While your servant is just a humble real-estate appraiser in his real life (and a former branch manager for Household Finance), I didn't think understanding changes in real estate values or basic credit lending (and hence, value at risk for a bank) was too complicated.
Apparently, though, I was mistaken. Hence, my new class, Credit Markets and Residential Real Estate Values 101. Now, I want the heads of Citibank, Bank of America, et.al. to stop goofing off, and sit at the front desks here.
Prince! Up Front!! What? You've been canned? (oops, "resigned under pressure") Well, all the more reason to sit up front here. Now pay attention!
This is pretty simple.
- First of all - don't lend to people who can't afford to repay you - yes, over the long term - not just based on the teaser rates!
- Check their references - i.e. confirm their income, debts, payments, etc.
- Medium-to-longer term changes in real estate values (which is really what the bank's security is predicated upon) is based almost completely on just three factors. Pay attention to those factors, since they can affect values!
The three factors affecting the medium-term plus value of real estate are:
a. Changes in population in an area;
b. Changes in after-tax income;
c. Changes in interest rates.
Prince, note that unsustainable changes or trends (as an example, interest rates at historic or near historic lows, eg 2001-2005) will have the effect of exagerating short-term property values. Meaning, in the context of real estate values, circa 2002-2007, they are likely to become OVERSTATED due to "c" above. And thus impair balance sheets.
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No one could have predicted this? I pull some narrative commentary from my own appraisals dealing with values in 2003 ...
"... the local housing market continues to set records, fuelled by both low interest rates, and a relative shortage of product."
... in 2004 ...
"Lending rates remain at near-historic lows, and continue to support economic activity of all kinds, but low rates are well-known to provide significant boosts in pricing and activity in the housing sector."
... and in 2006 ...
"Lending rates remain at near-historic lows, and continue to support economic activity of all kinds, but low rates are well-known to provide significant boosts in pricing and activity in the real estate sector."
Prince, Prince!! Pay attention.