An asset bubble is when assets like housing, stocks, or gold dramatically rise in price over a short period that is not necessarily supported by values. The hallmark of a bubble is that it's irrational - almost a phenomenon when everyone is buying up a particular asset. When investors flock to an asset (like real estate), the demand drives the price up...but it doesn't stay up forever.
During a real estate bubble, home buyers continue to bid up the price of a property beyond any real, sustainable value. Buying homes becomes a feeding frenzy, and contracts (with escalation clauses) look more like a silent auction than an offer to purchase. All reason is gone with appraisals based on the speculative rise instead of recent sales. With little to no concern over future values, the frenzy continues as the inventory shrinks. All the while, there is no reasonable expectation that a home will be valued close to the purchase price in the near future. But do homebuyers understand that...or care?
Eventually, the bubble WILL burst when prices crash and demand falls. The outcome will be reduced consumer spending resulting in (the next) economic downturn. Another irrational side of a bubble burst is that somehow real estate professionals and consumers alike will be taken by surprise...again.
Real estate is a great long term investment; and IF you are able to ride out the down turn and wait for the next feeding frenzy you're in great shape. However, being in a negative equity position (owing more than the property is worth) is something homeowners should avoid at all costs. To be in a negative equity position is to be on shaky ground financially regardless of the plan to hold 'em or fold 'em.
It's wise to put 20%-40% down on properties purchased in the frenzy in an effort to protect against owing more than the property is worth, however most homebuyers are cash poor and not able to maximize the down payment. In fact, most homebuyers match the mortgage payment up with their paycheck as a means of making long-term financial decisions. In other words, irrational buying is substantiated as long as there's enough paycheck to cover the mortgage payment. It's hard to believe people make significant investments in homes (and their future) using a paycheck measure of justification.
If a substantial downpayment isn't possible, the next best step to protecting against negative equity is to get serious about the equity itself. By applying complex banking formulas to every day consumer debt, more of the payment is applied to the principle and less is applied to the interest....the complete opposite of the structure of a traditional amortized loan. Same loan... same payment amount...significantly different results. In fact, by using this banking strategy it's possible to pay off a 30 year mortgage in a fraction of the time.
If you're been told that it's a good idea to keep your mortgage for as long as possibly can, then you need to fire your financial advisor. Wealth is built by leveraging EQUITY, not by holding mortgages. If you want more equity to leverage into more rea estate or another investment, then you'll need to make serious changes to the way you're banking today.
Networth isn't gauged by the size home you're buying with a long-term, low interest loan; it's based on equity.
If homebuyers aren't careful, they'll be worth less than $0 in the very near future...all over again.
If it all belongs to Him, why are we living as if it belongs to us? Are you being a good Asset Manager? How we perceive MONEY impacts every area of life! It's time to BREAK THE CHAINS...for the love of God!