The Market Bottom

To everything (turn, turn, turn)

There is a season (turn, turn, turn)

And a time for every purpose, under heaven

A time to be born, a time to die

A time to plant, a time to reap

A time to kill, a time to heal

A time to laugh, a time to weep

A time to build up,a time to break down

A time to dance, a time to mourn

A time to cast away stones, a time to gather stones together

A time of love, a time of hate

A time of war, a time of peace

A time you may embrace, a time to refrain from embracing

A time to gain, a time to lose

A time to rend, a time to sew

A time to love, a time to hate

A time for peace, I swear its not too late

To everything (turn, turn, turn)

There is a season (turn, turn, turn)

And a time for every purpose, under heaven

Turn, Turn, Turn — Pete Seeger / The Byrds / Bible (Ecclesiastes 3, verses 1–8)

Link to Music Video

Recent Concert Video


Like the change of seasons, real estate markets move in cycles. During the last cycle, the real estate market peaked in 1990, and the market bottomed in 1997. The primary reason the bottom formed was because incomes and rents finally caught up to housing prices.

They say a picture is worth a thousand words. These two images posted in our forums by Bubblegum speak volumes. These images are both from 1997. The first appears to be from a condo development in Orange. The actual pricing is not important: the relationship between the cost of a rental and the cost of ownership is very important. This is why the bottom formed.

Market Bottom 2

The next time someone tries to convince you the cost of ownership is near the cost of rental, remember the simple calculation above. If someone has to apply rental increase rates, inflation rates, appreciation rates, tax benefits and other complicated nonsense to make the numbers work, the numbers really don't work. (Notice the simple numbers above work without the tax benefits figured in.)

As a rule, the use of advanced math to justify a house purchase is mental masturbation designed to make someone feel good about an emotional decision they already made. When the calculation above works, it will be time to buy, and not until then.

Since I began writing on this blog, I have stated I will buy when the cost of ownership equals the cost of rental. An advertisement like this — when it reflects reality — would motivate me to buy. How about you?



It has been suggested as prices drop people will perceive a bargain and start buying. This is true. This is where all the knife catchers come from. There are simply not enough of these people to support the market, particularly a market dominated by foreclosures like ours is going to be shortly.

Why aren't there enough knife catchers to support the market? Knife catchers are not buying because of the numbers, they are buying because of their emotions. Everyone is not going to get emotional at the same price point; thus, no support zone will form at any particular price point.

However, everyone who can do math will see when it is cheaper to own than to rent, and many rational people will act at the same time and at the same price levels. The collective actions of you, me and other like-minded individuals responding to these market conditions provides the market activity and transaction volume necessary to form a market bottom. It will not form before then.

So how much were properties in Irvine going for in 1997?

Market Bottom 1

For all of you number crunchers out there that want to find the bottom of our current bubble, start with the pricing in 1997, and add 4% per year for inflation and wage growth (although wage growth has only been 3% per year.) Since I really like quick multipliers to simplify the math, below is a table to help:

1997 1.00

1998 1.04

1999 1.08

2000 1.12

2001 1.17

2002 1.22

2003 1.27

2004 1.32

2005 1.37

2006 1.42

2007 1.48

2008 1.54

2009 1.60

2010 1.67

2011 1.73

2012 1.80

2013 1.87

2014 1.95

2015 2.03

2016 2.11

2017 2.19

From this table you can see how much more a 1997 house should cost projected into the future. In 2007, a house purchased in 1997 should be 48% (1.48 times) higher. Pricing will intersect these values at some point, and when it does, we will be at the bottom.

Irvine Housing Market Prediction Chart

I created the chart above in March for the post: Predictions for the Irvine Housing Market. I thought I was being somewhat aggressive in my predictions of such large quarterly losses. Such large declines are unprecedented. If the credit market is as challenging as it appears, the drop to fundamental valuations may be faster and more violent than anyone could have guessed. We will see.

In the end, the bottom will form because it will be less expensive to own than to rent, and everyone who watched houses depreciate from the peak will find the motivation to buy. We might overshoot fundamental valuations based on rental equivalent (which seems to be where the credit crunch may take us) and drop down to levels where properties produce a positive cashflow for investors. That chart is really ugly…

From How Bad Could Bad Get?

Irvine Market Decline Extreme

If any of you want to play with the numbers, below is a link to the spreadsheet I used to create the charts above:

Market Decline Extreme Spreadsheet



Where do you think the median will bottom out and when?

171 thoughts on “The Market Bottom

  1. Don from the Tanning Salon

    So what you are saying is that I should lock in my rate and buy now, because there’s no better time to be a homeowner?

    Graphs are pretty to look at, but suboptimal predictors of future behavior, be it stock prices, home prices, or what not. There are so many variables at work in this issue that it would impossible to predict anything with accuracy. So since it’s all guesswork, I”ll say the bottom comes sooner than the 2012-2014 estimated on the last graph. Attention spans and memories are shorter, bubbles are quicker to develop, and driving out the mantra that real estate never decreases in value will be hard. So bottom is in 4q 2009 for CA/Fl, and other bubbly residential RE markets, with CRE and flyover country RRE coming 6-18 months later. . We’ll see the sucker rallies and false bottoms between then, and like a good keg/kool aid party, we’ll only realize what happened in retrospect.

  2. carl


    In your chart of Median House Value in Irvine vs. Rental value, you predicted the median house price in Irvine to have fallen $30,000 since January of 2007. This has not happened. However, it is clear that values are falling, and houses not aggressively priced are not selling. Did you not foresee the change in market mix that is supporting the median value in Los Angeles and Orange Counties? I believed the market was in for a correction since 2006 but I certainly didn’t know the low-end of the market would get creamed.

    I have found it interesting that Realtors and bulls cling to the still stable median as evidence we are in for a minor correction that will soon bottom. I predict that Realtors will begin to loudly reject the median as a barometer of market health once we really do start recovering in a few years. This is because it will begin to fall quite fast once people start buying starter homes again.

    If you concede that the median is stable because well-off people are still buying million dollar homes but working folks can’t get loans so only high-end homes are really moving, imagine it in reverse: The market begins to recover, lending is available to all again, and the well-off people are still buying their homes in Newport Beach. But wait, now the sales in Santa Ana and Anaheim are 3X what they were in the previous year, and the median tanks hard, even though the price of individual homes is rising. Seems to me suddenly the Real Estate industry will understand statistics and explain to the public that the median is misleading. What do you think?

    My feeling is this balloon will lose steam really slowly, since so many people don’t need to sell and all that will be on the market for years is trash.


  3. lee in irvine


    The current credit crunch is likely going to make the charts above look more valid in the coming years.

    Bank of America invested 2 billion in Countrywide last month. CFC stock is now worth less than BofA’s initial investment, with no bottom in sight. Bank of America = Bag Holder & Knife Catcher!

    The more light that is shined on Countrywide, the worse things appear. I don’t think they’re going to make it. Either buyout, or BK. Which comes first?

  4. awgee

    “There are so many variables at work in this issue that it would impossible to predict anything with accuracy.
    You are so right … and rents could decrease and prices could overshoot and prices relative to income may devalue so much more than IR is presenting.

  5. IrvineRenter

    The median is certainly has its problems as a measure of housing prices. The scenario you describe when the bottom of the market picks up is certainly possible if not likely.

    Depending on who you believe, the median has dropped in Irvine. The DataQuick numbers which came out yesterday showed a mix-adjusted decline of almost 4% in OC while the median stayed steady. has shown an 8.9% decline in asking prices over the last year, for what it is worth.

    One interesting phenomenon I would like to note about recoveries: people almost always think they will come sooner than they do. When the tech bubble burst, nobody predicted it would take 3 years to bottom and 7 years to recover. In 1990, when the real estate downturn was underway, nobody thought it would take 7 years to bottom and 10 years to recover. Most people are optimistic in their outlooks.

  6. rejected by Countrywide

    In 1997, I bought a HUD repo 1 Br in MV for $45K, sold in 2001 for $110K. Worth $300K at the peak, now about $230K. The rent in 2001 was $675/mo. mortgaget about $350/mo. HOA $100, tax $50/mo. It was cheaper to buy than rent, but no one wants to buy. The same condo would rent for $1250/mo today but again no one is buying.

    I just rented out a studio in Irvine for my client for $1095/mo. Got 2 applications with 700 FICO score. I thought I did good, but found the same kind of model just rented $1150/mo. I got 30+ inquires from just 1 craigslist ad.

    I don’t know the effect of repos on rentals. Unless banks started to rent them out, it probably won’t effect the rental market. Many renters’ blog made home owners looked like fools, which in many cases, I agree. But the lucky renters may have their landlords to thank for not raising rents to market levels.

    Actually the studio was on Streamwood, a complex on a recent blog post. I guess the estimate rent was like $800mo from the blog. Honestly, rent is so much higher and cheaper rentals are just hard to find.

    I own several rentals and I am rushing to sell them at huge discount. Because I don’t think there are better investment out there. I don’t want to give up my cheap property tax base. And they are so easy to rent. Well, things maybe changing. But I got them all locked in low fixed rate mortgage. The rent now is even to cover my payment. I guess that thinking process explains why many owners stood on the sidelines for selling.

    Anyway, renters who feels owners are fools. Don’t show that attitude during lease negotiation. The ones you called fools may decide to rent to someone else.

  7. rejected by Countrywide

    Sorry, typo. rent of the 1 Br in MV in 1997 was $675. rent was $850/mo in 2001. Now it’s about $1200mo.

  8. lee in irvine

    I think there’s a lack of supply for what I call, illegal alien, student, dink, and yupie rentals. Small condos and apartments.

    However, if you own a SFD and you’re trying to rent it, it’s a whole different picture. These landlords have less pricing power because the demand is simply not as strong. I think this trend will become weaker as we lose more real estate related jobs.

  9. IrvineRenter

    True. The Nasdaq is still only half way back to its high. The DOW and the S&P have both fully recovered. Of course, they did so by changing the makeup of the index.

  10. Nars

    Not really.

    Actually BAC negotiated the trade of the year. They bought $2B of 7.25% preferreds at $18 per share on Aug 23rd. On the news, CFC shot up 20% to $22 per share. Then BAC shorted the hell out of CFC and locked in their winnings. Netting over 400M in profit with a 7.25% yield. Essentially, BAC isn’t going to lose any sleep if CFC tanks. They’re hedged.

    Fantastic trade actually.

  11. Mark

    I agree Carl, and I think we’ll see that huge drop in the median in a few months to a year, right when everyone thinks the market has stabilized. And everyone will question the statistic’s value and even its accuracy.

  12. Irvine Soul Brother

    For a large and non-normally distributed (skewed or not “bell shaped”) data set, the median (sales prices) is best measure of central tendency. If I were a realtor now, I would cling to it for dear life because:

    1) It is based on sales, which are few and far between, where few sellers, reluctant to drop their prices have gotten lucky and have actually sold.

    2) The median price of sales does not take into account the incredible amount of inventory sloshing around on the market.

    3) Or the number of homes which have not sold. Which is also a high number in this market. How many homes that were on the market in ’03 or ’04 do you think didn’t sell? Not as many now!

    A damaging Median number for the RE industry now would be number of sales, and the subsequent comparison to 2 years ago.

    But yeah, Yun will be dumping the sales price median number soon as he grasps for more straws.

    (What would be a much better way to conceptualize the data set of home sales would be one that cut out the real high end, and centered on what those in the working class could afford. For this set, we might even ::gasp:: be able to return to parametric statistics, a normal curve and the mean (or “average” as we typically think of it) statistic instead of the median.)

  13. caliguy2699

    I’m so sick of hearing people spouting out with the old “everybody wants to live here so it should be very expensive” argument. Nobody who bought a house prior to the bubble should be able to make that statement, considering the price they were paying was significantly less, relative to what prices are at now – yes there was a premium to live here, but it wasn’t a number of times more expensive than other areas of the country. That’s evidenced by the brochures in today’s post.

    As someone who wasn’t old enough to buy a house in 1997, I’m hoping we see a return to pricing like the late ’90s, where it does make financial sense to buy. Then I’ll be lining up right next to IR to buy a place.

    Till then, I’ll happily take the extra $1k and change a month I save by not owning and keep adding that to the rest of the savings going into my downpayment fund.

  14. IrvineRenter

    To me the most revealing statistic I have seen is the decline in asking prices. Sure this is distorted by the WTF sellers, but to see a 10% drop in asking prices during a period of declining sales is amazing.

    What would happen to car sales or TV sales if they lowered prices 10%? I doubt you would see the sales numbers decline 50% like we have in housing.

    Prices cannot stabilize in the face of declining volume, and asking prices still have to come down more before volume picks up.

  15. IrvineRenter

    I hope people like yourself who have never seen rents and ownership costs align realize it is not just possible, but the inevitable result of the deflation of a housing bubble. Those who don’t believe it are destined to become knife catchers.

  16. NanoWest

    I agree 100% with the analysis made on this blog today. I believe that prices will fall until in makes finanancial and not speculative since to purchase a home/condo.

    The numbers on this site show that median asking prices continue to drop:

    It is only a matter time before the median sales price falls in line with the median asking price………….

  17. CrashHappy

    Thank you IR, awgee, Mark, and particularly LG, for enlightening me on the subject of foreclosure yesterday. I learned a lot!

  18. SavingUp


    I had a comment and a question. First the comment. I love your blog and find your analysis very informative. I’m hooked as a reader.

    Now the question. It is on your last chart and has a description of the decline of homeownership rates to the historical average of 64%. If the 5% of homes are converted to rentals, where will the homeowners live? Won’t they, by renting their homes out, essentially turn themselves into renters? This would mean, for the most part, the total rental supply would stay the same and it would not contribute to the downward pressure of rental prices.

  19. MMG

    excellent post, I used a similar method to reach my conclusion of SFR costing somewhere around 175-200 per SF at the bottom.

    sounds too low for most people but that where the cost to rent vs buy would make sense.

    over the past few days I see 300 per sf has become very commom. another 30% to go and then I start looking and lowballing. 🙂

  20. ipoplaya

    On that topic, today we have a price reduction of I think $15K (not totally sure, but I believe this one was sitting at $999K) on a 3,117 sf property in Northwood. Address is not disclosed (how creepy is that?!), but that house is now down to $316 per sf from original list in May of over $350 per sf:

    There’s your 10% drop in asking IR, and it will probably still sit. It’s not a bad place either. Good sized, nicely maintained, and they’ve put upgrades into it since purchase…

    Promising new addition to MLS in Tustin Ranch:

    A list of $325 per sf on an SFR in that area takes some balls. I bet the guy down the street from this place, who has been on the market for 60+ days and is sitting at $375 per sf is really pissed off right about now. This new listing undercuts his list price of $929K by approximately $125K when you consider the small square footage differential. Maybe more than that when you factor in that the larger place should go for less per sf than a small house in the same area…

  21. N Cty

    I bought a 3br house in Virginia Beach, VA 8 blocks from the resort oceanfront in 1997 for 117K. So Irvine was about 2.3x as much.

    I also bought a 2br 1200sf house in the same area for 93K.

    Currently (2006) median house value was 362K, so the same approx 2x multiplier is there.

  22. ipoplaya

    Speaking of 10% drop in asking prices, here’s today’s price drop:

    Actually a pretty nice Northwood place, 3,117 sf, now down to $316 per sf at list from original in May of $352 per sf. Assuming one could get a price lower than list, this one could be had in the sub $310 per sf range. Decent curb appeal and they have obviously done some upgrading… Encouraging, although a price of $275 per sf @ $850Kish total would look a whole lot better!

    Considering the volume of WTF pricing out there, this new listing is a breath of fresh air:

    $325 per sf for a SFR in a decent Tustin Ranch neighborhood. The guy right down the block, sitting now for 60+ days on the market and currently at $375 per sf must be mighty POed right about now. This new listing has undercut his list price by approximately $125K when you consider the small size differential between the properties.

    I think $325 per sf on a property that size will draw some good buyer attention and get into escrow.

  23. CapitalismWorks

    Home ownership rates in Irvine are far lower than the national average. No surprise there. Real Estate is a local market. It would be informative to see the local home ownership rate changes over the past decade. Anyone have it?

  24. NanoWest

    There is a condo in Irvine… 9 ericson isle…..listed a few days ago at $297.00 per square foot. This seems like a good test of the true market…….anyone know the history of this property?

  25. Kim

    Given that prices increased 200-300% since about 2000, I’ve been wondering why the postulated 25-30% drop is a big deal. Sure, it’s a good thing, but is it enough to truly bring affordability back?

    If a home sold for $250K in 2000, using a 4% annual increase in valuation gets us to $329K. If that home sold for, say, $750K in 2005 or 2006, a $50K drop to a current asking price of $700K isn’t going to cut it for many (most?) potential buyers. It seems to me that in order to get to affordability, current prices would have to be at least 50% less than the crazy purchase prices in 2005 or 2006.

    What am I missing? I understand the distinction between 10% drop from last purchase price and 10% drop in asking price…I’m asking a general question based on other posts about where the bottom might be, which seem to say that OC might be looking at a 25-30% drop.

  26. Iblis

    There will always be a small number of buyers who are not sensitive to price. In a market with very small volumes, these buyers can artificially support a mythical median.

  27. IrvineRenter

    “If the 5% of homes are converted to rentals, where will the homeowners live? ”

    They won’t be homeowners any more. The conversion is going to be forced upon them through foreclosure. The new homeowner will not be a resident occupant, but an investor looking for cashflow.

    The real downward pressure on rents will occur from two sources.

    1. An increase in the number of rentals on the market. Many homes held for sale are vacant. There are many empty homes in the US right now, and if you look through the pictures of many of the houses featured here, you see they are unoccupied while on sale.

    2. A decrease in earnings caused by a housing induced recession in Orange County. All the money that used to flow into the local economy through real estate has been cut in half. Many mortgage brokers were thrown out of work, and many realtors are hungry. Homebuilders and other real estate related jobs are next. The dwindling cash inflows will also impact retail and other businesses.

  28. IrvineRenter

    “What am I missing? I understand the distinction between 10% drop from last purchase price and 10% drop in asking price…I’m asking a general question based on other posts about where the bottom might be, which seem to say that OC might be looking at a 25-30% drop.”

    You aren’t missing anything. We are at the top of a very tall hill, and we are looking at a very bid decline.

  29. CapitalismWorks

    Considering BAC has an 18-month trading restriction on Countrywide following the deal, I find you tale somewhat apocryphal. If it were true, I would imagine the regulators may be interested in what amounts to blatant stock price manipulation.

  30. CapitalismWorks

    Bank of America, the second-biggest U.S. bank, gets shares that yield 7.25 percent and can be converted into common stock at a price of $18, Countrywide said yesterday in a statement. While the shares are convertible at any time, Bank of America will be subject to trading restrictions for 18 months, according to a regulatory filing by Countrywide today.

    You can even check the filing (I didn’t), but I can guess shorting the newly acquired position is a no-no.

  31. Anonymous

    I find it hard to believe that Bank of America did this. That is essentially a pump and dump and I’m sure the SEC would be looking into it. Then again, Cox is a Bush appointee, so I guess anything is possible.

  32. IrvineRenter

    I wonder if they would be allowed to hedge their position in the options or futures markets? If so, they may have purchased puts when the stock was higher because the stock price was higher when the deal was announced. I don’t know if the single-stock futures market or the options market has the liquidity to hedge a position that large.

  33. awgee

    Kim – When the buyer supplies a down payment of 10% of 20%, a 10% or 20% drop is a 100% loss of their total equity. A 30% drop is …

  34. lee in irvine

    “We are at the top of a very tall hill, and we are looking at a very bid decline.”

    And we’re above the cloud line, so we have no perception of how high we are, or how far we go before we reach the floor.

  35. American-Screamer

    I still can’t imagine paying 50-60% (or more) of my take home on buying and on top of that gambling that I will be able to refi to afford the home later on. I would never imperil my family fanancially that way. Therefore, I will rent at considerable fraction of what it would cost to buy. As IR states, only when buying becomes on par with renting as reflection of income generated by the average buyer (particularly at first-time buyer level) will the bottom be found. The American Dream to own without being owned by your home. I wouldn’t enjoy sleeping under my own roof if I knew that it could come crashing down on the next reset.

  36. lee in irvine

    Though I have a series 6 & 63 (I don’t sell securities), this is way above my grade. With that said, there’s something wrong with a corporation investing in another corporation’s future, then shorting their stock as a hedge, to protect short-term profits. I don’t think this passes the stink test.

    But I could be wrong.

  37. No_Such_Reality

    Actually, we’re above the death zone line on Everest. If we linger too long, like a climber, we may find it kills our economy and possibly the financial underpinnings of our nation.

    We could look back in a few years when the Euro is the denomination of choice.

  38. Jim Jones

    “It seems to me that in order to get to affordability, current prices would have to be at least 50% less than the crazy purchase prices in 2005 or 2006.”

    I’m looking at this market just like Kim. 30 percent decline? Big deal…

    IR do you anticepate SoCal homes prices to ever reach a point where median income earners can afford a median priced home based on traditional lending standards that allow you to invest and save for retirement in addition to paying your mortgage?

    If you are unable to saveinvest after making your mortgage payment aren’t you just living on borrowed time?

  39. lee in irvine

    Another point. I don’t think corporations can actively short a competitor. Gosh if that were the case, the big insurance co’s and banks could control the market capitalization of their smaller competitors by simply borrowing all their available stock.

  40. tim b.

    Here’s a sales history for 9 ericson aisle…

    9/19/1989 = $204,500
    8/30/2000 = $239,000
    11/25/2003 = $430,000

    There’s currently a 1st mortgage for $450,000 and a 2nd mortgage for $50,000 on the property. The seller looks like they are struggling to stay afloat here, the property taxes haven’t been paid and there’s a HOA lien on the property. There’s also an IRS lien and a judgment in favor of AmEX against the seller.

    I don’t know how big this condo is, i’d guess around 1,200 square feet? (just saw 1,679 on redfin)

  41. NanoWest

    Thanks for the information….it looks like someone that is trying to get out while they can…it will be interesting to see who bites at $297 sq ft……….if anyone

  42. N Cty

    define ‘many’ (hopefully as a percentage of total homes). This is implying that we have a housing surplus that will drive rents down.

    What are the facts?

  43. sittin on sideline

    9 ericson
    Owner: Rattanasak, Jetsada Trust
    Last Sale Date: 11/25/2003
    Last Sale Price: $430,000
    Beds/Bath: 2 / 2
    Living Sq.Ft: 1679
    Year Built: 1989
    listed $499,000
    Subject to lenders approval of short sale. All commissions are subject lenders approval.

    List Office Aloha Real Estate Services (PB6935) Office 949-234-0510 Fax 949-269-9172 Res
    List Agent Joe Summers (psummjoe)

  44. covered

    The CBOE options market could handle it. I don’t think an outright common short would make sense because BAC would have to be paying the dividend on that common and, like you say, the regulators might say no to that. The put hedge would make sense but then there’s that regulator problem again. Betting against your own stock and all that. As far as I can tell, the single stock futures could handle it, too. MF Global (MF) pretty much has the monopoly on these fairly new instruments and they have over 50 billion on the balance sheet plus the backing of the fed (!) They would be subject to CFTC and SEC and exchange margin rules just like anyone else, but then there’s the regulators again. BAC theoretically could sell covered call premium for a hedge while not being perceived as betting against the deal and I’m guessing that probably what they did if not disallowed for all the other reasons. In a world of crony capitalism, it’s hard to imaging BAC doing the deal without some kind of wiggle room.

  45. Mark

    Knife-catchers will be few this time around. We had a recent stock market bubble that has taught many of us that falling prices do not equal a great bargain as the prices tend to keep falling. I learned about “averaging down” myself. The smart money will wait for a rising market. I’d rather lose the opportunity to gain 10% by waiting than take the chance of losing 20% by jumping in too soon. This is a terrible time to buy unless you plan on staying put for 20 years.

  46. Sue

    I’m going to repost some old links from way back for new people who may not have seen them yet from time to time.

    So, on this topic or looking down the hill, here is a link to the Schiller roller coaster housing price graph if you haven’t seen it yet.

    Real Estate Prices

  47. caliguy2699

    “The dwindling cash inflows will also impact retail and other businesses.”

    That’s a very good point – one that shows how interrelated things are (so why the heck did anyone believe the stupid “this mortgage mess will be contained to subprime” argument?)

    I heard the fallout has already understandably affected some retailers like Home Depot, who are very connected to RE (

    Wonder how bad it’s going to hit retailers who sell a wider variety of products, since I would suspect there will be a tightening of disposable income, since more than just a few ppl have been laid off.

  48. IrvineRenter

    The national vacancy rate on housing went above 2% last year for the first time in history. It peaked near 3%. I don’t know what the vacancy rate is in Irvine.

  49. lendingmaestro


    Looks like the ’89 buyer took an inflation-adjusted loss after 11 years. I thought RE always goes up?

  50. Sue

    August’s home slump smacks cheaper O.C. ZIPs

    Or, look at the ugly August another way: How a credit crunch zapped the market’s key segments, using DataQuick’s 20-year rankings …
    • Existing homes: August was the 9th slowest month overall for traditional houses since 1988. Last time it was slowest? February ‘93.
    • New residences of all types: This was the 11th slowest month overall. Though, it was even slower as recently as this past February.
    • Existing condos: Only the 48th slowest month (out of 236 since ‘88.) Hasn’t been this slow, though, since July ‘96.
    So when you add it all up, you find that August was the 11th slowest month since ‘88, a buying lethargy not seen in this town since January ‘96. Here’s a look at August stats vs. last year by key slices:

  51. CapitalismWorks

    For the record, I am still in with a 10-15% drop over the next 2 years. After that I expect an extended sideways market for another several years. Real Estate won’t be a solid investment for 5 years.

    Lower Rates and supportive legislation will prevent homes from reaching “fundamental value” this time around. The deluge of forceclosures implied by the ARM reset chart will be staunched by easy capital and return of liquidity to the mortgage market.

    Additionally, I think lending standards will be tightened to 10% down becoming the norm (as opposed to nothing or a return to 20%).

    I believe this because we don’t have the unemployment figures that traditionally have led to housing crash.

  52. MarkChallengingPerspectives

    D’oh! Another Mark’s entered this blogoshpere. I guess I’ll add something to distinguish – “ChallengingPerspectives” sounds appropriate.

    Behavioral economics is an interesting area to study, and people do feel the pain of a 10% loss much more accutely than the pleasure of a 10% gain. So I think prospective buyers will be right there with you over the next couple years fearing any possible loss on the purchase of a home.

  53. MarkChallengingPerspectives

    Avenue One is having a blowout sale this weekend. Two years ago Avenue One started in the “High $400s.” I received an email yesterday announcing new pricing starting in the “Low $300s” with up to $40k in incentives.

  54. awgee

    “by easy capital and return of liquidity to the mortgage market.
    Yup, more debt is what will solve this country’s problems. That and the idea that credit is cash.

  55. lendingmaestro

    I wish I was as optimistic as you are. These lower rates you speak of are for CONFORMING loan amounts. I don’t know of any investment houses– Lehman, Deutsche Bank, Bear Stearns, etc.– that are actively buying mortgages at good rates.

    This risk premiums have bumped up significantly and I don’t see them going down anytime soon. Housing would have to correct itself and have another long sustained uptrend for risk premiums to ease again. You seem to believe that it is quite easy for people to get non-conforming loans right now.

    Here’s the reality:
    1.) Can’t refi because equity loss coupled with tightening LTV requirements

    2.) Can’t refi becuase FICO scores dropped.

    3.) Can afford to refinance, but household discretionary income has significantly lowered due to higher costs of financing and costs of durable goods and energy costs.

    Can you give me the logistics of how easy capital and liquidity are going to staunch foreclosures? A simple influx of capital into the markets does not mean that lenders are any more willing to lend to homeowners. Wall Street firms will just buy other investments, particularly those that hedge against a weakening dollar.

  56. MarkChallengingPerspectives

    I was in the 10-15% camp for the last few months. I’ve sinced moved further down the scale.

    I think 10% down will be the norm too with many prime borrowers having 5% down financing available. It all depends on how poorly these loans perform over the next two years. The 80/20 30-year fixed to prime borrower loans are still peforming well.

    People are throwing 100% LTV loans in with much more dangerous loan features (& combinations of these features) like no documentation, pay-option ARMs, and severely discounted initial periods. These features will not vanish, but I don’t know if they’ll ever be combined again.

  57. MarkChallengingPerspectives

    Rates are still historically low. The jumbo 30-year fixed at Wescom Credit Union is 6.50%. Of course, that assumes 80% LTV. PMI or a much higher rate on the piggyback loan would be required for any loan > 80% LTV.

    It’s a little scary that we’re in this environment even when rates are still low!

    And I just heard on CNBC that the LIBOR is finally easing downward. That’ll help borrowers dealing with adjusting ARMs.

  58. CapitalismWorks

    Let me hedge by saying, if the Fed DOES NOT EASE, all bets are off. The housing market absolutely requires lower interest rates. If that ARM reset calendar hits and nothing is done, I can’t quite see where the end is.

    I am not arguing that there are problems right now. Credit spreads have widened (read: normalized), and ABS market is in shambles. This is temporary. The market is frozen because (1) the confidence bands for reliable estimates of probable losses are too wide, (2) the non-bank financial markets are being reabsorbed into the primary banking system (this is why Wells charges 125 basis points more for the broker originated loan compared to an internally generated deal). As time goes on institutions will have a better picture of valuation.

    LTV standards are indeed tightening but I believe they will end up at 10% down/equity.

    Back to risk premium. You may have noticed that the LIBOR swap curve has moved in the opposite direction of the Treasury curve over the past couple of months. Generally these two curves move with a positive correlation is excess of 0.97. The curves have diverged in the past in times of crisis, but have always snapped back (there is an imperfect arbitrage between the two). Again the current situation signals a temporary dislocation.

    Again, interest rates are the center of the business universe, and everything revolves around them. Though it may perpetuate systemic problems in the credit markets, the Fed must ease in order to prevent the high risk deflationary spiral. A Japan scenario is the threat they are seeking to combat.

  59. lendingmaestro

    Well I can only hope your scenario comes to pass, as it will be better off for my job.

    Our executives think that the secondary market will improve, but I’m not so sure if it will happen soon enough.

    Unfortunately for us Americans, this housing sliding is happening at the same time as price indexes are high and the dollar is ultra weak.

  60. awgee

    Is it a done deal that when the Fed eases, that liquidity will flow into the mortgage market? And how temporary is the LIBOR/funds rate divergence? Why would the European banks have any confidence in American paper after the burn they have received recently? And how temporary is the lack of confidence in the ABS market? Isn’t it possible the international banks may have their own liquidity problems and may not care to lend no matter what the Fed does? Isn’t it possible there are alot of off balance sheet, highly leveraged derivatives for which GS, Lehman, Citigroup, JP, BS, Barclays, Deutsche, and others may be hoarding for?
    Maybe not.

  61. lendingmaestro

    Is that for 2 bd units? If so that would be great news! Those units are renting for around 1800 to 2k. If you could pick up one for 340k, I’d be tempted. We’ve got 40k down pmt from the wifey’s family (marry an asian guys) and the rest from our own savings. This would only leave us with financing 272k, which is less than 2x our gross earnings. This puts the P&I pmts @ $1,697 a month.

    It sucks though because it doesn’t have a garage, and it is like apartment living, but we do live in an apt right now, and the location is good.

  62. CapitalismWorks

    I hope things work out for you as well.

    The secondary market will return. It may cost more, and they certainly won’t buy half the crap they used to, but it will return.

    The dollar is a lost cause. The good news is it will make domestic business more competitive, the bad news is travelling abroad is going to cost a fortune.

    Prices are high, but i don’t think they are likely to go much lower. Wheat just hit an all time high, so did oil. Corn was all time high within the last year before the biggest planting in history, but ethanol demand will continue to drive prices. Higher corn (feed) means higher Beef, chicken, fish etc. China is scrambling to feed its population (as usual) while facing several years of drought. Yup, prices are going Up.

  63. CapitalismWorks

    I think there is a huge HOA on these places. Not sure though. BTW, I would avoid High Rise living like the plague. This ain’t New York, meaning there is unlikely to be much demand going forward.

  64. CapitalismWorks

    Not more debt. Lower interest rates to lower the cost of financing. If things move sideways, as I predict, the outstanding float is constant while costing less.

    God forbid lowering rates would induce another run-up in prices, but truthfully without the exotic lending lower rates shouldn’t be any room for further price increases.

  65. MarkChallengingPerspectives

    The “low $300s” is for the 1 bd 1 bth, but if you extrapolate, the 2 bd 2 bth floor plans will probably be in the low $400s with $40k in incentives. Since these units already come with granite countertops and nice flooring, I guess you’d use the $40k to buydown your rate?

    These units are easy to “value” because Villa Siena’s right next door – $2,300-$2,500 for equivalent 2 bd 2 bth. So at 160x, $368,00-$400,000. Avenue One may be near the bottom of its market.

  66. N Cty

    Federal deficit down, expected to drop lower by end of budget year

    Associated Press – September 13, 2007 5:03 PM ET

    WASHINGTON (AP) – The federal deficit is running sharply lower than last year’s.

    The Treasury Department says the deficit through the first 11 months of this budget year is down nearly 10% from the same period a year ago.

    Analysts believe the deficit for all of 2007 actually will be even lower. They’re forecasting a sizable surplus in the final month.

    The Congressional Budget Office predicts that when this budget year wraps up on September 30th, the deficit will drop by more than 36% from last year’s total.

    Record flows of tax receipts have helped the government’s books, despite the housing slump that has reduced economic growth.

    Republicans contend Bush’s tax cuts are a major reason government receipts are so strong now. But Democrats disagree, saying revenues are simply rebounding after sinking earlier in the decade.

    Copyright 2007 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

  67. MarkChallengingPerspectives

    Avenue One’s in the area someone here’s referred to as the “Epicenter” of the real estate crisis. The asking prices are all down 20%+ from peak in this area. This includes Central Park West which advertised its Maxfield homes in the high $700s less than a year ago and is now advertising in the low $600s.

  68. Central Coast guy

    Just wanted to quickly point out that in your first ad piece at the top of this post, e.g. ITS CLEAR. ITS BETTER TO OWN THAN TO RENT. Your comment says quote: (Notice the simple numbers above work without the tax benefits figured in.) If you look a little closer, the owner’s monthly cost @ $797 is only $5 less expensive than a renter’s expense until you add a monthly incometax savings of $141. So, in this illustration there is in fact a substantial benefit that accrues to the owner from his or her tax treatment. Just wanted to keep things straight. I love your blog and enjoy most of the very well written and informative comments.

  69. mino2126

    CapitalismWorks Says;

    “Wheat just hit an all time high, so did oil. Corn was all time high within the last year before the biggest planting in history, but ethanol demand will continue to drive prices. Higher corn (feed) means higher Beef, chicken, fish etc. China is scrambling to feed its population (as usual) while facing several years of drought. Yup, prices are going Up.”

    Capitalism it all these things are true please tell me why we would ever cut rates so a few LBO deals can go through and the secondary markets might open up? Wouldn’t we be just opening the inflation flood gates thus creating a situation where in a yr from now we are staring at Fed Funds Rate near double digits.

  70. jj

    2 bed 1 bath, 1100sqft condo in woodbridge for $400K

    Rent $1,950.00

    Interest* $1,866.67
    HOA $240.00
    Taxes $366.67
    Tax Savings** $(441.67)
    NET COST $2,031.67

    *Interest on 80% LTV loan at 7%
    **Tax savings based on $150K income and 2 dependents
    Note: Calculation ignores potential return on 20% downpayment


  71. ocrebel

    2500/month can rent you a decent 3 bedroom house.
    how come the weakest link of housing can reach the bottom so quickly

  72. mino2126

    Yeah but do you want your kido to spend his first adolescent years in a stuffy condo with 1 bathroom, no yard, and a wall shared with neighbors.

  73. patience2007

    I found this comment today:

    “Most of the loans are solid. Not all loans are sub prime, many people have fixed loans. The 548 foreclosures represent less than 1% of all loans in Ventura. This is not large enough to cause a crash in real estate prices. Once these bad loans filter through, prices will stabilize again. In the meantime, many shrewd investors are bucking the media hype and making some great deals on the best houses in this soft market.”

  74. NanoWest

    You can rent a 3 bed/2 bath(1250 sq. ft) for about $2,400 from the Irvine company…….third bedroom is for the new baby on the way. Or you could rent a 2 bed 1 Bath for $1800 per month and have extra money for diapers. Also when you get transferred to another state, you can just move and not worry about all the money you will lose because the housing market is tanking.

    Even better yet, just rent it from the bag holder home owner for $1500 per month…… the home owner avoid bankrupcy and subsidize your lifestyle.

    Please remember, that in about 4 years when prices are still bottoming out, you can buy a place and make the “homeowner” that is selling take a second of 20% to make the down payment.

    Good try………buying in this market is just toooooo risky……just too much downside.

  75. Anonymous

    Covered calls are not a hedge. Yeah, they get a premium, but no it doesn’t hedge them. If the stock drops significantly, that premium offsets pennies on the dollar. If the stock goes up (who knows?) then they only get to keep the premium and lose all the gains when they either deliver the underlying stock or purchase a closing position. Covered calls are only good when you think things are going to move sideways or you are going to see a short term downturn.

    A put on a stock you own is no different than a short sale on a stock you own as far as the IRS is concerned. It is the same as selling the stock outright in their eyes. I imagine the SEC sees it the same way as the IRS. Nothing wrong with doing this as long as you aren’t a huge company that is principally driving the stock price like Bank of America is.

  76. CapitalismWorks

    You have just repeated what the Fed has been saying for the past year.

    These are indeed risks. The Fed’s preferred inflation measure is CPI-U Core which strips the food and energy components from the calculation. The idea is that the things are mean-reverting. Have you ever heard the old adage, “The best cure for high commodities prices is… high commodities prices”. The core measure is used because the Fed believes it captures second-round inflationary pressure, more notably wage increases. To date these pressures have been weakening. The prospect of job loss directly related to construction spending, and the dampening effect on consumer spending related to the housing recession further bolsters the case the Core inflation is of limited concern.

    The question is will lowering rates induce a spike in Core inflation? Answer: Very Unlikely.

    The benefits to Wallstreet and any credit based markets is the unavoidable side-effect of using a blunt instrument to perform surgery. Yes, the Fed would love to solve the problems in the housing market without the possibility of creating problems elsewhere. It would certainly simplify the whole issue. Problem is, they don’t have the tools.

    The Fed must address the greatest current risk in the economy, housing. Housing is notoriously unresponsive to Fed action, and the impact of Fed policy runs on a long lag 18+ months. They cannot afford, given their mandate of stable GDP growth, to let housing swoon into a full blown depression without posing and extremely large risk of a full blown economy wide recession.

    Basically its a lesser of two evils argument.

  77. awgee

    Lower interest rates will run up the prices of some asset class. That is what lower interest rates are designed and succeed at doing. Lower interest rates inflate the money supply and the price of something or somethings go up. More debt is created.

  78. mino2126


    First off, I hate how the FED uses Core Inflation to measure the rate of inflation. Personally it takes many of the things that we need to have to survive on a daily basis…ie energy, food, water…etc.

    “The Fed must address the greatest current risk in the economy, housing. Housing is notoriously unresponsive to Fed action, and the impact of Fed policy runs on a long lag 18+ months.”

    So if the greatest risk to the economy is housing but regardless of what the Fed does housing has been unresponsive why do anything about it whatsoever? The issue with housing is that the Secondary Market has froze up and even after the FED and the ECB have dumped trillions of dollars into the system it still has not loosened up much. Wouldn’t it be more prudent for the FED to keep the discount window low, interest rates where they are, and let the markets play this out?

    And oh yeah lets not forget about the Yen Carry Trade.

  79. CapitalismWorks

    Awgee, below is link describing the arbitrage between Eurodollars and U.S. Bank deposits.

    So yes, when the Fed eases it will impact the LIBOR curve. Over time, arbitrage ensures that the Treasury curve and LIBOR curve move together.

    We are certainly likely to see more problems down the road as leveraged players are forced to mark-to-market positions significantly below carrying value. However, dealing with these problems, learning more about the issues, is precisely why the market will return. It all boils down to valuation. Once the market “knows” the risk/reward profile with reasonable accuracy, then a valuation can be applied. This valuation may be a painful reality for some either through higher borrowing rates and far more restrictive lending standards, but there is a value.

    With lower rates, the valuations are higher.

  80. MarkChallengingPerspectives

    Condos are the last to rise in an appreciating market and the first to fall in a depreciating environment, and they tend to outperform up, and suffer more down.

  81. CK

    jj — I agree with the others, wait it out. Sounds like you and I are in very similar situations (from income to family size). I have done the same type of calcs you put out there countless times — and each time talked myself out of buying. IR made a good point in his post that at the 1997 bottom, they did not even need to factor in tax savings to make the buy vs. rent case.

    With regards to renting — I can tell you that IAC life is not so bad if you pick the right place. My little one is about to turn 4, and we get by just great in 3 bed 2.5ba 1,300 sq ft townhouse style apt in Westpark — $2397/mo. The older communities (mine is 1988, but all renovated) also have a lot of green space for the kids to run on. We have looked at a ton of $400K places like you describe, and ALWAYS leave saying our rental is much nicer. And there is a lot of flexibility. For instance, we don’t want our girl going to Westpark Elem, so we are just going to transfer to another IAC townhouse next year when she heads off to K. We do a lot of house shopping now — but it’s for neighborhood only. The buying will not be considered until 2009-2010.

  82. CapitalismWorks

    I think you are confusing valuation with borrowing. Lower rates do not increase the amount of debt outstanding. Lower rates do encourage borrowing.

    Lowering rates will increase the money supply, however that does not necessarily translate into inflation. You would have to assume that velocity of the money supply was constant, and/or real GDP was declining. I would argue that the velocity of money is declining in the current market.

    Keep in mind that there are other means for the Fed to moderate the money supply, such as selling through FOMC.

    I addressed the price impact in another post. Alas, it is an unwanted side-effect of trying to stave off a recession in housing.

  83. CapitalismWorks

    Prudence, in this case is preventing a wholesale collapse in housing. If the doomsday scenario presently quite clearly by IR is allowed to playout, then the whole economy goes in the tank. The Japanese example is the mot applicable. Bernanke and friends know the risks of deflation. In my mind, he has done a fairly good job to date of slowing down the housing market, while balancing the overall economy. Unfortunately, the balancing act is now tipped decidely toward the downside.

    The housing market is responsive to Fed policy, albeit on a lag. Fed Funds drives bank borrowing, which drives lending, which drives housing. Additionally, Fed easing helps widen margins for lenders. The market didn’t loosen up despite the efforts to date, because lowering Fed Funds is the only thing the Fed can do that can help.

    No one uses the Discount Window. It is a signal of weakness that banks avoid.

    As for the carry trade, as soon as the Japanese get their act together, and considering their government was sacked yesterday, it doesn’t look like that will be soon, the carry trade will go away.

  84. Anonymous

    Thought I’d just clarify by saying that if two years out (or some decent amount of time) Bank of America either sold, shorted or purchased puts there would be no problem. There is nothing that says they can’t do this. The problem is doing it now when Bank of America themselves drove up the stock price. It’s like sending out emails to everyone saying “This stock is awesome! Buy, buy, buy!” then selling the stock. It is not legal when you are the one moving the market. BofA knows this and that’s why I think the story is horseshit.

  85. CapitalismWorks

    As for using Core vs CPI, the main reasoning is that Core reflects growth in wages and rents, anf when these two areas are rising there is a risk of the dreaded wage-price spiral (demand driven price inflation).

    The other side is that the energy and food components are volatile and mean reverting. In fact the mean reverting aspect of commodities is being test here in the past few years… the ECB using headline inflation rather than core as their preferred inflation measure, so you’re not alone in your doubt.

  86. ltokuda

    “It seems to me that in order to get to affordability, current prices would have to be at least 50% less than the crazy purchase prices in 2005 or 2006.”

    The key is to take inflation into account. Example: If inflation is 4%/year over the next 18 years, the value of the dollar 18 years from now will be 1/2 of what it is today. So a pack of gum that costs 50 cents today would cost 1 dollar 18 years from now.

    Suppose a house was bought today for $1,000,000 and sold 18 years from now at $1,000,000. Nominally, the price hasn’t changed at all. But the real value of the house has dropped by 50%. Put another way: today, I could trade that $1,000,000 house for 2 million packs of gum. But 18 years from now, I could only trade the house for 1 millions packs of gum.

    During these 18 years, the averge household income will approximately double. That means the average household will be able to afford a mortgage that is twice as large. That means a million dollar house will be twice as affordable 18 years from now as it is today.

    Many people are predicting that house prices will decline about 30% over the next 5 years. In the meantime, the average houshold income should go up by, say, 20%. If this were true, the overall effect would be that houses are 40% more affordable than they are today.

    Personally, I agree with IR: Prices will eventually correct to the point where buying is cheaper than renting. How long that takes is anyone’s guess. But when it happens, I’ll be ready.

  87. jj

    I agree with your viewpoint. However, correct me if i am wrong: in 1997 document above they did factor in $141 in income tax savings. In think IR overlooked that.

  88. awgee

    Arbitrage ensures nothing. Without profit there is no arbitrage. There is nothing in the statement by the Richmond Fed or reality that guarantees the LIBOR and funds rate will move together. Yes, it all boils down to valuation, and to assume the real value of the existing over the counter derivatives is anything other than painful reality is just an assumption. Once the market knows the risk/reward profile on the various ABS and derivatives, the market may value them for pennies on the dollar or any other amount. To assume otherwise is just conjecture with no basis in fact.

  89. awgee

    I do not have to assume anything. I have only to know the definition of inflation, and it is not an increase in prices.

  90. awgee

    “the carry trade will go away.”
    The carry trade will go away? I am speechless. You have got me on this one. Ok, it will just go away.

  91. RoustAbout

    Hey, where did Janet go? You know, the RE agent (I think) poster from the weekend that got all pissy about your analysis? I’d sure like to hear her views on this post!

  92. Stupid

    Huh? That doesn’t make much sense. Ex. Japan has really low interest rates, but no inflation – they have deflation problems.

  93. mino2126

    Ok so drop rates so banks have higher spreads without have to increase rates, what does that actually do for the housing market?

  94. IrvineRenter

    “ABS market is in shambles. This is temporary.”

    Why would the ABS market recover? Subprime is dead. Both the loans that were offered and the borrowers who took them were not stable candidates for investment. They never will be. Confidence in this market will not return for good reason: it is a losing investment strategy.

    “LTV standards are indeed tightening but I believe they will end up at 10% down/equity.”

    Long-term this may be a true statement, but it will go through an extended period of 20% down and 28% DTI first. Markets will retreat to what is known to work. Now that the experiment in loose credit failed spectacularly, the baby will be thrown out with the bathwater. If you were a bank, would you only require a 10% downpayment on an asset very likely to decline in value by more than 10%?

    The period of tightening credit will collapse all the way back to the most stringent standards. That is what happens in the credit cycle. It happened in the late 80s after the S&L disaster. It happened in the great depression after the collapse of margin trading on Wall Street.

    Why would it stop half way? Why would banks or investors have any confidence in 10% down loans, particularly when LTV has been shown to be the most reliable indicator of default? Why would banks continue to allow high DTI ratios when they know overextended homeowners default when they go underwater?

    I wish I could see a scenario where credit tightening stops at some interim level. It has never happened before to my knowledge, but I suppose anything is possible.

    I don’t believe this because I just like being bearish. I usually try to find the “reasonable” middle ground. This is the most bearish I have ever been on any financial market (perhaps with the exception of the Nasdaq in 2002.) I wish I could find a plausible scenario where this isn’t a complete disaster. I just don’t see it.

  95. IrvineRenter

    Japan has a different problem — one that was caused by their response to their real estate bubble — a Liquidity Trap.

    They have been pushing on a rope for more than a decade. All the money they are creating with their low interest rates have been flowing oversees through the carry trade. They have been exporting the inflation they desire for their own economy to the rest of the world.

  96. IrvineRenter

    “Do you think maybe that any action or interference by the Fed is antithetical to capitalism?”

    I was wondering when someone might point that out.

    It seems our intrepid capitalists only want free markets when prices are going up. The moment there is a problem, they want government help.

  97. CapitalismWorks

    The Carry trade will go away when Japan finally gets their economy going, which they seemed on track to do until recently, and normalizes rates. Obviously not now…

    Though if you were short the Yen over the qtr you got hurt pretty bad.

  98. CapitalismWorks

    Remember the carry trade is dependent on several things (1) low real rates in Japan (2) Lack of currency appreciation, against the pressure of the international Fisher relationship (3) spread opportunities in foreign (from Japan’s POV) markets.

  99. CapitalismWorks

    Lower rates allows banks to (1) lower lending rates or (2) lend to riskier borrowers at higher spreads.

  100. irvinesinglemom

    When my kiddo was 1, he didn’t notice doodly squat about our home. Now that he’s 4 and we live in an IAC townhome with a pool, within walking distance to three parks, and a short drive away from the giant Bob the Builder park, he’s happy as a clam. Like he cares it’s a rental? Not!

  101. CapitalismWorks

    By the same token shouldn’t the Fed have never began raising rates beyond the market rate? Keep in mind the Fed inverted the yield curve through brute force. Those weren’t market forces causing the inversion.

    By my estimation the Fed should have stopped the tightening cycle at about 4.00-4.25.

  102. CapitalismWorks

    Awgee, I am sorry, perhaps I misunderstood, what definition of inflation were you referencing? Or were you simply reference asset price increases. I guess I don’t see the distinction between asset price growth and inflation.

    Please clarify when you have a moment.

  103. lg


    unfortunately even large retailers like home depot do not seem to have a grasp of how hard they will be hit. just the other day, a statement appeared on bloomberg claiming that home depot did not expect housing to recover until 2008. i’m sure they will be changing their tune when they realize that the “recovery” will occur much later.

  104. graphrix

    CW says “No one uses the Discount Window. It is a signal of weakness that banks avoid.”

    Really? I guess you missed the news today.

    In the first significant borrowing from the Fed since it lowered the discount rate last month, U.S. banks borrowed $7.2 billion from the Federal Reserve as of Wednesday, the most since just after the attacks of Sept. 11, 2001, the Fed said Thursday.
    The average borrowing for the week was $2.7 billion per day.
    The Fed data don’t detail the names of the borrowers. The data indicate that $4.9 billion in loans were owed to the Federal Reserve Bank of New York, $1.6 billion to the Cleveland Fed, and $550 million to the Richmond Fed.
    Last month, five big banks had borrowed from the discount window in a symbolic show of support for the Fed. The borrowing from the Richmond Fed appears to be a holdover from the symbolic borrowing earlier.
    By borrowing from the Fed at 5.75%, the move shows that several U.S. banks could not obtain needed funds from other banks at the federal funds rate, which closed at 5.18% on Wednesday and has averaged 5.01% so far this month.

  105. IrvineRenter

    “By my estimation the Fed should have stopped the tightening cycle at about 4.00-4.25.”

    I would argue the rates should have never been dropped that low in the first place. The Greenspan put has caused 10 years of economic distortions with the commensurate inefficient use of capital.

    Greenspan avoided a recession — a recession caused by the fallout from the tech bubble he created — by creating a massive real estate bubble. The fallout from this bubble may result in a depression.

    Are we to inject another flush of inflation inducing capital into the system to create another asset bubble to avoid the problems created by our last bubble? When does this cycle of bubble after bubble end? There is nothing natural about this credit cycle. It is an artificially induced phenomenon resulting from poor monetary policy.

    Bring back Paul Volcker.

  106. CapitalismWorks

    Your take on the ABS market is wrong. I can’t say it any more simply. Given an improvement in underwriting standards (e.g. documentation of income) and appropriate pricing anything can be valued. If something can be valued is can be sold. Yes, there are some less worthy borrowers getting mortgage loans, they will get them again, but they will pay more.

    The rates will be higher sure, but loans will be available. Hell the market has periodic breakdowns in every spread sector, why would MB-ABS become a pariah when what is happening is typical of credit markets. Do you remember 2002, Enron, Worldcom. The Asian contagion of 1998. Junk bonds have since an unbelievable run, EM has never been better…

    No, I think the announcement of the death of subprime mortgages is premature.

    Why would banks have confidence in 10% loans? Because they are doing them right now? Does that answer the question? High LTV loans will always be available for credit worthy, full doc paper.

    “I wish I could see a scenario where credit tightening stops at some interim level. It has never happened before to my knowledge, but I suppose anything is possible.” So credit spreads only widen until we reach a high on rates?!? How much did credit tighten after LTCM? Credit spreads change all the time. Why would they go to max value this time? I could argue that innovation the financial markets, make it far more likely that this whole mess can be sorted out.

  107. IrvineRenter

    Not to speak for awgee, but I believe as he does that inflation is caused by the increase in money supply.

    “Other theories, such as those of the Austrian school of economics, believe that inflation is caused by an increase in the supply of money by central banking authorities.”

  108. IrvineRenter

    The document did show the impact of income tax savings, but the cost of ownership was equal to the cost of rental without this benefit being figured in. The tax benefits make it even more advantageous to own, but they are not required to make the numbers balance.

  109. CapitalismWorks

    Awgee (see below)


    Arbitrage keeps interest rates closely aligned between Eurodollar deposits and deposits with roughly comparable characteristics at banks located in the United States.20 This is illustrated in Figures 1 and 2. Figure 1 compares yields on federal funds and overnight Eurodollar deposits. Figure 2 compares yields on Eurodollar CDs and CDs issued by banks located in the United States.

    As I mentioned before the historical correlation is in excess of .97. That high enough for me to conclude that the current differential between LIBOR and Treasury curves will normalize.

  110. CapitalismWorks

    Yes, yes I forgot this was an Austrian board. I was referring to teh Keynsian view on inflation.

    velocity * money supply = Real GDP * GDP Deflator

    Using this equation, if the money supply is growing through lower rates, while the velocity of money is slowing, real GDP can remain constant and uninflationary.

  111. IrvineRenter

    Hyperinflation, if it caused wage inflation, would certainly bring up fundamental valuations.

    However, inflation does funny things. First, in an environment of high inflation, mortgage interest rates would rise significantly. Why would a bank loan you money at 6% when inflation is running at 10%? Banks would want to make a return on their investment after inflation, so they will add 4% to the inflation rate to set their lending rates. If mortgage interest rates go up to 14%, buying power is dramatically reduced. Nobody can afford to borrow 6 times income at 14%. The reduced buying power would depress prices.

    The impact of wage inflation and house price deflation would bring fundamentals into alignment sooner, but at a price.

    There is always the issue of getting inflation back under control. If the FED lowers interest rates to create inflation, at some point they will need to dramatically raise interest rates to get inflation back under control. This will severely impact the economy.

    Basically, at some point, we have to pay the price for all our bubbles. There is going to be a deep recession. It is just a matter of when we want to have it.

  112. lendingmaestro

    Inflation simply means the buying power of the dollar has weakened. This can happen while the economy is in depression, stagnantion, recession, growth, or escalation.

    The worst time to have inflation is when you are in an economic downturn. This is not good inflation, and in fact can lead to stagflation–a very hard economic condition to pull out of.

  113. awgee

    Capitalism negates the existance of the Fed, and any force other than market force upon interest rates is socialistic.

  114. lendingmaestro

    The reason why the FED does this IMO is because energy and food stores are traded as derivatives on the open market, which means their prices are at the mercy of speculators.

    It really is sad to see an investment hedge that was originally used to help people, like farmers for example, turn into the craps table at Caesar’s Palace.

    Just as the DOW is no longer truly indicative of the US economy due its globalization, the futures market does not accurately reflect consumer spending, and thus is not a great measure of inflation.

    Housing is falling, and with the general contraction of credit, the FED realizes that consumer spending has to slow down. This will help ease inflation on its own.

  115. awgee

    It’s good enough for me too … in the long run, but over the next few months and maybe years, things may have changed. They have certainly changed this month. Why do you assume the past = the future? Why do assume that what was profitable last year will be profitable tomorrow? Arbitrage will not take place if it is not profitable.

  116. IrvineRenter

    Bill Barber park is on Harvard just behind City Hall at the intersection of Harvard and Alton.

    Although, I like the name Bob the Builder Park better…

  117. Adam

    “Fuzzy Bush Math
    You’re about to hear that the budget deficit is falling. Don’t believe it, warns Fortune’s Allan Sloan. The deficit is much, much bigger than you think.”


    “If you use realistic numbers rather than what I call WAAP – Washington Accepted Accounting Principles – the real federal deficit for the current fiscal year is more than 2-1/2 times the stated deficit.”

  118. CapitalismWorks

    You’ll have to explain to me how the arbitrage between dollar deposits in the US and Dollar deposit outside the US has broken down…

  119. CapitalismWorks

    Why are you being mean?

    Perhaps you could explain to me what constitutes the money supply under the austrian theory. Furthermore, I would like you to show the impact of lower rates on money supply by identifying the components affected.

    That would be helpful. Perhaps you could even persuade me that you are on to something.

  120. awgee

    Why would I do that? It is a strawman argument to try to define the problem where it does not exist. It is irrelevant to the difference between the LIBOR and the fed funds rate, and the Richmond Fed is full of it.

  121. CapitalismWorks

    Jesus awgee, are you reading from scripture? The is no God but God! HAHA.

    The Greenspan put, is actually the FED PUT. Greenspan was simply acting on what appeared to be the best interest of the overall economy. The Fed seeks to ensure STABLE GDP growth. No easy task, I think you would admit.

    I know that Austrians believe that a laissez-faire economy functions best. But how then can you explain the “Great Moderation” over the past 20 years?

    “Greenspan avoided a recession — a recession caused by the fallout from the tech bubble he created — by creating a massive real estate bubble. The fallout from this bubble may result in a depression.”

    Greenspan created the tech bubble? That’s news to me. I thought the tech bubble was created by a combination of accelerated innovation, he advent of the Internet, and the elimination of fundamentals based valuation on security selection.

    Volcker faced a different set of challenges, most notably rampant and persistent inflation. I would be that Greenspan would have done the same thing as Volcker under the same circumstances.

    “There is nothing natural about this credit cycle. It is an artificially induced phenomenon resulting from poor monetary policy.”

    Please give me an example of a natural credit cycle, and how it differs from the current situation.

  122. CapitalismWorks

    $7.9 Billion, the big five banks showing SYMBOLIC support. N, when push comes to shoves banks, especially those in trouble, would much prefer Fed Funds.

    Secondly, it took a month for this to happen. You think some calls were made?

    Thank for helping make my point Graphix. Much obliged.

  123. IrvineRenter

    “I could argue that innovation the financial markets, make it far more likely that this whole mess can be sorted out.”

    I would argue that the complete, utter failure of innovation in the financial markets we are currently witnessing make if far less likely that this whole mess can be sorted out. We will see.

    Some banks are offering 10% down on conforming loans because Sallie Mae and Freddie Mac are buying the paper. The crash is only just begun, and the number of underwater homeowners on 10% down loans is still small. As prices really start to crater, these products may not find a market, and banks will quit offering them.

    In the grand scheme of things, the ABX market may survive, assuming their is a viable product left to insure. I am dubious because the premiums will be so high as to make the product impractical.

    Subprime went from 2% of the market to 25% of the market. If it shrinks back down to 2% or less, the market will technically survive, but for all practical purposes, at that level of activity it is dead.

  124. CapitalismWorks

    “The Richmond Fed is full off it” Brilliant. Awgee, You get paid for that type of analysis? I would guess the answer would be NO. Additionally, don’t try to pull the “strawman” trump card with me. You made the statement that LIBOR will not normalize despite the natural arbitrage. You have absolutely no basis for this claim, as ALL historical evidence cleary demonstrates.

    IR – The failure was not of the innovation, it was the failure of valuations. The ratings agency misrated the ABS deal by using outdated assumptions. Models always work until they break. Then you figure out what went wrong, and rebuild the model. Not the best way, but then again hindsight it 20/20.

    The agencies aren’t the only one buying the paper. But of course, you are just assuming that no one knows that right?

    Actually the subprime market went from 0% to 2% to 25%. Over that time the agency share dropped by more than half. from a peak of over $2Trillion in annual originations to less than $1 Trillion. PRIME borrowers were packaged into ABS deals because the were using non-conforming.

  125. CapitalismWorks

    One more thing Graphix. I would suggest reading the articles you link to before posting them, unless you were actually trying to make my case, then Thank You.

    “Most of this borrowing was forced,” said Lou Crandall, chief economist for Wrightson ICAP. The Fed was “deliberately stingy” ahead of the expiration of the reserve maintenance period on Wednesday, he said.
    “It’s like a game of musical chairs,” Crandall said.
    In essence, the Fed forced the banks that were left without enough reserves to borrow at the discount window by temporarily pushing the federal funds rate above the discount rate at the end of the day on Monday, Tuesday and Wednesday, Crandall said. It was cheaper for the banks to borrow from the Fed than to borrow from other banks.

  126. IrvineRenter

    “The ratings agency misrated the ABS deal by using outdated assumptions. Models always work until they break. Then you figure out what went wrong, and rebuild the model.”

    When they figure out what went wrong, they will realize the problem cannot be fixed. The problems was both the loans and the borrowers in the case of subprime. It was the innovation. The failure of valuation just made the problem with innovation become very widespread. When valuations show these loans need to be originated at 18% to make them viable, borrowers will not be able to afford them.

    As for 20/20 hindsight, there were many people who saw this disaster in foresight, but they were ridiculed and ignored. The failure of foresight recently caused the CEO of Bears Sterns to lose his job. He was forced out because the Board of Directors said he should have seen this coming and should not have invested so much of the companies money in hedge funds buying all this worthless paper.

    “The agencies aren’t the only one buying the paper. But of course, you are just assuming that no one knows that right?”

    The secondary market outside of the agencies are buying at a significant premium. Jumbo loans are at least a point higher than conforming and that is only offered to prime customers. The market for non-conforming loans exists, but it is doing a fraction of the volume it was during the bubble. This is not a result of slow sales, it is the cause of slow sales. People can’t obtain easy money any longer.

    Are you of the opinion this is an overreaction and the secondary, non-conforming market will loosen its standards and lower its risk premiums soon?

  127. CapitalismWorks

    “Are you of the opinion this is an overreaction and the secondary, non-conforming market will loosen its standards and lower its risk premiums soon?”

    Yes and No. Damn I sound like Hillary!

    Yes, there is an overreaction in the market, related to the pricing of ABS. On loosening standards. As I have stated previously I am looking for 10% down full doc paper to tbe that standard. I believe this is far tighter than the past few years, but perhaps a little looser than the past 8 weeks.

  128. IrvineRenter

    It will be interesting to see how this plays out moving forward.

    I think the market’s reaction was appropriate and will in fact continue to tighten. Any loosening along the way will be “bear rallies” in credit.

    The main reason I believe it will play out this way is because I believe the foreclosure numbers are going to be astronomical. If, by some miracle, all the overextended borrowers out there can find a way to make their escalating payments, the foreclosure picture may improve, and the need to tighten credit may diminish.

    Based on the relationship between payments and income, I don’t see people being able to hang on, and once they start going underwater, I don’t see them being willing to hang on. The foreclosure problem will be a downward spiral which in turn will lead to ever-tightening credit. If the downward spiral does not materialize, your scenario of moderate credit tightening may be what happens.

  129. awgee

    I apologize that my joke was not more transparent. I completely intended it to be funny and did not intend any ill will. I thought when I put the ha-ha after it, you would see that I was joking and not serious. Again, sorry.
    Inflation is the increase in money supply, (M3 + new credit), not any effects of the increase in money supply. Since the definition has become confused within the last few years, some have resorted to calling the first, monetary inflation and the second, price inflation. But, prices may rise or fall while the money supply is being inflated.
    I am curious, and I am not being condescending or patronizing while asking this, (or I hope I am not), but do you really believe what you wrote about the Fed not including food and energy in the CPI because of their stated reasons? And hedonic adjustments? And rent equivalient housing costs? I am curious, because I just assume, maybe mistakenly, that anybody who understands the degradation of the methods used to calculate the CPI for the last twenty or so years, would not actually think it valid.
    Again, sorry. I truly thought my attempt at humor was light, non-offensive, and obvious. I was just trying to lighten things up a bit.

  130. awgee

    cw – In answer to your question above: the only person who pays for my analysis is me and my family. And the only way we get paid is through our investments. If the evidence for the validity of my analysis is how much I have gotten paid, then you may want to give my analysis more thought, no matter how simplistic. Maybe not, after all, you may have invested better than I based on your own analysis. But, if you haven’t made much on your own analysis, you may want to consider mine for thought. If you have purchased real property in the last year or so, you may care to give thought to my analysis. I sold fairly close to the top of the credit bubble. My investment of the proceeds is doing well. But, what do I know, because, after all, I think most of what the Fed says and prints are lies.

  131. Ames Tiedeman

    Some suggest housing in Southern California will drop 75%. I think 30% is possible. Not 75%. In any case, property will be higher in 10-15 years.

  132. Sue

    Re: “However, everyone who can do math will see when it is cheaper to own than to rent”

    Since 2002, she’s been a math instructor at Balboa High School, once a hardscrabble school on the city’s south side. Test scores and morale are on the rise, and Devine feels she’s making a big difference by teaching pre-calculus and algebra to the diverse student body.

    “I don’t ever want to leave Balboa — I’d love to retire from here,” Devine said as she stacked papers following the afternoon bell. “The only problem is I can’t afford to live here on a teacher’s salary.”

    After taxes and a $350 deposit into a retirement fund, she takes home about $2,500 per month. One-bedroom apartments in desirable neighborhoods — near friends and public transit — start around $2,000 per month. Studios start around $1,500.

    Devine said she’ll likely settle for roommates — a fate she didn’t envision for herself after college, and a far cry from her dream of home ownership.

    Technically, she could afford her own modest apartment — but she wants to heed the standard advice and not spend more than a third of her income on housing. That’s not easy; experts say nearly a quarter of San Francisco renters spend more than 50 percent of their household earnings on rent, and the market has grown tighter as the mortgage crisis deters some young adults from home-buying.

    Devine rarely goes out to eat or buys new clothes, but despite a frugal lifestyle has been unable to whittle down $3,000 in credit card debt.

  133. Rob

    Home prices will not drop as much as you may think. Several other factors influence home prices.

    1) Local Economy (OC has one of the lowest). Every 1% drop in unemployment rate is about a 10% increase in home prices. Economy is much stronger today than in 1997. After the exit of the aerospace, local prices had decreased 20% than the US average due to high unemployment rate.

    2) Home prices are effected by size. Alot of newer homes are larger today than in 1997. This causes the median and the average to shift upwards. Some of the recent price drops were caused by large slowdown in new home housing as developers agressively dropped prices due to market demand. Existing single family home prices dropped by about 2-3 times less. Builders will now be forced to produce homes that are smaller to match buyers price affordability.

    3) Interest rates. Every 1% drop in rates is about 10% increase in home prices. Overall interest rate trend has been dropping since the 1970’s. The 1950-1970 rate was slightly lower, close to 5%.

    A better factor to determine correct home prices is to use the cost paid for the loans. The key will be how much lenders tighten loan requirements this sets affordability and home prices. Lenders want buisness and will find alternatives for qualified buyers. In fact if you have 20% down and good credit, they will be willing to give you better terms.

    4) Local income is stronger. Most homes in the upper priced market typically are not high risk loans, sub prime loans or option arms. For the most part the upper priced market has remained fairly stable. The current foreclosure rate in OC and LA is 3-5 times less than Riverside, San Bernardino, and San Diego Counties. Subprime has been less of a problem locally than other areas.

    5) More people with two incomes: This is huge for OC as more families have two incomes than back in 1996. More women work today contributing to the family income. This alone could account for another 20% increase in home prices.

    I agree that prices will drop relatively, but most likely not decrease more than 10-15% the first year and level off for the next 3-5 years. By this time inflation and the price drop will have decreased prices by 30%, similar to what happened during the 1990’s but from economic conditions.

    A 30% drop from 450% is 70% of 450%=315%.
    The strength of the local economy and conditions along with lower interest rates account for another 20-30% premium over the 250%. So this would result in the two prices becoming equal at around 310%.

    I see a 10-15% DROP and inflation leveling the price decrease over the next 3-5 years. It is also possible that a 20% drop, could be followed by a quick rise by 10% as those who have been waiting for the crash realize it did not happen as much as they thought.

    Also rents have recently been increasing at a more rapid rate as investors get stuck and demand for affordable housing continues. The rate of rent increase has been greater than inflation.

    The major factor that influences market prices is economy and lending practices. Currently the economy is still strong, lendors will purge foreclosures at 10% below market rates, but only 10-20% of the homes on the market are forclosures. So overall home prices will stay ralatively stable.

    Watch what happens in San Diego, Riverside, and San Bernardino for trends as these are the areas most impacted. OC will follow, but at about 2 times less the impact. So if prices drop by 20-30% in those counties, I would expect 10-15% in OC.

    Interesting fact is although the number of months on the market for homes have doubled in the last year, the median and average price has not dropped alot overall. This means that most sellers are not desperate to sell. Economy effects these people more than sub prime effects, because sub prime lending in OC was not as severe as in neighboring counties.

    Another problem is that alot of people do not want to sell and buy another home as they do not want the higher taxes. So I would expect that the market to remain sluggish. Alot of homes are taken off the market unsold because they did not need to sell. I suspect many of these will sell eventually, but are waiting until the sub-prime loans are flushed out which is expected by end of 2008.

    The next wave of loan defaults option arms occur in 2009-2011 could be more troublesome for OC if prices do drop and incomes do not meet loan requirements. Prices should stablized by summer 2008, and possibly increase in 2009, followed by a second decrease in 2009-2011 unless lenders and congress allow for an easy refinance method to limit the number of foreclosures.

    One thing is certain, is that the Fed and congress do not want large home defaults or home price drops as this has significant impact on the ability of the economy to grow. I suspect they will agressively attack this problem before it occurs. The same for lenders holding these notes. So I beleive alot of these option arms will be salavaged in one way or another as no one wants a huge housing price drop. I expect the Fed to act agressively to lower rates to pull up housing prices. I expect the Fed to lower rates another 1% by next summer if needed to create more affordable loans. (As long as inflation does not increase substantially)

    So the bottom is no more than 20% lower than the peak in 2006 at worst unless the economy goes thru a recession which could actually become a depression under some conditions. This bottom will occur in 2008. The best time to buy would be next summer when interest rates and credit markets stabilize.

    There are also some recent indications that recent tight credit policy is loostening and the number of sales starting to increase. The credit problems should start to resolve and stabilze by summer 2008. Next summer will set the pace for real estate going forward. 2009 should improve with potentially an increase in market price if the economy holds out that long.

    There has never been a substantial sustained drop in home prices since the great depression over 70 years ago. Overall the US economy and market controls are much greater to resist this. The major difference today is globalization.

    The greatest reduction in home prices actually occured in the 1970’s when the economy was trashed by high recession , inflation and interest rates. Home loan rates were in the 12-15% range, so home prices were artifically low.

  134. awgee

    Sorry, I forgot. If you think the credit crunch is stabilizing, you may want to check prices on the various ABSs in the last week. Even AAA is collapsing.

  135. Rob

    Goldman Sacs did an interesting study on housing prices looking at Disposable Income / Long term Interest rates since 1985. There was excellent agreement in the OFHEO home price index for California showing 82% correlation to the ratio. Disposable income can be a little difficult to determine, but for California, this is typically higher on average than the nation. I have seen some sights place it at about 50% of gross income. Either way, for California, they show hat the current median price is about 35% overvalued.

    For OC, the disposable income is generally higher than california on average. This places the median price home about 20% higher. Economy will drive when the median significanly deop. There will be alot of incentives to keep foreclosures off the market. I suspect alot of write downs if the bank determines the homes are not sellable due to the long time to sell on the market. From the banks point of view, it is easler to write down the loan to the existin fair market value and if the current person has sufficient income provide them the home at a discount. Congress is in the process of eliminating the tax penalty for write downs.

    I suspect the total number of homes that will eventually go thru foreclosure will be significanly reduced to maybe 10-20% on the resets. The prime reason that will drive foreclosures will be the inability of the current owner to pay at a reduced rate which is typically due to job loss, divorse, etc and economic conditions. Job loss or inability to pay will determine if a home goes to foreclosure. The best chance for a home owner is to keep all other credit current and notify the bank they are in trouble. If possible keep the first up to date, as they will not foreclose on the second 20% loan if you have two loans as there will be no equity in it.

    OC is actually better than Riverside, San Bernardino, and San Diego County since the total number of non-stated income loans was 3-5 times less so market conditions should not be as severe locally.

    Time will tell, but most major corrections has always been driven by the economy and job loss where the individual cannot even come close to making the payments.

    I still do not see more than a 20% correction, however it will be tough times for realestate, home improvements and lendors until home values improve. A big reason people do not move is because of the added taxes. If the county were to adopt a plan that limited the tax increase, then more home sales would occur. Who wants to pay another $300/mo to move up to a larger home now ?

    I’ll look for the website reference on how much overpriced homes are, I was trying to update the data to local conditions. Generally speaking some of the alternate financing may not be as bad as it seems. A five year variable with no neg was quite attractive 3-5 years ago allowed alot of people to quality. Today, there income has increased and home values should be sufficient to refi. The neg am loans are quite troublesome and these are primarily to affect the home prices in 2010-2012. Sub prime will resove quickly and I belive alot of these will result in foreclosures perhaps as much as 30-50% Most of these will be written off by end of next year.

    It is likely that 2008-2009 will be bottom of the market and prices will level off going forward for several years until perhaps 2012. It will take lendors and congress 2-3 years to figure out the best method of minimizing the pain. They do not want a full market collapse, the Fed will act to infuse more money to shore up the credit crunch. I expect to see a 1/2 percent drop in short term rates and an additional 1/2 drop by early next year. This should force 5-yr arms back down to 5% range allowing the housing market to stabilize in 2008-2009. At 5%, this will shore up home prices by 10-15% minimizing the overall price drop.

    The Fed can actually do alot more if needed, but does cause more devaulation of the dollar. The fed can force long term rates lower allowing banks to borrow at lower rates to offer affordable loans to borrowers, but this is rather risky and could cause more long term harm to the economy in the future.

    Keep in mind that maybe a 2 million loans need to be reduced by on average 100K, to stabilize the US housing market. This is only $200B, about what we spend in Iraq. This represents only about 2% of the overall economy GDP. So the fed will bail out the housing market if it is needed as they do not want a rapid decrease to effect the economy. Yes it’s bad, but within the control of congress and the fed to correct. The sooner the better to stabilize the price drop.

  136. Stupid

    It’s funny how in all these valuation predictions, people think that in the “recovery”, it’ll be the usual historic standards for getting a loan to buy a house afterwards.

    If it was my money that had been lent out to people, and then I had to take some major markdowns and lost a ton of money (ex. reduced prinipal or whatever ideas people are floating), there’s no way I’d even want to loan my money out for mortgages ever again unless it was really really secure (ex. 40% down, like in Germany, super rigrous DTI standards or maybe I’d just pass on the whole thing after eating CDOs – why eat it again when I just threw up?). So who has 100% of a home saved up … drumroll … pretty much no one. It’s not going to recover well.

  137. Stupid

    I’d be even worse if the govt does something I didn’t expect (ex. legislation to rewrite my contract, or the bankrupcy laws or whatever). LIke Greenspan says in his book, investors flock to the US because their property rights feel well protected. Without that … why invest here? Why loan your money out for US mortgages when the US govt may pull some Castro like move and evaporate it? Better to invest in China since there’s better chance of growth, and who knows, maybe your property rights go farther there…

  138. rob

    Just in today …

    UCLA sees O.C. home price reversal in ‘10
    October 29th, 2007 by Jon Lansner
    Snippet of what UCLA professors wrote in their housing slice of the 2008 O.C. forecast …

    Sometime next year, housing demand is expected to rebound modestly: the forecast has the existing home sale market rising 18 percent. This is not a significant bounce in view of the freefall that began in 2006 and continues today. Sales will still remain constrained in 2008 due to:
    (1) weaker labor market growth
    (2) stricter lending standards that disqualify many potential buyers from obtaining conventional financing
    (3) the belief that the housing correction will persist

    Consequently, buyers will delay their housing purchases expecting home prices to soften in the future. As adjustable mortgage rates reset, foreclosures will rise to record levels, impacting prices. Home values will decline but not collapse in 2008. The slowdown in home price appreciation which was long overdue will persist into 2009 and reverse by 2010.

    The significant risk to this forecast is a greater than anticipated slowing of local labor markets and a more pronounced weakening of the general Southern California economy than expected. Affecting housing demand psychology more than the monthly debt service, credit crunch impacted mortgage rates remaining close to or at 7.0 percent for a prolonged period would keep the demand for homes at current levels.

    The Base Forecast: home values decline between 4 and 7 percent in 2008 (or 6 to 9 percent adjusted for inflation). Home prices remain soft in 2009, declining another 3 percent. A more dramatic decline in prices is not forecast because inventory levels have not climbed that high and the fall-out from the subprime mortgage crisis will be less severe in Orange County than other areas of the state.

    Despite all the poor loans, the total is very small compared to the nations GDP. The problem is mostly how investors will perceive the governments reaction and how much spin the media has put on it. Overall, the total loans debt add up to about 2-3% of the nations GDP. The sooner the fed, banks, and congress deal with it the better off the impact. Basically nationwide the unsecured debt maybe as much as 100K on about 1-2 million homes, the total is only $200 Billion, which is about what we spend in Iraq every year.

    Not exactly a crisis. I expect aggressive write down and a lot of these loan terms will be re-written without foreclosure. The fed will continue to drop short term interest rates by another 1 percent thru next march, and banks will make terms easier to refinance the debt into 5-year variable loans which could be written in the 5-1/2% rate. Those owners who have made their loans commitments will be encourages to refinance and banks will be more willing to rewrite terms even if they own 110%-120% of the debt. While not desirable, it avoids foreclosure and puts off the problem for at least 5 years when personal income should grow and spreads the pain. In addition, the banks will be more willing to write down the debts to terms that the owner can afford. This has actually been happening.

    The banks know that foreclosure will result in higher losses as the home will need to be sold at a 10% under market value to move it. It is much easier to extend lower interest or special interest rates to owners with good credit histories on existing loans. Rewrite the 10% loss by lowering the interest rate to 5-51/2% makes these home payments affordable. In addition the lenders do not have to write off all the loss.

    I suspect a lot of the neg amortization loans will also be offered special terms, perhaps supported by congress or the fed’s actions. The borrowers with good loan history will be salvaged, those without sufficient income may be required to write personal loan commitments, payable in the future, or in some cases prosecuted for fraud.

    Home sales will continue to decline until the fed/congress fixes or restores confidence in how to fix the problem. Avoiding a lot of foreclosures is key to minimizing the impact. Basically those who have lost jobs, or had sudden loss of income, etc will be forced thru the foreclosure process.

    Typically foreclosures in the past have been related to job losses. Currently the economy is rather strong in most other areas, so there is a lot the fed / congress can do. They do not want additional job losses or loss of confidence in the economy, otherwise we will see added foreclosures and a more rapid drop in home prices and a self fulfilling depression.

    Unfortunately since 2002, refinance has added about 1.5% to the GDP growth each year, so I would expect a lower growth rate for the next several years as borrowers cannot refinance to take money out. There is also a lot of people who refinanced and used the money in the stock market for investing. This has actually helped boost the stock market and improved the economy.

    Time will tell, but lendor try to avoid at all cost a large reversion in home prices and losses thru foreclosure process. At most nationwide, we will still see about a 10-15% drop, probably 15-20% overall locally. Not exactly a bubble, but home prices will remain flat for the next 5 years as inflation reduces the bubble. There is the possibility of a rebound effect as interest rates become attractive next summer or possibly 2009-2010. Going into an election year also makes congress more likely to act to avoid a large drop in home prices or foreclosures.

    Sub-prime typically results in foreclosures as those had poor credit histories. This may not be the same with non-stated income loans or option arms in which the borrower is more qualified/responsible. The negative am loans never was a viable loan and I am rather surprised so many were allowed. The investors/lenders will suffer the losses from these loans – which they should. Home borrowers will be allowed more affordable options or incentives to minimize their losses. A lot of these borrowers were not well informed of the poor loan choice they were making.

    So the primary reason for future forclosures will be driven more by the economy, buyers available income or inability to pay or thru restructure the loans. Those forclosures will be due to job losses, marriage status which are typical or a foreclosure. In 2-3 years, I suspect the problem will be mostly resolved as the total is not alot compared to the nations GDP.

    The current rash of loan foreclosures are due to sub-prime lending which is expected to purge by end of next year. These borrowers were never responsible and had made poor choises. About 20-30% of these are expected to end in foreclosure which is typical for this type of loan. OC has 2-3 times less of a sub-prime problem than neighboring counties minimizing the effects.

  139. Ames Tiedeman

    San Diego real estate was down 11% in the past 12 months. How much lower will it go? Any ideas?

    Ames Tiedeman

  140. rob

    Median home prices reports include new, used, and condo sales. New home generally are more expensive which causes the median to be higher during strong housing markets. Several problems exist today. 1) Excess new home inventory which builders are discounting up to 20-30% to eliminate inventory and to produce cash flow/miminize loses. 2) Loan practices that underwrote marginal loans which in a down market has little to no equity caused excess demand. 3) Jumbo loan rates which are uncharacteristically higher. The price will be local, in some areas if demand remains high, the price drop is expected to be lower. Generally speaking, unless the economy falters, the bottom would bounce fast to positive gains. Using the year/year differences will not predict the bottom well. There are some great buys in new homes, existing homes generally hit bottom first. In OC, new home sales prices dropped faster, pulling down the median by about 3%, which after a year will no longer effect the index. The 11% drop for existing homes are probably 3-5% less depending on the local area. The higher jumbo loan costs, probably will effect prices by about 5% and over the next year or two, will probably factor out. The best way to track prices is by local supply/demand data. When the supply drops near normal (6-8 months) or about half currently, the bottom will follow. Unknowns if we go into a recession. A local unemployment drop of about 1% results in another 10% drop. Generally speaking California jobs look better than back in 1990’s when the price dropped due to the 4% increase in unemployment. Historically, unemployment generally forces home price drops. The sub-prime, lending problems generally made median home prices about 10-15% higher depending on local lending. If employment holds out, I suspect prices will over correct by 5-10%, then increase as demand improves for the first year after the market botom. I would guess that we are about half to the bottom, and the bounce could occur in 2009. Interest rates generally cause about a 10% drop for every 1% rate increase. So this needs to be watched. Very difficult to predict bottom, but need to watch the homes on the market. One broad index is at trackes price and Inventory. The median drop is probably a little high due to new homes sales and jumbo loan pricing. Case-Shiller index is better at actual price drop as they do not include new homes. Year/Year inventory is still increasing primarily due to the credit problems of jumbo loan pricing. Prior to Oct-07 the situation was improving or stable. I suspect about 5% of the price drop will be recovered when jumbo loan funding improves in about 1-3 years? Relative to the max home prices in the 1990’s the relative price is about 5% LOWER (corrected by inflation and interest rates) . Dataquick indicates from the peak in 2006 the affordability has decreased by about 15-20%, partially due to lower interest rates. Interest only rates and 5-yr variable loans are viable products that were limited in 1990’s. With 5-10% down these loans will stay around with attractive rates. During the down market, lendors factor in a 5% price drop into rates which causes lending to be tighter. When removed, this helps cause the 5-10% gain in home prices after market bottom. (if interest rates remain the same). So there is not an easy answer to your question. You will have to monitor the housing situation on a montly basis. When inventory drops by 20%/year, the bottom should be close. I beleive the bottom price will be another 10% lower if the ecomomy/interest rates hold out. After this the prices will increase back about 5-10% or level off if interest rates increase or unemployment increases. Inflation may become a factor in effectively reducing prices over the next 3-5 years. However with higher inflation, rates should increase. Bottom more likely in summer 2009 is most likely as sales pick up. Best optimistic case would be summer 2008 if credit/lending practices improve. The decrease would be about 5% more or about 15%-20% overall. Hope this is useful.

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