Housing Bubble Discussed on These Days

These Days is a two-hour radio talk show on KPBS here in San Diego (89.5 FM). In a recent show the host, Tom Fudge, had on two guests to discuss the housing bubble (listen to the show). This, I was hoping, would be a very invigorating and interesting discussion on the overinflated prices here in San Diego. After all, we're smack in the middle of one of the most bubbly real estate areas in the entire country! San Diego leads the nation in interest-only loans and has experienced a popped bubble in the not-too-distant past. Additionally, there are locals and people in the know here in San Diego who waxed on about San Diego's percarious housing market. To top it off, These Days usually does a good job having a very balanced and stimulating discussion with diverse guests who's views lead to a good back and forth.

Sadly, this was far from the case in this episode. The two guests - John Caraval (sp?, an analyst with DataQuick) and Russ Malone (CEO of Market Pointe Realty Advisors). Both guests sang the same tune:

• The housing market remains robust
• The decline in appreciation isn't as bad as it seems... the trend is healthy
• We won't see a decline in prices, just a flattening out
• It's a great time to buy for first-time home buyers; investors/speculators will probably not continue to see double-digit YOY appreciation

There was not one comment about the unsustainable ratio of mortgage cost to rent cost, or the disproportionate ratio of mortgage cost to income. The talk on raising interest rates was shooed aside by the guests. Risky loan vehicles - option ARMs, I/O loans, etc. - were whisked aside with a comment about how people will simply refinance to a fixed mortgage and all will be well.

The only comments that were even slightly negative or questinging of the status quo were some quiet comments made by Tom Fudge and a few callers. For the most part, this was a love fest of two guys who are clearly bullish on real estate in a market that's overpriced and out of line with fundamentals. Do these guys believe their spliel or are they just practicing the act they give each day to their clients?

You don't have to take my word for it - you can listen to the show yourself. If you want an excuse to enter the San Diego real estate market, here's one for you. You can subscribe to These Days through iTunes (or any other podcast software). The podcast feed is available at kpbs.org/thesedays/podcast/. (Don't let this particular episode spoil your views on the show; very often they have interesting guests and balanced commentary... this particular show was a sad exception.)

RIP for the Housing Boom

Bill Fleckenstein's latest article, It's RIP for the Housing Boom, summarizes recent economic numbers, highlighting that this boom has ended and a bust lies ahead. "Supplies of new and existing homes are growing. Add in wild condo speculation and gullible people buying land sight unseen. My conclusion: The housing bubble is about to burst."

Fleckenstein's notes the following tell-tale signs as the proverbial straws that will break the camel's back:

• Condo mania - everyday investors around the country, young and old, are snatching up condos as investment vehicles. But does that make sense? Who's going to reside in these homes and how is this "investment" going to cash flow? We already know that the ratio of rents to mortgage costs is severly out of whack. Many homes where I live (coastal San Diego) are selling for over $1 million dollars - that's over $5,000 per month on a 30-year fixed interest at 5.75% with 10% paid down, not including PMI, property taxes, and so on. However, one can rent such a million dollar plus dwelling for $2,500-$3,000 with no taxes, no home owners insurance, and no backbreaking home improvement work needed.
  
  People have bought into the mantra that not owning your own home is a slight against your self-worth, or means that you're not really living the "American dream." While home ownership is a great goal in the long run, it's foolish to rush into a purchase merely to have a piece of the (overpriced) home ownership fantasy. My wife and I own our own home; fortunately we bought back in 2001. Even then I thought prices were inflated, but compared to today's market, my home purchase in 2001 cost me about half of what it would have cost me today. I predict that by the end of this decade home prices are back to 2001 levels, if not lower.
  
  
• CPA Moms - this is what the author refers to as the folks that help push through "liar loans," loans whose applicants' stated incomes are far less than what they declare. I've not blogged about this topic much, but it merits discussion eventually. Basically the lending system has become rotten to the core as lenders, mortgage brokers, realtors, and appraisers have all been quietly looking the other way in helping people land loans they can't afford. A day of debt reckoning will undoubtably come.
  
  
• Speculators buying sight unseen - there have been numerous cases of eager speculators buying real estate in distant states sight unseen. In many cases the property purchased fails to live up to the promises made by the sales agents, with the net result being the poor speculator ends up with an acre in floodplains or a lot next to a rendering plant. A fool and his money are soon to part!

Selling Money, a Profitable Business

The housing boom has turned the business of selling money one of the most profitable. As consumers "tap" into the equity in their homes (i.e., as they go further into debt), banks and financial services make out like bandits. This graph, based on data from Business Week's "Corporate Scoreboard" for 2004, shows the profit margins of various industries. Not surprising, banks lead the pack, making more than 20 cents profit on every dollar of sales.

As the housing bubble bursts, though, will we see the profit margins of banks and financial services decline? Many banks are seeing the lion's share of their profits coming from the housing sector - first mortgages, HELOCs, and so on - but how will growing inventory, stagnating prices, and increased foreclosures affect their bottom line? Yes, today banks, realtors, mortgage brokers, and the like are raking in fat money, but tomorrow look for bankruptcy lawyers to be busier than ever.

Housing Bubble Evidence Abundant

On this blog I've often talked about how out of line the current real estate market. For example, this entry illustrates the out of whack ratio between mortgage and rental costs, while this entry examines the disparity between incomes and mortgage costs. Needless to say, we're in an economically untenable situation - something's gotta give.

This sentiment was echoed nicely in a recent Houston Chronicle article, Housing Bubble Evidence Abundant:

If the stories and magazine covers aren't enough, is there any broad statistical evidence of excess? Yes. One indicator, cited in a recent issue of Grant's Interest Rate Observer, is the dollar volume of home sales divided by gross domestic product. The figure for 2004 was a near record, nearly three standard deviations greater than the average of the last 35 years.

Examining the same data back to 1952, I found that:

• Residential homes are the highest percentage of our collective net worth they have ever been, 36.3 percent.
• We have been borrowing at a prodigious rate, with mortgages equal to 43.7 percent of home value. That's only a bit less than the record 44.2 percent set in 2004.
• We reached a record for the value of homes compared with the value of our financial assets, 48.5 percent.
• Compared with the median values of the last 50 years, these are big shifts. Viewed statistically, values are at extremes. The median value of houses as a percent of net worth was 26.8 percent. That's 2.6 standard deviations from the current 36.3 percent value.

What this boils down to is that home values are at insane, all-time highs... and folks, when you've reached a peak there's only one way left to go - down. I think most people who aren't speculators, mortgage brokers, realtors, or somehow financially vested in the results of the real estate boom know that we have hit the peak of this real estate roller coaster ride. The question on rational peoples' minds is whether or not there will be a 'soft landing' or if this bubble is going to burst.

You know from the title of my blog that I squarely believe we're going to see a bursting of this over-inflated bubble. While a soft landing would be ideal for our economy (and the global economy as a whole), I worry that it's not going to happen. I think a growing number of people and businesses have poured too much money and have leveraged themselves far much to have anything but a painful correction.

Since it's obvious that we've reached the peak, the prudent investor is now asking himself, "How do I profit from the deflating of this bubble?" There's an interesting discussion on this very topic going on over at The Housing Bubble Blog. I think the big gamble on this is matter is whether the bubble bursting is going to lead to inflation or deflation, and how long and strong will these economic swings be?