It seems to me as the number of foreclosures increase, the “plans” designed by pandering politicians and government officials become more and more outrageous. Here is one of the more dangerous cases…
Any explanation of the stock and housing asset bubbles that doesn’t incorporate the Fed’s role and Mr. Greenspan’s indifference to bubbles isn’t complete.
Also, I question if those who loaned, chopped and repackaged these mortgages are going to lose. It seems we’re bailing out our non-banking financial system to avoid an economic collapse.
We have privatized institutionalized profits but socialized their losses. ——-
Posted by No_Such_Reality on 03/29/08 at 06:02 AM
“Home prices always go up”
“You’ll be priced out forever”
Posted by zoiks on 03/29/08 at 06:07 AM
Robert Shiller likes to talk about information cascades. I believe it’s when you use the knowledge of what choices other people are making to inform your own choices. Like deciding to go to a restaurant that’s full of people rather than the empty one, based on seeing the people inside.
It’s not totally irrational to use other people’s judgment to inform your decisions. Kids do it - they learn how to act largely by mimicking adults. And in the restaurant example, it’s reasonable to expect that the restaurant packed with people is more likely to be a better restaurant than the empty one next door. Not always true, but more likely anyway.
But sometimes these “information cascades” take on a life of their own and the activity of others becomes the sole source of information, regardless of merits. It’s obvious to see this can then lead to bad decision making.
JMHO (Hopefully I’m not screwing up the theory too badly, but this is how I see it.)
Posted by granite on 03/29/08 at 06:17 AM
Mr. Realty Times thinks its “a good bet” that the market will recover later this year. Its no wonder he didn’t use Dr. Shiller as one of his experts.
I do think there were two primary factors. In order to get this “double bubble” the no down easy money financing added the extra boost beyond low interest rates. Enabling millions of people who would normally never have qualified to participate gave the rocket boost somewhere around 2003 (and Bush’s “Ownership Society”). I believe you made this point yourself earlier.
The trick seems to be identifying and following momentum. Then getting out before everyone else does.
Posted by alan on 03/29/08 at 06:55 AM
My understanding of market theory, as a non-economist, is that it was designed to explain markets where goods were bought and sold using money belonging to the buyers and sellers.
No matter how you slice it, this market was sustained by OPM, other-peoples-money. Prices hikes were perpetuated by speculators buying multiple properties using OPM with little skin in the game.
To my knowledge, the models you describe do not account for the effect of speculators and OPM.
Your analysis is right on. It is exactly how the research literature describes it. Herd mentality in investing is taking a useful survival skill and applying it in the wrong context resulting an asset bubble.
The description of the two theories of finance was not intended as a complete description of asset bubble, nor of the housing bubble in particular.
I totally agree with you that the actions of the FED and the secondary mortgage market enabled the bubble to get inflated. I have gone into detail on the issues you describe in other posts.
Posted by george8 on 03/29/08 at 08:08 AM
Alan, a great point. I wonder if IR or anyone with more finance and math research backgroung could further charaterize the role of financial leverage in the great housing bubble, or in any bubble market for that matter.
Posted by BD on 03/29/08 at 10:22 AM
Hello All -
...quick question for the board - where do people reasonably believe prices will be on a per square foot basis in Mission Viejo or Coto / Ladera Ranch when we bottom?
Thanks, for any and all ideas…
BD
Posted by Varangy on 03/29/08 at 12:17 PM
@IrvineRenter
While I think your summation of EMT is pretty good—- I think that you are being a bit reductionist and have perhaps too much faith in behavioral finance ability to offer insight. A lot of what EMT suggests is more, much more applicable to the financial markets, not to the real estate markets.
IMHO, painting with a broad brush, financial markets in general are semi-strong form efficient, while I think that real estate is anything but. That is why financial market corrections are drastic and quick—and real estate market corrections are drawn-out bloody affairs.
Posted by BD on 03/29/08 at 01:36 PM
I would disagree… the only difference between housing markets and other financial market is liquidity.
JMHO.
BD
Posted by Varangy on 03/29/08 at 02:12 PM
@BD
There are vast differences between the real estate markets and the financial markets. Liquidity and continuity being some of them.
This is a decent article on how efficiency is defined. Might be interesting for those of you w/o a finance/economics background.
http://www.investorhome.com/emh.htm
Posted by Varangy on 03/29/08 at 02:16 PM
OPM is a good euphenism for leverage. What the bubble boils down to, and I am surprised that IrvineRenter did not explicitly mention it, is OPM and the Greater Fool Theory.
And it isn’t even that no one realizes a bubble is happening. I didn’t participate in this housing bubble, but I remember lots of nervous jokes around 1999-2000 that when you are getting stock tips from the modern day equivalent of the shoe shine boy it was time to sell. But even if you know you are in a bubble, how do you know when it will pop, and what do you do in the meantime?
On the one hand, people are saying “buy and hold” and “dollar cost averaging.“ On the other hand you have bears, but they have been saying things would crash for the last 3 years and if you had listened to them, you would never have seen your 401K (house, whatever) go up. If you leave your money in cash, inflation eats it up and how do you ever retire?
So even the bubble formation isn’t without some rational thought. People just don’t know what else to do.
These two theories are broad conceptual frameworks for understanding how and why prices rise and fall. As concepts they can apply to all markets irrespective of the application of leverage in the buying and selling of assets within the market.
The housing bubble was first and foremost a credit bubble inflated with borrowed money. Many financial bubbles come about due to some form of unsustainable credit expansion and Ponzi type financing. The housing bubble we have just witnessed will be a textbook example of a financial bubble built on credit.
Most current research in economics is in behavioral finance as most of the ideas of the efficient markets theory have been widely discredited due to their failure to account for the observed volatility in financial markets.
This housing bubble is going to be the first true bubble in the housing market. In the first coastal bubble of the late 70s, prices did not fall much after the peak, and the market did not experience the fear or capitulation stages true bubble markets experience. The coastal bubble of the late 80s did see significant market price corrections, but most homeowners held on and did not capitulate to the market. The slow correction of prices in both of those bubbles did not correct quickly because the market never saw true capitulatory selling as people gave up and sold just to get out of their investments. This bubble is shaping up to be different. Prices have already fallen so far, so fast that many people will give up either due to an inability to make payments or by the fact they are so far underwater there is no hope of them getting back to breakeven in a reasonable amount of time. When people lose hope, they will sell in large numbers consistent with capitulatory behavior witnessed in true financial bubbles. Capitulatory selling is witnessed in stock markets all the time, but this will likely be the first time in a housing market. All of the talk of price “stickiness” will be rewritten by the time this bubble is done deflating.
Posted by lawyerliz on 03/29/08 at 03:18 PM
Except when they don’t.
Posted by BD on 03/29/08 at 04:06 PM
I appreiciate all of the analysis but, it seems to me that most of this can be expained by simple reasoning. That is people were allowed to spend far more than they could afford because of nearly free money and “innovative” financing. These people did so because the could simple enough. Unless you are a cash buyer you have what you have because the bank says you can have it. During the boom / bubble you could have anything. Based on these unprecedented easy money terms anyone could have bought anything. You could have bought the Staple Center with no documentation with someone else’s money. Kidding but, you get the idea.
Now after the ponzi scheme of greater fools has run its course we are left with the largest asset bubble the world has ever seen - simple as that.
The process of correction or reversal to fundamental affordability is going to be brutal. Prices are still 25-40% overvalued based on traditional metrics and affordability. This process of correction is going to destroy more wealth than anything we have ever seen and keep prices below trend growth for a decade or more. We basically stuffed 20 years of appreciation into 5 or so years here in CA.
With most of the homes IR is profiling reflecting hundreds of thousands of loss ask yourself - if banks increase downpayment requirements to 20% how long does it take you to save that same amount as a down payment… $100K, or $200K?
Just MHO..
BD
Posted by BD on 03/29/08 at 04:52 PM
People buy payments not prices.
There are idiots out there now buying cars with an 8 year note! Houses with a 40 year note!
Stupid and crazy… but, this is what our educational system has brought us….
BD
Posted by GreenspanIsATraitor on 03/29/08 at 07:03 PM
“People buy payments not prices.
There are idiots out there now buying cars with an 8 year note! Houses with a 40 year note!
Stupid and crazy… but, this is what our educational system has brought us….
“
You got that RIGHT ! The dumbing down of America has been a GREAT SUCCESS.
Posted by Dr. Dan on 03/29/08 at 08:16 PM
A couple of comments:
(1) “People buy payment not prices” to which I would add people sell for the price and in most cases it will be the holder of the mortgage that really paid at that price.
(2) The tech bubble crash and 9/11 caused many people to desire hard asset investments such as real estate (a safe haven of sorts).
(3) The analysis is incomplete in that (and really aren’t articles on this yet) low interest rates helped to continue the housing bubble but the “event” that started this whole thing was really a “demand surge” which really did dry up the housing supply, which caused prices to go up, which caused people to want to invest in housing. The “demand surge” was new innovative financing (aside from the low interest rates) that allowed people 1 or 2 years down the buying pipeline to in fact be able to “buy now” so we had several years of demand suddenly come due all at once. It was this demand surge the kicked off the housing bubble (it started the fire)....low interest rates just put the fuel on the fire. So my view is that the conventional wisdom that low interest caused the housing bubble is wrong…that was an exacerbating factor, albeit a significant one.
Posted by GreenspanIsATraitor on 03/30/08 at 01:25 AM
“(2) The tech bubble crash and 9/11 caused many people to desire hard asset investments such as real estate (a safe haven of sorts).
“
You know, its funny at that time, I was selling everything I had to buy all the gold and silver I could get my hands on. Gold at $296
an ounce, and silver at $4.88 an ounce….geeessshhhh seems like they were literally GIVING it away! Thanks to my Dad for teaching me all about what REAL MONEY was.
Along with buying a shit load of puts on New Century, and CountryWide has allow me the independence Ive always DREAMED OF. Thank you Alan Greenspan, your stupidity has made me a FORTUNE!
Ah, loving LIFE !
Posted by GreenspanIsATraitor on 03/30/08 at 01:48 AM
Ipop,
By chance you watching Hawaii real estate?
I want to buy a nice place in Ohau…
Any idea when you think prices there will “bottom out” ?
Thanks in advance.
Posted by TurtleRidgeRenter on 03/30/08 at 10:45 AM
My guess is $160 - 180, since those places are so far away from the beach. Maybe other folks here know a little more about the area, and can shed some better light.
Posted by ex-tangelo on 03/30/08 at 06:15 PM
You’re at a 9…. We need you at about a 6 or a 7, OK?
Posted by Lisa on 03/30/08 at 08:09 PM
IMHO, all these models and theories can’t apply to current market condition. With the financial tools such as no-doc, zero down, neg-am etc., this is a “you have nothing to lose” gamble game, and there is no rational financial theory can justify the phenomena we have experienced in the housing market.
Posted by NumbersNeverLie on 03/29/08 at 01:55 PM
It seems to me as the number of foreclosures increase, the “plans” designed by pandering politicians and government officials become more and more outrageous. Here is one of the more dangerous cases…
http://www.reuters.com/article/bondsNews/idUSN2833879020080328?pageNumber=1&virtualBrandChannel=0
Posted by joe on 03/29/08 at 05:59 AM
Any explanation of the stock and housing asset bubbles that doesn’t incorporate the Fed’s role and Mr. Greenspan’s indifference to bubbles isn’t complete.
Also, I question if those who loaned, chopped and repackaged these mortgages are going to lose. It seems we’re bailing out our non-banking financial system to avoid an economic collapse.
We have privatized institutionalized profits but socialized their losses.
——-
Posted by No_Such_Reality on 03/29/08 at 06:02 AM
“Home prices always go up”
“You’ll be priced out forever”
Posted by zoiks on 03/29/08 at 06:07 AM
Robert Shiller likes to talk about information cascades. I believe it’s when you use the knowledge of what choices other people are making to inform your own choices. Like deciding to go to a restaurant that’s full of people rather than the empty one, based on seeing the people inside.
It’s not totally irrational to use other people’s judgment to inform your decisions. Kids do it - they learn how to act largely by mimicking adults. And in the restaurant example, it’s reasonable to expect that the restaurant packed with people is more likely to be a better restaurant than the empty one next door. Not always true, but more likely anyway.
But sometimes these “information cascades” take on a life of their own and the activity of others becomes the sole source of information, regardless of merits. It’s obvious to see this can then lead to bad decision making.
JMHO (Hopefully I’m not screwing up the theory too badly, but this is how I see it.)
Posted by granite on 03/29/08 at 06:17 AM
Mr. Realty Times thinks its “a good bet” that the market will recover later this year. Its no wonder he didn’t use Dr. Shiller as one of his experts.
I do think there were two primary factors. In order to get this “double bubble” the no down easy money financing added the extra boost beyond low interest rates. Enabling millions of people who would normally never have qualified to participate gave the rocket boost somewhere around 2003 (and Bush’s “Ownership Society”). I believe you made this point yourself earlier.
The trick seems to be identifying and following momentum. Then getting out before everyone else does.
Posted by alan on 03/29/08 at 06:55 AM
My understanding of market theory, as a non-economist, is that it was designed to explain markets where goods were bought and sold using money belonging to the buyers and sellers.
No matter how you slice it, this market was sustained by OPM, other-peoples-money. Prices hikes were perpetuated by speculators buying multiple properties using OPM with little skin in the game.
To my knowledge, the models you describe do not account for the effect of speculators and OPM.
Posted by IrvineRenter on 03/29/08 at 07:58 AM
Your analysis is right on. It is exactly how the research literature describes it. Herd mentality in investing is taking a useful survival skill and applying it in the wrong context resulting an asset bubble.
Posted by IrvineRenter on 03/29/08 at 08:02 AM
The description of the two theories of finance was not intended as a complete description of asset bubble, nor of the housing bubble in particular.
I totally agree with you that the actions of the FED and the secondary mortgage market enabled the bubble to get inflated. I have gone into detail on the issues you describe in other posts.
Posted by george8 on 03/29/08 at 08:08 AM
Alan, a great point. I wonder if IR or anyone with more finance and math research backgroung could further charaterize the role of financial leverage in the great housing bubble, or in any bubble market for that matter.
Posted by BD on 03/29/08 at 10:22 AM
Hello All -
...quick question for the board - where do people reasonably believe prices will be on a per square foot basis in Mission Viejo or Coto / Ladera Ranch when we bottom?
Thanks, for any and all ideas…
BD
Posted by Varangy on 03/29/08 at 12:17 PM
@IrvineRenter
While I think your summation of EMT is pretty good—- I think that you are being a bit reductionist and have perhaps too much faith in behavioral finance ability to offer insight. A lot of what EMT suggests is more, much more applicable to the financial markets, not to the real estate markets.
IMHO, painting with a broad brush, financial markets in general are semi-strong form efficient, while I think that real estate is anything but. That is why financial market corrections are drastic and quick—and real estate market corrections are drawn-out bloody affairs.
Posted by BD on 03/29/08 at 01:36 PM
I would disagree… the only difference between housing markets and other financial market is liquidity.
JMHO.
BD
Posted by Varangy on 03/29/08 at 02:12 PM
@BD
There are vast differences between the real estate markets and the financial markets. Liquidity and continuity being some of them.
This is a decent article on how efficiency is defined. Might be interesting for those of you w/o a finance/economics background.
http://www.investorhome.com/emh.htm
Posted by Varangy on 03/29/08 at 02:16 PM
OPM is a good euphenism for leverage. What the bubble boils down to, and I am surprised that IrvineRenter did not explicitly mention it, is OPM and the Greater Fool Theory.
http://www.investopedia.com/terms/g/greaterfooltheory.asp
Posted by Emma Anne on 03/29/08 at 02:32 PM
And it isn’t even that no one realizes a bubble is happening. I didn’t participate in this housing bubble, but I remember lots of nervous jokes around 1999-2000 that when you are getting stock tips from the modern day equivalent of the shoe shine boy it was time to sell. But even if you know you are in a bubble, how do you know when it will pop, and what do you do in the meantime?
On the one hand, people are saying “buy and hold” and “dollar cost averaging.“ On the other hand you have bears, but they have been saying things would crash for the last 3 years and if you had listened to them, you would never have seen your 401K (house, whatever) go up. If you leave your money in cash, inflation eats it up and how do you ever retire?
So even the bubble formation isn’t without some rational thought. People just don’t know what else to do.
Posted by IrvineRenter on 03/29/08 at 02:49 PM
These two theories are broad conceptual frameworks for understanding how and why prices rise and fall. As concepts they can apply to all markets irrespective of the application of leverage in the buying and selling of assets within the market.
The housing bubble was first and foremost a credit bubble inflated with borrowed money. Many financial bubbles come about due to some form of unsustainable credit expansion and Ponzi type financing. The housing bubble we have just witnessed will be a textbook example of a financial bubble built on credit.
Posted by IrvineRenter on 03/29/08 at 02:59 PM
Most current research in economics is in behavioral finance as most of the ideas of the efficient markets theory have been widely discredited due to their failure to account for the observed volatility in financial markets.
This housing bubble is going to be the first true bubble in the housing market. In the first coastal bubble of the late 70s, prices did not fall much after the peak, and the market did not experience the fear or capitulation stages true bubble markets experience. The coastal bubble of the late 80s did see significant market price corrections, but most homeowners held on and did not capitulate to the market. The slow correction of prices in both of those bubbles did not correct quickly because the market never saw true capitulatory selling as people gave up and sold just to get out of their investments. This bubble is shaping up to be different. Prices have already fallen so far, so fast that many people will give up either due to an inability to make payments or by the fact they are so far underwater there is no hope of them getting back to breakeven in a reasonable amount of time. When people lose hope, they will sell in large numbers consistent with capitulatory behavior witnessed in true financial bubbles. Capitulatory selling is witnessed in stock markets all the time, but this will likely be the first time in a housing market. All of the talk of price “stickiness” will be rewritten by the time this bubble is done deflating.
Posted by lawyerliz on 03/29/08 at 03:18 PM
Except when they don’t.
Posted by BD on 03/29/08 at 04:06 PM
I appreiciate all of the analysis but, it seems to me that most of this can be expained by simple reasoning. That is people were allowed to spend far more than they could afford because of nearly free money and “innovative” financing. These people did so because the could simple enough. Unless you are a cash buyer you have what you have because the bank says you can have it. During the boom / bubble you could have anything. Based on these unprecedented easy money terms anyone could have bought anything. You could have bought the Staple Center with no documentation with someone else’s money. Kidding but, you get the idea.
Now after the ponzi scheme of greater fools has run its course we are left with the largest asset bubble the world has ever seen - simple as that.
The process of correction or reversal to fundamental affordability is going to be brutal. Prices are still 25-40% overvalued based on traditional metrics and affordability. This process of correction is going to destroy more wealth than anything we have ever seen and keep prices below trend growth for a decade or more. We basically stuffed 20 years of appreciation into 5 or so years here in CA.
With most of the homes IR is profiling reflecting hundreds of thousands of loss ask yourself - if banks increase downpayment requirements to 20% how long does it take you to save that same amount as a down payment… $100K, or $200K?
Just MHO..
BD
Posted by BD on 03/29/08 at 04:52 PM
People buy payments not prices.
There are idiots out there now buying cars with an 8 year note! Houses with a 40 year note!
Stupid and crazy… but, this is what our educational system has brought us….
BD
Posted by GreenspanIsATraitor on 03/29/08 at 07:03 PM
“People buy payments not prices.
There are idiots out there now buying cars with an 8 year note! Houses with a 40 year note!
Stupid and crazy… but, this is what our educational system has brought us….
“
You got that RIGHT ! The dumbing down of America has been a GREAT SUCCESS.
Posted by Dr. Dan on 03/29/08 at 08:16 PM
A couple of comments:
(1) “People buy payment not prices” to which I would add people sell for the price and in most cases it will be the holder of the mortgage that really paid at that price.
(2) The tech bubble crash and 9/11 caused many people to desire hard asset investments such as real estate (a safe haven of sorts).
(3) The analysis is incomplete in that (and really aren’t articles on this yet) low interest rates helped to continue the housing bubble but the “event” that started this whole thing was really a “demand surge” which really did dry up the housing supply, which caused prices to go up, which caused people to want to invest in housing. The “demand surge” was new innovative financing (aside from the low interest rates) that allowed people 1 or 2 years down the buying pipeline to in fact be able to “buy now” so we had several years of demand suddenly come due all at once. It was this demand surge the kicked off the housing bubble (it started the fire)....low interest rates just put the fuel on the fire. So my view is that the conventional wisdom that low interest caused the housing bubble is wrong…that was an exacerbating factor, albeit a significant one.
Posted by GreenspanIsATraitor on 03/30/08 at 01:25 AM
“(2) The tech bubble crash and 9/11 caused many people to desire hard asset investments such as real estate (a safe haven of sorts).
“ You know, its funny at that time, I was selling everything I had to buy all the gold and silver I could get my hands on. Gold at $296
an ounce, and silver at $4.88 an ounce….geeessshhhh seems like they were literally GIVING it away! Thanks to my Dad for teaching me all about what REAL MONEY was.
Along with buying a shit load of puts on New Century, and CountryWide has allow me the independence Ive always DREAMED OF. Thank you Alan Greenspan, your stupidity has made me a FORTUNE!
Ah, loving LIFE !
Posted by GreenspanIsATraitor on 03/30/08 at 01:48 AM
Ipop,
By chance you watching Hawaii real estate?
I want to buy a nice place in Ohau…
Any idea when you think prices there will “bottom out” ?
Thanks in advance.
Posted by TurtleRidgeRenter on 03/30/08 at 10:45 AM
My guess is $160 - 180, since those places are so far away from the beach. Maybe other folks here know a little more about the area, and can shed some better light.
Posted by ex-tangelo on 03/30/08 at 06:15 PM
You’re at a 9…. We need you at about a 6 or a 7, OK?
Posted by Lisa on 03/30/08 at 08:09 PM
IMHO, all these models and theories can’t apply to current market condition. With the financial tools such as no-doc, zero down, neg-am etc., this is a “you have nothing to lose” gamble game, and there is no rational financial theory can justify the phenomena we have experienced in the housing market.
Posted by JB on 03/30/08 at 10:16 PM
Lehman Loses $300 Million on Stated Loans.
http://thegreatloanblog.blogspot.com/2008/03/lehman-loses-300-millon-on-stated-loans.html
Posted by Chris_Silicon_Valley on 03/30/08 at 11:07 PM
Make that a 4. Retiring at 37? Oh goody, hope he/she has enough moola for that monthly health insurance payments.