Housing, Investing and the New Norm

It has become painfully clear to me that both the housing and investment landscapes have been forever changed by the events of the last twelve to eighteen months.

For most of the country, housing has become a vast wasteland of homeowners who were too ignorant of normal financial budgeting and greedy lenders who took advantage of these people. Lenders lied about potential mortgage holders incomes in order to qualify them for loans they knew couldn't be re-payed. Additionally, the TARP program is largely failing to assist these people with refinancing to save their homes. According to the Congressional Oversight Panel report, "Roughly 8 million to 13 million foreclosures are expected to take place over the next five years. The Treasury had allocated $50 billion of TARP funds for a mortgage-modification program that the COP report said "has not yet achieved the scope, scale and permanence necessary to address the crisis."" Source: CBS Marketwatch.

Many mortgage holders are currently "under water," owing more on their mortgage than the house is actually worth. When prices in the 20 major markets dropped by 40% and more, these people were left holding the bag almost over night. Many of them walked away from their houses rather than be forced to pay far more than the house was worth.

What this means is that we'll have a very large glut of unsold homes for a very long time. This will at best slightly depress prices in major markets for the next three to five years. Not a good time to flip houses for a profit as was done by many during the past decade. This is actually good news in the log run. People will no longer be allowed to buy and flip houses, artificially inflating their value, unless they have substantial money to do so. Because of this, housing will remain more affordable in the long term because the middle man is taken out of the equation.

The Fed has no choice but to hold interest rates low for the foreseeable future. This means that home buyers will see a historically low rate on their mortgages and should lock in this fixed rate no matter what the variable teaser rate is. Variable rate mortgages should rise beginning late next year or early in 2011 at the latest. Now is a great time to purchase a home if you really need one.

This brings me to the investment landscape. With one year CD's fetching a paltry 1%, most people are investing in corporate bonds with rates of five to six plus percent. These will be a great investment until such time as the Fed raises interest rates enough so that CD's are gaining roughly the same interest as bonds. Then it makes sense to switch into the FDIC safety net and buy a CD.

The rule of thumb for equity investment in stocks is to subtract your age from 120. This number is the percentage of equities you should hold. At my age (120 - 57= 62). I should have roughly 62% of my holdings in stocks and bonds. These should be a mix of international stock and bond funds, blue chip large and small cap mutual funds.

Quickie definitions: Blue Chip stock is said to be a "safe" investment because the company is in excellent financial shape and is a leader in its field. Blue chip examples are Wal-Mart, Coca Cola, Gillette, Berkshire Hathaway, Exxon-Mobile and the like. Large Cap stocks are companies with a market capitalization of over $10 billion. Small Cap stocks have a market capitalization between $300 million and $2 billion.

All the talk about DOW 25,000 has long disappeared. The go-go Nineties inspired an investment bubble that bordered on absolute insanity. Fueled by creative accounting and outright lies by many CEO's and boards of directors in order to pump up their stock price, the bubble finally burst in late 1999 causing a severe recession. We are suffering through the Great Recession now because banks lent money, quite literally, to anyone who had a pulse.

When people tell you that we do not need more regulation in the banking and equities industries they must think that spending Trillions of dollars on the next monetary crisis is a good thing. Don't get me wrong, it was good that the Fed acted quickly to ward off a depression. I think all of us want more regulation so that this does not happen again.