Posted on 05/03/2008 10:25:47 AM PDT by SeekAndFind
IF YOU WANT TO know how smart I am, read my columns. If you want to know how stupid I am, read the comments section of my columns, where readers get to rip what I say to shreds.
Used to be that when supposed "experts" like me talked, all people could do was listen. Now they can talk back, and their ideas can compete with mine head-to-head on the web.
The most frequent criticism I get in the comments section is that, in my generally bullish view on the economy and the stock market, I'm overlooking the lethal effect of the housing collapse. No matter what argument I make about why folks should be buying stocks or why the economy isn't really in a recession, there's always that one-word answer: housing. It's like a magical incantation. All one has to do is say it, and bulls fall over dead.
So let's talk about housing. I look forward to seeing what kind of response I get. Because, yes, I'm going to find something bullish to say about it.
First, let me say that I'm not denying that the housing sector of the economy is in a downright depression. Has been for a while now. But for me, that's just a starting point for analysis. It tells you nothing in and of itself.
How bad is it? It's bad, alright. According to the latest GDP data released on Wednesday, the housing sector of the economy contracted at a 27.1% annual rate in the first quarter, making it the 10th worst quarter since records have been kept.
This is the ninth quarter in a row of a decline in the housing sector, with eight of the quarters showing double-digit drops. As a nine-quarter run, it's the second worst in history — actually, it's almost a tie for the very worst.
How about home prices? According to the Case-Shiller Index — the housing index most often cited by the bears — home prices are 15% off their highs of about two years ago. It's hard to rank that historically, because the Case-Shiller Index doesn't go back very far. But I'm confident that this is among the largest declines ever.
So am I ever going to get to the bullish part? Yeah, here it comes.
I'm not going to get up on the table and dance here. But let's take a deep breath and remember one very important thing about all markets, including the housing market: They simply cannot go down forever.
They cannot go up forever, either. The bears who were predicting a housing collapse two years ago were right. But the bears are making the same arrogant mistake now that the bulls made then. At some point, enough is enough — and a smart investor knows when to call it quits.
Markets reach extremes, whether highs or lows, and then correct in the other direction, for one axiomatic reason: value. At the very highs, things just aren't worth any more. At the lows, they just aren't worth any less.
I'm not here to tell you that home prices are at absolute bottom this very moment. But I can argue pretty persuasively that they might be. Or that they are close.
What establishes value in a home price? Like anything else, it's a question of historical norms. So how do we determine the norms? Try this way on for size.
Let's think of value in terms of affordability — the ability of people to buy the home they want. That has three elements. First, home prices — the lower, the more affordable. Second, mortgage rates — again, the lower, the more affordable. Third, personal income — the more of it, the more affordable.
Put it all together by calculating the annual mortgage payment you'd have to make to buy a house at the average home price, and then take that as a percentage of income. The smaller a percentage, the more affordable the home.
Let's look at the history. For home prices, we'll use the National Association of Realtors' index. It's showing about the same price decline as Case-Shiller, but I like it for this exercise because the data goes all the way back to 1972 (Case-Shiller only goes back to 1987). For mortgage rates, we'll use the Freddie Mac's 30-year fixed rate index. And for income, we'll use the Commerce Department's estimate of per capita disposable personal income.
And guess what? Today home prices have fallen so much, mortgage rates are so low, and personal income is so high — that homes are more affordable today than at any other time, ever — with mortgage payments on the average home eating up about 40% of income. (Keep in mind, disposable personal income is after-tax income; also, this is calculated on an individual basis, not a household basis.)
With houses more affordable than ever before, why should we expect prices to fall much further from here? Yet the bears insist that they will. Kind of like insisting that the Nasdaq will go to 6000 just because it's at 5000, no?
We can use the same kind of logic — the idea that markets at extremes can't keep getting more extreme forever — to analyze the effect of housing on the economy.
Precisely because residential investment has been cratering for nine quarters, it's become a very small fraction of total GDP — only about 3.4%. At this point, further steep declines (if any) just can't have that much of an effect on the general economy.
Let's put it in concrete terms — jobs. Since the housing market started coming apart two years ago, jobs in the housing sector — broadly construed, to include everything from bricklayers to mortgage brokers — have already declined by over 1.5 million. That's about 1% of the whole national labor force, and it takes housing employment back to where it was in 2000 before the so-called "housing bubble" even got started. Which begs the question: How many more jobs are there to lose in this sector?
So let's head to the comments section. Go ahead, bears, take your best shot. Tell me how bad it is. And the more you do that, the more I'll say that you've had your day.
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Donald Luskin is chief investment officer of Trend Macrolytics, an economics consulting firm serving institutional investors. You may contact him at don@trendmacro.com.
Bump.
What a maroon ... he titles his piece “Housing Prices Near or at Bottom? ( Why the housing bears are wrong )” and then boldly states “IF YOU WANT TO KNOW HOW SMART I AM...” and then the best he can say is “prices can’t go down forever”.
Used to be that when supposed “experts” like me talked, all people could do was listen. Now they can talk back, and their ideas can compete with mine head-to-head on the web.
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While I do not know enough about this person to say whether he is right or wrong, I do know this statement sounds arrogant and elitist. These people can’t know anything! They don’t have a column like me, how dare they question my knowledge!!!
No, they will not go down "forever".
They will go down until the average buyer for the average house in an average neighborhood that has an average job for that neighborhood can actually afford to pay a down payment AND principal AND interest at a fixed rate each month without going bankrupt.
Until hoses prices go down to that level, the houses prices may bounce up and down all they want above that level but those houses will remain unsold.
We all have columns.
Ours are just scattered around Free Republic. :-)
If the ninja and liar loans are unavailable, then house prices will have to fall back on the old dependable 3 x income formula.
No, but there are plenty of examples where markets go down for 30 or 40 years.
Two years is not "forever".
True.
And guess what? Today home prices have fallen so much, mortgage rates are so low, and personal income is so high — that homes are more affordable today than at any other time, ever
Flat out lie.
You forgot taxes. ;-)
You forgot taxes. ;-)
ARRRGGGHHH!!!
"Hey, honey! You remember how I told you we would never lose this house because we could afford the price? Well, some guy on the Internet just pointed out to me that I forgot one tiny little detail and ....."
Mrs. steveo is in the mortgage biz... She had her best month (April) in a long time. The vast majority were sales... People still want homes and if the price is right, and the loan makes sense it’s a done deal.
The houses are built by illegal aliens so the residential housing sector does zero zilch notta for the economy. In fact it just adds more burden by creating a boom in the illegal alien population and anchor babies.
House prices are so high that even if a household earns $100,000 a year and they have 20% down they cannot afford to get in, An $80,000 down on a $400,000+ house which is the absolute bottom on the edge of the ghetto surrounded by nasty dirty mexicans would cause payments of over $3000 ( over the 30% net income margin) If they do buy they will be hanging by a thread in jeapordy of going into forclosure if gas prices go up again or one of thier bosses sneezes and decides to replace them with a mexican because the entire population demographic is turning mexican fast .
I know because I have been searching for two years, 90% of california metro area neiborhoods are infested with packrats from south of the border. That drives the livable white neighborhood housing prices through the roof, into outer space.
the only way a good buyer can get in is to have a gigantic down payment
Slash prices on houses and they will sell, simple economics.
I’ll agree with your take on this - and add this:
Housing prices were pushed up by an artificial demand. By “artificial” I mean that people who didn’t have sustainable means to buy homes were given outlandish leverage by a very easy Fed policy and banking industry greed following 2002’s agenda of interest rate reductions, plus the Yen carry trade, a confluence of events on Wall Street (securitization of junk paper as AAA paper, which kept rates artificially low and liquidity overly abundant).
That leverage is GONE. Period. See ya. We can see new regulation coming down the tunnel every week now that is going to prevent the sort of lending stupidity of 2003 to 2006 from happening again.
Without that fantastic level of leverage, the demand won’t be coming back. People will have to actually justify to bankers why they should be able to get a mortgage. Bankers won’t be writing mortgages to people seeking to buy houses at 6X their household income. The wave of “ruthless defaults” has already created a response from banks to increase lending requirements, to decrease LTV’s on loans, to freeze HELOC’s, etc. Banks will require at least 10% down, and more conservative banks will likely require more.
Luskin is still playing the typical dumb economist. He keeps looking at the macro economic numbers. This economy and the bond and equity markets have not been driven by macro-econ numbers since last August. Everything since then has been driven by bond market events. And the one picture we can paint from the bond market is that a) too many people confounded “credit” for “cash” and b) they’ll learn (the hard way) that these are two very different things as credit is withdrawn from the US economy in nearly instant regulatory and bank policy changes. The effects of the lack of credit won’t be seen all at once in the macro-econ numbers; it is going to set in over a longer period of time.
The Fed just injected another round of liquidity through auction mechanisms this week, and they’re accepting ever more dubious “collateral” for the treasuries they’re “loaning.” This does not look like “the bottom.”
One more thing: Luskin obviously has never been a trader. One of the truism I’ve learned in trading the stock market is this: When talking heads keep saying “This is the bottom” — you’re nowhere close to the bottom. People have to throw their hands up, express nothing but disgust and despair, the conventional wisdom has to become “No one who wants to make any money would put their money there” before there is a “bottom.”
We’re not at a bottom. Just as bull markets don’t go straight up without corrections, bear markets don’t go straight down. Look at a chart of the NASDAQ stocks in 2001 to 2002 - there were counter-trend rallies that kept people saying “This was the bottom!” time and time again. It wasn’t until we got to October 2002 and March 2003 that we finally hit a “bottom.” By then, people were just chucking in the towel and selling stocks at fantastic discounts.
That is a great line.
I don’t think he sounds arrogant or elitist at all. He says specifically that he is a “supposed” expert, that people can talk back to him and have their ideas compete, and “If you want to know how stupid I am, read the comments section of my columns, where readers get to rip what I say to shreds.” That sounds pretty humble, even charming.
I question one of his axioms:
“What establishes value in a home price? Like anything else, it’s a question of historical norms.”
Actually, no. It’s a more fundamental question. The ratio of value to price, like anything else on the market.
I don’t mean value in a particular market, I mean absolute value. For example, you can buy a $20 pair of sunglasses for $200 in the upscale market across town. But their absolute value is still $20.
So what is the value of a $200,000 home that is being sold for $500,000?
Now people can still spend $500,000 for a $200,000 home, but most often only if they can get a lot of credit. And this same principle applies to businesses and our nation itself. We can only have a ridiculously high national debt, because someone is willing to lend us the money to buy things we can’t afford.
And what happens when nobody wants to lend money, so that people can no longer buy a $200k house for $500k?
Reality happens. The price of that house needs to drop to a little above $200k before it *should* be sold. If people can only pay cash, they will want value for that cash. Absolute value. They question the whole premise of why they should pay $500k for a $200k house.
But what about people who have $500k they want to spend on a house? Easy. They buy a house for a little more than $500k that is actually *worth* $500k. If nobody is selling a house that is actually worth $500k, then the buyer finds somebody who will build them a *new* $500k house.
And no, Mr Contractor, you have no reasonable expectation of being paid $700,000 net profit for building a $500,000 house.
Again, reality happens.
Now there is still credit available out there, even if it is tight right now. And the powers that be LIKE to spend more than they make, and want everyone else to overspend as well. But how long do you think that will last?
Time will tell. Eventually it has to end, however.
He does sound like he has a sense of humor, maybe sarcasm doesn’t come across well in print. Lord knows I’ve been accused of that numerous times.
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