Sunday, July 8, 2012

The Eye of The Housing Storm

In 2004, I sold my residential investment property over concerns of a market top. In 2005, after that property rose nearly $100,000 more in market value, I registered with over 100 banks and asset management companies to become an REO broker readying myself for the next big wave in real estate.  Eventually it occurred, and in 2006 I sold my first bank owned property.  Today, after selling over $55 million in bank owned properties, the market once again is not seeming normal by any stretch of the imagination.  In fact, it feels like 2005 all over again except with prices having already dropped 40 to 60% in most markets from the market peak of that year.  It seems the housing craze of that time period is once again upon us.

How could this be?  Didn't we learn our lessons back then and make some dramatic financial reforms to avoid another mess like the last one?  Well, it appears not and to me this "false" sense of an improving market is even worse than the last one. It is taking a financially and emotionally "beaten and battered" homebuyer and "tricking" them into getting back into a "game" that likely shouldn't be played at this time.  I refer to it as a game because to me this market is being rigged by the abundance of cheap money once again. 

When a game or market is rigged, usually no one but the one in control wins.  In this case, I seriously doubt even the rigger (our government and the Federal Reserve) can come out on top here either.  They don't recognize or don't want to acknowledge the seriousness of the economic perils that this country faces.  So, they try to stimulate growth by encouraging spending with cheap money whether in housing, autos, or anything else.  The problem with spending at this point is it is not sustainable should that spigot of cheap money get severely reduced or cut-off entirely, and it will.

Seriously, what individual or financial institution would be willing to carry a 30 year mortgage on a home at an interest rate of 3.5% today even with a well qualified buyer putting 20% down?  Forget the loans being made to low-income and zero-down payment buyers.  The risk/reward tradeoff of this market is not in balance.  The market has shifted away from a real capitalistic or free-market approach of assessing this trade-off to one that is government controlled.  When the Federal Reserve fed funds rate is 0.25% for what banks will be charged for use of funds to lend, and then the government, through the "ownership" of Fannie Mae and Freddie Mac purchases home mortgages from these financial institutions, we have a housing market imbalance of catastrophic proportions.  There are no real checks and balances in this scenario.

Of course, everyone will say this has been going on for years ever since the establishment of these government sponsored enterprises.  Fannie Mae was established in 1938 and Freddie Mac in 1970 to coincidentally "prevent a monopoly" by Fannie Mae.  The end result is we still have a monopoly by our government as both entities are now fully backed by taxpayers.  How can any institution appropriately assess risk when they have the hand of the taxpayer absorbing any and all losses? When our government can no longer play this game of charades who's going to be there. How will housing survive?

Here's a thought.  Through huge government deficit spending since the 1980's and the sponsoring of these secondary housing market entities, we experienced years of growth through consumption and a mis-allocation of financial resources to markets that may not have been there had there not been such vehicles to spur this growth.  Maybe a 'true" market would've allocated financial resources to more city high rise residential "projects" rather than suburban sprawl.  Maybe we all can't afford these larger suburban homes and eventually they will be priced down to a level that we can, similar to how a condo in a city might be priced and possibly lower given the cost to commute, cost of services to service, etc.

In any case, like 2004 I may be early in understanding when this market will peak and continue it's slide down but I do know like back then that this market is not real and anyone in the game better have a strategy beyond the foreseeable future.  Yes, the government could keep mettling with things and keep the crisis at bay for some time.  However, eventually a "true" market will right this ship and this storm will pass leaving a wake of destruction once again in its path.  Unfortunately, this housing cyclone has not been reduced from a Category 5 even after wiping out a huge amount of property wealth with the first phase.  We're still living in the eye!



Friday, July 6, 2012

Housing From A Wal-Mart Perspective

I've commented about the housing market previously and it seems it warrants another reminder to those that seem to be buying based on speculation rather than actual need. Since we have low housing inventory, huge buyer demand and prices are on the up-swing many are believing this is the bottom of the market.  I hear comments all the time and read various articles that there is no better time to buy real estate, the market has hit bottom and housing is recovering so don't miss out as prices "can't go any lower!"

Be careful about what you hear and read these days.  We are in unprecedented times and all I can say is the market cycles that our parents and all of us in the mid-point of our lifespans have experienced earlier on have no bearing on the realities of today.  Just like your stockbroker provides disclosures on stocks that "historical performance" is no guarantee of future performance so needs to be said about housing, and those of us in the business as real estate professionals need to be upfront about this.

In the near-term, housing may seem like a "sure bet" for further price appreciation but what about after that.  Interest rates will rise again and real wages will not likely keep pace nor be even close to the rising cost of credit. I actually believe real wages will continue to fall as more and more Americans are willing to work for less pay just to survive these difficult economic times.  The debt load of this country alone means there is a huge burden yet to be reckoned with. Yes, even greater economic consequences lie ahead. This to me does not translate into a time to be speculating on housing.  If interest rates go up and wages fall, I can assure you housing prices can go much lower.

Let's look at a simple mortgage loan calculation:  A $100,000 loan fixed for 30 years at a 3.5% interest rate today yields a monthly payment of approximately $448 per month.  When interest rates rise to 7% (most likely even higher), which they will once the full risks of this country are factored into our ability to repay our debt (at all levels), that same payment jumps to almost $659 per month or a 47% increase.  It takes a 32% decrease in the original $100,000 loan amount to $68,000 to keep the payments steady at $448 per month.  So, unless real wages can grow through economic prosperity rather than inflation prices could easily take another huge tumble from here.  It's not unfathomable for that drop in housing to be another 50% from today's prices.

I'm not saying "don't buy."  I'm just reminding everyone to know why you're buying and to not factor in anticipated future housing price gains into the equation.  It would be better to factor in a further decline of 30% or more into your analysis before making such a decision.  If you can stomach a "paper loss" of that magnitude knowing you have a lifestyle home you enjoy, are willing to stay put for the long haul, and can very comfortably afford the payments, then by all means buy.  If not, renting and waiting for a better time to buy is not a bad thing.  For real estate investors, rents can go down too especially if real wages decline thereby reducing your return on your investment property.  Plus, with higher interest rates, if you had to sell, future investors would pay you much less for that property.

With all that said, I'm buying a home now but only for the exact reasons I've stated above.  I can lock in a monthly mortgage payment that will definitely suit my needs for ten or more years at a payment that I could afford if I had to be a Wal-Mart greeter or a McDonald's drive-through attendant.  Not that I'm planning a career change any time soon but I am considering possible worst case scenarios. Real estate may be my passion and livelihood today but it doesn't always mean there will be a market for me to which I can make a living!