Home prices have fallen by 20% to 30% in many markets, making homes look like bargains compared to a few years ago. But what if you were to buy now only to see prices drop further?
Tools like BankingMyWay.com’s Rent vs. Buy Calculator can help one decide whether a specific home purchase is a better deal than a specific rental. But to get a more general idea of whether home prices have hit bottom requires a study of the local market.
One of the most useful ways to do that is with the price-to-rent ratio, which divides a home’s price by the annual rent one would pay for a comparable property. In the 1970s, ‘80s and ‘90s this ratio ranged from 10 to 14. A $200,000 home would have rented for between $14,285 and $20,000 a year, for example.
The ratio is not absolute. But the higher it is, the more likely it is that homes are priced too high.
Today, the ratio is around 20 in many parts of the country, so that a $200,000 home would rent for $10,000 a year. That suggests the home is overpriced by historical standards. To get back to the 10-14 range, the price would have to fall to the $100,000 to $140,000 range or rents would have to rise.