12 Mar 2012, 9:01am
personal finance rant:
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    • Don’t fight the tape, Dave, the NewBuy Mortgage Guarantee will cause untold pain

    The trouble sometimes with Government, is that it often gets itself into areas it shouldn’t touch. Such as meddling with the market, offering to guarantee home loans of half a million pounds to buy new houses. What on earth could go wrong?

    So let’s take a step back and see what’s going on here. A putative homebuyer is looking to buy a house that they can’t afford. So Dave waves his magic wand to make lenders accept the risk by guaranteeing the money with taxpayers’ money. Now I would then suggest to the homebuyer they look for good value for money. With houses, like with many other durables, the best value is in the second-hand market. But no. Conflating the desire to help people buy stuff they can’t afford with some dirigiste industrial policy to support housebuilders, Dave makes them buy unnecessarily expensive houses – ie new-build.

    Face the facts, Dave. You can’t make enough on the average income in the UK to buy a house in a lifetime. A middle class man on the average wage used to be able to buy a house on his own, my Dad did it on a blue collar wage. Then it took two people to do it when Thatcher sold off the council houses, meaning people who were too poor to buy a house themselves were robbed of the opportunity to have social housing, though a lucky bunch of 1980s tenants got their houses at knock-down prices to buy their votes.

    I managed to buy a house on a single white-collar wage, but I lived somewhat below my means to do it. Nowadays if I were starting over I wouldn’t be able to afford even the interest on my current house on what my starting wage was in real terms.

    And now another Tory government is going to dive into this frenetic marketplace with its hob-nailed boots and dance all over the face of the price mechanism in a capitalist society. Dave, the reason your middle class voters can’t buy a house these days is because we don’t make anything of significant value in Britain any more, and our standard of living is going to fall accordingly. You’re going to provide mortgage guarantees for houses priced at up to £500,000!!! I couldn’t even dream of buying a house for that much now, at the peak of my earning power and with a fully paid up house to defray some of the capital! What right do you have to buy your votes with the dreams of some daft young couple that is going to put themselves in hock for far more than they can afford in the long run?

    Imagine a couple both with good jobs earning the average household post-tax income of £25,000 ish. Even if they paid no interest it would take them 20 years of their entire household income to pay that off. That’s assuming in those 20 years they eat nothing, have no kids, never go on holiday. It’s barmy. It is just so wrong, on so many fronts.

    Dave, the price of houses is telling your middle class voters they cant afford a house. There is an old stock market adage from the 1930′s, ‘don’t fight the tape’. It means listen what the price signal is telling you. And for God’s sake, don’t fight that signal, because it will crush you.

    Oh and to those putative homeowners – don’t do it to yourselves. Buying new-build is expensive, you’ll get more house for your money buying second-hand. I didn’t have enough money for the deposit on my house in the late 1980s. So I borrowed an interest-free from my MBNA credit card, and used a low-start mortgage to focus repayments to the credit card in the first year. It worked for me, I got my mortgage cheaper because I had a lower LTV and didn’t pay a bean for the loan. In those days you didn’t have the sneaky 3% handling charge on 0% cash advances. There are other ways of raising the deposit than having the government railroad you into buying an overpriced new-build house when you can least afford it.

     

    25 Feb 2012, 7:20pm
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    • Middle Class Finances – Death by A Thousand Cuts

    Another one in the complainypants section, but this one’s a more subtle object lesson in how not to lead a middle-class life. Perhaps the Ermine’s heart is softening as he gets older, or there’s a little bit of the there but for the grace of God since I screwed up with the toxic UK housing market too, though I don’t have 4 children ;)

    Let’s hear it for the Daily Mail’s Shona Sibary, who sold her house and considers herself now in the rent trap.

    Shona and family, before they got into the rent trap

    Now I was able to see her fundamental problem, just from looking at the picture. In Britain today, a middle class family with both parents working will find it hard to raise four children. We normally associate big families with the undeserving poor because of the headlines, but thankfully they are not the only section of society that has large families, otherwise we would long ago have succumbed to the premise of the movie Idiocracy. The unsung other sector of society that often has larger than normal families seem to be those with a bob or two. Like David and Samantha Cameron, who ain’t short of a bean, or even IDS and Nick Clegg. Other wealthy families include Victoria & David Beckham (4) and Boris Johnson (4)

    I first noticed this with older colleagues at work. The Firm was a prestigious operation in the 1970s and 1980s, and pay was probably upper middle class (in the eighth or ninth decile of the IFS income scales). There is a surprising prevalence of three-child families there, which I had found particularly surprising when I joined nearly a quarter of a century ago.

    It’s not surprising that nowadays it is the poor and the wealthy that can go beyond the one and two-child norm. The former get us all to pay for it, and the latter are presumably rich enough to pay for it themselves. Anyway, ’nuff about families. How did Shona screw up?

    Shona’s financial red cards

    By failing to watch her back. Shona had a couple of big red cards,  I suspect that family was living way beyond its means for a long time.

    Red flag #1 – they were remortgaging, not building equity in their home.

    Look at how an old-skool repayment mortgage builds up equity in the house, by repaying some of the capital.

    how a traditional mortgage builds equity

    I pinched this from the excellent Mortgages Exposed website, which unfortunately uses infernal frames so I can’t link to the source itself, it’s under Capital Repayment in part 1. Now there are other ways of doing it. My original endowment mortgage was interest only, so in parallel with the mortgage there was an investment that should have been slowly rising to match the original loan. Either way, you should be building up equity, even if it takes the form of a separate asset.

    Now the modern way to look at a mortgage is to take out an interest only loan, sit on your butt and whistle a dancing tune while the value of your house goes up. Voila, free money, you get equity without having to lift a finger. The catch is, of course, that the value of the house has to go up :)

    Shona asserts that

    After two decades of slogging to buy a house, maintain it and give our children security for the future

    No, you did nothing of the sort. You’ve had that mortgage for seven years. If you look at the graph above, you should have a quarter of the equity in the house, assuming house prices hadn’t gone up at all from the start.
    If you look at the equivalent graph for my mortgage career

    an ermine's inflation-adjusted income and mortgage stupidity

    You see that by 1996 I had at least reduced the total, by about a fifth in real terms (this graph is inflation adjusted to a nominal salary of 10k in 1984). That underestimates my repayment as it doesn’t show the value of my endowment.

    So what did you do Shona? You remortgaged. Taking that equity out, and spending it. Doing that once is a bad sign – nothing wrong with remortgaging per se, but spending the proceeds is bad. Doing it another two times is more than careless, it’s positively greedy.It’s a big red sign in your finances that says “Wrong Way, Do Not Enter, Turn Back NOW”.

    Your house is a place to live, it is not an ATM. Over the 25 year span of a mortgage, you will probably see at least two housing booms and busts. I bought in a boom, ate a 10-year bust, and discharged my mortgage in the next boom, that has now turned to a bust (my mortgage would have finished in February 2014 had I not discharged it early)

    It is the foreknowledge of that next bust that should make you say “I will not take the money I gain from remortgaging and use it for anything other than buying an investment which will go towards buying this house”. For most people that investment is reducing the total amount of the next mortgage, which is tantamount to saying “never withdraw equity from your house, unless you are trading down”. There are some people who can do better than that. They are few and far between. Otherwise that bust is just round the corner, waiting to bite you.

    Red Flag # 2 – your house is not your biggest cost!

    This is awesome. If you really are middle class, and buying your house, then that house is nearly always your biggest cost. If it isn’t, you are either not middle class, you are rich/wealthy. Or you are in deep, deep, trouble. Nowadays it’s pretty marginal for the ‘middle class’ to be able to afford the typical ‘middle class’ three or four bed detached family home in the ‘burbs. If your house isn’t your biggest cost and you’re not rich, you’re skint.

    Let’s take a look at what Shona spent the money on.

    In our defence, we weren’t spending the money on expensive designer clothes, luxurious holidays or flash cars.

    So glad to hear it. So what exactly was it that you overspent on then?

    Much of it was going on school fees and upkeep of the house.

    If you’re withdrawing equity from your house to keep the damn thing standing then you have got too much house for your income. However, that’s not really your problem. It’s the school fees. According to the ISC the average termly fee at a day school is £3655, about 11 grand p.a. A cursory look at your family photo puts three of those kids in school, ie £33k p.a. Assuming for sibling rivalry you aim to do that for all of them, you are looking at paying 4 * 11000 * (18-11) = £308,000 if you just pay school fees for secondary school 11 to 18 and £572,000 if you pay from 5 to 18.

    That’s more than your house was worth at the peak. The house is not your biggest problem. It’s a combination of having too many children and looking down on the sort of education that dragged up scumbags like me. So for all the mawkish whingeing about losing your home, Shona, you have failed to clock the real problem with your finances. ‘Tis the fruit of your loins and the style in which you’d like to keep them. With their own rooms, if you please, nothing else will do for Shona’s little ones ;) Since humans come in two genders and it is apparently not acceptable for brothers and sisters to share a room these days you actually only need three bedrooms if the family is boracic lint, fixed that for ya.

    Get real, Shona. You were on a middle class income but living a life not commensurate with your means. It’s hard enough for the middle class these days to buy one house in 25 years. To aim to do that and spend even more than that on the nice things in life on that middle class income is taking the piss. It cannae be done, and you’ve just found that out the hard way. To my eyes you’ve cut the wrong thing, but I respect it’s your call.

    Shona shows me I need a financial Distant Early Warning Line

    I learned something from Shona. Her family fell foul of slow changes that gradually overwhelmed them. Many things get imperceptibly worse day by day, as global imbalances right themselves but they’re resisted by the structures we have already built. The creeping rise of Digital Taylorism making the professional and technical job a stressful and unrewarding experience is an insidious change, little by little. I didn’t realise that until it became too much and my defences were overwelmed, hence the crash course over the last three years in becoming finacially independent as a counterattack.

    In the 1950s the US instigated a distant early warning line to scan the northern skies at the 69th parallel north of the Arctic Circle. It was standing sentinel for the signs of incoming Russian nuclear bombers, and was located in the harsh North to give enough early warning to mount a counter-attack.

    I need something analogous to stand watch for slow insidious creeping costs and sound the early warning. I plan to instigate an annual review of financial commitments as a percentage of resources. If I see a non-negotiable cost starting to rise proportionally I will consider that the alarm is sounding and it is time to attend to it. It is always easier to launch a counter-attack before it is upon you overwhelming your defences, and this annual review of commitments will be my distant early warning line against stealthy creeping costs.

    Shona’s family could have used something like that. Okay, the alarm would probably have sounded as soon as it was set up, but certainly on the second child’s school fees. It would have been an easier call to make at that stage – do we want a big house, or do we believe in the value of public school education* makes it worth getting the girls to share a room?

    While I am working I’ve generally lived sufficiently below my means that I didn’t need that sort of thing. Though I aim to have over 50% income in hand once I stop working, I’ve still got several decades, decades in which I believe living standards in the West will decline in a big way. Though I may be resistant to wages being eroded, I won’t be immune from inflation and its evil twin, rising prices and taxation. A financial DEWline will help me marshal resources ahead of time, and shift them to minimise taxation. Particularly with significant holdings in shares, it’s good to have as much advance warning if changes are needed, to average out the horrendous temporal volatility.

    *NB for non UK readers, bizarrely schools that you pay fees for, those that Americans rationally call private schools are called ‘public schools’ in the UK, because we’re strange like that.

    11 Feb 2012, 2:05pm
    personal finance rant:
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    • Why the Demise of the Interest-Only Mortgage isn’t a bad thing

    So you walk into a shop, and spot that nice new flat-screen TV you want. £500 to you, sir, or you can buy it interest-only for £2 a month. Wouldn’t you smell a rat somewhere? The rat is, of course, the small print that says you’ll have to pay £500 at the end of the interest-only loan.

    Now I know that some people, particularly in the United States, buy their cars like this. It is called leasing, and the name gives it away, you never get to own the car. It’s a long term rent. It looks absolutely and stupendously daft to me, but if the image of driving a nearly new car is that important to you, well, ‘you pays your money and you takes your choice‘.

    So what the heck makes buying a house on an interest-only mortgage any different? You still never get to own the house. What it the point of that? The interest only mortgage was a clever wheeze to ramp up house prices and for banks to make more money. The beautiful part of this game is that the buyers go all gooey-eyed and think the mortgage company is doing them a favour by lending them more than they can afford. Hey, that Mr Interest Only Bank can lend me £200,000 whereas Mean Old Prudent Bank will only lend me £150,000. Isn’t Mr Interest Only Bank such a nice guy?

    Two words. Northern Rock. It didn’t work out well, even for the lenders.

    A history lesson

    1960 – the Repayment mortgage

    When my Dad borrowed his first £500 mortgage, way back in the early 1960s, it was simple. He told them his income, they looked up in a table what they could lend him, and armed with that knowledge he could look for a house. He borrowed the £500, and then paid them the interest plus a proportion of the price of the house, the latter proportion increasing with time.

    Repayment mortgages were all that were available, based on the simple premise that you pay your instalments for 25 years and when the last one is paid the house is yours.

    1990 – the Endowment Mortgage

    Fast forward thirty years, and I get to go to the Abbey National, and bamboozled by the choice of endowment and repayment I foolishly go for an endowment mortgage. This is still on the principle that I pay interest only to the mortgage company, but simultaneously to a life-insurance policy which supposedly grows with time till after 25 years it is worth at least the price of the house. So although I was only servicing the interest on the mortgage, I was in parallel accumulating an asset that matched the cash price of the house, which when paid to the mortgage firm would discharge the debt. And the house would be mine. The mortgage company took a charge over the endowment, so I couldn’t sneakily stop paying it without them knowing.

    2005 – The Interest Only Mortgage (Don’t Bother with the Capital, it’ll work out somehow)

    Like an endowment, but endowments got a bad name, for not paying enough to match the price of the house. So just do away with the need for an endowment! How does that work? Well, you get to the end of your 25 year term, and you still owe for the house! Okay, so inflation hasd probably halved the real value of the debt, which is all to the good, but you still don’t owe your damn house at the end. It is a leasing arrangement. Why not just rent instead?

    The assumption is that rampant house price inflation means that your house is worth so much at the end that the increase covers the total. But you still can’t sell off the chimney or your third bedroom to discharge the debt, and you are likely to be coming up for retirement. I wouldn’t want to have to stick my hand in my back pocket to come up with what I paid for my house over a decade years ago, though as it is I could just about do it.

    increasing complexity, decreasing security and honesty

    There’s a lot of bleating about interest only mortgages, because about a third of firt-time buyers bought their houses on an interest only basis.

    Shockingly, I heard a father talking on Money Box about how it was so rotten that his son couldn’t find an interest only mortgage to buy his first house. David from Sussex said (13:45 on the iPlayer)

    a bit surprised and disappointed to hear they’re only looking to offer capital repayment mortgages, and with my son’s circumstances, which I’m sure is the same for a lot of other first time buyers, the intention is not to stay in the property for that long

    So how does that work, then, David? Are you saying your son doesn’t need the house after a while, can sell up, pay back the capital from the proceeds and stick a tent on the pavement? Or do you want him to be able to overpay for this house, so he doesnt’ spend the excess on booze and fast cars? Why exactly is it that you want him to borrow more money for a house he can’t afford the buy, only to lease? Do you realise, David, that your son is in an auction for houses, and if mortgage companies don’t let people borrow so much money then the auction price will fall?

    It’s too late to save the people that did overpay for houses by going interest-only to the max, but we can at least not propagate the mistake. If you are going to buy a house, then buy the damn thing, don’t lease it for 25 years and then wonder why it isn’t yours…

    Overall, look at the changing mortgage proposition over the years. My Dad was offered an honest and straightforward service. Pay this much for the next 25 years, and you will own your house.

    I was offered a less honest service but at least one that in theory would end up with me owning the house. It didn’t work out that way because the complexity of a with-profits endowment hid untestable assumptions and I was stupid enough to buy a product that didn’t match my circumstances. In all fairness to my parents, they told me a repayment would be better for me, they told me why, and educated me well enough to be able to see why, but I was a damn fool and had eyes only for the potential gain, without the wisdom to look for the potential loss. That’s what being 28 did for me, I knew everything and nothing, so greed trumped wisdom.

    Unlike my parents, David is failing his son in giving him only half the story. If he actually told his son, “look, you are taking a very serious risk here by going interest only, but you are in a profession where your pay will increase dramatically and as long as you start saving for the capital from then on you may consider this a calculated risk” then that would make all the difference.His son would still be taking a risk and would probably be just as cocky as I was, but at least David would have discharged his duty as a parent ;)

    He sort of alludes to the early years being hard, but wage profiles may be flatter nowadays and young people start out with more debt, so the assumption that money will be easier after five years probably doesn’t hold. David needs either to underwrite his son’s migration from interest-only to capital repayment with the Bank of Mum and Dad, or not encourage his son to overpay. Because it’s simple to summarise the issue

    if you can only afford to pay an interest-only mortgage on your house, then you can’t afford to buy that house.

    Although I think the demise of the interest-only mortgage has been exaggerated, its death would be no bad thing at all.

    22 Nov 2011, 9:36am
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    • Just leave the housing market alone, Dave

    So the taxpayer is going to back 95% mortgages for first time buyers to buy new build homes. Now where have we seen this before? Governments fiddling in the housing market. Such a bright idea, it goes horribly wrong each and every time. You’re grubbing about with what is probably most people’s single most valuable financial asset, purchased on a highly leveraged basis. Small errors can get magnified stupendously.

    What on earth could go wrong? Well, for a start the impecunious are usually better off looking to the second-hand market to get better value. It’s why I have never bought a new car. I could afford it, but I have no desire to take the sucker punch for that brand new kudos. Same for houses. I’ve never bought a new one, because the value is so poor. Let other people take the brand-new premium first. So why the heck is the Government screwing the first time buyers by making this mortgage guarantee conditional on them buying a new house? Yes, it’s good for the housebuilders, but why get the most cash-strapped to take the hit too?

    There seems to be a belief that it’s every Briton’s human right to be able to buy a house in ther 20s. It isn’t. Some people are too poor to buy a house. That’s tough, but there are alternatives and have been throughout history. It’s called renting, and also sharing with others.

    Let’s take a look at the decision-making process in how people buy houses. People look at what they can afford to spend at the time they are buying. If they are really clever they look ahead a little bit and allow for the extra cost of children, should that be a consideration. They then imagine that will carry on for the foreseeable future, and spend right up to that limit.

    Make financing easier? Buyers will drive the capital cost of the houses up, as they can finance higher capital sums. Apply distorting measures to starter homes? Starter homes will go up more than second-rung homes. It’ll be harder for those that don’t qualify for the distorting measures, and the distorting measures will go into the pockets of house builders. It will take longer for the ‘beneficiaries’ of the largesse to pay off the increased prices they paid, because the largesse comes in the form of mortgage guarantees, encouraging them to overpay.

    It’s about time the government discovered the value of the one of the principles of Hippocratic Oath in meddling in the housing market.

    Primum non nocere – First, Do No Harm

    Just leave it alone, Dave, let it be. That way existing house owners that benefited from the rising prices in the past get to take the hit, as they have to drop their prices to get a sale at all. The history of UK government intervention in the housing market is littered with epic fails.

    Let’s hear it for:

    1. Mrs Thatcher in the 1980s selling council houses for below cost price to buy votes. What could possibly go wrong? Britain has no effective social housing any more, inflated property prices, and people so poor they would never buy houses elsewhere in Europe end up overpaying for houses they can’t afford and can’t maintain properly. They used to be able to rent from professional landlords on a reasonably stable basis. Now they have to rent from BTL amateur landlords on 6 month shorthold tenancies.
    2. Mortgage Interest Relief At Source What could possibly go wrong? Make mortgages less expensive and the punters will bid up the price of houses till the amount they pay is the same. At least this was axed a while back
    3.  95% taxpayer-backed mortgages for first time buyers to buy new build homes. What could possibly go wrong? So we’ve subsidized foolish banks like Northern Rock that lend people more than they could buy, then flogged them to Richard Branson at a loss. Hey, let’s just cut out the middleman and lose the money straight off. What’s going to happen? People will bid up the cost of first time starter homes and expose themselves to the risk of negative equity, but never mind, the taxpayer will underwrite the losses.

    Twits. When is government going to learn to butt out of the housing market. Their job is to provide equitable contract law, building controls, town planning and a Land Registry so that buying and selling houses is safe for both parties and the necessary disclosures and titles are made. Some basic regulation of rents, requiring some professionalism in landlords and taxing BTLers on their capital gains is probably as far as they need to go.

    We’re about to enter a second long recession. Jobs will go. The last thing we should be doing is influencing people to take a long term illiquid investment on at a higher price than the market would normally set. It took me 10 years to recover from the cock-up of buying a house at a price inflated by stupid government intervention, Nigel Lawson, you know who you are. I wouldn’t do that now, but you can’t put an old head on young shoulders. I was lucky enough to keep my job and not need to move for those 10 years, the likelihood of that happening to a first-time buyer now is a lot less.

    We probably shouldn’t actually stop house buyers acting foolishly in the face of market volatility, but as society we really shouldn’t wilfully add to that volatility. The housing market is a zero-sum game. Make it easier for today’s first-time buyers to buy a house, and you make it harder for the next bunch that comes along. What’s so hard to understand about that?

    19 Apr 2011, 12:39pm
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    • No more Interest-Only Mortgages from the Halifax

    Every so often you come across an amazing piece of news, something that makes you wonder if people have been asleep at the switch for the last few years. Let’s hear it for the good people at Halifax, who have just woken up and decided that perhaps they would like to have some documentary evidence of people being able to pay back the money they lend to them, as opposed to just being able to pay the interest.

    Uh? What part of liar loans did they not get at Halifax? Let’s hear some of the excuses for interest only loans from Melanie Bien, representing some bunch of charlatans delivering empty promises mortgage brokers:

    “High-street lenders have been tightening their interest-only criteria since the downturn because they regard these loans as more risky than repayment deals. If this continues, interest-only mortgages could vanish, or become so limited in scope that they are available to only a handful of borrowers.

    Interest-only loans aren’t inherently bad. What about first-time buyers who don’t have a repayment vehicle but are due an inheritance? Or someone with a modest income but sizeable and regular bonuses which can comfortably be used to clear the capital?

    ‘One size fits all’ does not work when it comes to mortgages. For some borrowers, not all, interest only is the right choice.”

    Melanie, my dear, I don’t know if you really were born yesterday or you are thinking of your commission, but you are wrong. The tragedy is that if a borrower needs an interest only loan to be able to afford it, then an interest-only loan is inherently bad for that customer. That is because it is allowing them to live beyond their means, and they are also driving up house prices in general with the other people living beyond their means, achieving a drive-by shooting of many people’s personal finances.

    There are some people that know how to use interest only mortgages. They are few and far between, and will have uncommon characteristics, like having large share portfolios and accumulated capital wealth. The sort of punter that needs Melanie’s services is not one of them, so when she says “you can afford this house if you start with an interest-only mortgage” she is always wrong.

    There’s no money in it for her to say “you can’t afford that much” but the rule is simple. If you have to ask whether you can afford it, and the answer is “yes, if you go interest-only” then simply replace that statement with “Do you feel lucky, punk? Well, do you?”

    Buying a house is a big commitment. It’s hard enough to rely on having a job for 25 years. If you are relying on a bonus regularly then you are playing Russian Roulette with your finances. The whole point about a bonus is that it’s a bonus, so it can’t be relied upon…

    It’s really staggering that it has taken getting on for three-and-a-half years for the Halifax to realise that interest-only mortgagees aren’t so much high-risk as they are bad risk.

    Let’s face it, if you really want an interest-only mortgage, it’s hardly as if the Halifax are really raising the bar that much. Tell them you will pay off the loan with an ISA, and have the presence of mind to be able to produce evidence of having had that ISA. You can always cash it in after you have secured the loan if you really want to rent your house from the mortgage company. The new rule isn’t so much documentary evidence of having a strategy to repay the capital, more documentary evidence of having had savings for a year. If you really can’t drum up the savings then borrow the money from a credit card and put it in an ISA. You would be absolutely dead-certain certifiably mad to do that, but it would probably work.*

    *please, please don’t do this. Halifax may check your total credit score and see the card loan, your ISA may fall in value by the time you want to cash it in to repay the loan, there’s just so much that could go wrong. If it still looks like a good idea, back away slowly from your computer, and seek independent financial advice as soon as possible. Oh and you probably can’t afford the house, BTW…

    13 Feb 2011, 4:48pm
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    • The Road Less Travelled – A Better Way to Buy A House

    I read M Scott Peck’s The Road Less Travelled a few years ago. Like any powerful message, it can easily be distorted if received by someone not ready for the signal. If you are of a Calvinist worldview that work is good for you then you may find confirmation of your world-view in the “life is difficult” opener of the first chapter, Discipline. You’re only looking at part of the story there, but you have to get further into the book to find that out ;)

    In particular, he speaks for the virtues of grit and determination to achieve anything, to wit

    • delaying gratification – valuing future gains sometimes at the cost of present comfort
    • Accepting responsibility for one’s own decisions

    I was reminded of this book when I read Monevator’s guest post from Tejvan Pettinger titled “Reasons to buy a house instead of renting“. Now in my view, at the moment there aren’t any reasons to buy a house instead of renting, it’s one of those things I learned by doing it in 1989 at a similar time on the cusp of a recession.

    Mark Twain said

    A man who carries a cat by the tail learns something he can learn in no other way

    So it is with buying a house at a time like this…

    Way back in 1988 I was in the Broadcasting House BBC bar at lunchtime, sinking a few beers as one did at the time of the liquid lunch to send off a departing colleague. I was a lonely grunt engineer, surrounded by beautiful people, all talking about one damn thing, which was how much their blasted houses had increased in value, or their friends had made on the sale of theirs.

    I slowly drank myself to a stupor, trying to forget that at the end of the day I was going to get on my bike and cycle along the Western Avenue to Ealing, where I had a crummy bedsit with a electricity meter that took 50p pieces and I needed to get some salt to put round the perimeter to keep the shiny black slugs from invading the room.

    What is it with rented accommodation and black slugs?  I encountered similar blighters in someone’s rented room on the first floor in Ipswich. Do landlords install them to stop their tenants getting too comfy I wonder?

    Anyway, I managed to avoid standing up in the bar and hollering “STFU you smug lot, I am on an okay wedge working for this firm and I have no hope of buying a house in this damned city of my birth because of sleazeballs like you making a mint out of my misery”.

    The modern equivalent of that is to get on pricedout and housepricecrash and blame the baby boomers for it all. Plus ça change, plus c’est la même chose. I felt just the same pain, but I couldn’t yell it out to loads of people on the internet. And I’d have queered my pitch with the girls, though I probably didn’t improve my case on that front by sinking five pints of E.S.B. so that at least if the situation didn’t look any better it felt less bad.

    There’s actually a positive takeaway for this for the priced-out generation. Every young generation is “priced out” in their twenties, because the greybeards have all the money. How did the greybeards get it? The same way as I did – working for three decades! Despite manful attempts to spend it on holidays, booze and toys some of it stuck around ;)

    When I got home I resolved to tackle the situation. I could either try to find work with Goldman Sachs to get the pad I wanted (I fancied a cool flat somewhere in Bloomsbury, please) or I could get the hell out of London and find somewhere I could afford on the sort of job I could get with my skills. I had spent all my energy railing against the unfairness of it all, and only when I had independently discovered what M Scott Peck had to say about taking responsibility could I find resolution to the problem. The next year I was in a different job, in a different part of the country, and stupidly putting down money on a house at the peak of the Lawson boom. Less than 20 years later, I had paid off the mortgage on the house I bought after that, despite nursing a shocking loss on the first house.

    A Different Way to Buy a House

    What I found so delightful about “Reasons to buy a house instead of renting” was that Monevator himself pole-axed the argument, with a single sentence in the comments outlining a different way to buy a house – the road not travelled.

    I followed the traditional path, buy a house in my late twenties, spend the next 20 years paying for it. I was lucky to stay in the same job and location for 20 years, that sort of job is becoming less common now.  There’s another way.

    What you are doing in taking out a mortgage is gradually buying a capital asset, that eventually by the time you retire should be paying your living costs for you. I don’t pay rent, and I don’t pay a mortgage any more. There are some parasitic housing-related costs associated with wear and tear that I do have to eat, but they pale into insignificance compared to rent or a mortgage.

    The trouble with a house is that it is an illiquid asset, if you have to move for a new job you have to hope you can sell your house, or get stuck with the headache of being an amateur landlord.

    What about the idea of pumping up your ISA and using the income from that to pay your rent? You get two things there, one is you build up a capital asset that roughly goes in line with house prices (house prices are usually high in booms and take a hit in recessions). You could use that to buy a house. The second is that once you have a capital asset enough to buy the typical house you would be able to afford on your salary, the income from those shareholdings probably makes a decent attempt at paying your rent.

    I was in my late forties when I paid the last instalment on my mortgage. Monevator, by contrast, is out there in front 10 years ahead of me

    As it is I’m in my late 30s with a portfolio big enough to buy a flat in London outright

    Jammy b***d, good for him! Now there are significant differences – he is more entrepreneurial that I am, and I would imagine on what works out to be a better income – that is one of the advantages of working for yourself whereas I took the conservative and at the time safe approach of having an employer hedge all the business risks for me. Look at that difference in timescale. I did pretty well, discharging a 25 year mortgage in 20 years including one house upgrade, whereas Monevator has set himself up to be able to buy if he wished a decade earlier in his life, and in London, where he’s competing wit hthe financial whizz-kids and foreign shipping magnates inflating house prices.

    There is much to be said for the investment asset approach rather than the bricks and mortar approach. With the latter, you are exposed for the full duration of the mortgage to losing your job and possibly having to sell up into negative equity or losing the house. Obviously with investments you can screw up royally or suffer a Great Depression, but provided you play safe and keep your wits about you then you won’t suffer a forced sale where your assets are marked to market.

    Once you have the money to buy a house, and once you are old enough to retire/no longer need a job to survive financially, you can consider buying at a time of your convenience. For a house is a real asset, it is not purely a financial asset. That means it does something for you – it keeps the rain off your head and means you aren’t beholden to somebody else’s whim for accommodation. There are great advantages to non-financial assets in times of trouble, like the potential end of the eternal growth that industrial civilisation is predicated on.

    They hold some of their value, unlike paper assets which can get rendered down to toilet paper by inflation or monetary disasters. But because of its illiquidity, if you have enough money to buy a house cash using the value of an investment portfolio, you are much better placed to tackle the modern world of insecure work and needing to move than you are as a mortgage holder.

    I’m in awe of the road less travelled. It wouldn’t have worked for me (and many others) because I was an unsophisticated investor well into my thirties, so I wouldn’t have been able to build capital like Monevator.

    My sophistication now is hardly much better, but my results are better, because I have learned so sit on my hands and do not churn my portfolio, and seek income which screens some of the wilder excesses (it’s not as simple as chasing yield which often drives you to excesses).

    So the road less travelled is less travelled for good reason. It is hard, and it needs self-discipline and keeping one’s wits about you. Most people do not measure up to the requirements, so the conventional way of exposing themselves to the risk of negative equity and taking twenty or thirty years to pay down a mortgage is perhaps right.

    But as M Scott Peck would be only too happy to remind us, there is value in the discipline of gaining the understanding of another way, and developing the skill to do it. Buying young and subjecting yourself to the whims of an increasingly dysfunctional workplace for two decades is not the only way. M Scott Peck would have the hordes of pricedout et al take heed, and perhaps look for the road not travelled. They could take their capital asset with them as they travel the country or continents seeking work. It is hard, because you have to forego the iFads and knuckle down to saving, a discipline which is forced on many in their thirties by the need to pay the mortgage or lose the house.

    So I tip my hat to the intrepid travellers on the lonely road less travelled It is hard, but it looks like it may serve some of them well, and they deserve to get to the destination quicker.

    11 Jul 2010, 9:34pm
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    • Why You Shouldn’t Buy a House

    I ought to make a declaration up front that I have bought my house and own it outright.  It’s taken me nearly 20 years to get there though, and the world has changed. And obviously it’s not up to me as to whether you should buy a house, I’m just playing devil’s advocate because nearly everything else you’ll read says go for it :)

    Here are some reasons you might set against buying a house in today’s market:

    1. Houses are overpriced
    2. You need over 9 years of net income to pay it off
    3. In London? Forget it unless you work for the likes of Goldman Sachs
    4. Paying just the interest? You’re renting from the mortgage company, but unlike with a landlord you can’t make it fix the boiler for you.
    5. You may need to move to follow work.

    There’s a strong emotional attachment to home ownership in the UK. It may have served us once, but there is much to be said for a model where renting is more widespread in a world where jobs are less secure than they used to be. Let’s take a look at these items -

    Houses are overpriced. A mortgage used to be given on an income multiple of 3.5 times gross earnings for a single person, or 2.5 times joint earnings. This income multiple has stood the test of time; if you need to borrow more than that then the houses you’re looking at are overpriced for you. You can:

    • earn more
    • stump up more capital
    • be less ambitious in your house aims (I wanted a detached 3-bed in ’89, I bought a mid-terrace two up two down :) )
    • move to a cheaper area (I left London – couldn’t compete with the über-rich)
    • give up the idea
    • take ridiculous chances with your personal finances and risk losing money and your home.

    Housepricecrash has a chart of real house prices varying over time.

    House prices in real terms over time

    At the moment it looks like this. From the trend line, perhaps they are not as overpriced as they have been for the last 10 years, however, there is a recession on so I wouldn’t bet on a switchback, personally…

    I bought in 1989, and had to sweat through the 1990-2001 hole. There’s no fun whatsoever in paying down on a mortgage that is ‘underwater’ and my net worth is down by about £40,000 in 2010 terms from buying at the wrong time. People even warned me that there were specific factors inflating prices but I was too cocky to listen. You never hear from the people that lose money on buying houses. It happens, but people usually keep schtum about it because success has many fathers but failure is a bastard.

    I’m an exception to that because I’ve managed to pay off my house, so I can view this from the other side, it doesn’t still trap me in debt-slavery. Buying that first house was what is so far the one most monumental personal finance cock-up of my life. It dwarfs my second worst PF mistake -  endlessly churning my portfolio and then losing my shirt in the dot-com bust. At least I got some excitement out of that, and learned what not to do!

    Everybody talks up the Kodak moments about buying a house. Nobody talks about grinding years of looking at your mortgage statement at the end of the year and making an annual capital repayment of about the price of a secondhand car  so you can at least see an end to it in decades hence. This was around the time when they started to tell me my with profits capital repayment vehicle wasn’t going to repay the capital… A bonfire of fresh twenty pound notes every December would have been more fun than that.

    You need over 9 years of net income to pay it off. This mortgage calculator shows that at an average 6.5% interest rate you get to pay back twice the amount you borrowed. So if you borrow 3.5 times your gross salary, you get to pay back 7 times your salary back.

    The Government relieves you of about a quarter of gross for a typical basic rate taxpayer, leaving you with 75% of it. Kiss goodbye to 9 years of it if you want to pay the mortgage off in 25 years at an average interest rate of 6.5%.

    Things that work in your favour here is that your salary may increase in real terms through job switches, promotions etc. Inflation also reduces the real value of the loan, if we manage to stick with the 2% targeted rate of inflation the real average interest rate is 4.5%, provided your salary keeps up with inflation. That means in real terms you get to pay back 1.67 times what you borrowed, which take out nearly eight years of your net salary.

    London prices? They kicked me out of the city 20 years ago and are still causing Londoners problems. The problem is that you’re competing with serious money in the Smoke, both UK wealth from the City and foreign wealth too.

    Paying just the interest? You’ll never own your home. Not only that, but you have to fix the damn thing if something breaks, and you can’t up sticks and leave it behind (unless you are in America, where apparently you can simply surrender the house to the bank and walk away debt-free). Seems a lose-lose situation, I can’t understand why anybody goes interest-only without having a strategy to pay the capital, other than for a short period of financial stress. As for those nutters that kept on ramping up their mortgages in equity release schemes to go on holiday, well I not sure they should be licensed to drive any financial instruments whatsoever ;)

    You may need to move to follow work. Work is much less stable now than it was in our parents’ generation. Globalisation and the associated ‘creative destruction’ churns companies and job roles faster and faster. Buying and selling a house is stressful and costs money in estate agents’ fees, removal costs and stamp duty. Owning a house makes it hard to get on your bike for a new job. That can seriously damage your wealth, and your health if you end up with a long and stressful commute.

    The pros of home ownership are often promoted without a hat tip to the darker side. And one fact is inescapable – nobody who has a mortgage owns their own home. They only own their home when they release the dead hand, by paying the last installment and redeeming the loan. Without a strategy to do that, they might be better off renting instead.

    22 Apr 2010, 8:54pm
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    • Interest only mortgage – Do you feel lucky, punk? Well, do you?

    Monevator has a good post about using an interest-only mortgage as an investment tool. You have to live somewhere, and if you have the discipline then it’s a great way to build up an investment portfolio over the term of the mortgage which will pay off the capital.

    Hey, where did I hear that before? Ah yes, as a late-twenties starry-eyed young pup in the market for his first mortgage. Abbey National’s estate agents at the time, Cornerstone, sold me a mortgage. I went in wanting a repayment mortgage, like my Mum and Dad used to have. Lovely LAUTRO saleswoman, Sue she was called, gorgeous green eyes…

    “You can do better than that. with an endowment you just pay the interest, but look at this Friends Provident with profits fund. Look at these lovely growth figures. At the end of your 25 years you’ll have twice as much in the endowment as you’ll need to pay off the capital”

    Sucker. I was had. These were the years of Gordon Gekko, Greed is Good. Beware pretty saleswomen promising the earth. I was single, so the one benefit of an endowment, the life insurance part, was worthless to me or anyone I cared about. But 100% profit in 25 years, well, that had me. That’s the takeaway message I got, I am sure somewhere in the fine print there was the usual past history is no guarantee yadda yadda. But I was lost to the green eyes and the promise of lots of moolah. I hope it was the moolah that swung it rather than the eyes…

    A few years later, the house underwater on the mortgage, Friends Provident demutualised and I got seven grand. Which, having gotten wiser, I paid down to the capital. On the principle that there were now nasty shareholders rather than cuddly mutuals so I would be ripped off and enjoy poorer with profits performance, so I better at least use it to reduce my interest payments.

    Then the letters came saying “sorry old chap, but we were a tad overoptimistic in our predictions it seems. You, mate, will be lucky to get half towards your capital, so you better raise the amount you’re putting into our rotten with profits fund to catch up. Ta-ra”. Or words to that effect. I saw red and wrote the MD of Friends Provident a stinking letter telling him their salesperson had promised me a guaranteed return. He, or rather some lowly grunt on his behalf, wrote back after a while saying “no we didn’t, but you can moan to us, then the Ombudsman if you like”

    So it was that after moving I ended up with an interest only flexible mortgage from those nice people at Birmingham Midshires. Nobody wanted to sell me a repayment mortgage in those heady days of the dotcom boom.Every year I’d pay off a lump I’d saved to reduce the capital.

    Some lengthy time later, Friends Provident settled with me to put me back in the position I would have been had if I’d taken a repayment mortgage, which was sixteen big ones they’d lost me in ten years. I paid this towards the capital of the new house. No foreign holidays, kitchen refits or cars were involved here :) Having screwed up royally in the dotcom boom I learned, do not churn, sit on your hands, and continued to pay down the mortgage. From 2003 I changed tack, and started investing in a dead boring Legal & General tracker fund, using some of the money I’d otherwise be putting into the mortgage capital repayments. That did help me steal a march on the mortgage, and it 2006 I reduced the mortgage to the minimum BM would allow me to have. This was a flexible mortgage, so I could ring them up, and they would transfer to me any amount from 10k up to my overpayment into my bank account by BACS.

    People often advocate an offset mortgage, where your savings with an institution are offset against your mortgage, so if you have a mortgage of 100k and savings of 50k you only pay interest on 50k. That sounds great, except in the credit crunch. Because the small print says they can forcibly use your savings to pay down some of the mortgage. So the general rule is never hold your stash of cash with the same organisation or banking group that holds your mortgage. This happened to someone I know, which screwed them royally.

    I liked the disconnect of the flexible mortgage. Although I used shares ISAs to save my capital (effectively doing myself what Friends Provident had so miserably failed to do on my behalf) I never tackled this with the intent and savvy that Monevator proposes. But I can vouch that it works, I paid my mortgage down with about 10 years left to run. And paid the mortgage company  less than a tenner a month while I mulled over whether I wanted to discharge it. Monevator would make a good case that I shouldn’t have, I could have invested in 2008 and made a mint, and indeed could have had 11 years more use of this cash, currently at rock-bottom rates. But I don’t have his edge and ambition, and in the end I wanted my house to be truly mine.

    2007 mortgage statement.

    2007 mortgage statement. BM didn't get fat off my back that year :)

     
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