How Far Down Is Down?
Readers want your opinion on how low will real estate go. “Topic Suggestion: How far down is down? Stated in terms like this; return to 2004 prices, 1997 prices, 1985 + 20% prices for your local market.”
A reply, “My own opinion, based on observing a couple of downturns here in Australia. ‘Soft Landing’ - Average real price falls (either mean or median). ‘Hard Landing’ - Average nominal price falls. ‘Crash’ - Average nominal price falls more than 10%.”
And another said, “Some believe you need a new bubble to fully burst the old one; probably this is main reason why we dont see ‘panic’ selling, yet.”
One reader points to Japan. “For those that believe the collapse will be short with only a 30% drop from todays news: Japan Times.”
“The gap in land prices between large and small cities continues to widen even though the average price in select areas has moved higher for the first time in 14 years. The National Tax Agency said Tuesday that land prices in Tokyo and Nagoya rose more than 20 percent as of Jan. 1, while the pace of the drop in nine prefectures expanded.”
“But the area in front of JR Akita Station stands in stark contrast, as it is quiet even on holidays. Some shops are closed and have notices asking for tenants. One female shopkeeper said, ‘The area in front of the station is always deserted.’”
“The land price per square meter in front of the station is 230,000 yen, sharply down from 1.4 million yen in 1993. The price has fallen for 13 years.”
Like the example in the article, so many so-so property owners think they have hit the jackpot, too. Locally, median prices went up 60% in the first half of 2005, yet few want to entertain the idea that prices can fall by more than 10%. One duplex that has been for sale over a year is a good example; it has terrible street access and traffic issues. The tenant turnover is constant. Yet the owner was asking $450k. Now its down to $340k and the ads in the paper are increasingly desperate. IMO, it’s not worth $150k, based on rent returns.
I truly believe that San Diego prices can fall to the point where today’s 500k crackerboxes will go for less than 150k. My ittle-bitty brain calculates that to be a 70% drop.
Why not? They were at these prices at the turn of the century, and there is no GOOD reason for them to be “worth” all that much more.
Speaking of which, why would anyone here be worrying about interest rates in the future, when you’ll just be able to pay cash?
I watch interest rates as it aids in current and future income.
We should pray that this doesn’t happen. What people can pay for a house is the limiting factor. House prices shot up first because interest rates were extremely low, and then because any attempt actual underwriting disappeared. There are good reasons why it is advantageous to own your home if you are going to live there for several years. If you intend to own a house for several years, it is perfectly reasonable to Pay for it over several years. The only way that any noticeable fraction of people will be able to pay cash for a house is if loans are unavailable. This would represent a total collapse of the banking system and is not to be hoped for. Fortunately this is NOT likely IMHO.
That 70% isn’t really drastic, because so few of these houses ever actually sold for the amounts asked. Just a few comps did and everyone assumes all homes have that ‘value.’
That’s also why the bubble won’t be as injurious to the general economy as some here believe. Inagine getting a letter in the mail saying you won a million dollars. Next day you get another letter saying a mistake was made, you only won $400,000. Did you just lose $600,000? Only if you went out the night before spent it all (MEW).
Someone who bought the lottery ticket off the guy for $1M before he got the letter would also be screwed (because he liked the lottery ticket and wanted to live in it) if he had to sell the lottery ticket because he lost his job, got divorced, had to relocate, or had some other event in his life that forced him to sell his lottery ticket.
Here in California I believe the fall will be felt hard. 40% of new employment was fueled by the drunkened market frenzy. I work with contractors everyday and it is a continual slide ‘down’ every week. My brtother is a loan broker and he would share with me over the last three years the crazy quailfying that these ‘zero’ down folks could use to get in a home. It is not just the housing market fall that will be isolated……..the clock is ticking for the moron’s that did not have the resoures in the beginning that work in jobs associated with this house of cards. It was a self feeding lie.
Though if you look at the amounts of MEWs and HELOCs, combined with the percentage of economic growth that was due to housing, a good argument can be made that it will be as bad or worse.
A lot of people did spend the million. Now the correction letter came…we’ll see.
I’m not too worried about the coming and needed recession even if it is late and thereby harder than necessary. The jobs that will be lost are largely parasitical and not ultimately productive nor are they the jobs we wish to have created in a modern economy. Obsolete jobs are best cleared out. A recession will ease our crushing immigration pressures here in California as well. Schools are already talking about closing buildinngs, saving billions. Lower taxes, less crowded schools; what’s not to like? Maybe the national psyche can find enough breathing space to heal as well.
Exactly. Lots of people borrowed against their “gains.” I’ve read a few places that equity in homes (as a % of value) is at an all-time low! This is after a boom!
Literally, I got a job offer last week at about 15% higher than my current job pays. The next day it was withdrawn (company hiring freeze). Problem is, I ran out and bought a new beemer and a big screen TV before I got the bad news.
Just kidding about the beemer and the big screen, but this seems a LOT like what folks have been doing with the recent winnings on their property appreciation, and when it reverts to the long term trend (and it will) all that will be left is a Hummer payment and that cool new Kitchen payment…
“That’s also why the bubble won’t be as injurious to the general economy as some here believe. Imagine getting a letter in the mail saying you won a million dollars. Next day you get another letter saying a mistake was made, you only won $400,000. Did you just lose $600,000? Only if you went out the night before spent it all (MEW). ”
Robert,
The last sentence belies the concern. Lots of people received the letter announcing their (paper) millionaire status several years ago, and banks willingly helped them spend the paper gains on luxury items which would not have been affordable without the phantom gains. Now when the letter announcing the mistake finally arrives in the mail several years later, it will turn out that many faux chateau owners already spent the nonexistent money …
my sister is that way. She quits her old job, gets a new one, and immediately goes on buying sprees. She does not know my income, only that I work 60 hour weeks at times, but usually 55 hour weeks. If she asks, my money is for my own financial freedom. I am not rich. Columnist Scott Burns put it this way: If you had $2,000,000 in 30 year bonds at 4.5%, you would have an annual $90,000 income free of state taxes. You would have enough income for a mortgage payment and car payments. You would be independently middle class. That is, comfortable without needing a job and without being wealthy. I’m not even halfway there yet.
Robert - I agree that housing alone would not cause as bad a recession as some here predict. However, there are a lot of other issues that will cause a deep and sustained recession.
A lot of people took cash out of their homes based on falsely inflated prices. They now will have to pay the piper. That will cut the wealth effect and cut consumer spending. (Not to mention the other issues with the credit/debt bubble internationally).
I’m not saying that there are plenty of folks that will be in trouble with there HELOCs, but there are also lots of folks who owned their home with a 9% fixed rate mortgage, and refinanced to 6% fixed without taking any cash out (or certainly not so much that their payment went up). These people have permanently had their montly payment reduced, regardless of what happens from here on out.
I personally don’t know of any FBs (I might know them, but don’t know that they are a FB yet), but I do know plenty of people who fall into the above mentioned category.
should be “there are not plenty of folks that will be in trouble”
Sorry.
70% is a bit drastic.
john,
even in the bubbly coastal regions?
Bingo!
How about inflation or dollar devaluation? What if those price increases stick, because it turns out that we have been reliving the 1970s (or worse) in the current decade?
I recon REAL inflation has been running at around 15% since 1999. Interestingly, between that time and earlier this year when the govt stopped publishing the M3 money supply figures the total money supply doubled during the same time period.
What has made this Inflationary period so much more painful is the static nature of wages, while fixed overhead and costs baloons (Groceries, Energy Costs, Health Care, College Costs, Housing etc…)
In 2000, I paid UNDER $400 for full health coverage for my family. Today that figure is at $950…. This is the most extreme example, but I AM feeling the squeeze!
IMO, healthcare is the white elephant in the middle of the room.
Re: healthcare, I agree. I have had the same basic coverage with the same company (Pacificare) since 1998. In 1998 my monthly premium was $156, 8 years later it is $828. That’s around a 25% COMPOUNDED increase yearly. My co-pays have more than doubled. This is unsustainable, yet no politician will touch the issue, and it gets surprisingly little press.
There is something very different going on now compared to the inflationary period of the late 70’s. Check out this chart:
http://www.infoplease.com/ipa/A0104547.html
The percent increase in per capita personal income from 1975 to 1980 was 69%, the increase from 2000 to 2005 was 16%. Incomes simply will not sustain the higher prices.
“The percent increase in per capita personal income from 1975 to 1980 was 69%, the increase from 2000 to 2005 was 16%. Incomes simply will not sustain the higher prices.”
Yeah, but rent’s have been well within 16% between ‘00 and ‘05 so really, the true cost of living for a wise, renting person was felt more in the health insurance and gas lines than in playing the ownership society game.
I do foresee at least a 30% to 50% reduction here in ventura county , CA. you cannot drive through town on a weekend without running into 3 to 4 open houses signs per intersection.
I do foresee at least a 30% to 50% reduction here in ventura county , CA. you cannot drive through town on a weekend without running into 3 to 4 open houses signs per intersection.
I live in this area and have been a property owner thru the last 3 cycles. I still beleive we are “behind the curve”. I have no doubt things will turn but so far as in the past I have yet to see any “blood in the streets”?
I agree with most posters on this Board in that the Bubble will pop! So far I do not understand how the Market has withstood all of the “funny money loans, neg am, Qf on the “Teaser Rate”, 80/20 No down etc, etc, etc.
In past boom bust these were not even a factor…. Yet it was still a total mess!
I will wait I voted late in the Summer of 05′ and will wait on. I signed a 1 year lease and at this point doubt if I will see bottom by then.
Still a very tight rental market in Ventura county?
Not even the fact that the dollar is worth a hell of a lot less now than it was then?
I think you hit the nail on the head when you mentioned rental returns. IMHO, cap rates will put a floor on prices. It’s tough to say that affordability will create a floor because it is something that can be manipulated through “creative” financing. However, ultimately many of these financial structures will fail through defaults. You can already see this happening through rising foreclosure rates. The only thing that can help affordability now is rising incomes. The catch-22 here is that rising incomes portend higher inflation which cause higher interest rates which lessens affordabiilty. So, IMO the market is pretty much a goner from here.
Give it 3 or 4 years and I think we will see prices back to 2001 levels. Just a guess though, you never know how the reversion will play out. Look at the stock market, it still hasn’t reverted back to historic averages after a 6 year bear market. These cycles can take a long time…
The watchword in Japan eventually became, “kane wo umanai fudousan wo kau-na!”. Loosely translated, “Don’t buy land that doesn’t have positive cash flow!.” The reason prices have finally stopped falling in _some_ parts of Japan is that they’ve finally gotten low enough to give positive cash flow.
And this represents something of a floor below which prices won’t stay.
Rental rates should fall through the floor as vacant homes begin piling up. We didn’t just have rising home prices, we doubled the pool of buyers through loose credit. The rents have been trailing home prices. Rents will follow prices down.
But purchased homes have MUCH further to fall. if rentals fell 10%, I’d be surprized.
Rents will probably bottom quite a while after housing prices. I believe this delay is caused because a certain number of former owners will become renters for a while, helping to keep the market up. (Other former owners will simply disappear from the market as they move in with mom and dad.) Rentals bottomed years after housing prices during the great Depression.
It’ll be a very short lived delay because the number of second homes/investment deals were somewhere between 25-35% of the coastal/bubble zones which will really add to the supply of rental units in the near future in order for the new owner to re-coop any of his money when the ‘flips’ go south.
I do believe prices will fall but I also realize that there is huge demand for homes priced for first time buyers.Everytime you reduce prices you bring in a new pool of buyers. For instance in gilbert az homes priced in low 200’s move quite quickly from my experience.I am a big believer in the bubble but I do not see a flat out crash. Prices will fall and I personally think you are a lot safer by buying within your means in the lower price ranges. I would be comfortable buying less than 200k for smaller home in nice area. I think the people in trouble are the ones who bought huge houses with shady financing.There will always be demand for housing but the price is critical. I think there is a bigger pool of pent up buyers in the lower price ranges and that is where I feel the best when I buy.
If it were only inflated house prices I would agree that there would not be an all out crash. I think that there is a strong possibility of “boosters” to the decline in the form of suicide / liar loans and the wave of foreclosures that are built into them. Another booster is the amount of home equity extraction that has been artificially elevating the economy, adding jobs that will soon go away and creating the “sense of wealth” that fostered the environment that made it all possible. In addition another boost comes from the over building that continues to go on.
A real estate crash is almost guaranteed given the core product is grossly overvalued and the amount of negative factors that are starting to pressure the market.
We are, to some extent, entering a bizzaro phase where no one really knows what the value of a property actually is in many bubble markets. If you have similar houses in an area and they are priced in a $80K spread, which one is the actual price? What if none of them sell for 6 months?
Its the same in stock market trading, if you don’t have a buyer, you can’t set the price. With the exception that on the stock market it unwinds much more quickly.
If prices continue to fall and the MSM reports more and more on the lending practices, fraud, and ARM resets AND the unemployment rate rises more (the experts were already ’surprised’ by the .2% uptick this week), then very likely there will be a psychological impact and people will pull back from spending, creating a domino effect of further price declines, declining business revenues, layoffs, etc.
Will it be a self fulfilling prophesy, people retreating and hunkering down, or appropriate self preservation to keep from falling into the crapper, or a combination of both? Who knows, but I would doubt that the numbers of people able and willing in the next several years to purchase houses and spend the money they have smartly saved will pull this economy out of the free fall.
Yes, when the dominos fall one by one this market will crater. There needs to be more notice of defaults and ultimately more property taken back by the financial institution. I think we are different from whats going on in the UK. Supposedly thier market has flattened out, however that remains to be seen. The UK has a socially installed middle class, the U.S. has a significant number of poverty level individuals. Now homes in poverty neighborhoods have increased in price by pure specualtion just as it has in middle class areas. I see it all over Sacramento, I am talking condos that three years ago were $45K now $110K. These places rent out at $400 a month. They are in high crime areas and there is no way that an investor can or will have the ability to maintain these properties. It takes a special breed of landlord to be a slum lord. These properties are coming on the market at a dramatic pace and nobody is buying. These rat traps will come down and will be one of the dominos that will cause the real estate crash.
Interesting commentary, David. I know that I won’t touch properties in high-crime/gang-infested areas, and those landlords who will are being sued and harassed by local government entities, seemingly more so than ever. If individuals cannot buy condos in poverty areas, the units will eventually be abandoned. The only other hope for these properties would be consolidation by a big REIT that can afford lawyers to fend off the grandstanding politicians and their pet bureaucrats.
It’s truely amazing what has happened in downtown Los Angeles. Tenants trash the units, decorate all accessable surfaces with graffitti, ruin the plumbing, cook meth, and sell drugs out of their units. Then the city sues the landlords for the code violations that the tenants have created. It’s a no-win situation, because you can’t toss out the troublemakers.
We are going to differ here sm_landlord. Being as that I own a few ghetto palaces and won’t hesitate to buy 20 more in the coming bloodfest. The biggest and number one problem in those areas you speak of are greed, laziness and mismanagement not on the tenants part but the owners part. The problems bought on are solely the owners fault. I know this from experience. Most folks want to treat these buildings like they are mutual funds just check on them from time to time and your going to make money it doesn’t work that way. Or wait until something major breaks and try to patch it with bubblegum it doesn’t work. They have to be actively managed like a second job or you have to pay someone to do it for you which is what I choose.
Yes, you can toss out the troublemakers. When I acquire a building. I can get a drug-infested building clean in three mo’s tops no problem. My eviction lawyer loves me and the police that patrol the area know my buildings and my tenants know I won’t hesitate to call either one if needed.
It’s amazing how compliant one becomes when they learn their landlord is a madman who won’t hesitate to call or send a letter to the housing authority and try to get their certificate revoked which they can never redeem once revoked because he received a call from the police or you didn’t pay your $50.00 portion of the rent.
In return for compliance they get a well run, well kept, quiet living area.
Now in SM you couldn’t give me a property over there had 2 sold them both. Rent Control laws are insane over there.
SM Landlord, I am curious about your comment about downtown LA. I am a property owner in Long Beach. I had an artist boyfriend on the outskirts of downtown LA. The whole time he lived there, he saw it gentrify. When he moved in, the rent was $350. It soon climbed to above $1,000. There are lofts in that area, above urban streets that are hundred’s of thousands of dollars. We saw an amazing gentrification. I never heard of meth labs in downtown LA…but I don’t know the whole story by any means.
Also, being a prop owner in LB, I can tell you right now if anyone was causing trouble in the building I could write up a notice to leave now. A three day or 30 day. I guess downtown LA has tighter restrictions? I am still under Fair Housing laws…you just have to make sure your kicking them out is not discriminatory.
Good day
Downtown LA has more homeless residents than people with an actual mailing address. Gentrified or not, this poblem is not going away, and is only getting worse over time. The sidewalks are lined with tents at night, and every available vacant lot, bridge, alley, etc. is occupied. The artists that moved there for the low rent on workshop/light industrial spaces are getting squeezed out. Artist lofts? Give me a break, most artist cant afford that kind of money.
MrIncomeStream,
Different strokes, I guess. Both of the investors that I know who have owned and operated multifamily in downtown LA, have told me stories that make my skin crawl. One of them got out, the other was trying to get out last time I talked to her. They both spent a lot of money on lawyers, and the heartache was killing them.
My own experiences with Section 8 tenants and semi-ghetto areas are bad enough. I’ve had to spend days in court pressing evictions, repair units where the tenants set the mattress on fire before leaving, pick up bloody syringes with the needles still attached, chase squatters out from under buildings, watch newly remodeled units get trashed in a matter of months, evict 15 Mexicans from a one-bedroom apartment, shut down prostitution operations, etc. All of this in Culver City and Venice.
I agree the rent control in SM is onerous, but you have that in LA as well, just not quite as bad. I have seen a positive trend lately as I have been able to adjust units to market due to churn.
Soliel,
The problem I have had is enforcing those notices. There are “legal aid” operations that offer free services to tenants to tie up evictions in court. Yes, you can always get the troublemakers out eventually, but it takes time and money: once it took me four months to regain possession of a
unit, and of course I did not collect rent for that period.
I live in North Phoenix and do not feel there are any nice homes for under $200,000. We sold our house in July 2005 and will wait. We’ll see what happens.
Same here, Ben. I do the math and all these “investment rental” crackerbox duplexes are priced like Vegas hookers! I am seeing a shift in numbers on the MLS….new listings per day are declining very slightly and the price changes are accelerating, actually more of them then new listings for the past week…and, of course the BOMs tell the tale so very well.
Catherine,
I don’t know if you heard, but there was a big mudslide in Oak Creek Canyon this week, just like the forest service warned about after the fire. It closed the road for a few days. Nobody wants to rent there right now because of all the disruptions. I hear many properties are coming onto the market.
Prices will continue to fall until the rents cover the entire cost of purchase.
IE, when rents = combined 100%mort, taxes, insurance, upkeep & vacancy.
The people will quickly figure it out when it is more expensive to rent than to buy.
at 7% interest this penciles to about 10 x rents.
So when a $1,500 rental falls to around $180k the bottom will be found. Some areas will still command a premium, but prices will not fall much bellow 100% holding cost anywhere. At this point a landlord is looking at an infinite return on investment when they bump the rents by $50-100/mo in a year or two.
Down in Austin from 1985 to 1990-92 meant this…
3-2 1400 sf starter in Round Rock $78K to $40K
3 acre hill country lot in Long Canyon $85K to $26K
3-2 2700 sf Pemberton Heights old mansion $365K to $235K
Army No. Va.
Would you believe condos in Houston from $60k to $20k?
Yes, Condos always fare worse as they always overbuild those and they can always build more, even in town.
I owned all of these in this order…
The Round Rock House bought at $78K (I was 24 years old - dumb move). Long Canyon lot owner financed at $26K (sold 18 months later for $46K - Got us back in the game). Pemberton House at $235K in 1992…Sold in Jan 1996 for $327,500K…
I did a paper on the bubble and expected property depreciation for a class a few months ago. I researched the last RE bubble that occured from 1990-1995, which was limited to the West and East coasts. In that bubble burst, prices depreciated 25-40% from their late 80’s peaks over the 5yr period. I excect we will AT LEAST match that, though based on the magnitude of this bubble, it could be worse.
jeff
bingo- the oil patch already fell and the midwest went nowhere in the 80’s
this time it’s everywhere
Good to know. I’ve previously predcited for downtown San Diego the following price changes per January 1 rates; however, that time was probably already down 2-4% from the peak in July through October 2005.
1/1/06 to 1/1/07: -15 to -20%
1/1/06 to 1/1/08: -25% to -40%
In the end, I see a return to 2002 or 2003 prices.
I should add…. I am interested in a good 700sf condo downtown at no more than $200k to $250k, depending on interest rates. I am thinking the end of 2007.
If I get that… then prices have dropped 30% to 50% or more.
“I excect we will AT LEAST match that, though based on the magnitude of this bubble, it could be worse. ”
I agree with you Jeff. I think this real estate crash will be much worse than the 90s real estate crash. I lost 20% back then. Doesn’t seem bad from the current perspective now. “Clink Clink” go a couple more 1 ounce bullion coins into my secure box.
Anyone will be able to justify anything from 0% to 80% with careful work. Small Midwestern stable communities that missed the bubble will drop in real terms with inflation but prices will stay flat. Certain problem properties in wildly speculative areas, a mudslide in Califorina for instance will see 80% declines. A brutal winter or two in New England with home heating oil prices or a brutal summer or two in Phoenix with home cooling prices could literally leave empty unsaleable houses. That’s 100%+ declines where governments may be forced to pay for dispensation. But all these are extremes. I’m guessing 25% on the national median which is actually about 35% on any one house same sale and 40% in the bubble zones with some truly spectacular outliers. Why the small difference twixt BZ and normal America? THe problem is/was a nationawide credit/lending issue not local real estate issues.
I agree with the general thrust of Robert’s comments, that there will be some spectacular outliers, and that there will be a noticeable difference between bubble zones and every place else, but I’m a little less pessimistic on the nationwide price, and think the difference between BZs and NBZs will be a little bigger.
The easy credit has been a nationwide phenomonon, but I think it played out differently in the two zones. Where plenty of land and easy permitting was the norm, you got a huge surge in production of SF housing (and a decline in multifamily construction), and a lot of people who would have been renters becoming owners instead. But you didn’t see an enormous amount of speculators coming in, buying pre-construction, letting places sit vacant, etc. And prices didn’t get far out of line with rents or incomes. When the foreclosures happen the owners will become renters, and “old-fashioned” investors - the kind who buy for cash flow - will be able to buy these things for modest discounts and rent them profitably to the new renters. The easy credit didn’t result in large price run ups, so the aftereffect won’t lead to large price drops. Note that I’m not saying that there won’t be any price drop, or that prices didn’t get a little out of line (they barely budged in real terms, maybe they should have fallen a little) but the affordability index numbers are MUCH better for Indianapolis or Atlanta than they are for San Diego.
In Bubble Zones, “buildable” land, that is, land that BLM (for example) was actually selling that year, complete with all necessary permits, was limited in the short run. BLM wasn’t selling all their land at once, San Diego would only issue so many permits a year, etc. The easy credit led to lots of buyers chasing a small number of available units, followed by price runups, which brought in the speculators forecasting future price runups, etc. It’s the reversal of that process that will lead to the large declines. I’m betting that Columbus, Indianapolis, Atlanta, Charoltte, even Chicago with the exception of downtown condos, will fall by less than 10% real. Still doesn’t exactly sound like a great time to buy (yet).
very, very astute. colorado is the perfect example of that occurence. our foreclosure level is a direct function of allowing too many unqualified borrowers buy a home with easy credit, only to get washed ashore with little or no appreciation. in the bubble markets, the lack of appreciation is showing up in dramatically increased defaults. now that easy money is starting of dry up, look out below. those 80/20 refis are already stuck in the mud, it’s gonna get uglier from here. imho,
How can Chicago (non-condo) fall by only 10%? It went up around 10% PER YEAR since 2001. I figure a good 30% drop from today’s prices at minimum although the slide would be over three to five years.
The OFHEO index shows Chicago up about 6.5% per year from 2001 to the middle of 2004, then goes up to around 10% from mid 04 to now. A nominal rise of a little over 40%, probably a real rise around 25% to 30%, over the last 5 years. Unlike Detroit or a few other examples, the Chicago metro area has been doing well on the job / population / earnings front, so a 5% to 10% real rise probably makes sense. Knock off a little bit more from a slight upward bias to the OFHEO numbers because they include cash out refis, and you probably have an “overvaluation” less than 20%. Some of that is the downtown condo market, so the rest of the area would be less than that. Add in the fact that Chicago may have been slightly undervalued - in the 90’s real appreciation was just about zero - and no market ever gets to exactly the right valuation, 10% “too high” or 10% “too low” can persist for a decade, and I’d stick with my 10% or less for Chicago, excluding downtown condos (for the whole area, downtown included, the real drop probably a little over 10%, downtown ain’t that big relative to the whole market).
I think to use the grouping of “Chicago” is too broad for a meaningful track. While that area as a whole has not frothed too much, several “upscale” areas such as Naperville and the North Shore went full throttle stupid in the last 6 years. So while Chicago as a whole may not get such a beating, some areas will be having significant deflation.
Out in the western ‘burbs like Naperville/Aurora the median three bedroom SFH is running about five times median income at this point. When “starter” homes in semi-shabby old river towns like Aurora with not-so-great schools, its own Mexican Consulate, and gangs roving the streets approach $300,000 I don’t think a price drop to $270,000 is quite going to bring things back into balance. Creative short-term financing is the only thing keeping the plates spinning in the air at this point. When the actual bills come due it may be larger than a 30% correction.
Just checked some numbers for Aurora. According to zillow median price in Aurora is about $200k. There’s a lot of noise in zillow’s individual prices, but I don’t doubt the median (much). I looked at sales on a few streets west of downtown Aurora in the last year that were all under $150K. Median income in Aurora in 1999 was $61 k, according to the Census. Don’t have more recent income data for Aurora, but for Kane county median income rose over 10% from 1999 to 2005 (Census and American Community Survey). So median price is about 3 times median income. If anyone wants to do the same excercise for Naperville go right on ahead (my guess is the ratio is higher, but nowhere near 5).
I live in Aurora. Those numbers aren’t real for Aurora as a whole. Only for certain parts of Aurora that are a “hole”. And just how close to downtown were those properties you looked up? $150,000 could be accurate for SFH in certain downtown/near downtown areas. And chances are the house is two bed/one bath and old as the hills and twice as dusty. Especially if they go to in Aurora East High School. They actually have prostitutes working the halls and they aren’t debutantes. Actual three bedroom homes with roofs that don’t leak, without tar-paper siding, without gang shootings in the front yard haven’t seen a $200,000 pricetag for several years now. The Hometown development of Rabbit Hutch mini houses with 9×9 rooms on communal property on the Aurora/Montgomery border were $190,000 to $215,000 when I checked six months ago. They were $110,000 back in 1997. The latest number I saw for median household income for Kane county for 2005 was $57,000. Considering the concentration of low income in Aurora I seriously doubt we’re skewing the county numbers to the high side unless the EITC and Illinois Link card are handing out a heck of a lot more money than I think they are. As for Naperville the city median household income number I have seen for 2005 is $90,000. And good luck finding a three bedroom SFH for much under $450,000.
you can compare aobve average neighborhood prices to below average neighborhood incomes and thereby generate any ratio you want, but if you compare the median price for all of Aurora to the median income for all of Aurora you won’t get a 5 to 1 ratio.
Well, for instance, I had a hi-rise condo in Chicago that I bought for 120K in 1997, sold in 2000 for 142K, and saw selling in 2005 for 220K. It was a 1 bdrm convertible with no balcony or deeded parking space.
I was kicking myself at the time I bought because a 41st floor 2 bdrm corner sold one month later for 220K. Similiar units now sell in the 500-600K range.
The market really has risen that much.
Just as an aside about Japan, their land prices continued to fall, year after year, in the face of falling rates. I remember in the ‘96, ‘97 time frame, they were in the 2% to 2.5% range for mortgate loans from Japan’s public home loan company. I keep an eye on the US 30-year-bond yield chart and it has stayed in a clear channel for the past 15 or so years, rates moving down. Even with recent rate increase, the yield moved up to touch the upper trendline, but then has turned back in recent weeks. We could see Japan-type rates here, but it may not help. Having said that, I think higher rates are more likely, but until the chart confirms it, it looks like lower rates ahead, perhaps in a futile effort to “stimulate” the economy.
This is why I believe that low rates from the Fed will not be enough to reflate the housing market. Other forms of asset price manipulation (”Plunge Protection”) are needed to pull it off…
I met with an appraiser client a few weeks ago who is “essentially unemployed” When we met last fall and I predicted no spring market and the beginning of the bubble burst, she thought I was off my rocker. “I should have listened to you instead of all the people in the real estate industry” she said. “Do you want to here my next prediction?” I asked. “Sure.”… “40% haircut in this area.” “That’s a no brainer” came her reply.
Nothing like disaster staring you presonally in the face to sharpen the mind and narrow focus to the important facts. These things are “brainers.” The problem is so many people sleepwalking or in denial.
Robert:
You are on fire today.
Good comments.
I would think that there is a lot of wisdom on this blog, and most of what I suspect is the outcome was already touched on in pieces.
In think the general rule of thumb is 1997 prices plus 20%. Now I could be wrong, but I am thinking that is the actual bottom. 1997 because that is the last time that it seems most markets were “value priced” with a health relationship to incomes and rents, and 20% to make up some of the inflation during that period.
The decline will be different for each region / market, which Robert suggested. I would suspect Phoenix is going to fall the farthest, because there is really no good reason for what has happened there. Ditto for some areas of Florida and I guess San Diego as well.
I’d like to suggest that we have farther to fall than many of us realize. We now have many more houses than credit-worthy borrowers after the credit “punch-bowl” is removed (i.e., a housing glut). Gluts do nothing to support prices. Look for prices to bottom below 1997 levels as the damaged economy and lack of suitable buyers and credit availbility take housing somewhere we’ve never seen before…
Sounds like the promo opening of Star Trek
In Austin, in the early 1990s, if all you had was a foreclosure on your record and evidence that you did everything to sell but were too far upside down, some banks lent you money for REOs anyway with 10-20% down. The rest of your credit needed to be outstanding though.
I don’t know why but I’m stuck on the 2002 prices being the highest this market should of gone to ,in California at least .2002 prices providing interest rates do not go above 8% in the coming up years .Oh wait ,we are already at more than 8% on some adjustables . Could go to 2000 price levels .
I essentially agree. I thought 2001 #’s were high at the time (what a fool) and would prognosticate a return to the last century prices.
In honor of sfjack: Woohoo! last century pricing for everyone!
I also thought prices were high in 2001-early 2002. But I was still ready to buy (and was trying - kept getting outbid by people with cash)…until I lost my job in summer 2002. I swear that was the point when RE just completely ran away. When I finally found another job, it was too far away from me to catch up.
Going back to early 2002 prices seems reasonable to expect and would only be painful to those who bought within the past 5 or so years (or tapped their equity dry within that time period) and need to sell. Or, obviously, to anyone already overstretched and waiting for an ARM reset. For anyone who bought earlier than that (and wasn’t foolish enough to use their home as an ATM) won’t see the windfall they could have seen at the bubble peak, but will still see a “normal” profit.
My dream, though, would be late 90s/2000/2001 prices.
I thought 2001 #’s were high at the time (what a fool)
——————–
jp,
You were not a fool. 2001 prices were too high. IMO, we will see 1999 prices, +/-.
Last I heard, Japan is losing population, and they don’t like immigrants. That means lots of vacant housing stock in the coming decades.
By my estimate, Y1999 pricing, assuming 5% normal inflation [or dollar devaluation if you prefer], would be about $211/sf in today’s dollars in the 28205 zip code of Anaheim (where I was an owner until 2003).
So if that example holds, the house is still not properly valued in today’s dollars, for what I sold it for in 2003!
It would be 2008, before that sale price I got in 2003, is inflationally equivalent at 5%, to what I paid in 1999.
For me, the big question isn’t so much how far is down, but how do we get there?
The question is, how the pieces of the puzzle will fit.
Time frame I think is first, followed by the nominal price drop and ultimately the “real” price drop.
Somewhere out there, and I have no idea where, is a sweetspot for the right amount of time for real estate prices to adjust to minimize the pain, but there will be pain.
If we see actual prices decline over a relatively short term, it has the ability to take a lot of the rest of the economy down with it and a very vicious cycle would get running, throwing people out of work and putting deflationary pressure on other parts of the economy.
If the nominal price drop is overly mitigated, i.e. prices drop a small amount initially and then stagnate for a very long period, the housing/real estate sector would slowly atrophy and the industry would be in a malaise that would cast a dark shadow over the entire economy as it has in Japan.
The road the Japanese have taken to get out of their rea estate collapse appears to be running the printing press. For some reason (my guess is our astounding ability to go into debt for current consumption) it hasn’t shown the desired results.
My guess, ceteris parabus, is down is 30-40 percent. If we split the drop evenly between real and nominal price drops over 5 years people may not go too crazy with the pain, but I worry it could be much worse. I’ve never been a big fan of ceteris parabus, but I just don’t know how the relationships between the different parts of the economy will play out.
…As above depends on what market. Coastal regions have had 300% runup in places.Why should they only have a 30% decline? Alot of the money that has been made? heloc’d out ,and spent in these coastal bubble areas. California is what ,40% of the Nations housing value? I think as the tide falls, so goes all boats…Once the real reversion begins we could see declines across all markets even those that technically never even had an increase.
I paid $150/sf for a small 3br1 ranch home in Anaheim in 1999. Zillow shows a couple of sales on my old street this spring, for $450/sf. That is a 3X return in just 7 years, if I’d held it that long.
Let’s assume 6% inflation [dollar devalution] is appropriate. That would make $450/sf a rational price in 19 years with future dollars.
1999 + 19 = 2018.
Therefore, it could be the year 2018, when the most insane bubble prices of this spring in that neighborhood, are rational.
On the other hand, if you take a look at this (http://tinyurl.com/hwxcw), the LA area was way underpriced in 1999, and was realistically priced in 2002 or so. I’m not saying that things might not overcorrect (as it did from 1994-2001), but I think 1999 + inflation is not a reasonable valuation.
Interesting chart. I’d be interested to see the data used to generate it. Falling back to 2002 prices are going to hurt and equates to roughly a 50 to 60% drop.
It’s the federal governments HPI data.
There is a lot of solid economic data out there that shows that housing has an historic average. Shiller from Yale has data going back 150 years. It all points to a housing bubble of unprecedented size and a correction of 40% to 80%, depending on the region, seems inevitable.
This is basic Economics 101.
Any asset market always overshoots: with the bubble, the peak went much higher than a lot of people expected (likewise with dotbomb stocks).
And then we’ll overshoot on the way down, below the historic average with housing just like stocks. For the latter, even when the PE ratio was “reasonable,” things went completely out of whack on the decline since everyone wanted out.
I guess mortgages do not face margin calls but then you never know how all this will play out esp. with those exotic loans….
IIRC, Schiller’s figures indicate “true” housing prices are 1997 prices, times 1.212 to reflect inflation.
yes… i come up with same numbers… 1997 is real base figures.
Meaning the true prices today are 1997 x 1.212? A home that sold for $100,000 in 1997 has a “true” current value of $121,200?
“Meaning the true prices today are 1997 x 1.212? A home that sold for $100,000 in 1997 has a ‘true’ current value of $121,200?”
That’s exactly what I’ve been banking on.
That sounds about right, except that if we experience deflation in other areas besides housing, then the 1.212 number would be smaller. I contend that the current inflation has been largely caused by the housing boom which caused a large increase in the money supply, a housing bust should have the opposite effect, only some prices will deflate and others will not.
I would be interested to see historical data on the relationship of rents to prices in Japan. This price floor where it is cheaper to buy than rent should theoretically exist if people are rationally looking at the fundamentals. However, we all know that in the short run markets are irrational, and prices that shot into the stratosphere without regard to fundamentals could very well go below their fundamental value as well.
In my area I’ll give the example of a decent upper middle class house-
4BR 3.5BA - approx 3200 sq ft. 2car gar. rents in northern va area burbs, (Reston, Herndon, Sterling, Ashburn) for $2300 / month.
equivalent mortgage on that would be about 365k @ 6.5% interest.
Assuming the old fashioned 20% down would allow for a sale price of 455k. These houses currently are listed between 600k-750k. A return to 455k would be quite a haircut. This of course assumes rents won’t come down significantly due to the glut of houses or rise significantly from inflation.
My guess is about a 20% nominal decline here for Single Family
A 20-30% decline for townhouses and condos.
A 30-40% decline for “luxury” condos.
This would take us back to approx 2002 or 2003 prices.
agree 20% nominal 3 yr and less close in to the fed jobs
Northern Va ..You got it figured the way I figured it .
The size of the drop in market prices depends on the extent to which the belief that real estate is a sure-thing investment drove people to act on that assumption. Given all we know about the extent of investers who bought multiple houses and condos, buyers who used suicide financing to purchase homes they could not afford, lenders who ignored the risk-masking effect of rapidly inflating prices, builders who took all the speculative activity as a signal of strong fundamental demand, the swollen share of the US labor force employed in real-estate-dependent enterprise, and the duration and extent of residential real estate price inflation across locally frothy markets from coast to coast, I believe the magnitude of price correction needed to restore balance this time is much larger than at comparable points in previous cycles.
The one question which stops me is whether the Fed will figure out how to successfully engineer sufficient wage inflation to keep housing prices on the permanently high plateau they have achieved while a new bubble in the labor market brings wages in line with home prices. Any thoughts on this scenario?
I personally think the government needs to give more incentives to the alternative energy arena so we can get away from foreign oil.Thousands of jobs could be created and help us avoid another war over oil.I guess the good thing that comes out of higher gas prices is it enables other sources of energy to become competitive.
Is there a magic bullet that will rise nominal incomes 2-3X, while keeping the dollar attractive on the intl market? I’m not sure a repeat of Greenspan’s trick is an option this time.
India and China will happily buy Arab oil, and have no pollution controls in place.
We haven’t seen a “war for oil” yet, but probably will see quite a few in the coming century as oil supplies begin to dwindle.
Don’t forget all those government employment based on the “real estate never falls” assumption. Property values will fall, property tax income will fall and more people will stop paying taxes, forcing foreclosures of homes.
Insurance premiums based on home values will take a ding and that will mean lower income for insurance companies which may weaken them and at least force many of them to shed jobs.
And don’t forgot the pension funds: some [many? most? all?] are tied to MBS and if too many mortgages defaults, retirees may find that they don’t have any money coming in after all and have to go back to work.
Did I mention that fed income taxes (and state income tax for some states) will be lower due to all those unemployed realtors, construction workers, Home Depot/Lowe’s employees, etc.?
Budget cuts for everyone, and pass the around the unemployment!!!
[Granted, the chance of all this taking place is slim but I believe it is very much possible with so much crazy loans pulled out of the real estate this century.]
Personally, I believe that Fed’s interest rate “control” won’t help much and may in fact worsen the coming economic downturn.
I liken the Fed to the UN these days….
Or to rephrase the question, can the Fed cause massive inflation without sending bond yields sky-high? Will lenders accept large negative real returns?
Well it seems unlikely. But if it happens, all that it means is that real prices will fall while nominal prices hold their ground. Property owners will still suffer because the value of their properties will not keep up with inflation.
“Or to rephrase the question, can the Fed cause massive inflation without sending bond yields sky-high? Will lenders accept large negative real returns?”
The only way I can envision this is through a trick of fooling the bond market into believing that deflation is on the way while “accidently” causing higher inflation. This would likely involve massive hidden purchases of long-term treasury bonds on the secondary market (mimicking the decisions of inflation-wary bond market participants)
using newly printed money which was stealthily snuck into M3.
I realize I may not have the technical details exactly right, but the combination of accidently creating inflation while fighting presumptive deflation seems like a necessary part of the strategy.
Any chance of the FED swapping long bonds with defaulting MBS in FNM? Basically buying bonds then swapping for the MBS in a effort to both support FNM and manipulate the bond market? Seems to me that the FED would be doing something with regard to FNM.
The one question which stops me is whether the Fed will figure out how to successfully engineer sufficient wage inflation to keep housing prices on the permanently high plateau they have achieved while a new bubble in the labor market brings wages in line with home prices. Any thoughts on this scenario?
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Nope they won’t do that. They will move to save big companies maybe… but will do little , can do little to increase pay of average worker. Higher pay will come from labor shortages, I see no shortage of labor. Technology has solved that problem.
I beleive the FED will actually move to prevent a labor shortage by increasing interest rates and slow the economy putting more workers out of work.
For those of us who don’t know latin:
ooops… URL didn’t come through (apparently I don’t know HTML either):
http://en.wikipedia.org/wiki/Ceteris_paribus
And other things are not equal this time, because this time is different (really).
I’m a daily reader, but never replied. I started tracking the Central Valley bubble, mainly Merced and Modesto, to pursuade a few freinds not to buy this year. Also, I’ve worled in RE/Mortgage marketing for the last two years, but left for a new job. The firms I worked with are still calling me, wanting to “create a new image” The new image, ” let’s get you outta the ARM we screwed you with, into the ‘new’ 50-year product” I’ve been told it’s the hot thing going. One firm is going on the basis that most of their customers can’t afford a 30-year fixed, just offer this life-long rental agreement.
Bakersfield Mkt update - with local appraiser and statistician:
http://www.kernradio.com/
They are admitting the DOM is a TOTAL JOKE!!
In Santa Clara County and to lesser degree we will see prices go down 50%, up from 45% last year.
The stock bubble gave birth to the housing bubble in 2000-01, we had increases since of 300-400%. On the job front we lost some 300K jobs 30-35% after 2000. Recent job increases by local employers year over year was a meager 5%, but most of that was outside of area. Currently several large employers are having layoffs and shrinking spending. This was on top of salary freeze. Its much easier to send jobs to other states.
Local area is a hot spot for interest only loans. This was the trend since 2001 to present. Its climbed from 15% to 50% of all loans. Construction of new homes has been on fire…
To get back to normal YoY long term appreciation and rent vs own ratios we come to 50%…
But im tempted to increase that. I see several TH which went for underr $200K in 1999 now selling for $650K. So maybe 65% or more may be in order.
Anyone else want to sell their duplex in Austin?
http://www.websitetoolbox.com/tool/post/sdcia/vpost?id=1290405
Woohoo! Austin duplexes for everyone!
He never did answer the guys question about cash flow. So I take it that the answer to that was no. And wtf is the 1% rule.
The 1% rule is that he locates 100 GF’s looking to buy in this overheated market then he only sells to the biggest fu*king idiot in the bunch. Hence the 1% rule.
Gotcha! Learn something new every day. Got to love this blog.
To get a good idea of where housing is going, you need to look at the impact baby boomers have had on real estate, going back 30 years. Real estate has had a natural positive bias from about 1970 on. During the last 35 or so years boomers have fueled every run in housing, and the heard stampedes from one type of housing into another. Where are we today? The boomers are 50ish, facing blown up 401k’s, many have little job security, and they are sitting on a ton of real estate. Big homes. McMansions. Going forward will the boomers be net buyers or sellers in stocks, real estate and the like? They have had their own semi ponzi scheme going for decades. What happens when it reverses?
Even using 1997 prices (common theme here) as a base is misleading, because the base is bogus. We need to consider that the behavior of a very large group of people is about to make a major shift, and when that happens all bets are off. Where could it end? At what level? I have no idea. But this is a structural problem that will take many years to play out. It didn’t start overnight and it won’t end that way either.
Condos might fair better, as people try to downsize. Brutal energy bills combined with empty nests and the need for cash will probably slam larger homes. It may not be so much area but type of home that really defines the winners and losers. Large homes have been in heavy demand for many years as the boomers play the “mine is bigger and better than yours” game. That’s coming to a close.
I also think globalization must be factored in. Thirty years ago we held a dominant place in the world, economically. You can see that fading now. Add to the fact that you can hire people much cheaper overseas, and the demand for skilled US labor is far lower. Manufacturing is really declining. So our economy may be entering the British phase (long decline), so to speak. We weren ‘t facing that problem 20 years ago. So much has changed that I think the charts and the historic data are just useless now.
JMHO
excellent analysis and points to a longer-term problem concerning RE values & market, but probably won’t be a factor in this immediate crash as boomers have yet to retire (and many will have to keep working much longer than most expect).
My guess is 3 yrs to the bottom, 40% off peak prices.
Outlying areas may not have run up as much nor for as long as in peak markets, but perhaps those rustbelt economies should have already experienced price corrections in RE which were masked by the bubble.
A rising tide floats all boats; an ebb tide beaches them all.
Single story Condos. Older folks don’t like climbing stairs.
Joe Momma,
Bingo! You’ve got it. IMO, this declining trend could play out over **decades** for all the reasons you’ve mentioned. Unless we see a major shift in our employment situation (I’ll even go so far as to bring up protectionism), or come up with some new technology that only we can produce, I see no reason to think RE will be a winning investment for a long time to come. Could be wrong, though.
Baby Boomers, the worst generation ever….Self indulgent, ignorant, ready to sell their souls at any cost anytime….CREATORS OF THE FIRST GIGANTIC CONSUMER BASED ECONOMY.
Those born after 1965 were pretty active in this current bubble, too, buying houses (and condos) earlier than historically expected. And many boomers behaved conservatively and didn’t take out much equity out of their homes. Let’s not blame generations but greed in all of its forms.
Given that West Irvine prices have tripled, I’d say we easily could have a 50% haircut over the next few years.
It’s interesting to see people talking of a 10% “crash” or predicting reversion to 2002 or 2003 prices. I think that’s very conservative, maybe because it seems hard to conceive that prices could fall by 50% or more.
The Shiller argument that reversion to the mean would bring us to 120% of the 1997 prices may seem drastic to many. However I think it could be worse than that.
In my neighborhood in zip code 90048 (L.A. mid-west side) prices at the high water mark were about 400% of what they were in 1997 (i.e., a 300% increase). Do the math, if you apply Schiller’s factor they’ll be down 70% at the bottom.
A 70% reduction would be consistent with the rental picture in this area. Rents might be up 130% to 140% around here since 1997, but I think they’ll come down some when real estate values start tanking with the attendant economic effects. At the bottom I’d be surprised if rents will be even 120% of their 1997 levels. With rents not much higher than 1997 rents, there’s no reason for prices to be much higher than they were in 1997,.
But that’s not the whole story, because it doesn’t account for the tendency to overshoot the mean. As many on this blog have commented, the wild card is fear. The value of something expensive like real estate doesn’t go down 70% without people getting scared, really scared. That is going to bring it down further, to perhaps an 80% reduction, or more. Who knows for sure?
Seem crazy? Well, a 3-bedroom house on a small lot here might have sold for $350k in 1997. In summer 2005, it might have sold for $1.5 million. Minus 80% and that house goes for $300k.
I question whether in a few years from now a $300k house in this area will even be cheap enough to interest an investor who wants to rent it out. Even at that drastically reduced price, the house would have to bring in about $30k per year ($2500/month) in rent using the standard 10x rent multiple, to make it worth the investor’s while.
And when this is all said and done who knows how many people are going to be able to afford $2500 rent for 3 bedrooms and a little backyard, even here in the land of milk and honey.
Plus, who knows whether in that environment the typical investor is going to be willing to buy at the 10x multiple. As one poster said awhile ago, during the Depression rental multipliers were closer to 3-5x rent — mainly because of fear.
90048 really nice area, perfect example of a bubble gone to far. The prices people are paying over there are insane.
The market started going completely haywire in 1996. Because downturns overcorrect prices will reach 1996 levels before they start back up again. That is around a 60% haircut in the hottest bubble areas.
Prices will take at least a 50% haircut. The government is broke, pensions are gone, and 401ks? They’re not gonna save folks. Add in energy prices and wages lagging inflation and you’ve got less money for housing. Throw in all the job losses, its gonna be brutal - unless the government inflates like mad. Some equation involving what a place rents for makes sense, but rental rates may come down just as they did after the dot com boom in the bay area and socal due to job losses.
Heard on the radio this morning a show hosted by a stock market guy, moe ansari (sp?). He noted condos in vegas are 15-20% down and theyre still building everywhere. Noted socal is also down, citing san diego in particular.
In San Luis Obispo County, CA - I currently rent a $900K house for $2200/month. That house would need to be about $300K to cash flow positive.
Therefore, I am predicting a 60-65% decline in my neck of the woods, as along as rents stay stable.
Well here in Fresno the local KB Home developments have lowered their prices 10% already this year. They have a lot of empty houses and starting another phase. I also saw in the paper a no payments for the first six months offer…crazy.