Bubble, Bubble ... Toil and Trouble?
The real estate market goes up and down. Here's how to stay financially steady
By Charles Scutt CTW Features

In the real estate market, a bubble does not assume the soft, spherical shape of a circle. Instead, it appears in the stark form of a hard-edged rectangle - the kind that is staked to lawns in growing numbers across America and that bear the unmistakable words: For Sale.

Indeed, a housing bubble is easy to spot, says Michael C. Thomsett, co-author of "Beyond the Bubble: How to Keep the Real Estate Market in Perspective and Profit No Matter What Happens" (Amacom, 2007). It is characterized by "exceptionally fast price increases, fueled by extra market forces, the best known of which are speculator activity and liberal financing," he says. "Another very important indicator is the inventory of properties for sale on the market, especially in the residential market."

One of the key factors that led to the current housing bubble includes the combination of historically low rates and no-downpayment loans, "not to mention negative amortization or over 100-percent financing plans," Thomsett says.

Among other contributors to the current slowdown are a strong rental market and basic economic and demographic trends, such as increasing or decreasing populations, cost-ofliving conditions and long-term migratory trends, says Thomsett.

"Another factor would be job growth," says Tonja Demoff, president of Tonja Demoff Companies, Henderson, Nev., and author of "Bubble Proof: Real Estate Strategies That Work in Any Market" (Kaplan, 2007). "Anytime a major employer decides to open an office, change locations, et cetera, they relocate large numbers of employees to a new area. This influx creates a demand on housing, which raises the values."

The rise and fall of interest rates also is significant, says Demoff. "When rates are low, more people are able to purchase."

Demoff says she doesn't be- lieve in the bubble concept. "The housing market has always gone up and down," she says. "This is a normal cycle. Time and consistency have proven to generate an increase in property values, so if a person is looking to benefit from real estate, it is my opinion that a steady and consistent plan for acquisition be part of your overall wealth strategy."

Ultimately, the slow market we're now experiencing means huge opportunities for the savvy buyer and, unfortunately for sellers, lower returns, says Demoff.

It's important to realize that bubbles are always local, Thomsett adds. "Don't pay attention to national trends published on financial news shows or by real estate organizations," he says. "They are only averages, and while they indicate trends, they are far from universal. The current slowdown in areas where it is occurring is simply the bottom of the predictable supply-and-demand cycle, in places more severe than in others."

And that can equate to your advantage, says Thomsett.

"If there are an excessive number of properties on the market, it is possible to buy bargains at deep discounts," he says. "Just like the stock market, the real estate cycle presents soft-price times when you should be buying."

"As a buyer in a housing slowdown, you want to hedge against any further reduction in value by incorporating strategies that will protect you should the value of the property fall," adds Demoff. "One of the ways you can do this is to ask not only for discounted pricing but also for credits and allowances that essentially reduce the purchase price beyond the initial offering price."

According to Thomsett, there are three primary residential trends worth tracking that can help you judge the condition of your local market.

"First is the inventory of homes - how many properties are for sale right now," he says. "Second is the spread, which is the percentage difference between listed price and final sales price. The bigger the percentage difference, the softer the market. Third is the average time properties remain on the market before they are sold. In a very hot market, properties sell on average under 60 days, with 60 to 90 days being normal. If it takes more than 90 days to sell, that's a sign of a very slow market."

Demoff says it's vital to evaluate your own "backyard" market so you can determine the value of your investments and know how much money you should put into your property. "If your market is slow, you may want to hold off on remodeling a kitchen, for example. It might be too much cash injection into the property, and you may not be able to recover your money if you were to sell the property within a short period of time."

To best gauge your local market, get out into the neighborhood, says Demoff. "Don't just leave real estate to the agents," she says. "Make yourself aware of the properties that are selling, and find out how much other properties have sold for."

To avoid trouble in a housing slowdown, Thomsett recommends staying away from investment or speculation properties, especially those with high leverage. If the market slows for a long period of time, "you will also run into cash-flow problems," he says. "Secondly, if you have investment property, make sure your rental demand is strong enough to carry your mortgage and other payments through the slow period.

"The real estate market should be approached with a fundamental view, just like the stock market," says Thomsett. "You know you should not buy a stock after a big price run-up, especially if today's stock price is high. By the same argument, using economic data and real estate fundamentals like inventory, spread and time on the market, you can get a reliable picture of the state of today's market."

As far as timing the housing market to determine the best time to buy or sell, Demoff says the answers are simple.

"The best time to buy is always while structuring a deal that makes good sense," she says. "The best time to sell is when you feel the market is at the peak for you. As long as you would be happy with the profit, regardless of the potential to make a few more thousand dollars had you waited for the market to rise, that