Some Real Talk on Housing 46 comments
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Another month, another round of negative housing data, and the pattern has become so repetitive that it's hard to think of anything original to say about it. However in the wake of last month's round of "housing bottom" predictions and in recognition of the current round, let's briefly discuss what a bottom to the housing market will actually look like.
The first thing to recognize is that the housing market is merely correcting itself after a period where it was inflated into a bubble by a combination of poor lending standards/practices, over-speculation, over-leveraged and/or under qualified buyers, etc. Now that these "bad actors" have been removed from the market, prices are declining back to where they would be if the housing bubble hadn't occurred.
Once we understand that the housing market is going through a post-bubble correction, we can see that we shouldn't be looking for a bottom as much we should be looking for pricing stability. We also know that pricing stability cannot happen until the housing market has given up nearly all the gains of the housing boom era. At the moment (per Marketwatch) it appears that we've only turned back the clock to 2004, and have bit of a ways to go before anyone can make any credible claims of housing having reached a bottom.
The other factor to consider is inventory because the housing boom saw a surge in the number of homes being built, and the demand for these homes didn't come from a population surge, it came from speculators, people looking to upgrade, and people who weren't really qualified to be in the housing market. As these people leave the market (or are forced out), the number of vacant homes is steadily increasing. Consider the chart below:
Graphic courtesy of the WSJ
As of the end of Q1 the number of vacant homes had nearly doubled from its historical norm of around 1.5% to around 2.9%, a figure doesn't factor in foreclosures or empty homes that have been pulled from the market. This means that that the actual number of empty homes is higher than the above number indicates, especially in the current era of foreclosures and the pending completions of housing projects that were started during the boom.
Now I've always suspected that many housing development projects were being primarily built in response to demand from the speculators who accounted for 25-33% of homes purchased during the boom. If I'm right it means that there isn't enough real demand from people who are actually buying a home to live in to fill up all the new developments. Additionally, let's not forget that the housing market is unique in that you don't necessarily need new inventory to have a fluid housing market because people buying or often selling (and vice-versa) giving you a musical chairs effect, in other words not all housing sales have an impact on available inventory. These two factors will make combine to make filling up the excess inventory somewhat difficult.
In order to put the level of vacant homes in perspective in terms of what it will take to return to historical averages, consider this passage from the WSJ:
To get this vacancy rate back to something like normal, about one million homes would have to find new owners. With mortgage rates climbing, that could take awhile, short of a ban on new-home construction.
Better yet there would need to be enough people who don't currently own homes (and are financially read to buy) to go out and buy every home currently going through foreclosure, homes that were pulled off the market and to fill up recently (or soon to be) completed housing development projects, then you would need an additional 1 million non-home-owning individuals to come along and purchase homes that are currently empty.
Considering everything that needs to fall into place for the vacancy problem to be resolved, it stands to reason that it's going to take a while for the number of vacant homes to return to historical levels. Unfortunately the vacancy problem is the real issue that needs to be fixed for housing prices to stabilize, because it could serve to put downwards pressure on housing prices even after we give up all of the housing boom era gains.
As you can see it's going to take a lot of things coming together for housing market to stabilize, because not only do we need to shed the pricing gains of 2002-2006, we also need to resolve the inventory problem as well. Any analyst who isn't discussing a bottom coming to housing in terms of clearing through the vacancy issue and returning prices back to 2002 levels should be ignored, because they're not actually discussing what needs to happen for housing prices to stabilize.
You can read more about the vacant homes report here.
The Marketwatch report on housing can be found here, and FT coverage on the subject can be found here.
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This article has 46 comments:
The only caveat is that we should expect the housing market to grow with the population to some extent, but that will be a tiny boost for a little six year span, and will certainly be regionally dependent on local migration flux.
In truth, eventually we can expect to return to the trend line as it would have progressed without the bubble; this is the nature of bubbles in the stock market and commodities. When rational pricing returns and supply and demand are in sync again, sellers and buyers can agree on a price.
But at the moment, as the author notes, supply far exceeds demand, and as sellers get more desperate to unload assets that cost them money every month, prices will come down and losses will be taken, at first by the sellers, then ultimately as the sellers enter bankruptcy, by the banks.
We may drop below 2002 pricing as the market clears, but that will be the bubble rebound. Ultimately, 2002 pricing holding steady for six months is a pretty good indicator the drama is over.
Now it's 2008 and borrowers have essentially the same income levels, but now it's a 6.5% fully amortized loan with tighter standards. That $1800 payment will only service a $284,000 mortgage. This is a home price 4 times income or where it should be. The difference between $720,000 and $284,000 is your bubble.
Plus, today the prevailing belief among buyers has changed from a can't miss mind-set, to a mind-set of caution and prudence.
There is a great explanation of maximum home price levels and the minimum home price levels based on the underlying fundamentals found at www.ushousingmeltdown.....
You can type in a zip code and see what happens to home values when the income to home price ratio returns to the historical norm for the area.
Here in Phoenix things aren't rosy by any means, however, the inventory in the city's central districts and historic areas is decreasing, prices have been holding steady, and sales have increased. This all taking place since the beginning of the year. Now go out about 25 miles and it's a different world. Banks are practically giving away homes. Not to mention fuel prices - even more reason to own in the central locations.
Nobody can predict the market's rebound accurately, because by the time it's happened, we will have already missed the infamous 'bottom'.
Homes will need to adjust to 1998 levels in order for the market to plateua, and then eventually converge back to the 5%/annum norm that has defined the last 50-years in California.
Remember-The real estate market in California tanks about every 15 years. Homes don't actually appreciate at a rate of 5% every year. But if you average-out everything you get a linear progression of 5%.
Three percent real growth and 2% adjustment for inflation.
Point-98 was when the market was closest to its equilibrium, and somewhat void of artificial inflationary drivers.
The only thing that should drive appreciation are real wage increases and population growth. During the boom there was a an inverse relationship between home appreciation (upside) real wage increases (down) population growth (somewhat down).
So clearly, the rampant running appreciation in the RE market was a farce.
Oh and by the way, no offense on the "Realtard" comment. I can't knock the facts.
Well, that and Lawrence Yun-the NAR's chief economist is the biggest spinmaster and Realtard of them all!!
So here's a more realistic question to the only person on the blog that seems to know their stuff (Mr. "Believe it or not"):
Who would you rather do? Jack Nickelson or Meg Ryan?
... MEG RYAN
As for the assertion that prices must fall to 2002 levels, where in the world did he come up with that number. Prices will fall until such time as demand stops them from falling. No one knows what that price level will equate to.
--Peter Schiff
That said, instead of blowing a bunch of hot air around guessing what will happen, we just need to open our history books and look at dozens of other bubbles (Tulip, South Sea, Land Bubble, Stock, etc). What you learn from reading about those bubbles is that when they finally go, they don't just stop at the level where things started to heat up. Oh no, they pick up speed on the way down and they always always always always overshoot the starting point. It isn't uncommon for the bubble to lose 90% of its value. That means that the $400,000 home may end up being $40,000 when this is all over.
Now, some of you might think I'm insane but this is exactly what happened in the 1930's in this country. Houses lost 90% of their value.
History has some other wonderful lessons for us too because this isn't just a housing/debt bubble but something that is coming to visit us as we're fighting a war that is fast approaching the cost of Vietnam. Anyone my age or older will remember the horrific consequences of having that bill come due.
Our manufacturing base is mostly gone. General Motors, once the Worlds 5th largest economy, hasn't seen their stocks this low in over 50 years. We don't make much anymore and if OPEC ever demands something other than our very worthless dollars then any home in any suburb will be practically worthless.
I suggest you guys get your books out and open your eyes.
The number is 3X income, not 4. For fundamentals, at least.
2002 prices were the upswing of the bubble. Still too high for most of us. Not to mention I've read elsewhere that there will be a "plateau" that everyone thinks is the bottom, but is a false bottom. You will probably (painfully, it appears) see a couple of false bottoms before things get any better.
As for the 15 year cycle of the CA housing market, this isn't part of that cycle. This was a gigantic bubble comparable to nothing else. This isn't just affecting CA, as you've probably read. Your theory that a quick rebound to the impossible prices seems unrealistic to the "average potential buyer". When I read "this is normal" comments I can't help but think "you just don't 'get it'".
1. That's what bubbles do when they deflate.
2. Declining real incomes of most Americans (affordability)
3. over supplied market (vacancy rates)
4. much tougher lending standards
5. Houses will again be viewed as places to live, not investments
6. housing will be completely discredited as an investment
7. far flung places in the burbs will be nearly worthless as the energy crisis takes a hold
The housing bust still has a long ways to go and will overshoot 2002 levels be a long shot. It will also take a long time to recover. Keep on dreaming about a V shaped bottom. Not going to happen.
I'm using 2002 prices as a stability point because that's when housing prices started to become inflated via a combination of lowered lending standards, low interest rates, inflated expectations, and speculation. As another commentator said prior to that time an individual who could only afford a $1,800/month payment could only get a $284k-$300k house, after 2002 they could buy a $720k one.
Obviously, a situation like that is going to inflate housing prices.
I didn't include the metric around month to month changes because those are more measures of seasonality and short-term fluctuations then the direction of housing prices overall. YoY is a MUCH more accurate measure as you're comparing apples to apples price wise.
Again, thanks for reading.
-M
Either way '02 is still more or less the baseline level we have to reach to have pricing stability, whether we fall past it and go back up or fall to it and stay there.
-M
Bubble one is the price bubble in CA, FL etc. Prices went through the roof and now they must come back to affordable levels
The second bubble which the author is referring to is overbuilding bubble. Here in Atlanta, the bubble is overbuilding bubble. We had so much land and the low interest rates made the “house affordability” much better. Hence, the overbuilding bubbles, as the builder went on rampage and built tons of new houses.
First off- I agree with you regarding the change from Industrial to a service economy. We're screwed until we actually start producing and selling in relation to what we buy.
Note: I don't necessarily agree with you as much as I recognize the facts... (No offense, dude!)
And Yes I read. Most important work i've read thus far is Crash Proof. Great book that defined the reason behind artifical and inflationary markets. More importantly-he predicted the collapse of the Real Estate Market.
Let's all get back to the basics. Specifically what drives appreciation:
-Real wage increases
-population growth
If these two variables don't parallel one another in a positive linear progression, then appreciation shouldn't happen.
If appreciation does occur, then someone's meddling with the market. IE- Burnout Bernanke
However, one could argue the beginnings of the speculative component of the RE boom stemmed from the '97 change in the real estate tax law. Suddenly, it became possible to earn income by flipping a house and if one claimed primary residence, the income was potentially tax free. By 2000, banks were telling me I could borrow whatever amount I wished. This was quite different from previous years when banks required vast quantities of documentation and a down payment. In 2000, my bid lost out to a builder who subsequently leveled a little ranch house and threw up a huge McMansion in its place. By early '02 I was one of 25 bids on a mold-infested house in the Boston area - the story made the Boston Globe, as an indication of how insane the RE market had become. So I think it's arguable to put the start of this bubble at 2002 and not much of a stretch to think we'll revisit 2002 prices - (in real terms).
However, to draw comparisons to the '30s could be misguided. To expect to see housing lose 90% in nominal terms is doubtful. The '30s didn't have a president seemingly eager to fight wars on multiple fronts no matter the cost, helicopter Ben and Paulson or a bail-out happy Congress. Think about what's happening to the dollar. In France, when the franc became too devalued, they simply tacked on a couple zeros. 100 "old" frances became 1 "new" franc. The dime could become the "new" penny, etc. So a RE retracement to any number could be meaningless if we continue to debase the dollar. I would like see someone talk about what happened to real estate in Argentina as a more appropriate comparison to where we're headed. A few years back, I remember hearing there were great "deals" in Argentina real estate for foreigners, but no Argentinians could afford to buy.
I know it would be painful, but I keep hoping they'll stop the cheating, manipulation and bailouts, let the market stabilize (which would help affordability) and allow people to start building up their lives and savings. But alas, penalizing the saver has become so ingrained, we can't even entertain a world with price stability.
My RE broker just called to tell me that I must make an offer by tonight on this 2bd 500 sq ft. home for only million doallrs, beacuse there are 10 other buyers compteting for the house.
According to the broker, this is the BEST time to buy, as prices will double by next month.
I told him that I will try to expedite the closing of sale the brooklyn bridge since I need 20% down payment now.
Truly, I know Mr. Yun of NAR gets paid for being a spin master. But listening to some of his recent comments, I wonder if he has trouble sleeping at night, or lie a psycho path, have lost his consicous.
Anyone thing of bying a home before 2011 should get their head examine and finance a stay at the mental ward via escrow.
The dot.com bubble saw the NASDAQ give up 5 trillion dollars or 80% of its value. Furthermore, I can point to dozens of American institutions, like General Motors, that have seen the value of their stock drop by more than 90%.
Again, it is not inconceivable for houses to end up at 10% of their peak value. What is to stop it? The Federal Reserve and Monkey Boy? The government can no better respond to this disaster then they could with Katrina.
Stop listening to Economists, stop listening to government officials and open your history books. The answers are all there.
Anyone that isn't considering the fact that the $400,000 McMansion 30 miles outside the city might end up being worth only $40,000 is a fool.
Then you have the upper-end of the market. Houses and condos in exclusive areas. These prices have jumped, too. They have yet to retrace. Buyers in these markets have an easier time getting capital, so the prices are stickier. Still, these prices have to give back some, it just might take longer and might look differently. And the forces pushing prices down will be more complex.
For example, people such as myself will choose to rent and leave the buying market. Other people will want "more house" for their money and scoop up distressed properties in less desirable areas. The so-called "investors" that bought high-end properties will leave the market if they have not already done so. This is another drag on high-end prices.
The fact is that building costs are rising, and the cost to buy many of the foreclosed homes is less than the cost to build one. How can you justify NOT buying a house for less than the cost to build it?
Many of you haven't factored that the vacancies due to foreclosures leave people looking for rentals. I expect owner-occupied homes to decrease while rental-occupied homes to increase. Go to craigslist and you'll find out that many people trying to rent have recently lost their home.
They were paying $2000/month on an overpriced home, and can now pay $1500 to rent the same exact thing.
With normal buyers staying put, that must also affect the market.
And as babyboomers retire and want to downsize, or have to sell.
In any case, I would like to move now: it would save me lots of money and I would earn more money, if all things were equal.
But why would I move now? (I also live in a state where the property tax climbs slowly, so if I did move now, my new house would lose value and my taxes would go up!)
What's to prevent it? Cash will be king if credit dries up and incomes fall with job losses; at that point a house will be worth what an investor paying cash is willing to pay.
We are at the end of a 25 year era of low interest rates, and risk premiums in the secondary mortgage market are demanding higher rates currently. There's nothing the central bank can do about it; if investors won't buy the bonds the rate has to go up, and home buyers pay the cost in mortgage interest.
Nicklethrower's right. There is nothing precious about our time in history.
Objectively speaking, I believe Mr. Nicelthrower puts forward a very realistic scenario.
With 20% required down payment (I wonder how many american have more than next month's rent in their account) and costing $1,000+ in gas etc to commute to jobs. those McMansions look more like a white elephants.
Without cheap credit and those no down loans, we don't have a population to afford those giants.
Why do we need a 3,500 house anyways? What we need a drastic change in our lifestyle? and forgo 3,000+ sq feet homes and 5,000 sq ft SUV, and live like rest of the world.
There is a silver lining in this thing. Just consider how much mother earth would appreciate using her resources more wisely.
And you know what? your grand children will appreciate also for leaving them few drops of oil, some trees & fishes and livable enrionment.
I say, lets go with 10% value of 2006 peek.
But those houses are losing thousands a month. So I stay put. And so do many like me. An actually effective governmental intervention would not address the foreclosing, but the sane middle class.
Talk about the greedy, the speculators, and McMansions BORE ME to tears. I just want to able to relocate as I would in a normal economy.
My company would give me a 25 percent raise, pay real estate fees and provide a full service move. But they won't buy my house or obviously cannot or don't counterbalance the teetering market on the other end.
Maybe it's just my rose colored glasses: but I think the health of Relocation industry is more important to the American economy than all those part-time Realtors who now have gone back to their real jobs.
The REAL problem is that the average qualified buyer cannot with good conscience buy. It's as if we could buy NO EGGS, NO BOOKS, or NO CARS.
What if you needed a car this year or next. And you were told: there will be no cars available for 2 or three years.
I am not trying to be apocalyptic, but this is as bad as the Dust Bowl or the crash of 1929 or rationing during WWII. It is the end of a free economy.