MarkM said:

<< Derffie said:

<< It's always an interesting intellectual activity to contemplate the what ifs.. as in what if I dropped this stone Im holding and it didnt drop but instead rose up into the sky.. but when your trying to make a life-altering decision.. I for one will stick with what my eyes see and my experience knows. >>

??? You just wrote in your last post that you expect a crash in 10 years, something for which there is no precedent ... >>

ahem.. the baby boomer population buldge is a reality.. well documented.. death is a certainty also well documented.. this falls under "what I see with my own eyes"..

unknownshopper said:

<< Very sobering articles. Thx.

Excuse me if this is OT, but is there a mechanism by which one could effectively 'go short' on their primary residence? Preferably without having to sell their current house and move into somewhere else as a renter?

Secondarily, is there a mechanism by which one can effectively hedge the sizable equity they have in their primary residence? >>

Perhaps you could achieve this by drawing out all the equity and purchasing immediate annuities .. the kind that pay money now.. and return their capital after a certain period of time.. if your return from the annunity was greater than the cost of the home equity loan.. then you could sort of float along.. if the price drops to a large extent you could just give up your value gutted property and move on if the value rises well you own the property so its all yours

unknownshopper said:

<< Excuse me if this is OT, but is there a mechanism by which one could effectively 'go short' on their primary residence? Preferably without having to sell their current house and move into somewhere else as a renter?

Secondarily, is there a mechanism by which one can effectively hedge the sizable equity they have in their primary residence? >>

If you view buying a residence is longing the real estate market and renting an apartment as shorting it, the simple way to cover-call your real estate investment is renting out part of your house. In other words, we are back to the duplex-buying strategy.

If you expect the housing market to drop, your loss will be partially covered by the money saved (difference between your mortgage payment and rent received). If you expect the price to appreciate, you can use the money you save to buy more and more property or simply pay down your mortgage.

Along with the echo boomers, don't forget to factor in the immigrant population. Not just the new ones coming into this country, but the current group that seems to be working hard and will be in the market for housing in a few years.

more news

Home prices jump in third quarter

House values continue to rise sharply in Calif., Fla

NEW YORK, Dec. 1 — U.S. average home prices rose 5.61 percent in the third quarter, snapping the recent trend of slower appreciation, as the broader economy catches up with the robust housing market, the Office of Federal Housing Enterprise Oversight said Monday.

Note that was a trend to 'slower appreciation' not price drops..

http://www.economist.com/opinion/displayStory.cfm?story_id=2246402

The seven deadly sins

It is time to expose some popular fallacies about buying a home

IN 1929 John D. Rockefeller decided it was time to sell shares when even a shoe-shine boy offered him a share tip. During the past week The Economist's economics editor has been advised by a taxi driver, a plumber and a hairdresser that “you can't go wrong” investing in housing—the more you own the better. Is this a sign that it is time to get out? At the very least, as house prices around the world climb to ever loftier heights (see article), and more and more people jump on to the buy-to-let ladder, it is time to expose some of the fallacies regularly trotted out by so many self-appointed housing experts.

One common error is that house prices must continue to rise because of a limited supply of land. For instance, it is argued that “house prices will always rise in London because lots of people want to live here”. But this confuses the level of prices with their rate of change. Home prices are bound to be higher in big cities because of land scarcity, but this does not guarantee that urban house prices will keep rising indefinitely—just look at Tokyo's huge price-drops since 1990. And, though it is true that a fixed supply of homes may push up house prices if the population is rising, this would imply a steady rise in prices, not the 20% annual jumps of recent years.

A second flawed argument is that low interest rates make buying a home cheaper, and so push up demand and prices. Lower interest rates may have allowed some people, who otherwise could not have afforded a mortgage, to buy a home. But many borrowers who think mortgages are cheaper are suffering from money illusion.

Interest rates are not very low in real, inflation-adjusted terms. Initial interest payments may seem low in relation to income, but because inflation is also low it will not erode the real burden of debt as swiftly as it once did. So in later years mortgage payments will be much larger in real terms. To argue that low nominal interest rates make buying a home cheaper is like arguing that a car loan paid off over four years is cheaper than one repaid over two years.

Fallacy number three is a favourite claim of Alan Greenspan, chairman of America's Federal Reserve. This is that price bubbles are less likely in housing than in the stockmarket because higher transaction costs discourage speculation. In fact, several studies have shown that both in theory and in practice bubbles are more likely in housing than in shares. A study by the IMF finds that a sharp rise in house prices is far more likely to be followed by a bust than is a share-price boom.

Safe as houses?
Another curiosity is the popular claim that investing in property is safer than buying shares, for bricks and mortar are here forever. But that says nothing about relative value. Buy at the peak of a property bubble and your investment is not “safe”. To an investor, the value of a house also lies in the rents that a property can generate. If your tenant unexpectedly moves out, you will suddenly find that your income drops to zero.

This leads to a fifth falsehood: it is always better to buy a house, because “paying rent is money down the drain”. Thanks to a growing glut of rental properties in many cities, from Sydney to London, the cost of renting is currently cheaper than the cost of paying a mortgage. Only if (a big if) prices continue to rise does buying always make sense.

Myth number six is that, even if houses are overvalued, their price is unlikely to fall because interest rates will not rise to the double-digit rates that burst previous housing bubbles. Again, the experience of Japan suggests that prices can fall without a big increase in interest rates. All that is needed is a change in sentiment. First-time buyers may balk at sky-high prices, for example, or if rents fall and prices stop rising investors may sell as their expectation of capital gains disappears.

The seventh fallacy is to believe that, even if prices have overshot, they will not fall, but just level off. When inflation was high, real house prices did indeed adjust in this way. But, if inflation remains at 1-2%, it will take years for real house prices to return to normal levels. So today prices are more likely than ever to fall in nominal, as well as real, terms.

Each of these seven arguments may contain a small grain of truth in certain circumstances, but they should never be the articles of faith they have become. The more often they are invoked, the greater the risk that prices are headed for a crash.

Thanks chiefw. FYI the exhaustive treatmetn by the Economist on this topic was six months ago, here.

Derffie, I am wondering, have you read any of the articles linked in this thread, or any other that give staistics on recent home appreciation. I ask because much of what you say seems contrary to undisputed fact. E.g. that the midwest is most vulnerable to price correction -- it seems practically indisputable that the midwest has had the LEAST runup in housing prices in the country (and, living in the midwest, I can attest to that with personal experience), and that the ratios of price to avg income levels are lower here. Indeed, if I do end up buying a home anyway (since homeownership is more than just an investment decision), it may only be because I am IN the midwest (and the relative risk here is smaller), not outside it! Also, concerning rent, numerous articles cite numerous sources (including US govt statistics) showing that rents haave grown MUCH less slowly that the house cost index over the last 10 years, and indeed the avg rent cost actually DROPPED in the most recent period, for the first time in decades, and that the average vacancy rate in the country for rentals is the highest it has EVER been, something like almost 10% (and you know what that means for supply & demand!)

I encourage you to read some the articles, they are very enlightening. I believe the most concise, well considered, supported by data, & balanced is that by Krainer, of the Federal Reserve Bank of San Francisco (note, however, that his expected outcome is labeled as "the seventh fallacy" by the Economist article chiefw just linked), while the the one most full of interesting data is this, by Baker at cepr. This is a 15 month old piece I had not linked yet -- though I find much of his conclusions overstated, unsupported, and/or not logical in how his inferences are drawn from the data, the statistics he brings to light are fascinating, e.g. the "illusion of low real rates" mentioned in the Economist piece as well, and regarding the supply/demand question for the US, that the building rate is currently outstripping new household formation rates by 600K/yr, all based upon govt statistics). You will probably like the piece because he states a lot of what you are saying (the effect of baby boom retirement, etc).

The most interesting observation that I can make is that, of all the articles I've read (all those linked here & more), none of them present any kind fo supported arguement that housing is underpriced, that it could go higher. THe arguement seems to be between whether it is overvalued, or already fairly valued. That doesn't mean that prices won't keep going up anyway, just like they did with equities, for years after all the traditional valuation yardsticks were thrown out the window. But I think Baker makes one of many intriguing suggestions, that if there is a "bubble," not making any effort to let some air escape (i.e. not "talking it down," as Greenspan chose to stop doing for equities after 96) will only make the long term ramifications much worse.

unknownshopper said:

<< The third fallacy particularly intrigues me. I don't dispute that it's been the reality in the past, but I wonder how/if things have changed. It used to be that closing costs were a big chunk of change you had to come up with out-of-pocket at closing. Also, a substantial deposit or "earnest money" of 5% was often required to hold a deal. So you had an opportunity cost on a decent chunk of change for a least a short period. Today those costs seem to be bundled into the price of the property and included in the mortgage amount. The costs are still there, but I wonder if they are not as much of a factor since they are less immediate to the buyer. >>

I am not sure I buy that arguement they make. I would at very least like to see the reasoning in the IMF report they cite. On the other hand, intuitively it is a losse parallel to the easing of margin requirements by the Fed that happened in the mid 90s. Much of the final stages of the stock bubble inflation was fed by margin buying that was amplified by that action, and could have been lessened by increasing the margin requirements before the bubble had grown so large. Correspondingly, much of the subsequent hangover for the economy was due to highly margined people getting totally wiped out, instead of just partially -- I know a few myself. As I have pointed out in this thread, housing is margined even more higly than stocks -- the 2002 Baker piece (linked in my last post) points out that average equity levels then were at 55% in the US, the lowest on record despite all the appreciation, as people refied & took money out (the historical verge was something like 67% I believe). Maybe there could be policy decisons (taken by Freddie Mac/Fannie Mae/whoever) that could "tighten teh margin requirements" in housing too, and protect people from themselves -- and the rest of us from the hangover of the froth they may be creating, with folding clsing costs in, 80/20 & 80/15/5 arrangements, all that.

<< Also worth throwing into this discussion is the traditionally high divorce rate in the US. There are a lot of instances where folks with jobs are forced to sell at whatever the property can bring due to a divorce decree. How will this factor into the market pricing if/when there is a 'plateauing' of buying demand? Equally intriguing to me: in a divorce, how do you handle the situation where the couple has a negative net worth including an 'underwater mortgage' primary residence? >>

Intersting thought. Another tidbit to add to that, I believe divorce rates tend to increase during/after periods of general economic difficulty (financial disagreements & stress, all that). Also, one could make an arguement that divorce creates more "households" (you cleave one into two), so that might absorb some of the overcapacity currently in rental units, plus possibly help support the lower end of the housing market at the expense of the high end (from one expensive property to two "entry level" ones).

MarkM said:

<<
Derffie, I am wondering, have you read any of the articles linked in this thread, or any other that give staistics on recent home appreciation. I ask because much of what you say seems contrary to undisputed fact. E.g. that the midwest is most vulnerable to price correction -- it seems practically indisputable that the midwest has had the LEAST runup in housing prices in the country (and, living in the midwest, I can attest to that with personal experience), and that the ratios of price to avg income levels are lower here. >>

Mark I think what we have here is a disagreement in perception which may mean that there is never going to be an agreement in facts. Sort of like what happens when a stock market technician looking at the numbers tries to see the trends.. while a value investor looks at the underlying processes in his attempt to determine likely outcomes. Both are looking at the same thing.. both are seeing something entirely different.
My perception is that '"the market" determines price. Based on my perception (theory, hunch etc ).. the reason prices didn't rise in the midwest was because those housing prices were/are at the maximum that "the market" could bear for that area.. in other words they were already as high as they could go.. which conversely means they have no where to go but down. However housing prices in the south and west.. which continue to go up.. reflect "the markets" perception that there is still upside value as yet unrealized in those areas.

Once you decide to look at things from that perspective... then the determining issue is.. what are the trends that are effecting "the market".
Now by the market I mean people plain and simple.. and if you want to see where people are choosing to live.. just look at the 10 year census trends.. 1990 - 2000 population change by region
And look at the areas where immigrants are choosing to settle.. at least initially.. WHERE THE NEW IMMIGRANTS ARE

Im guessing you just didnt see that population in both the northeast and midwest DROPPED from April of 2000 to March of 2002. And while the northeast dropped a bit more than a half of a percent.. the midwest dropped more than a full percent. Not exactly a race you want to be winning.. and not exactly a bullish sign for housing appreciation in those areas...

I don't find the comparison between stock market behavior and housing cycles very compelling. Stock purchases are indeed a next biggest fool game with buy / sell decisions being made in extremely short timeframes. .. housing is a life necessity where the purchase is usually a several year commitment... the differing dynamics are too apples and oranges to say one mimics the other.

You're right that I don't focus on the 'bubble'.. when the tidal wave is still growing.