Interview with Patrick Killelea of Patrick.Net: “It’s a fantastic time to be a renter”

Published on Wednesday October 21, 2009 at 4:42 am

As part of a new series, the Mortgage Calculator will begin interviewing other housing columnists/bloggers. The following is our first interview, with Patrick Killelea of Patrick.Net, one of the most widely read blogs on the housing crash.

Despite his vast readership, “Patrick has no background in real estate at all. He is the author of the O’Reilly book Web Performance Tuning. He lives in Menlo Park, CA.” In his own words, “You should not believe anything he says until you understand the math yourself. Here’s the math:

  • 3% annual cost of renting is less than the 9% annual cost of owning the same thing

If you understand that, then you probably understand the rest of this [my] site as well. If your job depends on not understanding that, then you won’t understand it.”

Mortgage Calculator: Given the sub-title of your blog, is it fair to say that you believe the housing market hasn’t yet bottomed?

Yes, I think the housing market has much further to fall on the coasts and in expensive areas. But in some poor neighborhoods, prices have fallen back into line with rents already, meaning that it’s about the same to rent or buy there. So those poor areas seem close to a bottom.

Mortgage Calculator: You write that when interest rates rise, housing prices generally fall. How do you square this with the notion that interest rates will probably rise when there is evidence of an economic recovery, at which point borrowers will be in better positions for buy expensive homes?

Prices on the coasts are so far beyond the range of the median salary that any small increase in salary is insignificant compared to small increases in interest rates. It is still common for borrowers in California to have ten times their annual income in debt. They can pay their mortgage only at extraordinarily low adjustable interest rates, and only until the mortgage resets. A reset from 4% to 6% means 50% more interest every month.

Mortgage Calculator: Do you think, then, that when the Fed finally raises rates, that home prices will start to once again fall?

Start once again? Not sure what you mean there, since prices are still falling right now. For a realistic view, avoid all news which quotes used-house salesmen (realtors) because they will say anything that parts fools from money.

But yes, rising rates will definitely push prices down even more.

Mortgage Calculator: Given the lopsided relationship between housing prices and rental rates, do you that it makes sense for real estate investors to look at buying rental properties?

Only in poor neighborhoods, so far. You can easily calculate the annual rent to purchase price ratio and see what kind of gross return you can expect as a percentage. Returns in wealthy areas are too low to justify the high prices, about 3%, but there are poor parts of Oakland, for example, where the return is over 10%.

Mortgage Calculator: On a related note, do you generally believe that renting is more economical than buying, even when the ratio of rent to home prices is more in line with long-term averages?

No, if you think about it for a minute, you see that renting must have been more expensive historically than owning, or landlords would have gone out of business. If their mortgage and expenses are $2000 per month, but the tenant is paying $1500 per month in rent, the landlord is losing money.

The basic theme of my site is that that relationship is inverted now, and landlords in middle-class and better areas are giving a huge gift to renters. It’s a fantastic time to be a renter. You get the use of a house for free, paying only the property tax and maintenance.

Mortgage Calculator: You pointed to appraisers as facilitating the rise in housing prices, because of the way they are incentivized. Recently, there have been reports that appraisers are dragging their heals in the opposite direction, wary of fomenting another bubble in housing? Do you think these reports tell the story? How do you think this will changed as a result of the new laws which require appraisers be appointed directly by the lenders?

No, I think all those stories about appraisers dragging their heels are just the used-house salesmen complaining that appraiser honesty is putting a damper on their business. The business of realtors is deception. Honesty doesn’t sell houses.

But I have little faith in those laws. There is so much money to be made by fleecing buyers that realtors will find ways to eliminate the honest appraisers. The NAR (National Association of Realtors) is one of the biggest lobbyists in DC, and lobbyists literally write the laws and hand them to congressmen these days. The NAR will find a way to defeat honest appraisals unless we have sweeping campaign finance reform.

Mortgage Calculator: Many analysts have argued that the apparent stabilization in the housing market is being supported by a glut of first-time buyers, driven by the government’s $8,000 incentive plan. You wrote recently, however, that there is “Shortage of first-time buyers.” Can you explain?

Everyone who could afford a house already bought one. And then people who could not afford a house bought one too. And then the builders kept on building. New people do come into the market, but compared to the saturation level, there are just not that many first-time buyers. No glut.

The $8,000 tax incentive did nothing but keep prices $8,000 higher than the market would have set. Those who bought with that incentive actually got no benefit. The real solution to help buyers is the lower prices that the market would set based on rents and salaries. But that harms banks, and banks are also big lobbyists in DC. So the incentive was an $8,000 per-sale gift to banks, not to common people. So again, corporate control of government is being used to part people and their money. Campaign finance reform would help.

Mortgage Calculator: What do you think it will take for people to accept the notion that home prices don’t appreciate much faster than the rate of inflation, over a long-term period of time?

They have to grow up seeing that fact in front of them every day. The Japanese now have seen 15 years of continuous residential real estate declines. I imagine the psychology is finally changing there.

It would also help if there were an open market in real estate, where every bid had to be validated by a bank, and published in the papers. Realtors lie about bidding wars all the time, but because bids are not public, they get away with it.

Mortgage Calculator: How would you reconcile government and seller incentives and low interest rates with the possibility that home prices could fall further, when advising someone thinking about buying their first home? Would you advise them to buy, wait for a while, or wait forever?

Rather than look at macroeconomics, I would say they should look at two aspects of their own situation:

  1. Rent for a comparable place
  2. Their salary

They should wait if renting is cheaper than owning at a 30-year fixed mortgage rate. And they should wait if the debt they are thinking of taking on is more than 3 times their salary in a secure job.

If rent would be significantly more than owning that same thing, then it makes sense to buy. Also, if someone has the cash on hand, or if they have a much larger secure income than is needed to service the expenses, then it’s also OK to buy if they plan to stay there a long time.

The entire goal is not to waste life as a debt-slave. But it takes independent thought and determination to avoid that fate.

Posted by Adam | in Interviews | 9 Comments »


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9 Comments on “Interview with Patrick Killelea of Patrick.Net: “It’s a fantastic time to be a renter””

  1. DesiLurker Says:

    great direct answers patrick. Its amazing how little of common sense makes it to the media these days. Just imagine if people like patrick have had more exposure in ‘hay-days’ how much of this catastrophe could have been avoided.

    I have been a reader of his blog for sometime and really appreciate him being the independent voice of reason that he is.

  2. Yelena Says:

    I love Patrick’s web site Housing Bubble and read all parts of it a few times. I am keeping eye on current independent articles represented in his blog. I am engineer and can do my math in order to understand where and how I could and could not be benefited from the buying property. I hate bidding war and truly believe they are created by realtors in order to sell property and get a commission. I absolutely agree that if every bid would be validated by a bank, and published in the papers or in other words would be transparent, it would be much more honest deal to sellers and buyers.

    I found Patrick’s web site some time in year 2005. I may say his web site saved our family from losing money in buying property in 2005 on the pick of housing prices.

    Thank you, Patrick very much for being honest, professional and not indifferent to people who do not have such knowledge in real estate. Thank you for saving people from bankruptcy, foreclosure and other things that come after buying property with no understanding of what they can afford and what is right thing to do.


  3. Eric Says:

    Patrick was a rare voice of reason during the height of the bubble when people who should have known better were still pretending or rationalizing the belief that prices would forever stay higher relative to real incomes.

  4. Beau Says:

    The rent vs buy calculator on lacks some important details. As a renter, I invest the extra dollars every month that would otherwise go to mortgage, interest and home maintenance. As a matter of fact, my down payment (that I never spent) is alive and well appreciated.

    Thanks to Patrick.

  5. Renter Says:

    The other issue that was not addressed in this interview is the rate of inflation. The more inflation there is, the less burdensome any debt becomes over time. None other than Warren Buffett himself has publicly predicted that inflation will be much higher in the future than it is right now, because of current monetary policy.

    If one assumes that inflation will shrink your debts, it may make sense to borrow to buy a house. Rents will tend to go up with inflation, but your fixed rate mortgage payment of course will stay the same. The other factor to remember is that the government understates the true rate of inflation. A five percent rate of inflation over a period of years would really tilt that math in favor of borrowing to buy a house. I am convinced that the unstated goal of our current monetary policy is to inflate until nominal house prices stabilize (even if real prices are falling), and then declare victory.

  6. Aron Rotklein Says:

    What if you buy a place that has the same mortgage payment as a comparable place would charge for rent. Then you live in the place for ten years. If we see a conservative 3% inflation (and rent increase) per year during that time, then wouldn’t you be able to rent it out for a good amount more than the mortgage (with the low 5% apr that you locked in ten years prior). By continuing to pay off the house with pre-inflation dollars at such a low rate, it seems as though you could really make out over a 40 year period by renting it out…even if we see a 15% slide over the next 3-4 years. Any thoughts?

  7. William Says:

    Wow, Patrick can very clearly communicate. He has summarized the real situation so even a layman can understand. If I was supreme ruler of the universe I would make every RE Agent give a print out of this interview to any prospective buyers.

    We spent this summer in the USA looking for investment opportunities and have come to the same conclusion – the very low end is now a great investment. The best were areas that the banks would not finance so one has to purchased with cash – they were much cheaper and the net return (based on today’s lower rents) was well over 15%. And if one wanted to get near the ‘slum lord’ market the returns are near 50%. IF I were the handy man type I would quit my corporate job, move to the USA and get into rentals.

  8. SusanC Says:

    Thank you for saving our retirement Patrick! I was going to take out money (early withdrawl) to keep our house. Instead we short saled and are happily renting for less than half of our old mortgage. You are the best!!!! We love your!!!!

  9. Randy H Says:

    I’m 2009 I thought reading Patrick was the best financial move I could make. In 2018 I see how foolish that was and wish nothing more than being able to go back in time and buy. Hands down, waiting was the worst mistake I ever made.

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