Beware of Real Estate — it hasn’t finished collapsing

2014 A. Gary Shilling: A U.S. recession would halt the housing recovery, which is already on shaky ground, as pending sales, housing starts and mortgage applications for refinancing decline. And a housing slump would spread to many other sectors, including home furnishings and autos.

Ilargi Jan 25, 2012 theautomaticearth on Why Housing prices are kept artificially high – if priced correctly, the economy would crash

If houses in countries like the US, Britain, Holland, Spain, China are ever to reach a level where they become affordable, we will find they no longer are, no matter how low prices become – receding horizons in reverse, sort of -. Because if they do reach that level, the entire contraption that is our economy will have crumbled.

So governments choose to prop up home prices. Helped in arriving at that decision by the knowledge that homeowners are a formidable political force they don’t want to turn against them. But propping up home prices means supporting price levels that were established by hot air credit in combination with liar loans and other “criminal legalities” in the first decade of the millennium.

The hot air credit is rapidly vanishing because it’s put everyone and their pet hamster neck deep into debt. People can’t afford to borrow anymore, a simple truth that is almost entirely ignored. Hence, to prop up today’s prices at yesterday’s levels, governments themselves need to step in. Can’t have that ole market working its magic. What this does is it lets every single citizen pay for every single underwater homeowner’s debt. And why should people who already have a hard time pay for someone else’s home?

Obama’s State of the Union mortgage plan, provided it doesn’t simmer down and die like all the preceding plans, is based on refinancing at lower interest rates. If nothing else, this will put potentially substantial ($100 billion? $300 billion?) additional pressure on Fannie and Freddie. Which already have negative capitalization rates. And sit on trillions of dollars “worth” of highly dubious paper, most of which has not been written down to anything like reasonable, realistic levels.


Of course all the negative aspects of this were dealt with a few years back through the brilliant move to let everyone decide their own accounting standards. A move that is as dangerous as it is brilliant, however. Because nobody knows what anything is truly worth anymore. You can have lender A having a home loan on its books for $200,000, while bank B has issued securities for a strikingly similar home next door “worth” $400,000, and the just as similar home next to that one has been sold for $50,000 just last week.

Now if the “owners” of either the first or the second home default, what happens to the value of those loans and/or securities written on them? At some point, someone will demand to know the truth. But neither the government, nor the lenders, nor the borrowers want that truth to be known. Small wonder that banks would rather let homes sit empty or let borrowers stay put for years without paying. Price discovery is a bitch, and never more so than after a long period of lying about that price.

There is zero chance that US home prices will ever reach their recent peak again, unless some sort of huge inflation were to take place, and that is obviously not in the cards for many years (if it were, it would have been here already) . So before that happens, other factors will have made sure that home prices are driven down relentlessly. Like, for instance, most Americans, or the ones that have jobs at least, a select group, making the kinds of wages that are current today among burgerflippers in China or Vietnam.

Fannie and Freddie are to a significant extent responsible for the fact that the financial sector has been able to take over and govern US society, including its political sphere. Whenever I say things like this, there are always people that point to all the good the GSEs have done: allowed ordinary people to afford a home etc. But in fact, from the get-go, they have driven up prices by “raising affordability”, and that has allowed for the banking sector to get a stranglehold on the US population.

2012   No: The Fall Isn’t Over By A. Gary Shilling

Don’t buy your first house now unless you’re willing to lose 20% of its market value in the next several years. Maybe more.

It will take a 22% drop to return median single-family house prices to the trend identified by Robert Shiller of Yale University that stretches back to the 1890s and prevailed until the housing bubble began. (It adjusts for inflation and the tendency of houses to get bigger over time.) And corrections usually overshoot on the downside just as bubbles do on the upside.

The problem is excess inventories. They are the mortal enemy of prices, and we’ve calculated an excess of two million housing units, over and above normal working levels of inventories of new and existing homes. That is huge, considering that before the housing market collapsed, about 1.5 million new homes were being built annually, a figure that shrank to 568,000 in February. At current rates of housing starts and household formation, it will take four years to work off the excess inventory, plenty of time for those surplus houses to drag down prices.

Excess inventories, of course, were spawned by the earlier housing boom, which was driven by a host of factors—including low interest rates, almost nonexistent lending standards and government attempts to put even those who couldn’t afford chicken coops into four-bedroom houses. But most of all, the housing bubble was driven by the conviction that home prices never fall—they hadn’t on a nationwide basis since the 1930s—so any bad purchase would eventually be reversed.

As such, the homeownership rate expanded to 69.3% by late 2004, from the earlier norm of 64%. But now, homeownership has retreated to 66% as foreclosures mount, lending standards stay tight and many worry about their jobs and/or the responsibilities of homeownership. Everyone knows that house prices can and do fall.

Pushing Up Inventories

The optimists will tell you that home inventories have stabilized, but their thinking is flawed. Our estimate of two million excess homes takes into account those on the market as well as hidden inventories, such as foreclosed homes not yet listed for sale and those withdrawn from the market because owners couldn’t stomach the bids they received. A U.S. Census Bureau category that measures such hidden inventories has leapt by one million units since 2006.

Additionally, our inventory estimate doesn’t even include future foreclosures, some five million of which are waiting in the wings. The 49% drop in new foreclosures since the second quarter of 2009 is a mirage, and was partly due to the Obama administration pressuring mortgage lenders to try to modify troubled mortgages to keep people in their homes. (They were largely unsuccessful.) Then lenders refrained from foreclosing to avoid even more bad PR during the robo-signing flap that highlighted inadequate foreclosure procedures.

Now that mortgage servicers have reached a $25 billion settlement with Washington and state attorneys general, foreclosures are likely to roar back. That likely will trigger the additional price decline, since the National Association of Realtors says foreclosed houses sell at a 19% discount to other listings, and sizable sales of real estate owned by lenders drag down the entire market. The total peak-to-trough decline in single-family house prices then would be more than 50%.

If those foreclosed out of their abodes move to rentals, they’re occupying other housing units, so there is no change in overall inventories. But if they double up or move in with their parents—as statistics show they have been doing—even more excess inventory results.

A Disastrous Investment?

Sure, the always optimistic National Association of Realtors tells you that based on mortgage rates, incomes and house prices, single-family houses have never been more affordable. But according to their index, that was also true in December 2008, and prices have fallen 9.2% since then. Ugh! Home prices may have dropped 34% since the peak in early 2006, but that doesn’t make them cheap if prices continue to decline.

Waiting for housing prices to rebound? Don’t hold your breath… so says SmartMoney’s Jack Hough who pulls up a chair on Mean Street and points out the truth in numbers.

Many have realized that an abode and a great investment are no longer combined in a single-family house. Instead of straining to buy a house, young families should rent until their kids are old enough to really need a single-family home.

Yes, apartment rental rates are rising and vacancies are falling, but by past standards, house prices remain high relative to rents. But even if homeownership was cheaper than renting, as some claim, buying a house now would be a disastrous investment if prices fall another 20% or more.

The homeownership dream of an appreciating asset and huge ATM has been replaced by the nightmare of a liability that is expensive to own and falling in value. Act accordingly.

Other articles by Schilling at Bloomberg


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