Blogs & Comment

Housing markets and market timing

History shows market timing in real estate is not an easy game to play, so why not play smarter?

(Photo: John Knill/Getty)

Market timing appears to be alive and well in the housing sector. Some homeowners have sold their dwellings and taken up renting because they expect prices to fall. Similarly, a number of first-time buyers have delayed purchases in hopes of buying later at lower prices. But speculating on price fluctuations is a tricky art that can end up doing more harm than good.

You can see the prevalence of market timing in the housing articles now popular in the media, especially in reader comment sections. A large number of the posters say they are renting in order to avoid price declines. They also express support for price tumbles of as much as 50%, which would allow them to buy back in at cheaply.

A number of these commenters even appear, regrettably, to be trying to encourage a collapse in prices. For example, on one site a poster wrote: “Home prices will follow sales declines. If you own a home and want to get ‘top dollar,’ sell now. Don’t hesitate.”

I can perhaps understand resorting to market timing in extremely overvalued places like Vancouver. But generally speaking, markets have a tendency to confound, as economist John Maynard Keynes noted when he quipped they can remain “irrational” for longer than we expect.

Market timing, in fact, is a discredited practice in financial markets. Countless studies have found that it does not work compared to simply buying and holding over the long run. For a summary of these studies, see the website of Index Funds Advisers.

Legendary investors express similar views. Take Benjamin Graham, author of the classic Security Analysis. Near the end of his life, he declared: “If I have noticed anything over these 60 years on Wall Street, it is that people do not succeed in forecasting what’s going to happen to the stock market.”

One of the problems is timing the entry. How does one know when the bottom is reached? If prices tick up by 5% to 10%, does it signal the uptrend has restarted or is it a head fake that is followed by a return to the downtrend? In the stock market, traders often end up “whipsawed” (downtrend resumes after buying on an uptick) or they let a breakout pass only to realize later it was the turning point.

House prices may at times go into reverse, but they historically have enjoyed a long-term upward trend, like stocks. Even the infamous housing corrections of the early 1990s in Toronto and Vancouver have long ago been recouped.

As long as the world operates on fiat currencies, there will likely be inflation in houses and real assets. And as argued in one of my previous columns, “Real estate as an inflation hedge,” we could be nearing a resumption of the inflationary environment given the historic amounts of currency that have been printed by central banks around the world.

Market timers shouldn’t overlook transaction costs either, notably real-estate commissions. Say a $400,000 house with a $350,000 mortgage is sold. The agent charges 5% of the sale price and takes $20,000. This amounts to 40% of the owner’s equity ($50,000), which dramatically raises the bar.

First-time buyers (with adequate downpayment) delaying the purchases are focused on avoiding the well-publicized risk of sliding prices. But this inaction exposes them to a risk that’s less often in the spotlight—that of having nio hedge when inflationary tendencies resurface.

In past housing cycles, many first-time buyers acquired properties that needed fixing up or could be partly sublet. This approach provides protection against inflation yet offers some comfort against market setbacks. In the case of fixer-uppers, renovations boost market value. As for subletting part of one’s house, the rent provides a supplementary stream of income.

Buying a property with an income suite may have an edge over the fixer-upper in the event the tail risk of a housing crash materializes. In the aftermath of the U.S. meltdown, the ranks of renters swelled, which caused rents to escalate.

Instead of worrying about market timing, homeowners can stay focused on the long-term tendency of real-estate prices to appreciate and ignore the media noise.