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A look into a housing inflexion point brought on by a dysfunctional real estate market

drhousingbubble's picture




 

You would think that with all the surefire bets in housing that people would be dialing up their realtors and heading out every weekend to make those lustful multiple offers presented in PowerPoint format on properties. Yet the overall market data shows a different story. The house horniest of them all, investors, are clearly pulling out of markets including sunny and inflated California. Apparently home prices do matter when making investment decisions. Cash strapped hormonal buyers will keep on buying but housing prices are set on the margin. That margin is becoming razor thin on current volume. I find it interesting that the biggest housing supporter of them all, the National Association of Realtors is also somewhat tepid on this recovery. Why? Because home sales volume is pathetic. Keep in mind they make money on selling and buying. Volume is key. Their model doesn’t work so well with banks holding onto properties like Gollum holding onto the ring and the foreclosure process being dragged out like the forever college student enjoying year 10 at Santa Monica City College. You see this overarching trend occurring in many metro areas across the country. Investors have been propping up the market since 2008. They are now slowly pulling back. You are also starting to see a convergence of analysts putting out their predictions on how overvalued housing is and backing it up with mountains of data. The other side of the argument points to prices. Sure, they’ve gone up but value is created by actual price and that is sort of the point. The answer as always isn’t so simple but using your thinking cap it is important to understand that housing is not a “no brainer” decision in this market.

Still going into massive debt

It is interesting how corrections always follow a similar pattern. At first, every market in every area is going up. The euphoria stage. Idiots can buy and make out like bandits. Of course they attribute this to sheer mental agility versus blind luck. Ask the 7,000,000 foreclosure recipients and question them about their mental agility in their buying decision. Slowly the winds change. All of a sudden sales start slowing down. Prices stagnant. Those house horny sellers are not getting their delusional asking prices for simply slapping on a new coat of paint and installing some stainless steel Whirlpool appliances. Didn’t the housing cable show say I would have 10 above list price offers by the first week?

Then you get the hilarious responses of “does anyone really think that prime Manhattan Beach is going to drop in price?” Really? Manhattan Beach has something like 35,000 people but Los Angeles County has 10,000,000. We are talking about a city where 0.35 percent of a county live. Where in the hell will the other 99 percent live? Our focus is on the broader market. Niche super prime areas may correct but even if they do, the plebs will have little luck scoring a Malibu home on the household income figures we are seeing. My point here is that suddenly, the focus is on ignoring the larger trend for easy super prime markets to make the case that hey, housing will always go up. Even today, you have places like Compton, Palmdale, Riverside, all surging up in prices. This happened as well in 2007. The unfolding goes something like this:

“Sure Palmdale went down but this is out from the city hubs.”

“Sure Paramount went down but this is in a lower income area of Los Angeles County.”

“Sure Pasadena went down but only in certain parts of the city.”

“Sure prime Pasadena went down but not as much as other areas.”

You catch the drift here. One important thing to note is that people are leveraging back up. An interesting presentation was made by Jeff Gundlach on why homeownership is overrated and why he is shorting homebuilders. Some of the slides focus on topics we covered but they are worth looking over:

deleveraging myth

 

First, there is really no deleveraging going on. The cheap money from the Fed has been used to inflate the markets back up. It has worked. Households are also back into deep debt and buying homes with little money down or using ARMs to stretch their budgets. The idea that cash is abundant in US households is simply not the case overall. You have a small portion of hyper-rich households but they are not focused on Mar Vista or other hipster markets of Los Angeles. They are looking at Beverly Hills or Santa Monica for example.

The big money is in the financial markets (bonds and stocks) and real estate is not the main focus at the higher echelons. Because of this, we see a massive plunge in homeownership since household incomes are really weak in the US.

 

Homeownership rate plunging

The drop in the homeownership rate is epic:

homeownership rate

This is a massive trend here. Since people have to live somewhere, we have simply expanded our market of renters in the US. Some of it has to do with shifting priorities but I assure you, if you gave these Millennials or GenerationX people the ability to access toxic mortgages like interest only loans with no down payment, they would let their house horny juices flow. Thankfully, since the entire mortgage market is virtually government backed, they are checking incomes.

The drop in the homeownership rate largely reflects a weak economy for those future home buyers.

Housing affordability all based on low rates

Housing affordability is all about the monthly nut. That is why the modest 100 basis move in interest rates last summer basically stopped the mania right in the middle of its slobbering delusion:

housing affordability

See how quickly prices change with modest interest changes? The Fed is already telegraphing higher rates and we are already seeing inflation permeate the market in healthcare, college, food, and other important items. The only place that is stagnant is with household income growth. The magic of lower rates is that it boosts house prices even if incomes remain stuck. Investors looking to rent places out realize that rents need to be paid with actual net income from those living in the immediate area.

Household formation slow (you know, with kids at home and all)

The most important aspect of this all is the weakness in household formation. We have many folks living a life of arrested development in California. Folks driving around in leased foreign cars yet living with mom and dad deep into their 30s and 40s. They want the trappings of the past but simply cannot afford it. A few of my contacts were telling me that in places like Irvine, you have Asian investors making up a large portion of purchases and also, older households with built up equity (meaning 50+). A similar trend in Culver City although more with older households in their 40s and 50s. Those first time buyers in their 30s are battling it out for condo fodder with massive HOAs that usually aren’t factored into budget considerations. Keep in mind even in these more sought after markets inventory is building up.

Household formation is at multi-generational lows:

household formation

California has 2.3 million adult-children living at home, largely because they can’t even afford a rental let alone pay current prices. The above chart is a nationwide chart highlighting that this is a national trend.

Living at home all the rage

Some might think that living at home is only for expensive markets like L.A. County or San Francisco but this is also a national trend:

young adults at home

The young chewed on the hardest punch of this recession. Many bought during the peak of the housing bubble with some of the funkiest, stench-filled, and financially disastrous loans of all-time. You can see the end result. The homeownership rate collapsed and has yet to recover even though this is year five of the easy money recovery. Yet many did not go out and rent. No. Many are now living back at home. Basically anything that can be juiced with debt (i.e., college tuition, housing, cars, stock market, etc) has been reinflated to record levels. The question is, how much juice is left?

Living at home because of weak employment prospects

Those making the case that there is this hidden pool of pent up demand fail to look at the actual data of these future buyers. Many are living at home because they are economically struggling:

living at home

Roughly 32 percent of 18 to 34 year-olds are not employed. Might be a reason for so many living at home. Keep in mind that the rate continued to rise in the midst of this debt induced rally in stocks and housing. The housing market was pushed up by investors, easy money, and a lack of inventory. For those wanting to buy, inventory is moving back up but in some areas, you still have a good amount of house horny buyers battling it out. Yet prices are made on the margin especially with real estate. The market is definitely hitting an inflexion point. But in real estate, just like the above trends, booms and busts don’t happen with a big bang or pop but with a slow shift like turning around a giant naval ship. The fact that we have many reports discussing the overvalued nature of real estate, investors shorting homebuilders with 40-slide presentations, and household formation cratering you have to realize something else is going on.

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Fri, 05/16/2014 - 11:07 | 4766524 bh2
bh2's picture

I hate to intrude on the gloom and doom, but anyone rationally appraising that chart of long term home ownership rates would surely observe:

  • All rising markets are swollen by excessive speculation and all falling markets are shrunk by collapse of the mania. This is normal, not exceptional, behavior.
  • The present deline is simply (and rather obviously) a reversion to the mean, which happens in every nutty market after a boom. 
  • Strong support at about 64% occurs both on the trend line and at the previous level of rock-solid market basing.
  • Despite booms and busts, the long term trend for home ownership (base 1964) is plainly up, not down.

It isn't "different this time". Buckets of blood were recently flowing in the streets, but that time is now mostly over. Buying homes offering a real rate of return justifying the risk stopped being a no-brainer.

Realizing this, Wall Street oligarchs backed off -- not because they are flaming asshats (as they surely are) but because rising house prices and costs of borrowing no longer make financial sense. But building apartments may, at this time. The trend is on until it stops and a new trend takes its place.

Everyone needs proper housing. Whether to rent or to buy isn't an economic barometer because the best choice at any given time is driven by considerations of location and duration. (If you think you'll have to move in a few years, rent is typically less costly.)

Some smart investors dispassionately sold their homes near the top of the last boom and patiently rented for the duration. Some of these then bought back in when prices and interest cratered. Other smart money folks are still watching and waiting. No hurry.

The dumb money, of course, regards renting as always an inferior choice to buying, regardless of market conditions (look to Canada as a contemporary example of housing mania). And that's why it's called the dumb money.

Fri, 05/16/2014 - 11:15 | 4766614 overmedicatedun...
overmedicatedundersexed's picture

bh2, (barney frank approves), now tell us old wise one, when ave earnings are dropping off a cliff, at what point does the earning curve and the ave house price cross? seems you got a little problem there..

Sun, 05/18/2014 - 00:47 | 4770782 bh2
bh2's picture

The problem isn't lack of earnings. It's feckless willingness to take on unsustainable debt. Barney was among the key ring-leaders encouraging that behavior (though he denies he was anywhere in that vicinity).

As a consequence, the bust following the boom has taken prices down toward the long term trend line. In a few locations, the decline over-shot the long-term trend. But not many. Will that decline continue much further? I have no idea. But it seems unlikely, IMO as long as the FED keeps propping up the market. And they don't dare stop.

This market correction will therefore remain underway as long as the FED and FDIC continue to shield the banksters' balance sheets. The "problem" was the boom. Not the bust, which had to follow like night after day.

Shelter isn't an "investment". It's an expense. Just like food and clothing. People who cannot afford to buy should get over it and rent. For many people, it's only a choice whether the bank or the landlord will reap a profit. It is a complete delusion that paying 5% down makes one a home "owner". Most "buyers" have simply chosen a different form of rental payment and taken on more financial risk to boot.

Canadians have obviously learned nothing by witnessing our recent housing boom and now remain convinced "this time is different" as they watch in awe their own topping boom market which is even more outrageously priced than ours was. It's never "different".

It is therefore the "learning curve" (not the "earning curve") which is ultimately defective.

Sun, 05/18/2014 - 08:06 | 4771024 overmedicatedun...
overmedicatedundersexed's picture

bh2, so in market with many being foolish to buy expensive housing, your ans is renting..I am ok with that, but look, I still do not see how that props up the housing market valuations..deflation cannot be avoided where ave incomes are dropping ...housing is not exempt.

Fri, 05/16/2014 - 07:16 | 4765722 Notsobadwlad
Notsobadwlad's picture

Yes, financialization kills economies through the massive misallocation of resources away from productive activities to nonproductive nonactivities... the biggest of which is parasitic skimming.

Fri, 05/16/2014 - 04:21 | 4765616 joethegorilla
joethegorilla's picture

As Sam Zell said, real estate has recovered but when rates go up it's going to be a whole new ball game.

Fri, 05/16/2014 - 11:01 | 4766536 JRobby
JRobby's picture

Hence the mysterious 10yr UST "anomaly"?

 

Let's see a new movie. Sorry, the script writers seem to be completely out of new ideas.

Fri, 05/16/2014 - 06:56 | 4765703 doctor10
doctor10's picture

Capital in general is worthless in the USA because of the tax, regulatory and insurance burdens.

The state and local municipalities will manage to render residential and commercial real estate equaly worthless as the owners have become bullsyed targets in the bureaucrats revenue hungry eyes.

 

Its the natrual consequence of having torn out the rule of law from under the Constitution

Thu, 05/15/2014 - 23:29 | 4765300 ebworthen
ebworthen's picture

Wall Street loves this; they can now raise the rent.

Thu, 05/15/2014 - 21:07 | 4764882 AdvancingTime
AdvancingTime's picture

When it comes to real estate low interest rates at some point becomes a double edge sword, that effects both the value by making it easier to purchase thus driving up prices, and at the same time allowing more building to take place and increasing the supply. Often we reach or exceed demand, this eventually has a dampening effect on rents and people stop buying it as an "investment".

Prices must rise and real estate appreciate more then the natural depreciation from the wear and tear from age or the main driver for owning it vanishes. Oversupply is the bane of real estate and crushes the value of this hard and expensive to maintain commodity. Currently we are in uncharted waters, more on this subject in the article below.

http://brucewilds.blogspot.com/2013/12/super-low-interest-rates-disservi...

Thu, 05/15/2014 - 20:39 | 4764790 Rockfish
Rockfish's picture

If you own RE sell now if you don't wait. The blood in the streets to quote some old guy is just over the the next No Doc loan. 

Thu, 05/15/2014 - 20:21 | 4764752 DerdyBulls
DerdyBulls's picture

Smitty - I'm with you brother. Did the same thing. Some areas are safe. But I put a premium on mobility after going through the last one and if I need to move quickly to pursue opportunity elsewhere I'm not tied up in house.

Thu, 05/15/2014 - 19:35 | 4764601 SmittyinLA
SmittyinLA's picture

I wouldn't short homebuilders, they have massive leverage, they can ride the QE mass immigration wave as long as there is one and shut down the second it ends. 

The entire housing prop up is predicated upon mass immigration, ZIRP and restricting new housing, all of those forces work to their benefit and leverage, they can literally time travel, pay 1970s wages and get 2014 prices.

Broke homeless renter Californians are too stupid to vote away housing restrictions or enforce immigration law or loan standards, in doing so they create a housing shortage, and labor glut, the ideal environment for homebuilders and huge profits.

 

 

 

 

Thu, 05/15/2014 - 20:52 | 4764843 Solarman
Solarman's picture

Exactly, and look at the 10 year.  It is collapsing again.  Rates leverage both ways.  Every project we lenad to a homebuilder is sold out ahead of projection of time and price.  Since it is our and our investors money, we sit on 30-40% equity as collateral, and watch the money flows.  Foriegn money is coming in like a tidal wave.

 

Note we focus on the parts of the country where there are no Democrats in charge, therefore growing in population.

 

If you modelled in that way, as we do, it would be a stark contrast of two countries.

Thu, 05/15/2014 - 19:51 | 4764663 lotsoffun
lotsoffun's picture

if walmart and the other globals buying everything from china and putting all the workers and the local shops out of business wasn't enough - the 'few' ;)  of the chinese that profited off of this are now taking their dollars back here, their mega dollars and buying up everthing the local unemployed lard asses can't afford and pricing them all out of the market.

those people are fucked.  i'm a middle ground, i keep ducking and weaving, but as they still offshore more and more manufacturing and jobs, my finance job, it just keeps getting on shored.

h1b is the real bitch on top of everything else. 

 

Thu, 05/15/2014 - 21:23 | 4764933 p00k1e
p00k1e's picture

Repudiation of the dollar. 

Thu, 05/15/2014 - 19:10 | 4764502 Thalamus
Thalamus's picture

Sold my house 3 years ago and plan to ride the next wave down waiting for value.  Going to pay all cash when the great deal comes up, no feeding the bankers.  

Thu, 05/15/2014 - 21:18 | 4764919 p00k1e
p00k1e's picture

On one hand, I'm in the process of looking for a house now.  I figure, find a decent house and just pay cash.

The prices could drop 70 or 80% of course, but the only way that will happen is if the banks start calling in all the mortgages.  The banks would only call mortgages during runs on the banks.  Runs on banks = the depositors are getting the ‘bail-in’ and government may only give up 3% through FDIC.

Bonds?  Look to the senior bond holders of Old GM.  Or the bond holders of the City of Detroit. 

Thu, 05/15/2014 - 19:36 | 4764612 SmittyinLA
SmittyinLA's picture

so where you parking the doh in the interim?

A bank, & I bet your paying them to invest in Ukraine too.

Thu, 05/15/2014 - 21:09 | 4764877 new game
new game's picture

as long as mortgages are income verified and skin is in the game the whole 05-08 will not happen in another lifetime.

except for fha's, people are qualifing based on income and 20 percent down(less with mort ins prem). no bubble going to form, just appreciation based on rates of interest. if rate rise prices drop. also, of extreme importance is a simple fact that millions are underwater and can't move - stuck in their home.

waiting for the big drop is a joke. correction coming, but will be mild, but all depends on rates. bonds are signaling a new buying opportunity before next leg up.

just saying, too many experts saying it is going down- bullshit.

also, how many economist predicted 3.0 ten year? haha. as i have said and i will say again- rates are going down because they have to or the wheels come off the wagon, and the controller(fed and cronies) will not let that happen. who is buying bonds? beguim?

pensions? list goes on signal troubles which only lower rates will keep this whole shit show going another day, month and year; get used to it...

Fri, 05/16/2014 - 11:09 | 4766574 JRobby
JRobby's picture

Deafening laugh track. ears splitting. Whew! the speakers just blew (again)

Fri, 05/16/2014 - 06:33 | 4765686 Singelguy
Singelguy's picture

Rates will go down until the market wakes up and realizes that the debt can never be repaid. At that point the only buyers will be the central banks which will then have to accelerate their printing presses to absorb all new debt. At some point the inflation created by all the money printing will leak into the main stream economy and rates WILL rise. It is not a question of IF but WHEN.

Fri, 05/16/2014 - 03:52 | 4765605 new game
new game's picture

at 4.25 percent, 30 years, if debt free, average jack and jill qualify for 150k mortgage-this is what is driving the low end and why no inventory.  these articles are pure bullshit. go anywhere in america and try to buy a starter home. multiple bids on NICE homes and prices being bid up. i ignore dc, ny and cali as they are not a representation of the majority of mericans...

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