Trend Watch: Home Buyers Insurance

The title of this post may be misleading. I am not referring to home warranty coverage or homeowners insurance coverage. I am referring to insuring buyers against the financial down side of purchasing your home. In financial terms, this is called hedging.

I am beginning to see creative home sellers, mainly builders so far, offering some sort of hedge to prospective buyers. The first I saw of this was in a new condo development in Sarasota that simply offered to pay interest on the down payment. No big deal you might say, but this removes one of the barriers to prospective purchasers of that development: the loss of interest on their down payment. Since it is no longer likely that new developments will appreciate prior to completion, any down payment is essentially throwing your money away, or at least that is the impression. And it is the impression that matters. Offering interest also hedges against the (likely) chance that the new project will never be completed (or even started). In that case, instead of simply getting the deposit back, we are hedging against the loss of several years of potential interest on a sizable down payment.

Another approach I came across, again by a builder, is to offer reimbursement if the price of the unit decreases prior to completion. They are also offering to pay your mortgage for a fixed period of time in the event that you lose your job.

I am sure there is a large amount of fine print in these agreements, but the point is that creative steps are being taken to eliminate objections and obstacles to the buyer.

The same situation can be applied to individuals selling their home. The reason buyers are not committing is the fear that prices will be much lower next year. If they thought prices would be higher next year, they would be buying. So, as a hedge, the homeowner needs to take on some of the risk of falling prices. The alternative is to lower your home’s asking price to levels that are seen to be compatible with perceived future drops in prices. So if the market thinks prices will fall 20% next year, you need to drop your price by 20% today. The better approach would be to keep your current asking price, but agree that if prices to drop by 20%, you will reimburse the buyer. This may only work with owners with enough equity to escrow the hedge amount, but the mechanics are not what’s important. In the first approach (Cut price approach) the owner is immediately out the 20% he reduced his asking price. In the second (Hedge) approach, the owner MAY be out 20% if the market performs as expected, but maybe not if the market improves.

Remember, if the home seller does nothing, simply leaves the asking price as is, he will likely not sell the property, and will be taking the downside market risks upon himself, and still have an unsold house.

So the bottom line; let’s get creative. Just as Domuswap applies techniques used in online dating, home sellers can apply common financial techniques to remove downsize risk. I think this is a trend worth watching.