Housing prices continue to rise, providing higher returns for homeowners willing to sell. But what about those who aren’t? They may worry that much of their home’s recent increase in value could evaporate by the time they’re ready to move.
For those who aren’t comfortable simply hoping for the best, there are strategies homeowners can use to protect against a drop in the value of their property. These tactics entail costs and risks that are not for everyone. But for homeowners willing to take the risk, here are four possible strategies.
Use futures to protect your equity
The most sophisticated strategy for hedging the value of a home involves hedging against a decline in equity by selling a futures contract pegged to one of the House Price Indexes. S&P CoreLogic Case-Shiller. There are indexes in this group that track prices in each of the 10 major US markets, and one that tracks prices in all 10.
Hedging, which can only partially cover any equity loss, works like this: The owner sells a futures contract that sets a target value at a set time in the future for a in the home price index, higher than present value. Contracts range from one year to three years.
When the contract expires, if the home price index falls or does not rise to the target level, the homeowner will receive a payment based on the difference between the target value and the actual index value. That payment partially offsets any loss in the home’s value. If the moving index is higher than the target value, the landlord will pay – this will reduce the property value increase.
One uncertainty with this strategy is how closely the value of an individual home will track the chosen fence index, especially if the home is not in one of the 10 markets the index covers. including. If the index rises above target but the home’s value falls, the owner must pay the contract buyer and lose equity. “Each user has to decide, ‘Will my house move with the stats?’ John Dolan, an independent market maker on index contracts.
Other considerations include the cost of setting up a hedge, as well as the amount of cash the exchange requires to cover possible losses in the contract, and an additional amount required to open an account with the broker. future broker.
Joe Fallico, principal futures broker for Insignia Futures & Options Inc. In Schaumberg, said: “For a home price futures contract, the broker’s fees will total around $24. less than $3,000, but Mr. Fallico wants investors to put more into their accounts.
“Technically, an individual investor can make as little as $2,640, but I would require them to have between $4,000 and $5,000 on account,” Mr. Fallico said. That’s because if the value of the contract drops, the investor is forced to put in more money or liquidate the position.
Christopher Ritter, a retired government stock trader at a regional bank, has been hedging since 2014 on the one-bedroom apartment he and his wife own in Washington’s Cleveland Park area. , DC. He thinks his apartment will be sold now. a little over $500,000, He used both Washington, DC, the home price index, and the 10-city index in his fence. “It’s performed very well, but worse than in the last two years” as the value of apartments in multi-family buildings has dropped a bit, he said.
Several times since he started using the hedge, the index has gone above his contract target. That meant his net worth increased more than he expected but at the same time he had to deliver an average of $3,000 to $3,500 per contract at the time of settlement. “You have to be willing to pay,” he said.
Since 2014, Mr. Ritter estimates the value of his home has increased by 18%. After deducting the loss on his hedgings, he calculates his net gain of 8%. “Essentially, our real estate yields have fallen 10 percentage points over seven years to reduce our downside risk by about 36%,” he said. With his current policy, “I wouldn’t be surprised if hedge coverage costs us a little, but I see it as insurance, and it’s certainly a very expensive type of insurance. low,” he said.
Buy house builder stock
A simpler hedge involves home construction stock. Kurt Fillmore of Wealth Trac Financial LLC in Bingham Farms, Mich., says one of his clients already has a home that appreciates significantly, but the client doesn’t plan to move in a year or two. To hedge his risk, Mr. Fillmore buys put options on behalf of his clients to sell shares of home construction stocks at a fixed price in the future, assuming that if the asset’s value falls, the value of those shares will decrease. so does the vote.
If that were to happen, Mr. Fillmore’s client could buy shares at market price and sell them at a premium set in the option, reaping a profit that would help offset his equity loss in his home. . Instead, when it came time for the customer to sell the home, the stock price went up, so the customer ended up eating the $1,000 cost of the put option. But that’s far less than the increase in the value of a client’s home, Mr. Fillmore said.
“It’s basically insurance against a drop in home value,” Mr. Fillmore said. “There won’t be a direct link between the stock price and the home’s value, but you still get some protection on the downside of a drop in home value. And it’s a lot simpler than a lot of the alternatives, especially if you have to sell your house. ”
Bring your equity into the broader market
Stocks can provide another, much riskier, way to offset potential losses in home equity, by using that equity to make money in the market. By regulation, said JP Maroney, chief executive officer of Harbor City Capital Corp in Melbourne, Fla.
“If you are confident that your investment will generate a greater rate of return than the cost of your money and you can accept the risk,” he says, “it can be a very good strategy for anyone.” that if they have a lot of unused equity. ”
With an average home loan interest rate of 4.6%, homeowners need to not only generate a higher return on stocks, but also influence the cost of the loan and ensure that they have the cash flow to cover. monthly payments without taking money out of the market. They also need to invest for the long term to weather the ups and downs of stocks. Of course, as recent months have shown, the decline can be very severe and it can take a long time for the market to recover, so homeowners will need to move before selling their shares to get some cash. enough money to pay off the home loan in full.
Another risk is that if the home’s value falls, the homeowner may owe more on the loan than the property is worth. If the home is sold for less than the loan value, the homeowner will need cash to pay off the home loan.
“There’s a lot of math that has to be done before you pull the trigger,” Mr Maroney said.
Use home equity to pay off debt
A simpler way to profit from home equity is to use it to create savings by taking out debt and using the money to pay off higher-interest debt, such as credit card balances.
At the end of April, the average credit card interest rate was 16.36%, according to CreditCards.com – 11.76 percentage points higher than the current average interest rate of 4.6% on home loans. . For someone paying off a balance of $5,000 over a 5-year period, the monthly payment would drop from $122 on a credit card to $93 on a home loan, which means The homeowner will save $1,740 in interest over 5 years, less borrowing costs.
The risk with this approach is if the homeowner doesn’t address the issues that created that credit card debt in the first place and continues to pile up debt. If that happens, the homeowner is putting the home at risk by making it difficult to repay the equity loan, as well as any mortgage.
That’s why many financial advisors tell clients to just keep paying off their mortgage to build more equity while keeping a safe roof over their heads.
Mr. O’Connor is a writer in Detroit. You can reach him at firstname.lastname@example.org.
Copyright © 2022 Dow Jones & Company, Inc. All rights reserved. 87990cbe856818d5eddac44c7b1cdeb8
https://www.wsj.com/articles/how-to-lock-in-value-after-rising-house-prices-11652884459?mod=rss_markets_main How Homeowners Can Lock in the Steep Rise in Home Values