Do you remember the hoary philosophical question about a tree falling in the forest with no one around to hear it?

Somewhere in the back of that question is the assumption that we all know what sound a tree makes when it falls.

Since everyone seems to be talking about when the real estate market hits bottom, I’ve been wondering what noise it will make.  Will it be a thump, like a drunk staggering against a closet door?  Or,  more of a thonk, like a foot kicking a rain barrel.  Maybe a crunch, like the sound of a bumper being crushed against a guard rail.  Or, given the human element, it could be the sound I’ve always imagined the figure is making in The Scream, Edvard Munch’s painting of someone hitting some kind of personal bottom.  I can even imagine an Eliot-like sound of rats’ feet over broken glass in our dry cellar.

Whatever the sound, if you don’t know it, then how will you know when the market hits bottom?

I’m being specious for a reason.

Most of what I read makes it sound like the market hitting bottom is a one variable phenomenon.  I don’t think that is true.  My definition of the bottom of a real estate market, at least from the buyer’s side, is when a home can be purchased for the least amount of money.  The purchase price of the house is just one part of that.  The other, and potentially more important part, is the cost of the mortgage.

Let me give you an example.  I was in a negotiation a couple of months ago for a home in Narragansett.  The home originally had been listed for $315,000.  After some serious back and forth, the seller was willing to accept $275,000.  The buyer balked, in part, because of the fear that prices would continue to erode.  Certainly, that was, and is, a legitimate concern.

When that negotiation was going on, interest rates were at 5.75% for a conventional thirty year fixed mortgage.  If the buyer put 20% down on $275,000, they would have been financing $220,000.  That mortgage would have cost the potential buyer $1284.80 a month. 

Last week, the interest rate for a thirty year fixed conventional mortgage was 6.375%.  At that increased interest rate, it would cost $1372.80 a month to service a $220,000 mortgage.  From another perspective, to keep the monthly mortgage payment the same as it was, that is at $1284.80, the price of the house would have to drop to $257,212.

Let’s pretend that the buyer had walked away in June with the hope that the house would still be on the market at the end of the summer.  The strategy would be that once the summer was over, the owners would be more open to taking a lower offer rather than holding on until spring.  Assume, further, that the buyer is astute, or lucky--the house is still available.  Just after Labor Day, the buyer comes back and offers $250,000.  The seller says no, but counters at $270,000.  The buyer is sure that there is more give to be had.  He counters with $260,000.  Finally, after a couple of days of silence, the owners offer to sell the house for $265,000.

The overjoyed buyer accepts.  He really wanted the house.  He is happy that he saved $10,000 off the selling price.  He’s walking around with a puffed chest for being the toughest negotiating hombre in town. 

How puffed should that chest really be?  The mortgage the buyer gets is the current thirty year fixed at 6.375%.  At a selling price of $265,000, for a conventional loan, the buyer will put down $53,000 and finance $212,000.  At a 6.375% rate, the $212,000 mortgage will cost the borrower $1322.84 a month.  Over the thirty year course of the loan, the buyer will spend $13,708 dollars more to buy the house than if he had paid $275,000 when rates were at 5.75%.

The buyer could shrink that $13,708 if he takes the $2,000 difference in the down payments and saves it for thirty years.  And the chances of that are?

If rates were to rise to 7.0% for a conventional thirty year fixed mortgage, something the Wall Street Journal would be very happy to see, then to keep the original mortgage payment of $1284.80, the accepted selling price of the house would have to drop down to $241,504. 

I do not think that South County housing prices have stopped falling.  I think at certain price points, there will continue to be significant erosion; however, I am at least as sure that interest rates are going to rise.  If a buyer is looking for the optimum combination of low prices and low mortgage rates that will result in the most house for the least amount of carrying costs, then I think that, if that point isn’t here, it probably isn’t very far away.

Of course, I’m not one hundred percent sure, that is the nature of risk.  However, I have been hearing a small scratching sound down cellar.