Do you know anyone in a cashflow negative real estate investment who had been lording over you the fact that the condo/townhouse/house they purchased two years ago has appreciated so and so many thousand dollars? Kicking yourself because you didn’t think to jump onto the real estate bandwagon? (By cashflow negative I mean the mortgage payment they have is more than the rents they’re getting, so they are losing money on a cash flow perspective) While I don’t, I do know one guy who had been counting his eggs before they hatched and currently has something on the order of 5-6 condo/townhouses in cash negative positions banking on appreciation to bring him the big bucks. US News and World Report has an article about the slowdown  so you know that the slowdown has been going on for probably half a year now, but what does that mean for your real estate friend?
If you bought a house before or in the beginning of the housing boom, you could make your money in one of two very popular ways. The first is to buy a distressed property, fix it up, and then sell it for more (flipping) and if you want some television entertainment there are tons of shows about this sort of thing. The second way is to buy a house, rent it out, watch it appreciate and then sell it. Along the way, if you’re cash flow positive you put a few extra bucks in your pocket, if you’re cash flow negative then you lose a little now but you can think of it as an investment in the future.
The problem is that ARMs are getting reevaluated upwards and so those folks who have negative cash flow properties will be in trouble. After the initial fixed payment period is up and the mortgage payments increase, a cash flow negative position becomes a much bigger cash flow negative position. Couple that with slower appreciation rates and all the incentive for being cash flow negative has evaporated. So you’re adding a large class of home sellers who see themselves as being on the edge of a cliff… add them to those regular sellers (leaving the area, upgrading, etc.) and those former buyers who bought too much house and you’re looking at a balooning group of sellers. Just to throw some gasoline on the fire, you can add home builders who are throwing in crazy incentives to buyers just to unload inventory.
Am I writing anything groundbreaking? Nope, but in case you were wondering why everyone is fearful of a housing burst… that’s why. To steal a line from a friend, Burst burst burst burst!