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Tuesday, 9 October, 2007 8:21 PM
The Subprime Jitters and You:
What the Recent Financial Shake-up Really Means for Investors and
Homebuyers
The
recent subprime mortgage scare sent many investors and potential
homebuyers running for the hills. But financial expert Eric Tyson
wants to set the record straight. He says the housing market isn't
as bleak as some would have you believe.
Hoboken, NJ
—The dust seems to be settling after the panic-inducing stock
market drops caused by the subprime mortgage crisis of weeks past.
The good news is the market is starting to stabilize. The bad news?
Plenty of people are still jittery—particularly investors
and potential homebuyers. If you're one of these parties, relax.
Financial counselor and best-selling author Eric Tyson wants to
end (or at least lessen) your hand wringing and clear up all the
misinformation that is floating around. In short, don't pull your
money out of the market or toss your investment home buying dreams
to the side just yet.
"The problem is
not as widespread or as devastating as some people believe,"
says Tyson, author of Investing For Dummies®, 4th Edition (Wiley,
2005, ISBN-10: 0-76459912-7, ISBN-13: 978-0-76459912-5, $21.99)
and coauthor (along with Ray Brown) of Home Buying For Dummies®,
3rd Edition (Wiley, 2006, ISBN-10: 0-47176847-2, ISBN-13: 978-0-47176847-0,
$21.99). "When the stock market plunged, some investors got
spooked and sold their stocks. Given the realities of human nature,
it was bound to happen. But now the market is rebounding—as
it always does—and we're seeing once again that making financial
decisions rationally rather than emotionally is always best."
Here's Tyson's expert
advice on how investors and homebuyers can manage today's market.
Insights for
Investors
Stock market gyrations
are always great media fodder. When the market plunged a few weeks
ago, the attention it received probably made many investors feel
like we were facing another Crash. Of course, investors should be
concerned about how their stocks are doing, but they should also
know that market fluctuations are never the end of the world. Here's
Tyson's "reality check" for investors:
Don't panic.
Even if you are the not-so-proud owner of some of those
plunging stocks, remember the words of Little Orphan Annie: "The
sun'll come out tomorrow!" In other words, don't panic over
short-term events. "The reason so many people sold off their
stocks after the plunge is because of fear," says Tyson. "They
lost their cool and forgot they originally invested for long-term
results, not one day's or one month's winnings or losses. Don't
shun stocks as an investment simply because of the down periods.
If you want wealth-building investments that provide superior long-term
returns, you must be willing to accept risk and volatility. In this
and any down period, sit tight and don't be swayed by the mob mentality
of other panicked investors. Use market corrections as buying opportunities."
Tune out negative,
hyped media. When the stock market is crumbling, subjecting
yourself to a daily diet of bad news and conflicting opinions about
what to do next makes most investors do the wrong things—for
instance, panicking and selling off their stocks. Just like a steady
diet of junk food is bad for your physical health, a continuous
stream of negative, hyped news is bad for your financial health.
"Conflict is always occurring somewhere in the world,"
says Tyson. "The business world will always have unethical
and corrupt company executives. Holding stocks always carries risk.
That's why those who see the glass as half full, and who see the
positive and not just the negative, build wealth by holding stocks,
real estate, and small businesses over the long-term."
Ignore large
point declines—consider the percentages. Any time
a major stock market index, such as the Dow Jones Industrial Average,
drops a large number of points, it is big news. But smart investors
should pay more attention to the percentage of an index's decline,
not the point decline. "Although 200 points sounds like a horrendous
drop, now with the Dow well above 10,000, that drop amounted to
a move of less than 2 percent," says Tyson. "No one likes
losing that portion of their wealth invested in stocks in one day,
but the percentage of change sounds less horrifying than the point
change. Remember that when you're considering the recent drops in
the housing and stock markets, the losses are a relative issue.
Those markets enjoyed large rates of appreciation in recent years,
so percentage-wise the drops that have occurred are small."
Keep your portfolio's
perspective in mind. Smart investors have portfolios that
consist of diversified stock holdings, including some international
stocks, preferably through mutual funds, along with some bonds.
"Here's a great example of why you should always take into
consideration how your portfolio as a whole is doing rather than
one particular stock," says Tyson. "One of my counseling
clients called me when the stock market was dropping precipitously
during the summer of 2002. He said, 'I just saw that the S&P
500 is now down 28 percent so far this year and the NASDAQ is down
34 percent. Should I sell?' He was quite surprised when I crunched
some numbers and determined that his portfolio of stocks and bonds
was down just 8 percent for the year. Now, mind you, I wasn't trying
to minimize or trivialize the fact that he had lost money so far
that year. However, he overlooked the fact that the bonds in his
portfolio had actually increased in value, as had some of his stock
funds that were invested in value-oriented stocks."
Don't put all
of your eggs in one basket. When something like this occurs,
use it as an opportunity to expose any problems that might be lurking
in your portfolio. "A situation such as the recent stock plunge
might reveal that you have too many stocks in your portfolio from
one sector of the market," says Tyson. "Much like investors
with huge amounts of technology stocks realized they were overexposed
in the tech market when those stocks tumbled in 2000 and 2001, those
with too many mortgage stocks suffered in July. In addition to a
poorly diversified portfolio, a declining stock market can also
expose the high fees you may be paying on your investments. Fewer
investors care about getting whacked with fees amounting to, say,
2 percent annually when they're making 20 percent year after year.
But after a few years of low or negative returns, such high fees
become quite painful and more obvious."
Straight Talk
for Homebuyers
It's true that the housing
market isn't performing as well as it had been, but don't think
of it as a downturn, advises Tyson. Think of it as a market correction.
The fact is, real estate, like stocks, is a good long-term investment—emphasis
on long-term. While home values may go through periods of ups and
downs, if you're a homeowner during most of your adult life, your
home should enjoy a healthy appreciation of value, no matter what's
going on in today's market. Here's what you need to know about buying
a home in the wake of the post-subprime mortgage collapse:
Understand what's
going on with credit. After the recent subprime collapse,
credit restrictions are tightening and many homebuyers are worried
that their chances of getting a loan have decreased. It's a valid
concern. In fact, partly because of the credit issue, the number
of mortgage applications has dropped since the subprime fallout.
"Lenders are scaling back on making the riskiest loans, which
we've long advised against in our real estate books," says
Tyson.
Know how your
mortgage works. The riskier loans that we saw collapse
in recent months can work for people who understand how they work.
Problem is, these loans were overused. They were sold to people
who couldn't afford them and who probably didn't fully understand
what would happen when the loan rates changed. "If you're going
to buy a house and you take out a loan where the payment is artificially
low in earlier years and then balloons, don't sign on the dotted
line until you are certain you will be able to afford that ballooning
rate," says Tyson. "If you aren't absolutely certain,
find another way to finance your house or wait until you are more
fiscally sound to purchase property. If you do take on an adjustable
rate mortgage, ask your lender how you can figure out what your
interest rate will change to over the life of the loan. This way
you will never be surprised when you open your mortgage bill."
The housing market
isn't weak nationally. The media, along with certain experts,
have been making some sweeping generalizations about how weak the
housing market is nationwide. As a result many people looking at
buying a home or trading up have been spooked out of doing so. "The
truth is housing prices are actually appreciating in many places,"
says Tyson. "Remember, housing is a local market situation.
If you're looking to buy, you need to know the area you are buying
in. Do the research and you'll find that it's a good time to buy
in certain areas. As a general rule, the best time to buy is usually
at the bottom of a real estate cycle when no one else thinks it's
a good time. Just compare the monthly costs of renting a home to
buying to see whether buying offers a good value for you."
Avoid balloon
loans. With balloon loans the interest rate is fixed at
the beginning of the loan, for example, for five, seven, or ten
years. However, at the end of this time period, the full loan balance
becomes due. In other words, you must pay off the entire loan. Balloon
loans can be appealing because they start at a lower interest rate
than do fixed-rate mortgages, and they look very appealing during
high-interest-rate periods or for buyers who can't qualify for or
afford the payments of a traditional mortgage. "These loans
can quickly blow up in your face," says Tyson. "A lot
of things can happen that could make refinancing your loan difficult
when it's 'payoff time.' You could lose your job, your income could
drop, your property's value could decline and the appraisal could
come in too low for you to qualify for a new loan, or interest rates
could rise and you could be unable to get a new loan at the higher
rate. Take a balloon loan, if and only if 1) it is your only financing
option and you've really done your homework to exhaust other alternatives,
and 2) you're certain that you can refinance when the balloon comes
due."
Find the best
lenders. There are plenty of lessons to be learned from
what recently happened in mortgage lending. Whether you do so on
your own or hire someone to help you, you can easily save thousands
of dollars in interest charges and other fees if you shop around
for the right mortgage deal. Typically, good lenders can explain
their various loan programs without using double-talk or jargon.
They approve locally. They're market savvy and as a result will
understand the type of property you want to buy. They're competitive.
And they meet contract deadlines and approve and fund loans on time.
"Many of the subprime mortgage lenders that we saw fall to
pieces were bad lenders," says Tyson. "They convinced
people to take out risky loans that they really couldn't afford."
"Yes, the stock
market took a tumble in August but let the bad news end there,"
advises Tyson. "No one month's stock market results should
stop an investor of any kind in their tracks. Whether you're invested
in the market or in real estate, keep in mind that you're in it
for the long-term and don't be sidetracked by everyone else's panic
and misinformation. Successful investing is about making decisions
and sticking with them. Ultimately, if you can tune out the gloom
and doom, you'll be happier and more financially successful."
About the Author:
Eric Tyson, MBA, is one
of the nation's best-selling personal finance book authors and has
penned five national bestsellers (he is also the only author to
have four of his books simultaneously on BusinessWeek's business
book bestseller list). His Personal Finance For Dummies (Wiley)
won the Benjamin Franklin Award for the Best Business Book of the
Year. He is also the author of Investing For Dummies and coauthor
of Home Buying For Dummies and Real Estate Investing For Dummies,
among other titles. Eric is a former columnist and award-winning
journalist for the San Francisco Examiner. His work has been featured
and quoted in hundreds of local and national publications and media
outlets. He was also a featured speaker at a White House conference
on retirement planning. A dynamic and provocative speaker, he has
spoken at many corporations and nonprofits. His educational background
includes a bachelor's degree in economics from Yale and an MBA from
the Stanford Graduate School of Business.
Source: DeHart &
Company
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