Deflating Housing Bubble = Comfy Landing for Equities 9 comments
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Where does it come from? Where is it going?
For the past 3 years, a lot of America's money has gone to just 2 places -- oil and homes!
As we discussed last weekend, over $2.5T has poured into the commodity markets in the past 36 months, but that's nothing compared to the $12T that been added to the value of U.S. homes in the past 3 years alone.
The median price of a U.S. housing unit has climbed from $143K in 2003 to $239K at the end of 2005. With close to 7M homes a year turning over, that's $1.9T in 3 years of new money that has worked it's way into housing and, unlike the oil we bought, we still have the house!
If housing "stock value" drops 25% over the next 3 years, that would mean that 21M new homeowners would have lost $500B of the capital they invested (assuming they aren't forced to "close their positions" on the homes), while a 25% drop in commodity stocks wipes out over $1T in real value since ExxonMobil Corp. (XOM), for example, turns over all of its 5B shares in 227 days of average trading.
According to the 2005 U.S. census [pdf], 17% of our country's 125M housing units were occupied for one year or less (roughly 30% are rentals). Assume a similar number in 2004 and 2003, and that's a turnover of almost half the U.S. housing in just 3 very expensive years!
I think if you look at it from that perspective you could say that pretty much everyone who wanted to move has done so by the middle of this decade (page 90). From 2000 to 2004 9M new units were built (pg 17), a far cry from the 14M that were built from 1975 to 1979 -- that was real overbuilding!
In fact, from 1970 to 1980 an average of 2.5M units a year were built compared to just 1.8M per year from 1995 to 2004, the current "Housing Bubble."
What kind of slump hit us after that development boom? In the next 5-year period, from 1980 to 1984, just 7.5M (1.5M/yr) new units were built! Now that's a correction!
The slowdown started in 1979, and 1980 was the last year of Carter's term in office, the Iranians were holding U.S. hostages, and oil and other commodity prices were sky high. We switched Presidents in November, but the markets were already up 15% for the year -- even during the "horrible" Carter administration!
How did the market do from 1980 to 1984? Well, like Bush, the Reagan tax cut was an initial disaster for the economy, and the market lost 20% between Jan 1981 and April 1982, but Reagan was smart enough to realize his mistake and actually approved several tax increases to stop the bleeding and, from April 1982 to Jan 1987, the Dow climbed from 785 to over 2,000, a level it held after spiking to 2,700 in July.
Our current "housing bubble burst" may be effectively a non-event in the U.S. and may, in fact, usher in a new round of equity buying as a portion of the $30T tied up in 125M homes finds its way into the market, rather than going into more expensive homes, as it has been for the past 5 years.
In 1980, mortgage rates were roughly 15% and people were literally forced to sell all the speculative homes they bought at fire sale prices -- a far cry from being "stuck" with a $100K loss on a 7% loan.
Even so, a person selling the same house this year, even for less money, may end up with more free cash to spend than a bubble buyer!
The Bubble Buyer:
Let's say, in last year's bubble market, you bought a house in 1995 for $300K and last year it sold for $500K.
You made $200K on the transaction, less $15K to the realtor. Let's say you had 25% equity built up, for another $75K, so you have $260K to put towards your new home.
Since it is unlikely that your participated in the real estate bubble out of necessity let's assume you were moving up to a nicer home, say $650K:
Your new deposit is $65K, moving in and out expenses are $15K, and your new mortgage plus taxes is about $22K per year more, so that $155K profit you made wouldn't feel like a lot of free money.
Today's Buyer:
As we can tell from the inventory reports, nobody is anxious to sell their homes at a loss. We can assume the majority of people selling are doing so because they really have to, not much for fun anymore.
Let's say the 1995 house that was still bought for $300K, still has a $225K mortgage ($2K a month with tax), and today's buyer is forced to sell it for $450K. After paying the realtor $23K and the in-and-out expenses of $15K, that's still $187K left to spend.
If today's buyer is seeking a more modest or similar home (since they are moving out of necessity rather than greed), let's say a nice $500K home, they will require a $50K deposit, but their forward mortgage and tax payments will be virtually unchanged, making the $137K remaining in the bank seem a lot more like free money!
They have effectively released $137K of savings they have poured into their home over time, and, if they still have their job and expenses don't change much, that money is now free to join the "regular" economy.
That brings us back to the Consolation Prize Theory, just like the rich people who didn't move at all and used the money they didn't spend to buy luxury goods, furniture etc for the home, today's buyers who make a more modest move with can afford to splurge a little.
Another thing today's buyer will do (and this is all assuming that we are not in a job-loss/ wage-loss environment) is gamble a little in the market! With 7M homes turning over annually and the median home gaining (even after this year's drop to $220K) a median of $70K, that's $500B deposited in U.S. savings banks. If just 40% of that money finds it's way into mutual funds or stocks, that's a $200B market infusion of cash per year!
Of course, the number is much higher than that, as you can imagine the difference when you apply these numbers to the nation's wealthiest 20%, who hold 80% of the real estate and are the most likely to play the market with cash in the bank.
Combine this $50B a month in money coming into the market from homes with a similar amount working its way out of other commodity stocks, add $13B a month consumers can spend on things besides gas when oil is down $20 a barrel, and you have the recipe for a very, very, soft, comfy landing!
It could happen!
Read all of Phil Davis's articles on Seeking Alpha.
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The '70s build saw subsequent real housing prices drop ~1% a year from '79-'84. Late '80s equity withdrawals were followed by a drop in real housing prices of ~2% a year from '90-'94. Correlation is not causation, but if past is prologue, housing will flatten (or even drop) in nominal terms and sink in real terms.
I would not be shocked if in that environment equities continue to perform. During both previous housing corrections, the S&P did ~5% better than cash. Of course, between those corrections and since '95, it gave you ~10% over bills.
Perhaps this will make them a little less rich but if it steers their future investment dollars into Motorola insteady of 4 spec homes in Fresno, us market investors win!
I'm not ready to panic over MEWs yet, here's an interesting long-term chart:
www.tutor2u.net/econom...
It's British but I doubt we're far off... I'd love to see where you're getting your data though as I am floored by the statement that it is a higher percentage of GDP (but with housing prices up 400% in that time frame and GDP just doubled, I can see it happening).
All of this is irrelevant if these guys are right:
www.marketwatch.com/ne...;siteid=
And, of course, this guy is a total downer:
www.dailykos.com/story...
You sir, are thinking and, as we've been saying all week - that is no way to make money in this market!
We'll see if these housing numbers from hell are enough to shake the bulls' confidence next week but it may just be a pre-election dip or consolidation rather than the big sell-off you "thinking" people keep expecting...
For historical US MEW data, click through to photos1.blogger.com/he...
The numbers are pretty darned big. If MEW has been running at ~$1 trillion a year, and if half that has been going into consumption, then flat housing and rates are going to chop a half-trillion US$ off consumption, again affecting production.
Builders are going to have to discount to move inventory, but the -10% YoY is misleading. Prices haven't dropped much yet, but the sales mix changed drastically in the last year, with about 5% less share for the West and 5% more for the South.
I do have a few less bearish notes, mind you. I do not see catastrophe. For one thing, Social Security doesn't even have a problem with decent productivity or just a little immigration. It'll be 2040 or '50 before there is an issue even if neither materializes. Medical care is an issue, but it isn't an unfunded liability either -- we can change the laws any time. The only question is how much of future production we spend on it. As with retirement, that's a problem that takes care of itself on the societal level.
The US, in short, is not GM.
Average price appreciation in house prices from July 1 '05 - June 30 '06 was still 7% (p 20)
In the past 3 years the US index has gained 33% (p 47)
About 12M homes were purchsed during that time.
There has already been a significant, sharp slowdown in people willing to buy in at the top of the market (presuming it is a top and not a pause).
That means that it will take a 10% drop in home values before just 4M homeowners (out of 125M) lose an average of 3% of the value of their homes.
A 20% drop in home prices will put 8M people out of the money by an average of 8%.
A 30% drop in home prices will still leave the 2003 buyers up 1-2% while the 2004 buyers will be down 10% and the 2005 buyers will be out 20% with the 2006 buyers taking the full hit.
That, I think would be bad but, until then, not so bad...
As to the home no longer being a piggy bank - good! Your assumption that there is over 20% fluff in housing prices would mean there is a 20% fluff in oil and metals too! Without having deflation per se, we could save consumers several trillion dollars that are currently going to homebuilders, oil companies and miners rather than being spent at the Gap or BBBY.
Which then goes to China to increase our trade deficit.
Finish your sentences please.
(PD is probably one of the few on SA that appreciates my humor.)
Saul
We have to chat one day, I think the whole concept of a trade deficit needs to be revised.
Yes we outsource crappy jobs but we also outsource pollution, health care, social services and wellfare as well as underproductive real estate and other infrastructure that can be put to better use.
When they moved the factories out of New York and into the Mid-West, did New York crumble? Those "outsourced" jobs took money out of NYC that never came back, other than the occasional tourist - I can't imagine what New York's trade deficit with Michigan must be!
It's a big world now and it's the archaic concept of trade deficits that need to be rethought, rather than wheter or not we should let free market forces work their magic.
biz.yahoo.com/weekend/...
Happy builders do not correlate with happy brokers as the price of new homes and homes as an investment suck too much liqidity out of the economy.
People have to invest in Stocks, Bonds or real estate (regular people don't buy metal or currencies) so when you eliminate one as an option, the other 2 benefit.
calculatedrisk.blogspo...
This is the best real estate blog I have seen.