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A question for the math whizzes


By woppa   Follow   Sun, 4 Mar 2012, 1:14pm PST   11,614 views   61 comments   Watch (0)   Share   Quote   Permalink   Like   Dislike (1)  

How severely would inflation have to rise for it to make sense to burden oneself with a huge mortgage. Many people believe that there is a good chance of hyperinflation in the future. Lets say someone decides to take out a 500,000 dollar mortgage at 5% 30 year fixed right before interest rates start to rise and house prices fall. How much would inflation have to up and over how long a time period for that person to have made a wise choice, compared to renting for ten years after rates go up and prices drop, and buying with cash at a lower price. Not sure how low the price would be though and of course that is a key variable. I am just toying with the idea of housing vs gold. Stash your money in real estate, stash your money in gold? A little bit of both?

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oliverks1   befriend   ignore   Tue, 6 Mar 2012, 11:18am PST   Share   Quote   Like (2)   Dislike     Comment 22

thomas.wong1986 says

Hyperinflation did occur in the 70s. As a result many workers (unionized) demanded higher wages or had wide strikes shuting down their employers business. So the employers accepted higher wages which in turn increased inflation, and the cycle kept repeating. We barely had global competition to worry about.

Hyperinflation did not occur in the 70s. Hyperinflation occurred in Germany in the 1920s. It occurred in Chile in the 1970s. Hyperinflation occurred in Zimbabwe in the 2000's. But it has never occurred in the USA (yet).

In Hyperinflation you do not worry about your house. You don't care about investments. You need two things more than anything else, food and safety. You will trade anything for these. Everything is reduced to what do I need to do today to survive.

rootvg   befriend   ignore   Tue, 6 Mar 2012, 11:22am PST   Share   Quote   Like   Dislike     Comment 23

oliverks1 says

thomas.wong1986 says

Hyperinflation did occur in the 70s. As a result many workers (unionized) demanded higher wages or had wide strikes shuting down their employers business. So the employers accepted higher wages which in turn increased inflation, and the cycle kept repeating. We barely had global competition to worry about.

Hyperinflation did not occur in the 70s. Hyperinflation occurred in Germany in the 1920s. It occurred in Chile in the 1970s. Hyperinflation occurred in Zimbabwe in the 2000's. But it has never occurred in the USA (yet).

In Hyperinflation you do not worry about your house. You don't care about investments. You need two things more than anything else, food and safety. You will trade anything for these. Everything is reduced to what do I need to do today to survive.

Did you know there's been a shortage of forty five caliber pistol ammunition in California for over two years? Go out and try to buy some tomorrow. Wal-Marts on this side of the hill have stopped carrying it, last box I found was in a sporting goods store and it's not cheap.

You are correct and people are paying attention. The word's out.

drtor   befriend   ignore   Tue, 6 Mar 2012, 1:10pm PST   Share   Quote   Like   Dislike     Comment 24

In any decision problem it is important to clarify exactly what are the alternatives under consideration.

If they are "mortgage + house" vs "rent" then yes the case for mortgage is stronger under inflation. Note that the case for buying is stronger if house prices go up, and it is also stronger as rents go up (assuming fixed rate mortgage). If you want to confirm with numbers plug into NY times buy vs rent calculator. Maybe it is true as some have pointed out that wages won't keep up with inflation, but it is difficult to see a kind of inflation where rents not go up as the money supply increases. In fact owners equivalent rent is a key part of the standard inflation definition.

If the alternatives are "buy house with cash" vs "invest same cash in something else" then maybe if you are a very good stock picker you could do better in the market. But it is difficult to see why market index in general should do better than a house generating (or saving) rent. Why would people make more money selling iPhones, cars, or soda than they would from renting out a house?

I would also mention that taxes play a *huge* role when inflation is big. Suppose you have 10% inflation and you have found a good asset that also goes up by 10%, just keeping your real value constant. But then, depending on how well you manage your taxes you may have to pay income tax, capital gains tax, or no tax at all on the 10% "gain". Owning a house is very good from this perspective.

thomas.wong1986   befriend   ignore   Tue, 6 Mar 2012, 2:31pm PST   Share   Quote   Like   Dislike (1)     Comment 25

oliverks1 says

Hyperinflation did not occur in the 70s

Thanks for the correction.. it was Stagflation...

drudometkin   befriend   ignore   Tue, 6 Mar 2012, 5:53pm PST   Share   Quote   Like   Dislike     Comment 26

oliverks1 says

thomas.wong1986 says

Hyperinflation did occur in the 70s. As a result many workers (unionized) demanded higher wages or had wide strikes shuting down their employers business. So the employers accepted higher wages which in turn increased inflation, and the cycle kept repeating. We barely had global competition to worry about.

Hyperinflation did not occur in the 70s. Hyperinflation occurred in Germany in the 1920s. It occurred in Chile in the 1970s. Hyperinflation occurred in Zimbabwe in the 2000's. But it has never occurred in the USA (yet).

You need to read up on your early American currency history. google "not worth and continental"

woppa   befriend   ignore   Wed, 7 Mar 2012, 2:54am PST   Share   Quote   Like   Dislike (1)     Comment 27

uomo_senza_nome says

If you really want to understand hyperinflation with the background understanding that we have an ongoing credit deflation, consider this link.

I have read the links you have linked me to and in addition alot of the links that they link to in those blogs. It is all very intriguing and I have to say it seems very likely, if not inevitable. It sounds crazy, but I think everyone also will concede that is is definitley not impossible. So If this is the case, if the dollar is going to be worthless sooner or later, then isn't the entire point of this site and many others, how house prices are outrageously inflated, a moot point? Buy however much you can afford now, make the minimum payment, stock up on food, guns and ammo, and wait for the dollar to collapse? Maybe that is the way to go.

rootvg   befriend   ignore   Wed, 7 Mar 2012, 2:56am PST   Share   Quote   Like   Dislike     Comment 28

repo4sale says

Hey Dummy! Take 2 classes: Cost Accounting & IRR math!

If your too lazy to do these 2 classes, then do this:

1=Buy a HP10B2 $35 and do the manual 5 times

2=Buy the book: Real Estate Market Timing by Robert Campbell of San Diego, 4th Edition, and read that 3 times then ever 3 months.

Then: make 27.12% IRR Net Net Net per month from 1999 to 2008, on 198 sold Escrows, about 8000 acres in California.

Now buying land at 2.7 cents on the dollar (5000acres so far).

Aka3600% profit if returns to 2007 value=(720%/year/5years)

Aka7322% profit if doubles 2007 value=(720%/yr/10 yrs)

Irr will exceed 27%/month Net net net!

This is what 4 semesters of Calculus does to a brain with 2 majors in Business (Finance & Real Estate).

Good luck everyone! Obama is crushing the 99% and moving their assets to the top 1%.

IRR/MATH GENIUS!

Are you okay?

uomo_senza_nome   befriend   ignore   Wed, 7 Mar 2012, 3:13am PST   Share   Quote   Like (1)   Dislike     Comment 29

woppa says

. It sounds crazy, but I think everyone also will concede that is is definitley not impossible. So If this is the case, if the dollar is going to be worthless sooner or later, then isn't the entire point of this site and many others, how house prices are outrageously inflated, a moot point?

Of course it is a moot point if the dollar goes toast.

I mean dollar is the unit of measurement for not just houses, practically everything in the world. If that collapses, sure we are staring at a true financial armageddon. 2008 would be a child's play compared to that.

woppa says

Buy however much you can afford now, make the minimum payment, stock up on food, guns and ammo, and wait for the dollar to collapse? Maybe that is the way to go.

Well, it depends. The problem with a confidence collapse is you can never tell when it's gonna happen. It can happen a year from now, or may be even a decade from now. It can even be avoided through disciplined fiscal and monetary policy, but is that politically and economically feasible?

Complex dynamic systems are not easy to model, they are totally non-linear. I would say, preparation is critical for general peace of mind.

Taking on debt is not bad if the income stream can support it and the debt is at a reasonable level when compared to disposable income.

The other prepping part you refer to -- some people here will think that's totally crazy. And sure there are tons of places and websites that try to sell their stuff using this whole apocalypse concept.

http://dailycapitalist.com/2012/01/08/the-end-is-nigh/

Applying reason and logic to decision making will help a long way.

Those are my .02.

ArtimusMaxtor   befriend   ignore   Wed, 7 Mar 2012, 3:34am PST   Share   Quote   Like   Dislike     Comment 30

Canada not a bad idea.

rootvg   befriend   ignore   Wed, 7 Mar 2012, 3:56am PST   Share   Quote   Like   Dislike     Comment 31

ArtimusMaxtor says

Canada not a bad idea.

Nice place, very stable, highly educated population...and COLD as hell.

They also know how to have a good time.

TPB   befriend   ignore   Wed, 7 Mar 2012, 5:31am PST   Share   Quote   Like   Dislike     Comment 32

rootvg says

They also know how to have a good time.

freak80   befriend   ignore   Wed, 7 Mar 2012, 5:45am PST   Share   Quote   Like   Dislike     Comment 33

Those guys don't look Canadian.

rootvg   befriend   ignore   Wed, 7 Mar 2012, 5:47am PST   Share   Quote   Like   Dislike     Comment 34

wthrfrk80 says

Those guys don't look Canadian.

Yeah, I don't see any back bacon, beer, sock hats or heavy coats there.

ArtimusMaxtor   befriend   ignore   Wed, 7 Mar 2012, 7:18am PST   Share   Quote   Like   Dislike     Comment 35

TPB   befriend   ignore   Wed, 7 Mar 2012, 7:25am PST   Share   Quote   Like   Dislike     Comment 36

wthrfrk80 says

Those guys don't look Canadian.

It's the trailer Trailer Park Boys, a popular Canadian television series...

ArtimusMaxtor   befriend   ignore   Wed, 7 Mar 2012, 8:00am PST   Share   Quote   Like   Dislike     Comment 37

I really love the TP boys. Seen every single episode. Sure "many" here have. Nice guys to. Sometimes unreasonable but not often. Dunsworth is hysterical in that. Really good worth watching show. Quiet hit for those that don't know.

freak80   befriend   ignore   Thu, 8 Mar 2012, 1:26am PST   Share   Quote   Like (1)   Dislike     Comment 38

Artemis,

Whatever drugs you're on, they must be pretty sweet. Know where I can score some of it?

ArtimusMaxtor   befriend   ignore   Thu, 8 Mar 2012, 2:39am PST   Share   Quote   Like   Dislike     Comment 39

yep

ArtimusMaxtor   befriend   ignore   Thu, 8 Mar 2012, 3:05am PST   Share   Quote   Like   Dislike     Comment 40

Heres a guy that buys my really "Good shit" Hes a good customer. Smokes about a LB a week. He just gets out in public and starts saying all kinds of shit. No one can make any sense out of it. "I'm trying to some of the people that get "Shit" from him. Hes getting them something. They look like they huff paint or something.

You can tell when he's smoking dope. He starts snearing and acting like a pirate.

PockyClipsNow   befriend   ignore   Thu, 8 Mar 2012, 3:08am PST   Share   Quote   Like   Dislike     Comment 41

non recourse is a huge advantage to buying in cali.
Even though FHA demands 3.5% and fairly high MI payment - they also allow the seller to contribute up to 6% toward closing costs (meaning they cover your down payment and bank underwriting fees and maybe new carpet).

I might buy this year for a primary residence, if prices crash much further give house back to Obama after squatting 3 years in it, selling off all the applicances, and moving fence line over 10 feet to give land to the neighbor if he pays me enough $. haha. (that happens)

You have to think like a sociopath to just not lose your shirt in todays america. Much like getting ahead in the old CCCP I suppose....

freak80   befriend   ignore   Thu, 8 Mar 2012, 6:02am PST   Share   Quote   Like   Dislike     Comment 42

TPB says

It's the trailer Trailer Park Boys, a popular Canadian television series...

Are they as popular as these guys?

Eokram   befriend   ignore   Thu, 8 Mar 2012, 8:02am PST   Share   Quote   Like (1)   Dislike     Comment 43

Wow, people love talking about anything instead of MATH. Here goes...

Assumptions:
Fixed Interest rate of 4.0%
$500,000 loan
20% down

vs.

Renting the same place for $2000/mo

lets look at living in the place for seven years and include Interest, tax, ins, water (something you generally don't have to pay as a renter) and extra maintenance. I assumed int and tax will be fixed (prop 13...) and ins, water and maint are subject to the same inflation as rent.

At what inflation point do these break even?... With these assumptions it takes around 26% inflation to make owning break even in seven years.

Of course I'm using the typical numbers from the little beach community where I live (Summerland, CA).

If you go to someplace like Vegas where you can either rent a nice house for $1750, or buy it for $200,000... With all the same assumptions you can have NEGATIVE 8% inflation and come out ahead by owning.

tdeloco   befriend   ignore   Thu, 8 Mar 2012, 1:11pm PST   Share   Quote   Like   Dislike     Comment 44

You're asking the wrong question. Salary inflation is what inflates house prices, not just plain old inflation. Salary inflation is a response to inflation and is therefore lagging. They're not even 1-to-1. If your salary has barely crept up during a state of hyperinflation, you're screwed!

Chart already presented by uomo:

The average salary is down to $49,445. Inflation wasn't negative, was it?

Salary inflation simply devalues your debt, as you get a better income-to-debt ratio. Let's just take the numbers presented by California Equity & Loan. Here's what I got.

Additional assumptions:
- Starting salary is $50,000
- Salary inflation is approx 7% (roughly doubles your salary in 10 years)

After 10 years:
- Starting income-to-debt is $50,000 to $400,000
- Ending income-to-debt is $100,000 to $315,000

TravellingProfessor   befriend   ignore   Sun, 11 Mar 2012, 10:15am PDT   Share   Quote   Like   Dislike     Comment 45

Patrick, that is an interesting question. I have been writing some finance programs in Javascript for a class I am teaching. If free time crops up, then I will look at your question.

By the way, the U.S. has never experienced hyperinflation. Using Cagan's definition, hyperinflation is inflation exceeding 50% per month.

Hyperinflation causes many problems, so I restrict myself to five.

(1) Interest rates will also with inflation. If the inflation rate is 600% per year (12*50%), then the interest rates will be slightly higher than this rate. If you have a fixed interest rate loan, then loan balance is reduced to nothing. If you have an adjustable rate loan, then this could be dangerous.

(2) Savers are severely penalized if they keep their savings in that currency. Furthermore, the financial sector would not survive a hyperinflation episode.

(3) People stop using the currency as a medium of exchange. Barter would make a come back. The key is you do not have to buy gold or precious metals. Anything of value becomes a medium of exchange, like bullets, seeds, medicines, cigarettes, bottles of gasoline, etc. Foreign currencies could also become valuable.

(4) Hyperinflation would destroy the U.S. government's budget along with the state's and local governments. (Would people still pay their taxes?) Government will put its survival before its people. I would not be surprised if government would start confiscating the precious metals.

(5) Wages are not likely to keep pace with hyperinflation, so most people will literally be shoved into poverty overnight. The good question would policemen, firemen, soldiers, and medical personnel still report to work? When the Soviet Union collapsed, people still reported to work, even when they were not paid in months. I do not think Americans would do the same.

Vladimir Lenin has a great quote, "The best way to destroy the capitalist system is to debauch the currency."

rootvg   befriend   ignore   Sun, 11 Mar 2012, 11:48am PDT   Share   Quote   Like   Dislike     Comment 46

Professor, that's precisely why we will have another (intentional) recession as we did from 1980-1982.

We have to. Either that, or we destroy the country.

citizen jpp   befriend   ignore   Sun, 11 Mar 2012, 12:41pm PDT   Share   Quote   Like   Dislike     Comment 47

Wouldn't one need to calculate compound interest...
No need to try to determinte the outcome of hyperinflation -- things usually get really nasty.TravellingProfessor says

(1) Interest rates will also with inflation. If the inflation rate is 600% per year (12*50%), then the interest rates will be slightly higher than this rate.

tdeloco   befriend   ignore   Sun, 11 Mar 2012, 4:31pm PDT   Share   Quote   Like   Dislike     Comment 48

TravellingProfessor says

the U.S. has never experienced hyperinflation

We banned our citizens from owning gold in April 1933. Soon after that, we defaulted in October 1933. The result was monetary illiquidity that prolonged the depression that lasted until the end of WWII.
TravellingProfessor says

I would not be surprised if government would start confiscating the precious metals.

That should happen BEFORE the event. Also, it was not confiscation per se. People got dollars for their precious metals. In 1933, if you had a safe deposit box, an agent would have to be present before you could open your box. He would then take your metals (if any) and write you a check. Don't fall for any of the intentional misinformation out there.

Now, what have we learned from Weimar, Argentina, etc, etc? Hyperinflation is intense short-term pain, but both countries were back on track immediately after the event.

121212   befriend   ignore   Wed, 26 Dec 2012, 6:08am PST   Share   Quote   Like (1)   Dislike (1)     Comment 49

to burden yourself with a 30yr mortgage would require a growth rate of nearly 8%

assuming maintenance costs are moderate to low.

zzyzzx   befriend   ignore   Wed, 26 Dec 2012, 7:47am PST   Share   Quote   Like   Dislike (1)