owning a home provided a sure way to increase their net worth well beyond what their employment income allowed. Renters unfit to be owners flocked to homeownership in the mid 2000s.

Preparing for the future

Now, just a couple of years after the worst of the 2008 financial crisis, amidst a prolonged and stagnant real estate recovery, potential first-time homeowners are confused. Their parents, the government and their own experience have taught them to treat a home as a reliable investment.

As children of the Boomers, the Y Generation, begin their journey towards homeownership during the second decade of the 21^st century, they face a very different economic climate and personal ideology than previous generations, particularly from their parents (the Boomers). Their attitude about financial security is also very different. They lived in the homes their parents bought with unsteady ARMs and ATM second mortgages at the height of the boom, and watched as the homes’ values sank far below what their parents owed.

Data analysts project a return to the peak prices of 2005 are still more than a generation away —2025 and beyond. Yet new homeowners have unchanged expectations set from the 30-year recent past asset-price inflation which have left them convinced real estate prices will rise 10% each year for the next decade; the impossible dream. [For more information regarding current homeownership, see the September 2010 first tuesday article, Homeownership will not soon turn a profit.]

A home may be a luxury for some small part of the population most of the time, but it is always a necessity for most of the population all of the time. Luckily for the cause of homeownership, home prices are historically rooted in annual inflation whatever the rate.

The economy of real estate ownership will not be conducive to selling for profit any time soon, but for the rate of inflation, unless we learn to forget. Homebuyers must now choose their home with the intention of staying put for a longer period of time so when they sell they can recover no less than their principal investment. This reality means Californians will need more apartments than homes for the next 20 years or so.

As we look back on the housing bubble that once captivated Baby Boomers with visions of achieving the American dream through homeownership, we must focus on the forest instead of the trees. Outside of the bubble, prices have historically trended with the rate of consumer inflation. Coming real estate market conditions, and the likely long-lived duration of those conditions, will shift the collective mindset back to viewing a home as a long-term necessity since prices will fail to accommodate frequent homebuying and selling for profit.

Once Generation Y enters the market in full force, they will be reluctant to buy in the flighty fashion of the boomers since their recent experience in the real estate market left no illusion of an ever-imminent price boom. For this upcoming demographic of homeowners, the decision to purchase a home will be carefully weighed, researched and advised. The networking tools they have perfected will do the trick. [For more information regarding social networking, see the October 2010 first tuesday article, Social networking has proven valuable to agents.]

The surge of information technology has left Generation Y socially more passive than all prior generations. These homebuyers will thus rely heavily on agents and brokers as experts holding the information they need to make an educated, well-advised purchase. Prepare for these young clients by learning how to communicate with them via social networking and multi-media listings.