Appreciation is Dead

Appreciation is Dead. It is not merely delayed for a temporary housing price crash only to resume its historic 7+% rate. Appreciation is dead. We will never see high rates of house price appreciation again in California. Sacrilege! Yes, but there are reasons to believe this may be true.

In October of 2000, I attended a conference put on by The NASDAQ had experienced the spring collapse and summer bear rally. The huge fall sell-off (which was the first of many sell-offs before the bottom was reached in the spring of 2003) was just beginning. One of the speakers at this conference was a very successful hedge fund manager named Mark Boucher. Everyone gathered at the conference had just been through the wildest bull market in history. All were convinced that the market was going to come roaring back. We just needed to get past this painful correction. Does any of this sound familiar?

When Mark Boucher spoke he dropped a bomb on the audience — 20% annual gains in the stock market were not going to be seen again in the next 20 years and perhaps in lifetimes of those assembled… Silence… A pregnant pause… One of the most successful money managers on the planet just spoken the unspeakable; the audience had to think the unthinkable. Heresy! Blasphemy! Was this possible? For a few brief moments the audience was exposed to the naked truth; the veneer of denial was stripped from them. It was a paradigm shift with seismic repercussions. Those who heeded his words made wise investment decisions and survived the bear market. Those who failed to listen bought the bear rallies and were destroyed. Seven years after the peak, the NASDAQ is still down 50%, and none of the last seven years favorably compares to the seven that preceded it. Mark Boucher was right.

I am not as smart as Mark Boucher, and I am not a preeminent real estate investor (I didn’t buy the bubble rally.) My words do not carry the same weight. However, consider what I write here, and you may save yourself a lot of money and avoid a lot of stress as the bubble deflates and the post-bubble market emerges.




Have you ever wondered why California’s housing market bubbles so frequently and other markets do not? It stems from a combination of two factors: limited supply and high wage growth (and, of course, Southern California’s Cultural Pathology).

Supply is not limited in the way most people think. We are not running out of land. Supply is limited because the process for obtaining supply is cumbersome — which is good for me because that is my job. In other areas of the country, when supplies of housing are low and prices begin to rise, a large amount of supply is brought to market quickly to meet this demand. In California, this is not the case. The entitlement process as outlined in CEQA is both lengthy and costly; therefore, when supply runs low, new supply is slow to the market, and prices rally higher than they would in other areas of the country. The point is that supply shortages are a temporary phenomenon not the permanent result of “running out of land.” Have you noticed that during the crash there is excess inventory on the market, and the builders have overbuilt? This is why.

The fundamental value driving up home prices is the growth in wages — at least indirectly. Wage growth drives rental rates higher, and it is rental rates which determine the fundamental value of housing; therefore, wage growth determines the rate at which housing will increase in value. Irvine has experienced wage growth exceeding other areas of the country. This is why pay scales are currently double the national average. However, this trend cannot continue forever.

Factor Price Equalization

When the cost of a good or service rises, people seek out lower cost alternatives. When the same product is available in a different market, buyers will purchase in the lower cost market until prices equalize. This is most notable in labor markets. After NAFTA was signed, wages for unskilled labor declined in the United States and rose in Mexico. Of greater importance to the higher skilled labor of Irvine is the problem we know as “outsourcing.”


Outsourcing is happening all around us. I have a relative who works in customer support for a major computer maker. They are working to outsource most of his department to Banglore, India. Nissan has relocated its North American headquarters from Southern California to Tennessee. These are examples of high-paying, high-skill jobs leaving our area. This is happening for two reasons: one, they can pay less in other markets, and two, they can’t get employees to move to Southern California because the cost of living is too high. The second problem will lessen as house prices crash, but the first problem is not going away. We are paid too much in Irvine, and businesses are moving where skilled labor can be found less expensively; therefore, we many not see a continuation of 3% wage growth in Irvine for the future.

Wage Growth vs. House Appreciation

House appreciation cannot exceed wage growth forever: trees cannot grow to the sky. People have to earn money to buy a home (unless of course we become a nation of the landed gentry in which real estate is only transferred through inheritance.) Over the last 25 years, house appreciation in Orange County has outpaced wage growth. Wage growth has averaged 3.4% while house price appreciation has averaged 6.9%. Notice the bubble years (1986-1989) where house prices outpaced income growth followed buy bust years (1990-1995) where wage growth made modest recoveries. What is in our future?

Growth in Income and House Appreciation 1981-2006

There are only a couple of ways house prices can outpace wage growth: 1. interest rates must decline allowing people to finance larger sums with less money, and 2. debt-to-income ratios must rise as people put higher percentages of their income toward making payments. Both of these phenomenons have been occurring in Orange County over the last 25 years.

Interest Rates

Mortgage interest rates have been on a slow but steady decline since the early 1980’s. Interest rates were at historical highs in the early 80’s to curb inflation, and the decline from these peaks to the 7% to 9% range was to be expected. This initial decline in interest rates coupled with low inflation caused house prices to begin rising again in the late 80’s culminating in the bubble that burst in 1990 leading to 5 consecutive years of declining prices.

Mortgage Interest Rates 1981-2006

During the early 90’s while prices were declining, notice the drop in interest rates from 10.6% in 1989 to 7.2% in 1996. This 30% decline in interest rates made housing more affordable and help limit the declines in the early 90’s. If interest rates had not declined, house prices certainly would have dropped further than they did. Does anyone think interest rates will decline 30% from the 6.3% they are today down to an unprecedented 4.4% to match the debt relief of the early 90’s? The FED is not going to save house prices. In fact, today’s mortgage interest rates are likely not sustainable. The 6.3% today is 20% below the historic 8% average of the last half century due to global capital markets being awash with liquidity from Japan and China among others. With the declining dollar, growing national debt and inflation pressures, it is more likely that interest rates will rise rather than fall.

Debt to Income

Debt to Income Ratio 1981-2006

One of the often overlooked phenomenons of real estate bubbles is the fluctuations in debt-to-income ratios. DTI ratios is an interesting measure of buyer psychology. In market rallies people act with greed and put larger and larger percentages of their income toward purchasing houses because they are appreciating assets. In market busts, people put smaller and smaller percentages of their income toward house purchases because the value is declining.

Some of the bulls speculate that we have reached a permanently high plateau. This is crazy. The only thing justifying a DTI of 62% is the belief in high rates of appreciation. Why would anyone pay double the cost of rental to “own” unless ownership provided a return on that investment? Once it is obvious that prices are not increasing and even begin to decrease, the party is over. Why would you buy under those circumstances, when it is more rational to wait and pay less? Why would you stretch yourself to buy a house when prices are dropping? This is why prices drop until house payments match their rental equivalent value. At the bottom, it makes sense to buy because it is cheaper than renting. When the market debt-to-income ratio falls below 30%, the bottom is near.

Future Appreciation Rates

As you can see from the charts above, interest rates are at all-time lows, and debt-to-income ratios are at an all-time high. Prices are going to fall — make that crash. This post isn’t about the crash, it is about the lack of appreciation in the aftermath. House prices over the last 25 years have appreciated at a rate greater than wage growth because interest rates have been falling and debt-to-income ratios have been rising. Interest rates cannot continue to fall. As they rise in the future to rates nearer their historic norms, house price appreciation will be held in check. It is likely that house prices will appreciate at rates of less than 3% while interest rates rise, and it will only match the 3% rate of wage growth thereafter. It is also possible that Irvine and Orange County may not see 3% wage growth in the future due to factor price equalization and outsourcing. Sustained appreciation rates of 7% will not be seen in the next 25 years — assuming of course we don’t have another bubble.

Buying after the crash

So what implication does all of this have on a future buying decision? Don’t count on appreciation. If you need to factor in appreciation to make the math work on a home purchase, you will buy too early, and you will pay too much.

Then again, you wouldn’t be alone. Pros make this mistake too. Some of you may have heard the story about one of our major homebuilders in Southern California who had to close their San Diego office due to poor performance. The president of the division routinely used high rates of appreciation in his financial models when analyzing properties to purchase. As a result, the San Diego division overpaid for almost all of its projects and lost the company a great deal of money. Usually, when a major company has problems at a division, they rotate staff. The problems here were so severe it was judged more prudent to wipe the division out and start over. Amazing.

When the cost of ownership is equal to the cost of rental it is safe to buy. Even if prices drop further — which they might — you will not be hurt by it. If you are counting on increasing rents or house price appreciation to get you to breakeven sometime later, you will probably get burned. Remember, appreciation is dead. Rest in Peace.

Housing Bubble Tombstone

46 thoughts on “Appreciation is Dead

  1. ripcord


    That was an outstanding analysis, and really got me thinking. I agree that the long term real-rate-of-growth of real estate cannot forever outrun the growth in wages, but I’m not sure I agree the appreciation is dead. Let me explain.

    If you look at a curve of SoCal housing vs. time superimposed on a curve of the fundamental value of housing, the SoCal curve exhibits marginally stable behavior: it shoots far above the fundmental curve for a few years (as it did in the 70s, the 80s, and now) then it falls back to earth, undershoots the fundamental value (usually only very briefly) then starts to outstrip fundmental values again. While I appreciate your analysis, I don’t see why this won’t happen again.

    All your arguments for the housing crash that is upon us are quite sound. However, most of the arguments you make today could have been made with equal authority in 1990. DTI ratios are similar (worst now though), interest rates aren’t THAT much lower, and the amount of appreciation OC enjoyed is somewhat less than in the late 80s. What is different now? Outsourcing? I work in the semiconductor business, and let me tell you, outsourcing isn’t what it is cracked up to be. In fact, are you aware that there are new design centers in Irvine for Chinese and Indian companies? BeCeem, which is an Indian WiMax chipset vendor, has opened up an analog/RF design center in Irvine (at the Spectrum) and RealTek, one of the leading Taiwanese suppliers, has opened up an office on Laguna Canyon Rd. These are foreign competitors hiring Americans.

    My question to you is this: Why specifically do you think “it’s different this time”? Do you think there is any chance you are so close to the situation this time you think there might be a “new paradigm”? I agree that the excess of the last 10 years will be largely wiped out, but I’m not so sure that Appreciation is Dead.

  2. IrvineRenter


    I can see from your response that the post really did get you thinking. Getting people thinking was really the point of the post. Most people have this mindset about California real estate that believes high rates of appreciation are the norm rather than the exception. Each time a bubble forms, “it is different this time” and it never is. People need to lower their expectations and be realistic about how much house prices can rise and they need to understand what pushes prices higher.

    I really do see long-term problems with outsourcing and higher interest rates. There is a limit to what companies will be willing to pay people. I was reading the weekend thread, and people were talking about salaries doubling in 5 years which makes overpaying for real estate OK. Do people really think their salaries are going to go up that fast? I guess we will all be making a $1,000,000 a year soon enough. Plus, interest rates will go back up, and this will serve as a damper on appreciation. Maybe this will be part of the crash, so people won’t recognize it as a long-term problem, but if interest rates creep up slowly, house prices won’t creep up much at all.

  3. Recovering Homeowner

    Excellent analysis, and good photos to go along with. Even in 2007 there are still people who just can’t believe that housing can and will and HAS gone down – I was talking to a friend yesterday about the difference between the stock market and real estate, and trying to explain the concept that your losses in the stock market are limited to the amount of money invested (nonwithstanding shorts etc – just straight investing) whereas with real estate, you could lose all the money invested and owe extra money on top of that.

    I used a $500K house with a 20% deposit that sells later for $350K – so your $100K deposit is gone as well as $50K besides. She just didn’t get it. She kept saying that “you get your deposit back when you sell your home.” I finally got her to crack a bit and admit that “rarely, I guess you could lose money when buying real estate.” Others like her have their homes for sale right now and just can’t drop the price – similar to crackheads who just can’t peel their fingers away from the pipe.

    Once bad news is accepted, solutions can be generated. Tunnel vision will cost more and more as time goes on.

  4. rkp

    I agree with Ripcord regarding the jobs. I personally don’t see outsourcing taking many jobs in OC – at least skilled and highly paid work. I am in high tech and have many friends who work in high tech out here. You would think they are prime candidates to get outsourced but they are getting great jobs with nothing to suggest any risk for them in the upcoming future. The reason is that there are many mid size and startup high tech companies in OC and these small companies rarely think about outsourcing.

  5. renter

    Another great post IrvineRenter.

    Looking at the trend up in debt to income ratio since 2001, it is not hard to see what has been propping up the economy these last few years. If the trend is true for the entire country, then a recession in the near future would not surprise me as consumers stop borrowing more and more money and hence slow spending. And that would be a punch for housing when it is already on its knees.

  6. IrvineRenter


    You and ripcord may be correct. You know that industry better than I do. I wonder how many in Silicon Valley believed they were secure in 2000?

  7. RickHunter

    I too have this thought that we will never see home prices skyrocket like this again. What happen with the dot com tech stocks was people buying into the hype. Same thing happened with real estate. NEVER AGAIN!

    Why was this hype (both of them) so prevalent, so fast? THE INTERNET! You got Whites, Asians, Middle East, Hispanics, etc. all over the US, all over the World, trying to make the quick buck. They’re not trying to understand the risk, they’re trying to make money!

    I know you people, IrvineRenter, etc on all these blogs try to explain the fundamentals, the rent ratio etc. but that’s like a psychologist trying to explain why the patient is the way they are. Do you people understand this basic fact from the second paragraph above? If you do, then all you really have to do is just sit back, and wait for the drop. Just like how it happened with the dot com stocks. But then again, people were not waiting in line to BUY the dot com stocks once it bottom out. Because those companies went out of business.

    So as you can see, HOMES are different. You guys are waiting for the home prices to go down. You’re trying to time it so that you can buy into it at the bottom without having to much of a loss. You’re treating it like an investment even though you say you’re not.

    Where am I going with this, Idont know LOL. But I’m going to get married and buy a house in 3 years!

  8. IrvineRenter


    “You’re trying to time it so that you can buy into it at the bottom without having to much of a loss. You’re treating it like an investment even though you say you’re not.”

    What I am trying to do is to get people to stop looking at it as a speculative investment. Residential real estate historically has been a very poor investment vehicle. It generally only beats inflation by less than 1%, and the costs of ownership are very high. I am not advocating “timing the bottom” in order to make money, but I advocate buying at the bottom because it is only at the bottom does the economics of ownership make sense.

    Since it is an asset purchase, it is an “investment,” so there is an economic component that cannot be denied. It needs to be viewed as a cashflow investment and not a speculative gamble based on appreciation: the investment versus speculation is what is lost on most people.

  9. SmartMoney

    “[I]t is rental rates which determine the fundamental value of housing.”

    Amen. Excellent article IrvineRenter. The affordability gap and the gap between the money that could be made “renting and investing the remainder” versus “buying and carrying the staggering costs of ownership in OC in hopes of some appreciation” are the two economic gaps I keep my eye on.

    I believe the problem with the speculation of the last few years is that all the appreciation that a home could theoretically see over a few decades became “built in” to the purchase price. Slowly, thanks to blogs like this one, people are waking up and realizing that that means they are assuming all of the risk and none of the reward if they buy right now. They are assuming they will not lose a job, have a death in the family, develop a disability, need to relocate, or anything else for a couple of decades at least. The appetite for that much risk (in a society where people do move far, far more frequently than even twenty years ago) with no upside is waning. Panic and correction will come: the realization of just how enormous those two gaps have become, the lack of desire to be the bagholder in the Ponzi scheme, and the fact that people are fundamentally rational and will depart from age-old advice (like “the smartest move you will ever make is to buy a home”) when that very advice has been exploited and demonstrably manipulated against them to force all the risk onto the new purchaser.

    Once the collapse comes, appreciation will return, but right now scores of years of the appreciation has all been built in and needs to be extracted back out of the prices of homes in the area.

    I think we are lagging behind Vegas here in the OC, but we will be feeling the same pain soon enough.

    Here is a fun psychological activity for you forum readers to try: ask all of your friends who bought in the last two years (or your clients if you are a realtor) this question: “Knowing what you know now, seeing the changes already in this early stage of the market correction, witnessing the difficulty people are having trying to sell, discovering for yourself the hidden costs of ownership, are you having buyer’s remorse? Would you have done it differently, and if someone offered right now to make you completely whole and unwind the purchase, would you take them up on the offer?” Watch how the number of affirmative answers grow over the next couple of years . . .

  10. lendingmaestro

    prior to 3 months ago, we allowed a max DTI of 45%. Now we allow up to 55% DTI. Why? because if we want to make any money we’ll have too do that.

    Credit requirements are tightening significantly as well are LTV requirements, but DTI allowances have increased.

    Our goal as a company is to continue to grow by continuing to purchase the servicing rights to new loans and grow our portfolio. We’ll also be acquiring smaller struggling banks and thrifts. We’re obviously going to see profit marigns squeezed a bit but we’re hoping to offset that by new acquisitions. Many people in OC, particularly Irvine, work for small to medium size brokerages. These people will be the first to lose their jobs as investors will begin to pay less for the loans they originate. Unless you have access to massive levels of capital to spend on marketing, or a large portfolio of current customers to call on, you’re screwed. Their is going to be a lot of applications for bar tender at the Yard House soon.

    Profit from refinances will diminish, but I have to tell you, there has been an INCREASE in the number of fools calling in to purchase. They are falling for the “dead cat bounce” Rates are still low and enticing the people who are “on the fringes” to continue purchasing.

  11. No_Such_Reality

    IR – great original post.

    Ripcord – nice follow-up. I doubt appreciation is dead, 4, 5, maybe 6 maybe less, we’ll see appreciation again from bottom. How long it takes to see appreciation from peak may be a different story. As you point out, the past has been pretty predictable. Prices reset to and below fundamentals. The fundamentals haven’t changed.

    An old piece of investment advice from years ago rang true, losing money sucks, cut your loses. If you let your yourself lose half, you then have to double your money just to get even.

    Interest rates are 20% below the ’96 bottom. In 2005, core bubble year, rates were 40% below the previous bubble cycle. Let’s not even factor in the out of pocket rate on many option ARMs are, like Quicken’s $450/$150K is literally 50% below last bottom and only 1/3rd of the rate or the previous bull cycle.

    Add in 20% less affordability due to rising interest rates, add the return to fundamentals and where does that put bottom? Once were there, how many years does it take to get even if we don’t bubble and do double digit growth?

    lendingmaestro, you’re not the only one doing 55% DTI. I noticed Ginnie Mae and Fannie Mae changed their online on how much house can you afford to show 50% DTI.

  12. SoCalwatcher

    Another excellent post!! I love the clear, straighforward and no BS though process of this blog. 🙂

    Another casualty from the housing boom will be quite a few out of work
    “housing show” hosts when these flipper programs fall out of favor. I am amazed how many of these shows are on TV right now. I can only imagine how many people are watching these now and thinking “I could make a killing doing that!”.

    Also, I have been hearing ads on the radio here in Chicago from the “reset vultures” that are already touting refi’s. Granted, the problem here is not bad at all but it will be interesting to see what the SoCal and Florida lending companies come up with to make a profit from band-aid loam remedies.

  13. crucialtaunt

    Excellent post, once again! I reiterate – where is nirvinerealtor when we really need him???

    Re: Outsourcing,

    I will just say that people may be reading into this more narrowly than what is out there… Outsourcing refers to *any* location where work can be done cheaper and/or more efficiently than the home location. The relocation of service sector jobs to India (and other former British colonies where English is widely spoken), Costa Rica, Phillippines, etc. is part of a phenomenon known as “Offshoring”.

    Offshoring is the much deeper and broader phenom of the two, with massive implications to all of Western world, as it portends the removal of several thousand white collar jobs of all sorts to these lower wage countries. It has implications for Irvine’s job market as much as it does for Kansas City (name picked out of a hat, really).

    While ripcord helpfully offers that BeCeem has opened a design center in Irvine, it probably reflects the fact (*for now*) that the highest level of chip design talent has not yet been found in India. Moreover, having that talent where your best *customers* are likely to be makes a lot of business sense in general. I will offer a counterexample via another anecdotal evidence… A friend who worked at Analog Devices, a large chip designer in the Silicon Valley, told me last year (before he was laid off) that the company was moving “substantially all of it’s design work” to India. There remains however, a small, powerful, highly talented design team in the US (between Boston and Silicon Valley) to set direction for future product offerings.

    I have heard a similar story from a cousin who works in (general bank) loan processing in North Carolina – how most of the actual backend processing is being done in the Phillippines through a contractor whereas her loan department has shrunk by 90% through attrition and layoffs in the last 3 years. Except for some “processing coordinators” who remain, the only staff that has had no layoffs in their office are the ones who directly interact with customers via phone or in person.

    I would heartily recommend Thomas Friedman’s “The World is Flat” if you haven’t already read it…

    And no, my job is not about to be outsourced, yet.

  14. RickHunter


    “It needs to be viewed as a cashflow investment and not a speculative gamble based on appreciation: the investment versus speculation is what is lost on most people.”

    But investments in the stock market, on any asset IS SPECULATIVE. You cannot divide the two just because it’s a home. The more money you have pumped into this market, the more speculation you’re going to have. Isnt this how the world works?

    Let’s separate 2 things.

    1. Buying after doing your homework.
    2. Buying without doing your homework.

    Either you do 1 or 2, you can end up the same way.

    Taking a profit by 1
    Taking a profit by 2

    Taking a loss by 1
    Taking a loss by 2

    Let’s say in your post, you were speaking oranges. The apples crowd does not understand you, but they understand the above example. They made or lost money with the dot com. They made or lost money with real estate.

  15. NickStone

    Irvine Renter:

    Great Post! I really enjoy your theoretical posts and keep them in my “Research” 3 Ring binder for future reference. I also agree that wages will not see the high levels of increases that happened in the past for some time. I don’t think the major player in this will be outsourcing, but with the removal of the “wealth effect”, which affects companies as much as individuals. When the unlimited optimism begins to give way to conservative management due to the uncertainty of the future marketplace, high levels of wage increases will stop. There are about to be a large number of white collar workers on the market looking for any kind of work that will be willing to work for 20% less than the current market… and this will make employee demands for wage increases less likely.

    Anyway, I do disagree with you on one level. You make the extrapolation that since future real estate appreciation will most probably be limited to 3% per anum, that real estate will make a poor investment choice. I disagree. Real estate will make a poor choice for SPECULATION, but not investment.

    When the market bottoms out far enough for cash flow investing to be viable, real estate will once again be an excellent investment. With an appropriately large down payment (enough to make the numbers work), the property is essentially being paid for by the renter. Thus, over time, even in a flat market, the investor enjoys an increase in equity, even if the value of the property does not increase. Also, the investor has the advantage that the home can be depreciated for the first 27.5 years, which is a significant bonus to the investor. Finally, since rental properties RARELY have positive cash flow for the first 7 years, the added wealth through increased equity is tax deferred.

    Thus, in cash flow investing, appreciation is a nice bonus but not really necessary. In fact, most cash flow investors that I know actually stopped acquiring properties by 2002 since the numbers simply no longer worked. Of course, many of them dumped some of their properties in the peak, took the tax hit, and banked their money for the next drop. Others shifted their properties using the “1031 Tax Deferred Exchange” and bought industrial properties or warehouses that they knew would not experience the same level of depreciation as homes and condos. They certainly weren’t buying in the bull market.

    Essentially, cash flow investors have a natural advantage over speculators, since they always have to make the cash flow numbers work to invest. When they no longer do, they know that something is amiss. Speculators have the opposite reaction to this phenomenon, and begin to invest in ever increasing amounts as the market becomes further and further detached from the fundamental values.

    Also, long term investors have the advantage of being forced to think in the long term… which certainly changes your perspective. Finally, cash flow investing eats up a lot of your disposable income, since most experienced investors are ALWAYS looking for the next investment bargain. Thus, from my experience, cash flow investors are savers by nature. They are generally MUCH wealthier than they appear. (Almost all of them live in track homes and drive Toyota Camrys).

    So don’t despair! Real Estate Investing will be a sound undertaking in around 5 years. So save your money in the meantime.

  16. ripcord


    I am a design engineer for Analog Devices, and I can tell you 100% that we are in no way moving “substantially all of our design work” to India. That’s just silly talk, and your friend probably believes it as justification for his layoff. There is a lot of DSP work in India, but not substantially more than this time last year.

    I am sorry your friend lost his job, but it is probably due to the shutdown of our San Jose fab and transfer of the manufacturing lines to Boston. We are currently hiring a *lot* of analog design engineers in San Jose. Was your friend on the manufacturing side?

    On the other hand, I do consider tech to be a sundown industry… the falling dollar is helping us out for now.


  17. crucialtaunt


    Great that we can talk “in context” about ADI. I am not sure which side (manufacturing vs. design) my friend was on, I will have to ask him the next time I talk to him. He was very bitter when he was booted out (as anyone would be in that position, I guess), so I wouldn’t be surprised if he blamed the outsourcing ops in large part for his job loss.

    Minor side point, I do remember sometime in 2001-2 him complaining about his underwater stock option grants (as many in the tech industry had experienced)…

  18. Bkshopr

    Irvine Renter, I am impressed again with your analytical thinking.

    Since Cortile was brought up sevaral times in the last topic on Quail Hills. I would like to contribute my thoughts in why the 6 pack cluster and similar variation by California Pacific Homes were the most active in any given time in the re-sale market.

    Because these homes are basically at the lowest strata of the “detached housing food chain” It is also important to know that these homes were the price reference point to set the resale for attached homes and bigger detached homes. Attached homes prices would be less than the detached cluster unless the townhomes is really big. Detached home are priced above the detached cluster.

    The six pack detached cluster was Aldea in the last parcel of land in Oakcreek. The land in my opinion was a leftover piece next to the Oak Glen Apartment in Oakcreek. I guess the quantity of the apartment reached its maximum therefore Irvine Apartment Communities decided to leave the small remaining parcel. I believe this land was cheap due to its less desired location. I remembered going to the presale trailer and viewed the cardboard models of the homes. The plan 1 with the tandem garages were priced around $280,000.

    I heard that this project the planners could squeezed the most number of units on to the land and therefore it became the most preferred candidate for re-plotting in many of the future Irvine communities.

    The next communities was Sage in Quail hills and the price went up a lot at about $330,000 for the starter plan. The Quail Hill site was much bigger. The project had many more phases than the tiny Aldea neighborhood. I think there were more than 13 phases.

    Rule of thumb in buying a home. The more phases there are the more appreciation one would see. The last phase of the Sage placed the starter plan at over well over 1/2 million. The flippers made well over $200,000 on this project.

    The more luxurious version Chantory is over at Turtle Ridge. And the biggest plan reached almost $900,000 in the resale.

    Since this project did so well as a density getter it was then repeated over at Woodbury as Cortile. The plan 1 started in the high $400ks due to the flat land location. It went way up and finally pierced into the bubble.

    The detached cluster was a landmark project that lifted the price ceiling of the attached projects. We have seen townhomes that reached into the high 600k and low 700k because of the escalated price ceiling set by the detached cluster. The largest plan of the detached cluster priced at 700k also set the foundation base pricing for the fee simple detached homes. That is why that we do not see too many fee simple homes selling for less than 800k.

    The detached cluster did generate a success but at the same time it bump up the comp for everbody. Everyone is tired of the Aldea plans. I doubt that California Pacific would build more of the Aldea plans. Cortile still have standing inventory and price has dropped also. There are angry homeowners out there.

    Decada, Cortile and Viento should be retired. The builder should consider new plans with lowest price affordability. If the builder planning on milking the project in its re-use then start pricing them really low so a smaller price increments could be accomodated over the next 45 phases and yet price will not piercing the price bubble.

    I would recommend buyng in the first phase of a very successful project and allowing the subsequent phases to bump up the prices. Most builders make the buyers sign a owner must occupy and no selling of the unit within a year contract. I do not recommend this to the flippers since a year of mortgage without a renter and 6% of commission is way over the current stagnant inflation.

    We should all report to the builders and turn in all those who violate the agreement. In Irvine within the first year no owners of a new home are allowed to rent or sell their home. If we start to turn them in then we will see less filppers pandering new homes. Homes should be treasured and owned by those with the best intention.

  19. mc221

    The article is a little misleading…while the Nasdaq is down 50% still from it’s peak…the DOW has just surpassed an all time high.

    So the market has recovered. Mark Boucher was mistaken unless he was specifically addressing the NASDAQ.

    If you would have pumped your money into the DOW instance when it hit 7000 or so…you would have almost doubled your money.
    Not to mention the fact that international emerging markets have been going crazy over the last few years.

    The article seems a little one sided…and a little out of prespective.
    They’ll be another housing boom…just like there always are stock market ups and downs.
    Humans are emotional by nature…that’s why to say there will never be large gains in the housing market again is ludicrous.
    The entire market is often driven by human emotion and not actual facts.

  20. No_Such_Reality

    the DOW has just surpassed an all time high.

    The Dow needs to be shot and put away. It is 30 stocks that are regularly pruned and reselected to maintain the cream of the winners in the market.

  21. Jon

    Speaking about high tech, here is a short story and my view.

    A couple years ago, our company had recruited a few young engineers graduate from best universities from east coast and San Jose. Now, none of them stay, more important, none of them in O.C.
    After all, this is the biggest lost a company can ever have. TIC can build nice office, artificially lower the rent for corporation and good concept to build communities, but all this just can’t compensate the high cost of living and lack of opportunities.

    IMO, there is no need another silicon valley in Cal, if Irvine can provide a much better living place, may be it has some chances become a second tier high tech center. Otherwise Roseville, Sacramento. Chandler, Phoenix even Austin, Texas can just undertake this position. Their housing is 50% – 60% cheaper than Irvine. And they also have some of best public schools in their area.

    Button line, without high tech and sum-primes, O.C just another ordinary city, the wages should just in line with cities mentioned above.

  22. SmartMoney


    My opinion on inherent volatility in the market: the NASDAQ is still down because tech stocks are still down from the tech bubble of the late nineties. The housing bubble is, depending on your vantage, in one of the early stages of bursting. The DOW is doing so well because it represents a broader base of stocks than the NASDAQ and it is accepting, quite happily, the equity people are diverting from the real estate market. It contains some of the sectors that have the potential to become the third great bubble of our “new economy.”

    Markets are volatile, but there is something unique, fascinating, and extremely disruptive about the progression and statistical aberration of the baby boomer generation and echo boomers pressing through various sectors in a herd. It does not take a Harvard business degree to spot the collective action problems and unsustainable highs and devastating lows in market after successive market.

    There is a fortune to be made staying ahead of the curve, but it is debatable how ethical it would be to do so (entering and exiting the hot sectors and hoping to miss each freefall after the exponential climb). You have my guaruntee that there is at least as much pain, loss, insecurity, and suffering for those that miss the proper timing as there is easy profit for the lucky and the insiders who act and rig the system with information not available to the masses. If you get bored today, look at what insiders in the mortgage and REIT businesses have been doing with their holdings in late 2006 through present . . .

  23. lendingmaestro


    Thank you for making that point. Many people think that the DOW represents the whole stock market, when nothing can be further from the truth. The bulk of these companies are super-cap industrials. A better market indicator is the S & P 500.


    An increase from 7000 to 13000 in the DOW doesn’t necessarily mean you “doubled your money” Companies are added and removed from the 30 stock list. To figure out how a change in any particular stock affects the amount the index changes, up or down, divide the stock’s price change by the current divisor. For example, if General Electric was up $5, divide 5 by 0.14418073, which equals 34.68. Thus, if the DJIA was up 100 points on the day, GE was responsible for 34.68 points of the move.

  24. Doctor Housing Bubble


    I must say that was one of your best analysis. Excellent read and so many key points to address. I’ll pick out a few to discuss. You highlight:

    “Some of the bulls speculate that we have reached a permanently high plateau. This is crazy.”

    Again they would like you to believe that housing will never go down. Somehow housing is anti-economics and follows a philosophy that is apparently operating in a different theoretical universe. Then factor in California and you have infinite appreciation; after all, they aren’t making any more land in the Milky Way.

    “So what implication does all of this have on a future buying decision? Don’t count on appreciation.”

    I would even go on to say that you will lose money if you buy today. Housing is running on pure fumes at this point hoping the spark of summer selling season will reignite this engine. At this point, nothing can change the trajectory of this train. They can lower interest rates to zero and it will have a minimal impact because of the massive number of sub-prime and Alt-A loans set to reset. These folks went 0 down and even if they were able to refi out, who in the world would buy their home? Not at inflated prices at least. In addition housing prices are determined on the margins. At any point in time the number of housing units for sale on the market is minute compared to all housing inventory.

    Even looking at high prices and why OC is holding on to gains many think that maybe the mantra of always high prices is true. A new paradigm. But this is predominantly based on the fact that 30 percent of all job contributions in the last seven years are closely tied to real estate. We will face a housing led recession. Most recession happen because of the opposite – that is job losses lead to declines in the economy and housing.

    Prices will come down and come down hard. Next year we’ll be on our blogs analyzing why prices are down 10 percent.

    Good stuff IR.

    Doctor Housing Bubble

  25. IrvineRenter

    Doctor Housing Bubble,

    Thank you for the compliment. I read your blog daily, and I always enjoy your well-written posts.

  26. mino2126

    IrvineRenter…..kudos for the simplicity and straight-forward analysis at hand.

    I would like to point out to those that say OC is immune to Outsourcing. Outsourcing is something that is inevitable unless you produce a product that is specific to a market or is not a commodity. Now I can’t say chip making is 100% commoditized but I do know for a fact that any small to mid-cap firm that does it’s R&D in the US will always be threatened by foreign competition.

    As for the DOW, it’s only and indicator for overall market performance and nothing else. Personally, I believe that it is now more of a prestige and honor if you are listed on the DOW rather than giving a true picture of what the markets are doing….a better indicator would be the S&P500.

  27. Adam Smith

    Aside from the irrational exhuberance, the reality is the flagging dollar itself primarily accounts for why the DOW is at 13,000; alot of those profits reflect returns from U.S. firms overseas operations. Once adjusted for the slow atrophy of the dollar, the DOW is actually down, compared to 5 years ago.

    FWIW, I was shocked to see perma-bull Jim Cramer (of Mad Money) on Chris Matthew’s talk show yesterday saying that he expects the DOW to reach 14-15k mark later this year in a burst of more optimism that’s detached from basic fundamentals, and then collapse in a dramatic fashion. That’ll happen when the nation officially enters a housing-led recession, with home prices spiraling to 50% of peak values. He didn’t play the “there’s a 25% chance of a recession” game ALA Greenspan or Bernanke; he said it looked to be an unavoidable outcome. Amazing stuff….

    So, what does THAT mean, when a person who’s made their entire career as a Stock Market Perma-Bull says that? Damned straight, it means something. He wouldn’t glibly say that.

    FWIW, Robert Kiyosaki, the prototypical speculative real estate permabull, warned his followers back in 2005 of an impending real estate bubble, advising them to bail out of the market before it turned on them. Only the unwary (like Casey Serin) continued to buy in 2006, for as much as Casey says he admires RK, he apparently doesn’t monitor RK’s free site to get ‘real-time’ updates!

    Even though you may not follow these guys (I don’t particularly listen to either), these every-man financial advisors (Cramer and RK) want to go “on the record” at times for big stuff like this, just so they have deniability when the bottom drops out. They can always tell pissed investors who got caught, “Hey: I warned you aboug this back on April 29th, 2007”.

  28. Adam Smith

    A correction about what Jim Cramer said and didn’t say:

    Mr. CRAMER: Dow’s going to be up 15–we’re going to gain 1,500 points in the Dow before year end, and…

    MATTHEWS: Before year end?

    Mr. CRAMER: Yes. And we could be in a recession. Because we are gaining
    all the points from overseas. Our economy’s decelerating rapidly.

    MATTHEWS: Wow.

    He said we COULD be in a recession, and didn’t specifically mention it would be led by housing (although the implications of it are pretty obvious). He also never said the stock market would crash afterwards, but it’s hard to imagine how stocks or housing prices would be sustained in a recessionary environment…

  29. fumbling

    The S&P 500, which is widely accepted as a good representative index of stocks, is at its highs like the Dow 30, so anyone buying the S&P 500 whether as an exchange traded fund or the Vanguard open end mututal fund at the time Boucher made his statement would not have lost money.

  30. IrvineRenter

    I think you guys are missing the point about the stock market. The returns have not been as good in the 00’s as they were in the 90’s. Everyone got used to 20% a year returns in stocks, and that was not sustainable. Mark Boucher did not predict the NASDAQ crash, he merely pointed out that returns would revert to their historic norms. He preached prudent investment and capital preservation.

  31. mc221

    Yes the DOW is a revolving 30 companies…but it’s a good benchmark on the state of the stock market…as is the S&P500. Good mutal funds will consistently match or beat the S&P 500.

    IF you purchase a mutal funds that tracks the S&P…you are purchasing the fund…not the individual companies.

    Also take a look at the international funds over the last few years….I believe the Chinese index returned over 100% last year…or something to that effect.

    You can’t take a blanket overview.
    You to ready to move when the opportunity strikes.

    I bought a townhouse in Sherman Oaks, CA in 2002. Sold it in 2005 almost at the peak of the market.
    Then instead of putting the $250K i made into another property…I poured the entire chuck into domestic and international mutual funds.

    That 250K has grown over 25% since I invested.

    If you poured a ton of money into the stock market is 2003, you would made a lot of money. It’s about timing.
    Somtimes real estate is good…sometimes the market is good.

    When the DOW fell 400 points a month or so ago…I put another huge chunk of cash I had into the market…that I had sitting around waiting for just an opportunity.

    There are a lot of mutal funds that have exceeded over 20% a year returns since 2003…and this is compounded growth.

    Be smart…and don’t be overly cautious…it seems like many people on this board are overly conservative with their money.

    Take a chance…just take a smart chance.

  32. Lost Cause

    You can’t really ignore the demographics, especially of the baby boom. We have witnessed the end of the home buying binge of that generation. I doubt that there will ever be another cycle like that. Of course most of those internet stocks are never going to hit those highs again. There is pressure to limit immigration, along with tight security, which is discouraging foreign students – many who remain here to work and raise families. Our whole economy depends on population growth. You have spoken the unspeakable yourself.

  33. graphrix

    Another excellent post by IrvineRenter! I do think this is one of the best yet judging by the rather in deepth and well thought out comments.

    I’d like to add more to the myths of interest rates and the Fed.

    lendingmaestro – Feel free to add anything you think I might have missed or you have better knowledge of.

    People tend to forget that there are many hands in the profit of a mortgage. When volume goes down at the lenders they raise rates to continue the profit they need and as we have seen the volume drop they continue reduce staff. For the last six years it was all about the volume and they would just lower rates slightly below everyone else to turn up the volume. Now it is about survival.

    The MBS is great invention and what has helped create the low rates that we have enjoyed for many years now. The only problem we have now is the investors are upset that they are actually seeing defaults in their pools of mortgages. This isn’t just a sub-prime phenomenon because the defaults have increased in almost every grade of MBS. Some are worse than others and some continue to have very low default rates. Since investors are not happy that they have a little thing called risk now they demand a premium for the loans. So the lender ups the rate since that will make the loans appealing to the investor. Otherwise with the lower rate they will have to sell the loans to the investor and pay them a premium or worse hold the loans for sale.

    Think about this you have a lender who needs profit to survive with volume down and investors demanding a higher rate for their new found risk and what do you get? Much higher rates.

    Now to make a real life point. I was contacted by someone on forums here to look into some mortgage rate history and this is what I found at one lender’s rates with the initials GP. I have limited access since I am no longer in the business and if anyone can add as to what other lenders rates were would be greatly appreciated. At the end of January pricing for 30 year conventional MBS saw its lowest point in six months meaning rates should be at the highest point. In late-March the MBS saw its pricing go up by 100 BPS meaning rates should be at the lowest point. The 30 year conventional loan rate did drop in late March. When you look at an adjustable jumbo interest only “higher risk” loan in the same timeframe then rate was worse in late-March compared to the end of January which is the opposite of the 30 year conventional. So someone was needing an extra 100+ BPS in profit for this loan. While the index to an adjustable rate loan is a different and a short term index the rate on the index dropped as well.

    All told the fact is the Fed can lower rates all he wants. If loan volume is down and investors demand more premium then rates will go up.

  34. lendingmaestro

    conforming loans are bought by fannie mae and freddie mac. They will purchase the loan from a bank such as mine for anywhere bewteen 1 to 2 points. Our profit margin for conforming loans is dependent on the loan amount, LTV and credit profile. Higher risk loans require higher profit margins. We need to make more profit upfront because of the inherent risk.

    rates are a compilation of the profit margin requirements and what investors on wall st are willing to pay for them. I work for a reputable bank, so our investors are willing to pay a premium for our loans where as they will pay less for loans originated by brokers.

  35. graphrix

    Thanks lendingmaestro! I was hoping that you would confirm what I was speaking of. Glad you work for a reputable bank that can get a higher premium for their loans. I know too many in the business who are not in that situation. I hope you continue to post here too. Your inside knowledge is very useful.

  36. gec518

    Thanks for your info on Sage and Cortile. I was one of those who inquired about these developments. Given what is available in Irvine, I thought these were a pretty good value. Maybe I was wrong. Although, I’d much rather have one of these vs. my friends attached “Treo” unit in Woodbury that he paid nearly $200,000 more for in the first phase. I agree that something with lower affordability should be built in Irvine, but wouldn’t anything more affordable just be the glorified apartments like Lombard Court or San Carlos. I’d rather pay a little more for something detached. Of course, I’d have a hard time shelling out $524,000 like they are asking at Cortile right now. I’d be pretty intrigued though if they ever approached $400,00, or even better $330,000 like the first Sage release.

  37. Hm owner

    Seeking advice!

    I have purchase a home less than a year ago for 1.15 million. I put 20% down and borrowed the remainder. I have a fixed rate 30 yr mortgage of 6.5% and have the option to pay interest only for the first 10 years. I have $800,000 in diversified stock options with Smith Barney. The return are about 14% while I have to pay a management fee of 1.25%.

    Should I shift my fund to pay off my house loan? I am currently paying interest only. What is the best way to maximize my return?

  38. IrvineRenter

    If you are asking what is the best way to finance your house, I would say keep your money where it is. If you are making a better return on your portfolio (14%) than you would earn if you paid off the loan (6.5%), then you are better off keeping your money at work in the mutual fund.

    If your question is how do I maximize my overall net worth, you need to sell your home before its value drops significantly over the next several years. The increase in value of your mutual fund will not offset what you are likely to lose in depreciation on your house.

    Of course, if you don’t believe house prices are going to drop, do nothing. You are maximizing your return.

  39. lendingmaestro

    You always want to move your debts from high rates to low rates and move your investments from low rates to high rates. Since you have a rate of 6.5% DO NOT PAY ANYMORE PRINCIPAL. You’ve already established a significant portion of equity with your down payment. Your rate is fixed for 30 years so you don’t have to worry about any adjustments. Even if housing crashes big time, you’ll be in good shape! You’ll have lost your “phantom equity” but you won’t have to worry about your budget.

    You’ll get the tax deduction which is a side benefit. Don’t carry a mortgage simply for the tax break. As long as you can invest your money at a higher rate of return then your 6.5%, you don’t want to pay down your mortgage.

    The P&I pmt on 920k @6.5% is 5815. The IO pmt is 4983. That’s 832 a month you’d save by not paying principal. If you put that money every month into an account that bears 6.5% interest for 9 years with a ZERO original balance you’d have $122,126 saved! This means you would have earned $32,270 in interest alone.

    Here’s a link that allows you to calculate the future value of monthly payments

  40. Hm owner

    Thank you IrvineRenter and lendingmaestro.

    I heard that other owners pay their mortgage bi-weekly instead of monthly and that extra one payment by the end of each year helps to accrue more principle therefore the house loan would be paid off sooner substantially than the current 30 year duration.

    Why aren’t people doing it? Is it because of the hassle to do payment twice a month? It seem like the expenditure would be the same except for the one extra payment over the course of one year.

    I really appreciate you teaching me this. I am trying to learn this and I admit that I am not good at this. Having read so many of the bad, horrible and tricky loan scenarios on this blog. I want to become smarter and have a better understanding of the math so that I can make the best choice in managing my finance.

    I find all of you are honest and offer excellent advice. So many financial and loan specialists out there with hidden agenda and never disclose the whole picture. That is why so many home buyers got in trouble with their loan.

  41. lendingmaestro

    I commend you for wanting to pay the mortgage off, but I would also challenge you like I challenge all of my clients to take a step back and look at their financial position as realistically as possible.

    Are you going to pay principal and interest every month for 30 years until the balance is zero? There is a 99.9999999999999% chance that you’ll have a housing payment the rest of your life. It’s just not financially reasonable to pay 1.125 million of your own money plus hundreds of thousands of interest for a home. If you can afford a 10 year fixed rate payment, 15 year max, then the home value is just too high to pay off.

    No other object will ever come close to being as expensive as a home. You can buy a Ferrari for 140k and it is nothing compared to a million dollar home. Remember you haven’t truly bought something until the money has come out of your account and nothing else is owed to the seller. You don’t really “buy” a home, you “rent” a home from the bank. You just get to ugrade it if you want. The bank will love that! It’s like a car lease with an initial down payment.

    Principal payments do nothing but fatten the pockets of banks and their investors. Sure it lowers your risk, but if you have a fixed rate and don’t need to refinance then you won’t have to worry about or LTV.

  42. awgee

    Hm owner, it doesn’t seem that any of the calculations above include risk premium. You can pay 6.5% on your mortgage and earn 14% on your mutual fund, but, and this is the but that no one takes into account these days, what if your $800,000 depreciates? And what if your 1.15 million dollar home also depreciates? I am not saying they will, but when analyzing your possibilities, it is important to consider the real possibilities. You could owe more on your home than it is worth and you could have less funds in your mutual funds with significantly less earnings. The lenders always want you to borrow as much as you can and continue to carry a large mortgage balance, but this may not be in your best interest. A mutual fund which has a history of 12.75% net is not a guarantee of a future of 12.75% earnings. And actually, considering the cyclicality of all markets, chances are the mutual fund will earn less, if it continues with a consistent investment program.

  43. Hm owner

    Awgee, It seem that as long I am making more than 6-1/2 % with the mutual fund I will come out ahead.

    If the 12.75% is the norm and having it drop all the way to 6-1/2% would be very rare?

    I do have to pay 40% taxes on the 12-1/2% mutual fund interest and that will give me a 7.65% net gain which is just a point over the 6-1/2 house loan interest? is it worth the risk?

    I need your advice lendingmaestro and Irvine Renter?

  44. IrvineRenter

    Hm owner,

    If you are getting hit with current income taxes rather than capital gains, it definitely makes the returns less when compared to the risk. Of course, your effective interest rate on the mortgage is also reduced by 40% because of the HMID, so you would be comparing 4% to 7.65%.

    There is no clear “right” answer because of the uncertainties with the market. If declines in the housing market trigger a recession, other asset classes will also decline in value. If your mutual fund actually drops in value, you will wish you had sold it to pay off the mortgage.

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