While the National Association of Realtors anticipates a near-record year in real estate sales for 2006, following five years of record-breaking sales, rising interest rates may have an effect, but are higher rates really so bad?

Mortgage banker, author and humorist David Reed, is steamed about so-called experts trying to scare people by making them think rising interest rates are going to keep them from buying homes, or put them out of the homes they're in.

During a radio interview with a Los Angeles station, Reed was paired with another guest, a financial planner. The host of the show asked, "So, rates are at some of the highest levels we've seen for a couple of years what will that do to the housing market?"

"Now, me being a Texan," drawls Reed. "I minded my manners and let the other gentleman speak first. 'Well,' he began. 'It doesn't look good at all. Rates are up nearly .5 percent since earlier this year and that means thousands of additional dollars the homebuyer will have to pay. On a typical $500,000 loan (this is California, remember) an extra .5 percent means another $160 more each month in payments. Over 30 years, that means another $57,000 over the life of the loan. Home prices are high enough without this.'"

Hmmm guess there's reason to be worried -- if homes don't increase any in value for the next 30 years, which nearly 100 years of 3 percent averages say are unlikely. Plus, the borrower has to keep the home for the life of the loan which is extremely unlikely in the day-trading 21st century. And does the financial planner think interest rates are going to improve any time soon?

"What a nerd," laughs Reed. "Yeah, rates have gone up, but gone up from what? From record lows, that's what. Let's not get too spoiled here. Thirty-year fixed rates used to be in the high sevens and low eights way, way back in what -- September 2000? Give me a break! Just take any historical mortgage rate chart and you'll see that compared to rates going all the way back to the Paleolithic period, we're still in pretty good shape. And I think it's irresponsible for so-called "pundits" to tell people how screwed they'll be if they buy a house right now."

He warns, "The "housing bubble" we've been reading about could also be a self-fulfilling prophecy if we're not careful. An interest rate goes from 6.00 to 6.50 percent and the sky is falling? Yeah, yeah I know. "But David, that knocks a lot of people out of homeownership." Fair enough, but buy a smaller house, I say. Instead of a $300,000 loan, get a $285,000 one. That's the typical qualifying difference between 6.00 and 6.50 percent."

"Well, David, much of the market now is for investment homes we can't kill that." Okay. But nobody's killing anything, the market's simply adjusting. If people want to buy investment properties they're going to have to buy fewer or smaller ones or negotiate a better deal. Heck, any good Realtor can do that one for you."

He says he gets steamed when an "expert" predicts disaster and encourages people not to buy something because of an interest rate move -- and a small one at that. Will there be fewer homes sold in 2006? Probably. But fewer than what? 2005? 2004? 2003?"

(Each of those years were record-breaking years for both new and existing home sales.)

"I suggest we all kick back a little bit and understand that often when consumers read an article or listen to a radio show -- that just sometimes they might actually be paying attention. "Gosh honey, maybe we shouldn't buy that home after all. That guy just said we'd lose $57,000."

Fair debate and honest discussions are one thing. Scaring consumers is quite another, he fumes. Yet, the bubbleistas are out in force predicting that "the piper is about to be paid."

"In the past few years, nearly a third of all mortgage loans have been in the form of adjustable rate mortgages (ARMs)," blared CNN in November 2005.

And they are about to adjust, which means those who borrowed hybrid versions of ARMs, are about to see their low-fixed-rate period end, and the loan will reset to an adjustable rate that can fluctuate for the term of the loan.

The Mortgage Bankers Association estimates that some $330 billion worth of ARMs will adjust in 2006 and $1 trillion worth will reset by the end of 2007. This could impact as many as three million homeowners (average ARM loan is about $300,000) who will pay larger mortgage payments for the duration of their loan's term.

"If you took out an 3/1 ARM for $300,000 back in late 2002, your initial interest rate was probably around 5 percent and your monthly payment has been about $1,610," supposes journalist Les Christie. The new payment, at a rate of about 7.1 percent will adjust more than two percentage points to $1,995 per month, a difference of more than $385 monthly or $4,600 annually.

"One-year ARM holders, whose initial rates last year were just over 4 percent, will also see their payment increase a lot, but because of caps, they still won't be paying as much as 3/1 ARM holders, at least until they reset again," he explains. "Holders of 5/1 ARMs coming due later in 2006 and in early 2007, should not have to undergo increases as big. Their rates were higher to begin with, about 6.6 percent in early 2002; going to 7.1 percent would only add about $100 to their monthly payments."

ARM holders have the option of refinancing into a fixed rate -- providing they have enough equity in the home and can qualify for the new rate.

"A 30-year fixed rate at 6.43 percent will still add about $260 a month to the borrower who had a 3/1 ARM. And the borrower will either have to pay about $3,000 to $5,000 in closing costs out of pocket or add that sum to the mortgage principle, sending monthly bills higher," warns Christie.
However, the rest of the country doesn't need to shake in their boots just yet. According to a joint study by the Housing and Urban Development and U.S. Census Bureau, nearly 40 percent of all residential properties in the U.S., both owner-occupied and rental units, are owned free and clear with no mortgage.

Borrowers should watch how the Fed continues to handicap lending rates, particularly if the critical yield curve gets close to inverting or does invert. When there is an unusually small difference between short-term rates and long-term bond market rates, there is a risk that the yield curve will invert, which means that "interest rates on the Treasury's two-year note will go above the rates available on the benchmark 10-year issue," wrote Dr. Irwin Kellner, Marketwatch, November, 2005, when only six basis points separated the two from the ten. "That's the narrowest spread since early 2001, just before the U.S. economy tumbled into its 10th postwar recession." The curve inverted Christmas week 2005.

Dr. Kellner points out that every time the yield curve inverts, the economy goes into recession. Banks simply won't loan money when they pay more for deposits (which key off short-term rates) than they can make lending these funds, he says.

This dries up liquidity and shrinks money for lending. The good news is that inflation would be kept at bay, which could keep interest rates comfortable for homebuyers for some time to come. If they can hang on to their jobs.