A recent article in the usually reliable Atlantic had the provocative title, “It Will Never Be a Good Time to Buy a House.” I thought they were above clickbait. Apparently not.
The obvious response is, “Never say never.” The biggest problem with the author’s argument is that it is based solely on the fact that home prices are higher than they used to be. The argument doesn’t consider whether it may nonetheless be cheaper to buy a house than to rent one.
Housing prices and subprime borrowers
Let’s hit the rewind button to 2005, near the peak of the so-called “housing bubble.” Robert Shiller had issued housing-bubble alarms for several years. In June 2005, he wrote that, “The [housing] market is in the throes of a bubble of unprecedented proportions that probably will end ugly.” He suggested that real housing prices might fall by 50% over the next decade. In its June 16, 2005, issue, the Economist magazine agreed: “The worldwide rise in house prices is the biggest bubble in history. Prepare for the economic pain when it pops.”
Nationwide, home prices did fall by19 percent between March 2007 and March 2012. This did not rival the Dotcom Bubble or, going further back, Tulip Mania, the Mississippi Bubble, or the South Sea Bubble. But it was unusual for the housing market, which was accustomed to ever rising prices.
The drop in housing prices was aided and abetted by mortgage brokers who approved NINJA (“No Income, No Job, and No Assets”) loans to subprime borrowers. They had no realistic expectations of making continuing mortgage payments but hoped to flip the homes they bought for quick profits. When home prices started slipping, many subprime borrowers were forced to sell their homes at distressed prices or else walk away from their underwater loans and let the note-holders sell the homes at distressed prices.
The lure of flipping homes for quick profits is certainly indicative of a speculative bubble. But that does not answer the bubble question: Were the homes attractively priced for buyers who could afford to make their mortgage payments?
Bubblemetrics
Asset bubbles occur when market prices rise far above values justified by plausible assumptions about the income from the assets. Many housing-bubble analyses look elsewhere. Case and Shiller, for example, assessed the existence of a housing bubble by comparing home prices to per capita income. They called these the “fundamentals,” perhaps because the price/income ratio is related to affordability. However, investments that are unaffordable for most people need not be bubbly.
For example, Berkshire Hathaway stock currently sells for nearly $800,000 a share, but may generate enough income to be worth the price. The Local Market Monitor based its similarly flawed bubble assessments on a comparison of two ratios: the ratio of an area’s home price index to a national home price index and the ratio of average income in that area to the average national income. National City Corporation used a regression model that related the ratio of housing prices to household income in a metropolitan area to its historical prices, population density, mortgage rate, and the ratio of household income in this area to the national average.
None of these measures take into account the most salient financial reward from home ownership—what you save in rent because you own the home you live in.
Example: A home in Fishers, Indiana
Smith and Smith illustrated this argument with a 3-bedroom, 3-bathroom, 1,912-square-foot home in Fishers, Indiana, a suburb of Indianapolis. Money magazine has ranked Fishers as among the top 50 places to live in the United States multiple times. In 2017, Fishers was rated #1 in the country; in 2019, it was rated #3.
This home was purchased for $135,000 on April 27, 2005, and rented for $1,250/month on June 1, 2005. Table 1 shows the first-year net cash flow for someone who used a 20% down payment and a 30-year mortgage with a 5.7% APR to buy the house and live in it, instead of renting it.
The $5,622 first-year net cash flow represents a 20.8% after-tax return on the $27,000 down payment. The cash flow and rate of return can be expected to increase over time as the rent savings increase while the mortgage payments are fixed and then stop after 30 years:
Table 1 First-Year Cash Flow for a Home in Fishers, Indiana
Income and Expenses
Rent savings 15,000
Mortgage payment –7,522
Property tax –2,619
Tax savings 2,447
Insurance –334
Maintenance –1,350
Net cash flow $5,622
As with stocks, we can assess the financial return by assuming that the purchaser never sells. This assumption is obviously unrealistic but allows us to avoid making questionable assumptions about when the buyer sells and what the sale price will be.
Assuming that the items other than the mortgage payments in Table 1 increase by 3% a year, the effective annual after-tax return from buying this house in 2005 is an astonishing 28.2%. This house was a bargain, not a bubble.
What about other metropolitan areas?
All real estate is local, so Smith and Smith collected home prices and rents in 10 metropolitan areas for hundreds of comparable homes. Table 2 shows these 10 areas and the median sale price and monthly rent. Using the same assumptions as used for the Fishers home, they calculated the median effective returns shown in Table 2. Remember, these are after-tax returns and make no assumptions about future housing prices. The only assumption made is that rents and the various expenses (other than mortgage payments) will grow by 3% a year.
The wide variation in prices, rents, price-rent ratios, and returns confirm that all real estate is local. There was no sign of a housing bubble in Dallas, New Orleans, Atlanta, and Indianapolis! Even the returns in the other six areas look okay:
Table 2 Median Sale Price and Monthly Rent for Ten Metropolitan Areas, dollars
Sale Price Monthly Rent Price/(Annual Rent) Effective Return
San Mateo 997,048 2,539 32.72 4.61
Orange County 727,504 2,536 23.91 5.90
Los Angeles 545,667 2,088 21.78 6.62
Boston 481,258 1,847 21.71 6.66
Chicago 387,330 1,646 19.61 7.18
San Bernardino 459,075 1,891 20.23 7.33
Dallas 162,350 1,150 11.76 13.04
New Orleans 192,606 1,127 14.24 13.01
Atlanta 154,322 1,174 10.95 18.42
Indianapolis 126,706 1,054 10.02 21.21
Realized housing returns 2005–2025
The intrinsic value of an investment comes from the income it generates, with no concern for the future market price of the investment. Nonetheless, I will consider how these 2005 home purchases have fared over the subsequent 20 years, from July 2005 through July 2025.
The home in Fishers has not been resold but Zillow estimated its market value in July 2025 to be $337,100 (an annual rate of increase of 4.68%). Zillow also estimated that the potential monthly rent from this home had increased by 2.93% a year, from $1,250 to $2,231. If this house had been sold in July 2025 for $337,100 with, say, $15,000 in closing costs, the seller would net $265,164 after paying off the mortgage balance. That gives a 12.1% annual return on the initial down payment. Add in the annual net cash flow from owning instead of renting and the annual after-tax rate of return jumps to 29.9%.
Table 3 shows the results of a similar analysis for the 10 metropolitan areas, in each case comparing the 2005 calculations of the projected long-run return with the realized return over the 20-year period 2005–2025. For comparison, the average before-tax return for the S&P 500 over this 20-year period was 10.6%. Buying a home in 2005 in Dallas, New Orleans, Atlanta, or Indianapolis would have been a great investment. San Mateo looked like the worst of these ten places to buy a home in 2005, and it was — though a 6.74% after-tax return is hardly a disaster:
Table 3 Median Annual Rates of Returns, percent
2005 Projected Return, % 2005–2025 Realized Return, %
San Mateo 4.61 6.74
Orange County 5.90 9.00
LA County 6.62 9.18
Boston 6.66 8.50
Chicago 7.18 8.46
San Bernardino 7.33 9.92
Dallas 13.04 21.47
New Orleans 13.01 13.52
Atlanta 18.42 24.22
Indianapolis 21.21 25.31
The calculations in Table 3 underestimate the potential realized returns because they ignore the fact that homeowners could have refinanced when 30-year mortgage rates were below 5% from May 2010 to April 2022, and below 3% for all of 2020.
Figure 1 displays the 0.96 correlation between the projected and realized returns. The fact that the median realized returns in these ten metropolitan areas were somewhat higher — but almost perfectly correlated with the median returns that had been predicted in 2005 — is striking confirmation of the value of this approach:
So, is now a good time to buy a house?
I asked ChatGPT, Gemini, and Claude that question and they confidently spewed bucketloads of well-written but barely relevant prose. A reasonable answer must take into account local home prices and rents. For that home in Fishers, using current estimates of price, rent, and other factors with a 6.8% mortgage rate, the estimated long-run, after-tax rate of return is 12.7%.
Ironically, it would have been better to buy this home back in 2005, near the peak of the “housing bubble.” But, for anyone looking to live in Fishers for many years, it is still a great time to buy a house there. For other cities, well, all real estate is local.