Holding cash for a hypothetical real estate bubble?

[mitchm]

Hi all,

Not sure where exactly this question belongs so will put it here for now. Anyhow, hoping you all can help me with this probably flawed thought process I'm having:

1) I rent in a HCOL area but do very much hope to stay here long-term, which means potentially buying a home sometime down the road, so as not to get priced out.
2) Homes are very, very expensive and my rent is reasonable, so I can't really justify a home purchase at this very moment (or afford it, either, without significant assistance from my family which I would rather not rely on)
3) Nevertheless, I am saving over 50% share of my income ($65k/annually) and pumping it into Roth IRA, work 403b, and Vanguard Index funds -- holding on to very little in cash

While I suppose this might just count as good old "market timing," I'm wondering if it makes sense to hold a higher share of cash than I might otherwise, that I could then use as a partial down payment in the event of a real estate market crash/correction.

I do know that I can withdraw money from my 403b for a home down payment, but my concern is that if the real estate market corrects -- and the stock market also corrects -- I would have to withdraw the money from my 403b (and taxable accounts) at a big loss.

To make things a little more concrete, I'm currently sitting on around 200k in Index funds (taxable accounts), maxing a Roth IRA and contributing 10% (4% beyond employer match) to my 403b. I have about 50k in cash that I'm dollar cost averaging into VTSAX, but I'm starting to have second thoughts about that...

[dragonwalker]

Hi all,

Not sure where exactly this question belongs so will put it here for now. Anyhow, hoping you all can help me with this probably flawed thought process I'm having:

1) I rent in a HCOL area but do very much hope to stay here long-term, which means potentially buying a home sometime down the road, so as not to get priced out.
2) Homes are very, very expensive and my rent is reasonable, so I can't really justify a home purchase at this very moment (or afford it, either, without significant assistance from my family which I would rather not rely on)
3) Nevertheless, I am saving over 50% share of my income ($65k/annually) and pumping it into Roth IRA, work 403b, and Vanguard Index funds -- holding on to very little in cash

While I suppose this might just count as good old "market timing," I'm wondering if it makes sense to hold a higher share of cash than I might otherwise, that I could then use as a partial down payment in the event of a real estate market crash/correction.

I do know that I can withdraw money from my 403b for a home down payment, but my concern is that if the real estate market corrects -- and the stock market also corrects -- I would have to withdraw the money from my 403b (and taxable accounts) at a big loss.

To make things a little more concrete, I'm currently sitting on around 200k in Index funds (taxable accounts), maxing a Roth IRA and contributing 10% (4% beyond employer match) to my 403b. I have about 50k in cash that I'm dollar cost averaging into VTSAX, but I'm starting to have second thoughts about that...

It's funny I feel like I am in almost the exact same situation you are in. I'm also looking for a home now in a HCOL area. My thinking on this and from what I have read is that both home prices and equities are being driven in large part due to low interest rates. One conclusion is that as rates rise we will begin to see a fall in both. The fed has at least stated that the low interest rate environment will continue for several years but I imagine they will change their minds if inflation starts creeping up to quickly. Does there happen to be a need for you to purchase a home? For me my job is relocating and commuting from my current location will be difficult and finding a traditional place will double if not triple by rental expense so I am highly incentivized to purchase.

I take it and maybe you would as well see it as one way to diversify my holdings and serve a practical need. One issue that you and I will have is income. My income is about the same as yours and I assume you are a single income household so that means we will be qualifying for a smaller loan meaning we will have to put substantially more down or find something smaller like a condo for instance. Your income assuming no debt will probably qualify for a loan somewhere around 300K. A $360K sales price home in my area (LA) gets you basically nothing better than a 2 bedroom, 2 bath condo at best. Single family homes start at $550K+ so for you that means almost your entire brokerage account not to mention the massive amount of capital gains you will probably pay.

Bottom line is it seems if you benefit from sky rocketing equity prices you are looking at sky high home prices. I'm thinking maybe closer to the traditional spring home buying season in summer there will be more inventory as Corona comes more under control so you will have more choices as well but I doubt prices will ease up this year. Just looking for the past month homes have been getting accepted offers on day 1 above asking for even modest places so it's like Hunger Games out there.   

[ChpBstrd]

Interesting dilemma! As you note, if interest rates rise, housing prices could collapse (they are already unaffordable for almost all working people). You'd like to position yourself to have appreciated investments at that point, so that you could swing into RE. However, the outrageous valuations of today's stock market are obviously based on today's the low interest rates. The tiniest blip in interest rates could change the discount rate on future earnings and have a larger-than-expected impact on stock prices (also see "bond convexity"). Also, as we saw in 2007, stocks can fall because RE got overextended. So if you invest in stocks or bonds, your investments could be down more than housing prices are down.

Unfortunately, there are not many investments other than cash that you'd be glad to own when rates go up.

The ideal "hail mary" play might be something like buying put options or bearish spreads on mortgage or corporate real estate debt REITs / asset holding companies. Then when the foreclosures come in or when higher interest rates decimate the portfolio, their stocks go down and you profit. Similarly, you could use options to get net short exposure to TLT, or at least bet against it rising too much. The problem is you'd have to get the timing just right or else lose a lot of money, or you might be flat-out wrong and rates keep going down for the next 5 years. If you spread your bets over time, you might not have enough invested to move the needle when the everything bubble does pop.

Going to cash is a safer alternative, but historically, sitting in cash for years at a time has been very expensive. You could miss 50% gains while waiting for a crash that never comes. We see that often on this board with various "top is in" threads.

I suppose your best option is to keep your expenses low (by renting), save as much as possible (career advancement, keep expenses low), and get to the point where one of two things happen:

1) RE prices fall and you are able to swoop in on a deal, despite investment losses, or
2) RE prices never fall, you become a millionaire, and can retire to your choice of about 40 other states.

#2 may be most likely in the long run, but how bad is that really?