Free Republic
Browse · Search
News/Activism
Topics · Post Article

Skip to comments.

Housing Prices Near or at Bottom? ( Why the housing bears are wrong )
Smart Money ^ | May 2, 2008 | Donald Luskin

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.

---------------------------------------------------------

Donald Luskin is chief investment officer of Trend Macrolytics, an economics consulting firm serving institutional investors. You may contact him at don@trendmacro.com.


TOPICS: Business/Economy; Culture/Society; Editorial; News/Current Events
KEYWORDS: bears; bottom; housing
Navigation: use the links below to view more comments.
first previous 1-2021-4041-56 last
To: Right Wing Assault
That is a nice suburb. My last location up there (before I left for good) was in Lakewood. East Cleveland is not East Cleveland anymore, and I don't know what the hell it is now.

It may as well be the Anbar province.


41 posted on 05/03/2008 5:57:27 PM PDT by rdb3 (Upward, onward, beyond...)
[ Post Reply | Private Reply | To 36 | View Replies]

To: Polybius

The chart ignores the 500k exclusion of income. This raises the baseline.


42 posted on 05/03/2008 6:19:08 PM PDT by Raycpa
[ Post Reply | Private Reply | To 9 | View Replies]

To: Right Wing Assault

-—”5 Bed, 3.5 Bath; 4,080 Sq. Ft.; 0.38 Acres; $264,900 (probably overpriced by about $30k)”

Yeah, but who would want to live in OHIO?

I’d much rather pay $750K for a 3 bdrm California coastal condo.


43 posted on 05/03/2008 6:39:12 PM PDT by AlanGreenSpam ("Celebrate Diversity! Look at the world with all it's problems - Isn't "diversity" so beautiful?)
[ Post Reply | Private Reply | To 25 | View Replies]

To: Polybius

“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.”

Unquestionably correct! The average family fella can’t handle a $2K a month mortgage and car and gas and health insurance and college for the 2.25 kids...its just all still just too expensive.

...And spiraling property taxes rigged to the cost of inflation as they are in Ohio.

These clowns are dreaming if they think otherwise.


44 posted on 05/03/2008 7:28:15 PM PDT by mr_hammer (Checking the breeze and barking at things that go bump in the night.)
[ Post Reply | Private Reply | To 5 | View Replies]

To: AlanGreenSpam
Yeah, but who would want to live in OHIO?

I love the huge swings in the weather in Northern Ohio. I love the winter and the snow. I love Lake Erie. I've been to California and other places where the weather is always 'nice' but that's not for me. A year without a house-shaking blizzard wouldn't be as fun. I love watching the plants make a comeback in spring as they are doing now. I love having my own yard and a workshop to play in. I think a condo would drive me nuts. But hey, folks are all different. I'm very happy here.

45 posted on 05/03/2008 7:57:53 PM PDT by Right Wing Assault ("..this administration is planning a 'Right Wing Assault' on values and ideals.." - John Kerry)
[ Post Reply | Private Reply | To 43 | View Replies]

To: Polybius

I don’t understand this housing price graph. My parents bought a home in 1959 and sold it in 2001 for about 13 times the price they paid. As the difference in no way is reflected in this graph, does that mean that the difference was really mostly illusionary due to inflation and the loss of value of the dollar?


46 posted on 05/03/2008 10:08:10 PM PDT by patriciaruth (http://www.freerepublic.com/focus/f-news/1993905/posts)
[ Post Reply | Private Reply | To 9 | View Replies]

To: NVDave

Interesting post.

Where would you recommend people invest their money for the next few years to get a modicum of return?


47 posted on 05/03/2008 10:11:27 PM PDT by patriciaruth (http://www.freerepublic.com/focus/f-news/1993905/posts)
[ Post Reply | Private Reply | To 16 | View Replies]

To: patriciaruth
I don’t understand this housing price graph. My parents bought a home in 1959 and sold it in 2001 for about 13 times the price they paid. As the difference in no way is reflected in this graph, does that mean that the difference was really mostly illusionary due to inflation and the loss of value of the dollar?

The graph plots prices in "constant dollars" that are adjusted for inflation. The benchmark chosen was average house prices in 1890 paid for in 1890 dollar which is set at an arbitrary "value" of 100.

The 1890 Dollar was chosen because 1890 is the year at which the chart starts plotting.

A house price value of 120 on the graph means that house prices, adjusted for inflation, are 20% increased from 1890 and a house price value of 80 on the graph means that house prices, adjusted for inflation, are 20% decreased from 1890.

To "adjust for inflation" you use an Inflation Calculator.

Any price difference brought about just because of inflation is factored out.

Let's look at your parent's house in 1959 and pick a price for 1959 of, say, $10,000 to keep the math simple.

Plugging the numbers into the Inflation Calculator to compare the years 1959 and 2001, you get the answer:

"What cost $10000 in 1959 would cost $60423.82 in 2001. Also, if you were to buy exactly the same products in 2001 and 1959, they would cost you $10000 and $1681.46 respectively."

So, with inflation alone, the price difference between 1959 and 2001 should have been only six times more.

Since the house sold for 13 times more in their area, the actual inflation adjusted cost of your parent's house as compared to an 1890 house doubled (and a little bit more) between 1959 and 2001 and so the value on the graph would be a little over 200.

The graph shows that, in America as a whole, the 200 value was reached in the year 2006. So, your parent's area was five years ahead of the rest of America in house price increase.

48 posted on 05/03/2008 10:39:27 PM PDT by Polybius
[ Post Reply | Private Reply | To 46 | View Replies]

To: patriciaruth

I’m sorry, I don’t like to give out that kind of recommendation. I don’t know your risk for tolerance, your age, your responsibilities, assets, liabilities, etc.

A financial adviser needs to know a whole lot of personal information about you to make a competent recommendation. I’m not a financial adviser and I don’t like to make off-the-cuff recommendations.


49 posted on 05/03/2008 10:44:05 PM PDT by NVDave
[ Post Reply | Private Reply | To 47 | View Replies]

To: Mad_Tom_Rackham

BUMP TOO!


50 posted on 05/03/2008 10:54:36 PM PDT by SweetCaroline (It's Only Because I Like You, That I Make Your Life So Miserable!)
[ Post Reply | Private Reply | To 2 | View Replies]

To: fightinJAG

re: the mass awareness that real estate can go down:

You’re so right. Prior to this downturn, even here on FR, there were people claiming that real estate was special; that you lived in it, etc. I kept saying that RE is just another asset class and like stocks, or bonds, it can down down in value. Many people seemed to either not want to believe this or thought that their real estate was special.

I think that there hasn’t been enough study of the impact of the housing downturn on the economy and at this point, I think it will be a longer lasting and more far-reaching impact than most estimate at this time. We’re already seeing impacts in ad valorem tax receipts. In southwestern cities like Phoenix and Las Vegas, the depth and severity of the housing downturn is going to affect major, major public works projects.

In the post-2002 economic upturn, housing was responsible for an outsized proportion of the jobs created. Many of those jobs aren’t properly accounted for in the economic stats, because so many of them were filled by illegals, and as a result we’re not seeing the full impact (yet) of the housing collapse on the economy nationally.

The other thing that hasn’t been accounted for (yet) is how much consumer spending has been made by extracting “equity” out of houses with HELOC’s. As HELOC’s are frozen, the consumer’s spending power disappears.


51 posted on 05/03/2008 11:21:16 PM PDT by NVDave
[ Post Reply | Private Reply | To 30 | View Replies]

To: KTM rider

Wrong. Try again.


52 posted on 05/04/2008 3:16:24 AM PDT by Jacquerie (All Muslims are suspect.)
[ Post Reply | Private Reply | To 29 | View Replies]

To: Straight Vermonter

eating up about 40% of income.
>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>

This is what reveals the stupidity of the author. Forty percent is way too high and far above historical norms. It means working twenty weeks a year just to have a roof over you. Does that sound like a bargain?


53 posted on 05/04/2008 6:24:20 AM PDT by RipSawyer (Does anyone still believe this is a free country?)
[ Post Reply | Private Reply | To 34 | View Replies]

To: NVDave
I agree, this one is different. Foreign interests and greed are bleeding the US dry.

The cornerstone of capitalism is debt. Debtor is a slave to the lender.

If the slave dies or gets a broken back whos fault is that ?

If the slave escapes, whos fault is that ?

If the slave owner ( the US capitalist system) cannot feed the slave ( produce jobs that pay but insted gives them to illegal aliens or foriegn manufacturers) and the slave starves ( goes bankrupt) or the slave owner beats the slave ( taxes, inflation, sudden spikes in utility monopolies like gas ) .....whos fault is that ?

I could see, through a glass half empty, the USA spiraling into third world despair, all because of greed and the failure of the US government, not doing it's job to make wise moves to protect itself and its citizens from economic collapse, to wit: immigration, trade deficit, excess foolish regulation (environmental), overtaxation....to name a few

54 posted on 05/04/2008 9:02:47 AM PDT by KTM rider (McCain '08, ....better than the alternative)
[ Post Reply | Private Reply | To 51 | View Replies]

To: Jacquerie
"Wrong. Try again."

sorry, forgot to add the [sarcasm] tag after the japan analogy .....BTW that did actually happen in Japan

55 posted on 05/04/2008 9:06:54 AM PDT by KTM rider (McCain '08, ....better than the alternative)
[ Post Reply | Private Reply | To 52 | View Replies]

To: NVDave

I’m just interested in an over all picture of what is going on out there.

Perhaps you could do some theoretical discussion, if you don’t feel that is likely to adversely affect some people to run out and give their money to a shyster.

For instance, young married people, with average income, starting a family, who have inherited some money and stocks.

Middle aged people whose children are now through college and want to spend the last 15 years before retirement investing for their retirement.

Older people on social security who have nice nest egg and stock, but aren’t getting much interest return now on their bank CD’s.

If you think other examples would be more enlightening, feel free to improvise.

It’s an imposition I know, but you sounded like someone with a clearer view of the reality out there, and for political reasons, I am interested in knowing what people are facing out there now and what reasonable choices they have.

Someone said that it was a stupid waste of money for people to buy houses in the last five years. I would not have known that because the experience of the last half century has been that a home was a good investment for a family.

What other misinformation and misconceptions are prevalent now that can cause people to make big mistakes with their money? Perhaps you could just limit your answer to that if you are uncomfortable looking at some average situations like I have suggested.


56 posted on 05/04/2008 2:06:53 PM PDT by patriciaruth (http://www.freerepublic.com/focus/f-news/1993905/posts)
[ Post Reply | Private Reply | To 49 | View Replies]


Navigation: use the links below to view more comments.
first previous 1-2021-4041-56 last

Disclaimer: Opinions posted on Free Republic are those of the individual posters and do not necessarily represent the opinion of Free Republic or its management. All materials posted herein are protected by copyright law and the exemption for fair use of copyrighted works.

Free Republic
Browse · Search
News/Activism
Topics · Post Article

FreeRepublic, LLC, PO BOX 9771, FRESNO, CA 93794
FreeRepublic.com is powered by software copyright 2000-2008 John Robinson