The Housing Bubble

The following is Jon Lansners’ response to your question submitted last week. The bold type are the questions. I summarized each group of questions, and then your remarks are seperated by commas. Any link mistakes are mine, as I made them to articles Mr. Lansner provided.

To Ben’s fine crew … Thanks to all for the hearty debate. I got some ideas for future columns and blog postings, and slants to my work, in between the spitballs tossed about. For example: I’ll not mention price and volume in the headline when I’ll blog weekly market update!

Just so you all know, I own one home. Been an OC property owner since 1986, so I have plenty of equity left to ride out even the worst disaster. And I’ve never owned investment property. (My poison’s stock mutual funds!) So if I’m wrong about the local housing market, it’s because of my own professional failings, not my wallet talking.

I’ll assume these answers won’t quiet all my critics. But I tried my best.

“First, on the question of influence. ‘Having worked at three major newspapers in either advertising or production, every newspaper I‚ve worked for has had a firewall between editorial and advertising…Bill Kovach, Tom Rosensteil and Amy Mitchell wrote that journalists ‘report more cases of advertisers and owners breaching the independence of the newsroom. Advertisers work hard to create the appearance of a wall, but, as outsiders (like us bloggers for instance) can plainly see, and as some insiders have come to accept, there is no wall at all…What happens when the advertiser (or industry group, i.e real estate related) represents a significant percentage of the revenues generated from advertising? Then walking away from the advertiser is not so easy. I’m from San Diego which is bubble central and just a casual scan of the Weekly Reader and the Union Tribune will tell one just how much reliance there is on real estate advertising…As to whether the print media is directly benefiting from the real estate advertising due to the housing bubble, there‚s no doubt that it is. An analogous situation occurred with the stock bubble of the ‚90’s, in which cable stations such as CNBC and CNNfn were among the greatest cheerleaders…I am an OC Register subscriber, and I look forward to Lansner‚s writings on real estate. In my opinion, his musings seem to be 60/40 in favor of the RE industry/market, but he does manage to interject a dose of reality, as if to hint that the tide is changing….Since you rely on RE industry to give you input as to what is going on in the market place, if you were to write an unfavorable article, would these insiders then shun you and no longer give you the information you need to write future articles?‘”

In the 20 years I’ve been at The Register, I’ve never witnessed any story coverage altered to pacify any advertiser. And that’s the way it is at major newspapers. So you may not agree with what I write. I may be dead wring about housing. But it’ll be because I didn’t do my homework, not because of some internal newspaper limits on what I can say because real estate companies buy ads.

Tell me this: Where else have you seen analysis like this? Not the kind of copy a Realtor would like to see in the paper, I’m sure.

I also don’t skew my coverage so that I can curry favor with real estate companies and, thus, they’ll continue to chat with me. There’s too many sources of info and insight for me to worry if my work angers anybody in the business. If real estate types had that kind of control over my work, I’d do something else for a living.

“Many readers want to know his opinion on the over-stretched borrowers/speculators in OC. ‘Jon Lansner‚s recent columns may not mention of the deep trouble lenders are in the OC. Being that many of the top subprime lenders in the OC have been laid off employees and suffered poor forecasts, this issue should be front and center…How will the slowing housing market affect OC employment in the real estate, mortgage lending, and construction areas? How much recent new employment in OC is directly tied to real estate?…I believe that he ran a column a while back that hit thisˆ something like 85%. He also talked about the totally bogus down payment number. Same groupˆif their arm reset today, how much would their rate/payment go up, and could they reasonably afford it?…What percentage of the real estate speculation comes from people who are otherwise employed in the real estate/finance/construction industries? Lansner has done plenty of pieces on OC job growth in these fields. Anecdotally, it seems like everyone who is speculating on OC homes also has a day job that is dependant on continued RE growth….How many ARMs are being reset in OC this year and 2007? What is the average mortgage increase for these ARMs? What part of the OC foreclosure rate is due to people being„ strong-ARMed out of their homes?….How many current homeowners in Orange County have taken equity out of their current home to finance a rental in another state? I personally know of 5 families that have bought in Idaho, Vegas, and Arizona. All cash flow NEGATIVE and I/O loans.’”

Let me give the blog a sample of my work, a chunk of which has raised questions about lending practices. On the growing fad of ‘piggybacks,’ borrowers essentially borrowing their downpayments.

And the silliness known as 40 year loans. On too many home equity loans. Or looking at the challenges facing lenders.

“Others question who is an expert. ‘Here‚s a question: why are the opinions of realtors and realtor association spokespeople so often tagged as being from real estate experts‰ when they have so strong a vested interest in one side of the picture?…Why wouldn’t these people be classified as experts. Maybe I should ask who would be better suited to be cited as an expert. Your local 7/11 clerk….Rather than deeming these people experts, perhaps it would be more appropriate to call them, sources and to ask questions ‘meaningful questions’ instead of letting them get away with making ludicrous and baseless statements which they are never asked to back up. Asking David Lereah if there is a bubble is like asking Ken Lay if there is a problem with Enron stock. It’s a waste of time. And I think that’s what frustrates people when they open their local newspapers and see the latest rise in median price touted in bold numbers on the front page, with no mention of rising inventory or slowing sales or increasing days on the market or layoffs in the mortgage industry…..Why are RE agents (Gary Watts) and CAR reps (Leslie Applegate-Young) constantly being referred to as ‘experts’ and allowed to present their opinions in the Register without ANY counter point arguments or analysis from non-RE interests?‘”

It’s a fair question. And a challenge for all journalists in a number of topics. Insiders do have knowledge, and vested interests. I try to [1] write as often as possible off my own statistical research and [2] vary whom I talk to.

I’m not ashamed that I provide insights into both the bull and bear arguments on housing. And let me repeat a comment I hear from housing bulls: Aren’t the stock and bond types carping about housing conflicted, too: Real estate’s siphoned investor money from their businesses is recent years.

If the home-building chief of this county’s largest developer wants to talk to me, then why not?

Also, I’ll chat with a total housing bear. There are two sides to every debate, and home prices in Orange County are still a debate no matter what I personally believe.

And here’s one column where I did speak to the Realtor’s national president … But not on a topic you’d think ….

“Some readers think Mr. Lansner is a housing bear. ‘Having read most of his articles, I’d have to say he tries to present a very balanced view of real estate market here in orange county. if anything, I’d guess that deep down he‚s a real estate bear and has been for quite awhile….Amen, I‚ve stated that I felt he was a bear back in June of 05…Lansner did publish a bearish article in 2003. He was early like many bears. He also published a re-hash of his bearish call in the last 6 months. He published the yellow light flashing article on tax delinquencies and he also published the article on the sisyphean nature of OC housing in the last 90 days. Why do those stand out? Because they were exceptions to the glorious rising RE stories in the Register (not all written by Lansner). The tone of the glorious rising RE articles tends to be ebbullient in the OCR and the bearish articles are dispassionate passive voice articles. That is the reason for the backlash here….He was a bear in the past, but lately he seems a bit off. Maybe because he predicted too soon and now he‚s being cautious. I wrote on his blog and I mentioned being bought out. I guess he wanted to defend himself and I can understand that….Mr Lansner, in talking with your closest friends, say, over coffee or a cocktail, do you admit you are now a real estate bear or bull? Do you find yourself defending an ongoing real estate price escalation or do you argue for a ‘deflation’ of the obvious real estate bubble?‘”

I’m a bear. (And, for the record, I did say four years ago OC housing had peaked.) Risks are very high. Rewards seem modest, if the bulls do prevail. I’d tell anybody that — even my neighbors who’ve made killings on investment properties. (I tell them to sell!)

Here’s what worries me. A recent hint of trouble, late tax bills. But it’s hard to be a 24/7 ‘crash is HERE’ person when we’ve had nine straight years of home appreciation in The O.C. — the last 6 at double-digits gains.

How else would you have written this gem, a flipper besting investment pro Warren Buffett?

“Some think the Register doesn’t report on housing inventory. ‘I posted on > his blog last Friday, that he used to be pretty balanced and fair but was wondering why there has been a lack of any hint of rising inventories in the OC being written about on his part….Contrary to popular belief, Mr. Lansner has pointed out a couple of times the issue of rising inventories….Here‚s my question: INVENTORY? Doesn‚t it appear to be obvious that Orange County is attempting to Œcash out‚ all at the same time? And doesn‚t that precipitate an oversupply? And wouldn‚t an oversupply cause prices to head one direction? Why doesn‚t the Register talk about INVENTORY? So, is the Median Price‚ really the ONLY indicator of a real estate market? It’s the leaving out of the Inventory Issue that makes people suspect you of being bought by RE. And thanks again for being a good sport.‘”

No one marker dictates this business. Inventory spiked in the summer of 2004. Then after Election Day, the housing market took off again. Inventory is up again; we had a story recently that said so.

One cannot simply overlook the overarching strength of the OC economy. I follow it in great detail with an 18-year database of economic stats. My last quarterly check in.

Jobs are plentiful, and jobs, not rates, drive housing. But we’ll be carefully watching inventory, too …. And — even though nobody said it — late bill payments of all sorts! PS: Column on local credit scores.

“Others want to know JL’s outlook for Orange County real estate. ‘Will you concede that a RE market collapse and credit collapse is plausible whether or not you think it likely?…What data are you seeing that would indicate a growth outlook for OC housing / Southern CA housing, taking into account all of the negative inputs that have surfaced recently….Many individuals on this blog and other sites have often posed the general question: How can a typical family in OC now actually afford to purchase a home…..On your blog dated March 3, you have a headline that states ‘Back Above 600k!’ that to me seemed a bit too enthusiastic. I understand the figures from DataQuick reflect those numbers, > but the overall tone I get from that headline conveys excitement and does a disservice to your readers…..Why don’t median-income-to-home-price or rent-to-home-price ratios matter any more?…..Does it make sense to you that prices will keep going up 15% per year? Can you explain it to us and if you can’t, then why aren’t you asking relevant questions and presenting that perspective to your readers?‘”

There’s a good chance things will get ugly and affordability is a key component. My own math has the typical household income still generating a 40% debt-to-income level if your buy the median price CONDO! That’s outrageous.

My guess for home prices in The OC for 2006 is about 0%. I get this from my do-it-yourself home-price forecaster.

Again, thanks to all for the spirited debate!

The letter campaign to the Sun Sentinel is heating up. “I concur with the author of a recent letter that stated that housing prices will fall. All of your articles couch real-estate ‘bad’ news with the counter-opinion of experts who use soft-ball terms (e.g., a slowdown, ‘we won’t see double-digit increases,’ etc.).”

“It is misleading to tell anyone to buy now, even if they are a ‘user’ vs. an investor. There is much evidence that house prices increased over 130 percent in five years (and most within the last three years). Real income wages did change by double digits in that time period.”

“The real-estate frenzy was propped up by low interest rates and creative financing techniques. Facing 7-plus percent loan rates, those days are over. You cannot look at the plethora of poor purchase decisions and not conclude that buyers who are overstretched by payments, insurance, taxes and homeowner associations will be in trouble for a couple of years. Many will dump their houses or face foreclosure.”

“People are now trying to sell homes at over $400,000. Home owners who bought three or five years ago have plenty of equity, they can agree to lower offers.”

“How can anyone (but a Realtor) say this market will continue to grow? I think house prices will fall off in the double digit range over the next two years. Instead of printing softball articles, why doesn’t the South Florida Sun-Sentinel do an in-depth analysis?”

Some reports on the state of the US homebuyer. “A growing number of homeowners in New Hampshire are being forced out of their homes by foreclosure. Foreclosure filings in the state jumped from 188 in February to 263 in March. In Strafford County, there were 19 foreclosures in January and February, compared to 40 during all of 2005.”

“‘There is an alarming trend occurring here,’ Strafford County Registrar of Deeds Leo Lessard said. Lessard and others who watch housing trends say the increases probably are due to rising interest rates and high home prices.”

“‘Home prices were so high, people borrowed so much money that if there was a blip in the economy, foreclosures were inevitable,’ Lessard said. ForeclosuresNH says 52 percent, or 98 of February’s foreclosure notices went to homeowners who purchased or refinanced their homes in the past two years.”

“‘Our analysis of January 2006 Massachusetts foreclosure filings confirms that 2006 is mirroring the dramatic pace set in 2005, with foreclosures running 39% higher than January 2004,’ said Jeremy Shapiro. ‘In fact, some areas in Massachusetts are seeing even higher increases.’”

“Foreclosures were filed on 1,075 Massachusetts properties in January 2006, while only 776 were filed in January 2004 and 919 in 2005.”

“Most real estate experts agree the market is slowing, but they maintain there isn’t a bubble in Southern California. But if you’re one of those who stretched your resources or perhaps the truth to get into the market, your bubble may be about to burst.”

“‘We’re running into more clients who are headed down that path right now,’ said (mortgage broker) Mark Prather in Cerritos. ‘The foreclosure rate is starting to grow.’”

“Foreclosure activity in California rose in the fourth quarter of 2005. Lenders sent almost 15,000 default notices to California homeowners between October and December, up 19 percent from the third quarter, according to DataQuick Information Systems. ‘We had three clients just in the last two weeks who are facing sale dates and they are in difficult trouble,’ Prather said. “Frankly, they overbought, and that is a big part of the problem.’”

“The average adjustable rate mortgage is now 6.03 percent, and Prather believes that rate is on its way to 7 percent. That means those with ARMs, adjustable-rate mortgages, may be doling out some extra cash.”

“For example, the average loan amount in the Cerritos area most recently was for $475,000, Prather said. ARMs a year ago started at roughly 4.5 percent, putting the monthly mortgage due at $2,406. When it hits 7 percent, that payment will reach $3,160. That’s another $754 each month.”

“Mortgage rates have hit their highest level in nearly four years, and that has a direct impact on home affordability…and home prices. The average rate on a 30-year fixed mortgage stands at 6.37 percent, up from 5.58 percent last summer.”

“‘I think it’s indisputable that demand in the housing market has declined in the past few months,’ says (economist) Richard DeKayser. ‘It’s very clear that rising interest rates figure very large in that decline.’ As rates rise, homebuyers who were already stretched need to demanding lower prices. ‘Low rates had offset unaffordability in past years,’ said DeKayser.”

The NAR has this out on todays housing market. “A lower level of home sales expected this year will create a more level playing field for buyers and sellers on the heels of a five-year sellers’ market. David Lereah, NAR’s chief economist, said the number of homes on the market has been improving nicely.”

“‘The cooling from overheated sales conditions in recent months is helping to bring inventory levels up to the point where buyers have more choices than they’ve seen in the last five years,’ Lereah said. ‘Annual price appreciation is still running at double-digit rates, but the cause of those sharp increases is going away.’”

“Existing-home sales are expected to fall 5.7 percent to 6.67 million in 2006 from the record 7.08 million last year. At the same time, new-home sales are forecast to decline 7.7 percent to 1.18 million from a record 1.28 million in 2005.”

“NAR President Thomas M. Stevens said some home buyers and sellers have unrealistic expectations. ‘Some sellers in markets that have had rapid appreciation are listing the price of their home too high, but those homes are just languishing on the market,’ said Stevens. ‘At the same time, some buyers who have believed hype about a housing bubble are hoping prices will drop, but that’s not happening either.’”

No link available for this statement from the Santa Barbara, California realtors president. “Have you ever tried selling a car by placing an ad? How did you feel when prospective buyers said the car wasn’t worth the asking price? When selling your home, you may hear the same objections. Do those comments mean you will have to reduce your price to achieve a sale? Not neccesarily - if you are represented by a realtor. Recognizing that certain features..may be attractive to the prospects, they may be presented as offsetting benefits, thus neutralizing buyers’ concerns. This eliminates the need to offer price reductions as the only solution to objections.”The Herald Tribune reports on prospects for new realtors in Florida. “Jake Morse recently decided to become a Florida real estate agent. You might think he is crazy. After all, the Sarasota-Bradenton market just witnessed a 48 percent decline in January closings, and there are three times more homes for sale now than a year ago.”

“The number of real estate agents who pay for membership in the Sarasota Association of Realtors has risen 109 percent since early 2001, to a total of 4,861. It is the same story down south, even more exaggerated, with the Punta Gorda-Port Charlotte-North Port Association of Realtors showing a 123 percent five-year increase in paying members to 1,648. Statewide, the number has doubled to 154,558 in five years.”

“At the Andy Gray School of Real Estate in Sarasota, classes were running flat-out all last year, with a typical waiting list of a dozen or more. Now, the list is gone.”

“Ken Miller thought he knew what he was doing last summer when he became an agent. ‘The easy money is gone,’ Miller said. ‘Right now, real estate is really, really slow. First of all, we had a market when I got my license where we had a plethora of buyers and no sellers. And now, we have no buyers but plenty of sellers. It has been a roller coaster, to tell you the truth.’”

“He has so far landed only four listings, two of which have eventually sold. ‘I only got half the transaction. That’s not enough to survive, I’ll tell you that. It really isn’t.’”

“When he started as an agent in 1978, it took him a year to receive his first commission check, Ron Cornette recalled. His advice? Get a job with one of the agencies that has a division dedicated to selling condominium conversions, subdivision properties or new condos for a builder. That way, Cornette reasons, ‘You do have somebody to talk to every day.’”

The biggest mortgage firm in the world has some news out this morning. “Fannie Mae, the nation’s top home mortgage lender, said Monday that it notified the Securities and Exchange Commission that it will miss the March 16 deadline to file its 2005 annual report. The lender said it expects that its annual report, which will include its restated results for 2004, won’t be submitted before the second half of the year.”

“Mortgage finance giant Fannie Mae, engulfed in an $11 billion accounting scandal, on Monday said it found more accounting errors and delayed posting financial results for the second year running.”

“Fannie Mae did not estimate how the newly disclosed errors might affect the magnitude of its expected restatement. Fannie disclosed new accounting problems in its Monday filing with the SEC. It said those errors were not previously reported in other filings or in the report issued last month by former U.S. Sen. Warren Rudman, the investigator hired by the company’s board.”

“Those new errors included accounting for certain investment securities at the incorrect cost basis, accounting for certain guaranty fees and obligations in connection with a small portion of Fannie Mae mortgage backed securities trusts, and certain loan-related accounting matters.”

“The U.S. Treasury Department is studying the growth of sophisticated financial vehicles such as hedge funds and derivatives to see what risks they may pose to financial markets or institutions, a senior official said on Monday.”

“Treasury Undersecretary for Domestic Finance Randal Quarles told an international banking conference that derivatives have exploded in both type and use, and sounded a note of caution. ‘We at Treasury,’ he said, ‘want to ensure that the magnitude of risk and exposure are properly measured and that investors and market participants have full and adequate disclosure’ with which to make decisions.”

“Quarles said Treasury is also reviewing the pace of capital accumulation by hedge funds and private-equity funds, the role of nonbank financial institutions in markets and other issues. He also criticized the big holdings of securities at mortgage giants Freddie Mac and Fannie Mae.”

“Quarles said ‘we’d like to see these holdings significantly reduced. With an appropriate phase-in period, we believe that our capital markets could adjust to a significant reduction in the presence of the [government-sponsored enterprises] as mortgage investors,’ he said.”

The Sun Sentinel reports on preconstruction profits turning into lawsuits in Florida. ” Most everything was in boxes as Dottie and Gary Sahadeo prepared to move out of their Coconut Creek home to a more spacious, custom-built house. But with construction almost complete, the Sahadeos received an unwelcome call: Their developer was canceling their contract, requesting $150,000 more to finish the work.”

“Instead, the Sahadeos are locked in a legal battle to force completion of the five-bedroom house, which was under contract for $590,000 in 2003 but could sell for around $1 million today.”

“From the home buyers’ viewpoint, developers have been breaking contracts to sell the home at a higher market value. Some developers, though, cite the rising cost of building materials as having forced them to back out. Speculative buyers in the condominium market likewise have been pulling out as interest rates and other costs rise, making their investments less profitable.”

“Typically, the developers who break contracts entered the market during the building boom that began in 2001 and recently has tapered off, said Jack McCabe. At the end of last year, McCabe started noticing an upswing in developers returning down payments, and he expects to see more cancellations this year. Speculators who signed contracts to flip properties for a quick profit also are pulling out, he said.”

“It’s more common for homebuyers than developers to pull out of contracts, said Gopal Ahluwalia, an economist at the National Association of Homebuilders. The cancellation rate is historically 20 percent. With interest rates expected to rise, Ahluwalia said, cancellations will likely increase. ‘When home prices are rising, people want to get on the bandwagon,’ he said, ‘and when they start hearing of a slowdown, they want to back out.’”

“Construction attorney Steven Lesser said the issue arises when contracts do not account for changes in material costs. Or, he said, when homebuyers sign a contract without understanding its implications. ‘If the price of construction goes up, then who’s going to bear the monetary risk?’ Lesser said. ‘No one’s in the business of losing money.’”

“In the next couple of years, McCabe anticipates a ‘tremendous amount of litigation,’ speculators suing brokers and lenders, developers suing speculators to get them to close and homebuyers suing developers. ‘It’s been a rose garden the last four to five years,’ he said. ‘Everyone’s been happy because everyone’s making money.’”