Some Real Estate Commentary

[SRmanager]

I received this in one of my daily readings.


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Dear all,

Please find below the latest daily update from MBMG International.

Market Levels As at: 15/07/05

Index Value Change % FTSE 100 5259.7 +0 +0 DJIA 10628.89 +71.5 +0.68 NASDAQ Comp 2152.82 +8.71 +0.41 S&P 500 1226.5 +3.21 +0.26 Nikkei 225 11764.26 -20.25 -0.17 Hang Seng 14491.54 +59.6 +0.41

We've covered the work of YALE ECONOMIST ROBERT SHILLER previously on the DU. We note that Barrons Online this week picked up on his property concerns - " Shiller delivers his forecast for U.S. housing with a scholarly diffidence that only slightly mutes his stark message: The market is in the throes of a bubble of unprecedented proportions that probably will end ugly." Not the first time that we've visited this theme on the DU - or to be fair by Barrons either, but, just like last time we visited Shiller's property doomsday forecasts, no-one has better credentials than he for recognising a bubble. The author's best seller, Irrational Exuberance, predicted a bear market in U.S. stocks, particularly the tech and dot.com sectors. What made this all the more startling was the happenstance that the work hit the bookstores in March 2000, less than a week before the NASDAQ tumbled from over 5000 to below 1500. Shiller sees the possibility of a similar real estate slide sparked by "talk" - "THE HOME-PRICE BUBBLE feels like the stock-market mania in the fall of 1999, just before the stock bubble burst in early 2000, with all the hype, herd investing and absolute confidence in the inevitability of continuing price appreciation. My blood ran slightly cold at a xxx party the other night when a recent Yale Medical School graduate told me that she was buying a condo to live in Boston during her year-long internship, so that she could flip it for a profit next year. Tulipmania reigns." Barrons reports that Shiller is still "somewhat coy" about calling how or when the housing bubble will deflate. There is still strong property price momentum, mortgage rates are still low and likely to remain so what will be the catalyst that causes the bubble to burst is far from clear. Barrons compares the US to "the once-red-hot Sydney,Australia, residential market, where real (inflation-adjusted) prices rose 12.8% in 2003 before dropping 2.5% in 2004 and remaining wobbly ever since." (you can tell that's a quotation - we would never say 'Sydney, Australia'.) Property prices tend to be less efficiently measured - there's no national register of housing prices that trades every single saleable property throughout the working day and composites these at the end of the day into an index for the CNBC-heads to yabber about so house price downturns often start almost imperceptibly and can proceed slowly and virtually unnoticed for quite a while. The data that is used (average price of transaction is the lead indicator can be very misleading - if the market slows more in cheaper areas than in more expensive ones then the data becomes skewed and a 10% fall in the more expensive areas can still be reported as an increase in the average price. Unlike a stock a homeowner can refuse to sell if he doesn't achieve his asking price. He might think that his home is still worth $500,000 when no-one will pay more than $ 400,000 and he retains the sanction not to sell and to cling onto the illusion that the property is "really' still worth $ 500,000. Back to our man Shiller - he's identified that property has become so overheated in so many areas of the U.S. that once a decline starts it could continue to spiral for two to three years, bridging the economic downturn and placing speculative buyers with scant equity but hefty debt into a real bind. Lending has been effervescent of late with high multiples and low downpayments - this inflates the bubble on the way up but creates disaster on the way back down. This is why Shiller sees the possibility of a real price decline of as much as 50% in American residential property values over the next decade. In fair ness this isn't as severe as our forecasts of outright unadjusted falls of up to 40% in the Uk and Australian markets over the next 3-4 years. Shiller's numbers are, on the other hand, adjusted for inflation - meaning that he only foresees a 20% to 25% cumulative decline in nominal prices (around -2% CAR over the decade). However equity withdrawals from real estate price increases have helped to grease the wheels of the global economy over the last few years so that would still be pretty devastating news for the world economy. Whenever we publish a piece about US real estate we hear baying voices telling us that there has never been a major, sustained nationwide property price collapse - while we're not sure whether there is really sufficient data to show whether there has or hasn't, and while we'd argue that the current bubble doesn't have too many precedents that didn't end badly, there's no doubt that localised problems of this intensity have been witnessed before. Barrons reminds us that "Los Angeles-area home prices fell over 40% in real terms between 1989 and 1997 before beginning a sharp ascent." (following a little way after a 60% jump over a 5 year period in the same area.) Interestingly that bubble is ascribed mainly to job losses in California at that time. While any bubble can inflate until it bursts, Shiller believes that the current bubble is so over-inflated that external shocks aren't necessary to xxx it and that eventually prices could just crash under their own weight. This is true - but we reckon it's going to be a close run thing whether the bubble becomes so large that happens, or whether the global recession cavalry comes riding over the hills first. Three months ago, when Shiller released a heavily revised edition of Irrational Exuberance we picked up on the sections on the real-estate bubble and the consequent problems for residential property. One of these sections picks up on the residential property index that Shiller and Karl Case established in 1988, using "repeat sales" data. The best, although still imperfect way to measure property price movements is to value exactly the same asset in sale transactions that take place some time apart. This led to the formation of a company called Case Shiller Weiss that became part of Fiserv and publishes the CSW survey. This data reveals some frightening insights about this bubble - "The rise in real prices since 1997 has already dwarfed the surge after World War II, when long-pent-up demand for homes overwhelmed supply for a time. And it only seems to be gathering velocity, with each year's increase topping the previous one's. Though in 1997 real U.S. home prices went up 2.1%, by 2000 the rate of increase had accelerated to 5.8%." Last year it was 11.2%, and Shiller believes it may have exceeded 15% in this year's first quarter, against a backdrop of higher inflation, downwards pressure on personal incomes/GDP and increasing interest rates. Shiller believes that the property bubble grew out of the same irrational exuberance that gave rise to the 90's stock bubble - most of the housing bubbles around the globe occurred in countries that also had stock bubbles. Owners of London property that crashed in 1989 (almost exactly 24 months after the 1987 stock market crash) will be far from surprised to read that a recent study by the Bank of International Settlements showed that peak residential property prices in 13 industrialized countries studied tended to lag stock-market peaks by around two years. "Once stocks fell, real estate became the primary outlet for the speculative frenzy that the stock market had unleashed. Where else could plungers apply their newly acquired trading talents? The materialistic display of the big house also has become a salve to bruised egos of disappointed stock investors. These days, the only thing that comes close to real estate as a national obsession is poker."

Enjoy your day!

Please Note: While every effort has been made to ensure that the information contained herein is correct, MBMG Internation cannot be held responsible for any errors that may occur. The views of the contributors may not necessarily reflect the house view of MBMG International. Views and opinions expressed herein may change with market conditions and should not be used in isolation.

[johnmc]

One of my favorite real estate articles about using Letters of Credit for down payments.

I hope this link works for you. It's from the WSJ real estate page.

http://www.realestatejournal.com/buysell/mortgages/20050520-dunham.html

Looks like a circus on the gulf coast.


john

[nodoodahs]

They've got 40 year amorts and interest only, but also I have seen negative amortization, i.e. principle increases during the teaser or balloon period. Those probably aren't as common in HOTlanta where you are, since the appreciation isn't quite as high as some areas.

One of my favorite quotes is from John Adams, you'll recognize the name, he says (concerning mortgages) that "balloons are for clowns!"
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I haven’t seen a beatin’ like that since somebody stuck a banana in my pants and turned a monkey loose.

[johnmc]

Can you imagine the new type of creative financing the lenders would come up with if sales slowed? Probably make today's interest only look conservative.

john

[nodoodahs]

My blood ran slightly cold at a xxx party

Must have been SOME party!

SR, the filter doesn't like words like c u m u l a t i v e or names like D i c k s o n because of the first few letters. I believe Henry will get some specific words added to the exception list you might want to add that party adjective to it ...
_________________
I haven’t seen a beatin’ like that since somebody stuck a banana in my pants and turned a monkey loose.