I think we can all agree whether you are a housing bull, bear or giraffe that jobs and wage growth are primary factors to a healthy housing market. This has become quite the hot topic amongst the bulls and bears with various facts and myths that have been slung around. One fact is that much of the job growth in the last several years has been in the RE industry. Lansner over at the OC Register has mentioned this several times and has noted that in the last four years RE accounted for 52% of the job growth. It is also a fact that other jobs have been created but at a very weak rate. Does this seem like a healthy job market when real estate sales are down 40% from the peak, mortgage companies are going BK or laying people off every quarter and homebuilders are slashing staff to bare bone levels just to function? Well let’s take a look at what I have found and you can make your own judgment.

The Data

I used the data from the EDD which gets their data from the BLS. The best info I can find on the actual jobs numbers are from this spreadsheet from the EDD. I have my own spreadsheet that uses the same data. I added the employment numbers and rates that are missing from the EDD spreadsheet and I have done several various calculations. I know it is not as organized or as pretty as some of Irvinerenter’s but the data is there. For RE related jobs I use construction, credit intermediation and related activities, real estate and architectural, engineering and related services. These categories compiled together are what I like to call the RE jobs and will known as such from here.

A Little History and Some Averages

Historically RE jobs have accounted for an average of 11.5% of the total non-farm jobs in OC since 1990 to 2006.

In 1990 the average was 11.5% and did not reach that high again until 2001. In between that time the average was 10.6%.

In 2006 the percentage of RE jobs accounted for 14.2% of the non-farm jobs for a new all time high.

The reason why this is an important way to look at RE jobs and why the percentage matters is the RE industry is a need based employment sector. So in other words when jobs other than RE are being created the RE jobs would increase in number but not as a percentage. RE jobs need other jobs to be created or they would not increase and they definitely should not increase as a percentage.

From 2000 to 2006 131,200 total non-farm jobs were created and 62,400 of those jobs were RE related accounting for 47.6% of the job growth.

It doesn’t make much sense when only 68,800 non-RE related jobs were created that OC would need to have that much RE jobs growth. Considering that from 2000 to 2006 non-RE related jobs grew by an amazing 5.3% and RE related jobs increased by 29%.

This clearly paints a picture that OC has been very dependent upon RE job growth in the last six years. That dependence on sector that is a need based industry when the need was self fed poses a serious risk to the overall employment in OC.

The Aerospace Myth

The typical bull mantra about the 90s was that the aerospace industry killed the housing market. This is a serious error when the numbers are not there. Manufacturing jobs which include aerospace did have a significant decline but it wouldn’t call for such a steep decline in the RE related jobs or a decline in the housing market.

Between 1990 and 1993 OC had lost a cumulative total of 57,000 non-farm jobs and in 1994 only had lost a cumulative total of 45,600 non-farm jobs.

Between 1990 and 1994 aerospace had lost a cumulative total of 7000 jobs accounting for only 15.4% of the non-farm job losses.

Between 1990 and 1994 manufacturing had lost a cumulative total of 37,300 jobs accounting for 82% of the non-farm job losses.

Between 1990 and 1994 RE had lost a cumulative total of 20,500 jobs accounting for 45% of the non-farm job losses.

As can be seen in those numbers RE and manufacturing accounted for more than the cumulative total non-farm job losses. That means that other sectors were creating jobs which would create a need for RE related jobs. This didn’t start to happen. The reason had more to do with housing prices and buyer psychology.

The Wage Growth Myth

The bulls all say that wages are up and people are making more money than ever. This couldn’t be further from the truth when you exclude RE related jobs. I actually believed that this mythical statement might have been true. I was disturbed that when you break it down the way that I have that it shows a loss. I had to use data from 2000 to 2005 because the annual data for 2006 is not available yet.

Between 2000 and 2005 payroll wages grew by slightly over $14 billion.

Between 2000 and 2005 payroll wages for RE grew by slightly over $6.6 billion accounting for 47% of the growth.

Between 2000 and 2005 payroll wages for non-RE related jobs grew by slightly over $7.4 billion accounting for 53% of the growth.

When you break down how many non-RE related jobs there were in 2000 compared to 2005 there were 48,600 more jobs. So what you have to do is take the annual payroll and divide it on a per job basis. After adjusting for California’s inflation rate of 15.9% between 2000 and 2005 non-RE related payroll wages shrank by -$662 million in that time.

Using the same break down RE related payroll wages soared by nearly $2.1 billion. This adds for more evidence that the industry was self feeding itself and how much OC was dependent upon the industry for growth. With sales down nearly 40% since 2005 it will be interesting to see this stat in the next few years.

The Overwhelming Evidence

I may be a housing bear but these are the numbers and the numbers do not lie. It can be said that a liar can lie about the numbers but that is why I provided my own spreadsheet for anyone to check the numbers. The proof is OC has had very poor job growth when excluding RE related jobs. What is even worse is wage growth has actually been negative when excluding RE related jobs. So how or why have we had such a huge run up in the prices of homes? It makes absolutely no sense what so ever and anyone who tells you that wages have been growing is lying.

The other troubling statistic is with all the layoffs and overall slow down is where will these people find jobs? The response you will hear from the bulls is they will find a new job or return to the industry they came from before. Some of the more educated and talented in the RE industry will either stay in the business or find another industry. However the majority will have difficulty finding a career that pays as well. The RE industry is more than just sales agents and loan brokers but underwriters and escrow officers. Many of the other jobs have paid well and required very little training or education. The jobs currently being created are in professional and technical services, medical services and education. These categories require higher education and unless the person who is no longer in the RE industry had this education from before they will have to get it now. This will either take job seekers out of the market to get the education needed or they will have accept lower paying jobs or be unemployed.

Now do you see a problem or is it sunny today?

So, bye-bye, Miss American Pie
Drove my Chevy to the levee
But the levee was dry
And them good old boys were drinkin’ whiskey and rye
Singin’ this’ll be the day that I die
This’ll be the day that I die

Don McLean – American Pie

One of the hallmarks of a great song is its ability to be interpreted in different ways. American Pie is an allegory of our times, an ode to the death of our housing market. With leverage drying up, the party is over. The last drink is for the death of the market itself, and with it’s death, the death of the American Dream of home ownership for thousands of overextended homedebtors.

When a bubble in a financial market pops, it doesn’t explode in spectacular fashion like a soap bubble, it is more comparable to a breached levee which releases water slowly at first. Once the financial levee is ruptured, the equity reservoir loses money at increasing rates. It washes away the imagined wealth of homedebtors everywhere until the reservoir is nearly empty and the torrent turns to a trickle. Ultimately, the causes of failure are examined, the financial levee is repaired, and the reservoir again holds value, but not until the dreams and equity of homedebtors are washed away.

New Century Financial

Do you recall what was revealed
The day the music died?

The poster child for the great residential financial bubble of the 00’s will be New Century Financial. The date of their financial implosion will be regarded as the Day the Market Died. The death of New Century Financial will come to represent to death of loose lending standards and the beginning of the cycle of credit tightening as I described in my last post, The Anatomy of a Credit Bubble. Many people currently see the elimination of sub-prime lending as being the problem. It is much larger than that. It is the changes in behavior caused by loose lending standards epitomized by New Century Financial that will be the undoing of the housing market.

100% Financing

The most damaging change in buyer behavior was caused by 100% financing: potential buyers quit saving. Once 100% financing became widely available, it was enthusiastically embraced by all parties: the lenders suddenly had a huge source of new customers to generate high fees, the realtors and builders now had plenty of new customers to buy more homes, and many potential buyers who didn’t have savings were now able to enter the market. It seemed like a panacea; for two or three years, it was.

Now for ten years we’ve been on our own
And moss grows fat on a rollin’ stone
But that’s not how it used to be

There is a problem with 100% financing (which was masked by the rampant appreciation brought about by its introduction): high default rates. If you want a glimpse into the irresponsible mind of a typical 100% financing borrower, go read the post and comments in Update: an FB situation 14 months later. The FB stated in the comments,

“However, I take exception to the idea that I’m taking food out of someone’s mouth by sticking the bank with the loss. An appraiser made the valuation, and I got a loan. No one forced New Century to give me the loan to buy the house, but they did. They confirmed the value, and thus, assumed all risk, especially since I went no money down with an, at the time, 720 mid-FICO, and the wife as well.”

This borrower signed papers promising to repay money to New Century. He gave his word. How does it follow that New Century took all the risk? How does the presence or absence of a downpayment impact whether or not a borrower will live up to their commitments and responsibilities? We all know the answer: When people don’t put their own money into the transaction, they don’t feel responsible for what happens. At one point, the FB was celebrating, “I was planning on claiming insolvency to the IRS through my job loss, anyway, but they didn’t even give us a 1099!” Does it make you want to turn him in?

The courtroom was adjourned
No verdict was returned

The more money people have to put in to the transaction, the less likely they are to default. It is that simple. Taken to its extreme, 100% financing becomes the ideal tool for fraud. The FB from above probably intended to repay the loan when he got it, he just didn’t feel much of a sense of responsibility to the loan when the going got tough. People who commit fraud have no intention of repaying the loan from the start. Fraud is much easier to commit with 100% financing because the bank will loan you the full amount of an inflated appraisal. It is much harder to commit fraud when the bank will only loan you 80% of a property’s value.

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The point here is not about being irresponsible or committing fraud, it is about defaults. High loan-to-value loans have high default rates; this will cause 100% financing to disappear, and it will make other high LTV loans much more expensive, so much so as to render them useless. OC Fliptrack documented the elimination of the 100% LTV loans at HSBC. It is all part of the ongoing credit tightening cycle.

The problem for the future housing market created by 100% financing is that people quit saving money for downpayments. People respond to incentives. This is basic economic theory. The availability of 100% financing removed the incentive to save for a downpayment. People responded; our national savings rate went negative as people stopped saving and borrowed instead. This is going to create a huge problem going forward: nobody has the newly required downpayments.

Elimination of Entry Level Buyers

Oh, and there we were, all in one place
A generation lost in space
With no time left to start again

People who currently own entry level housing (2 bedrooms or less and small 3/2s) are bagholders. With the elimination of 100% financing, they have missed their chance to sell to a greater fool. Even if these fools were still out there (they have been decreasing in number), they no longer have the ability to borrow all the money required to buy, and they have no way to make up the difference. The entry level market was destroyed the moment 100% financing was eliminated because nobody has a downpayment.

Collapsing from the Bottom Up

The players tried for a forward pass
With the Jester on the sidelines in a cast
Now the half-time air was sweet perfume
While the Sergeants played a marching tune
We all got up to dance
Oh but we never got the chance

Housing markets collapse from the bottom up. The first sign of a troubled real estate market is a dramatic reduction in volume. This is particularly pronounced at the lower end of the market for reasons outlined above. Since the lower end of the market has a more dramatic drop in volume than the top of the market, the median stays at artificially high levels which is not reflective of pricing of individual properties in the market. In other words, things look better than they are.

The graphic on the right (borrowed from Calculated Risk) shows the problem when the entry level is eliminated. For a more detailed analysis, please read Why the Sub-Prime Meltdown is a Problem. As the problem at the entry level becomes more serious, more and more transactions higher up the house chain fall out of escrow. Volume plummets, and the whole market seizes up. That is where we are today. There will be no summer bounce this year.

Helter Skelter in a summer swelter
The birds flew off with a fallout shelter
Eight miles high and falling fast

Eight Miles High and Falling Fast

The market will not stay seized-up forever. Many bitter renters have complained about greedy sellers, but it isn’t the sellers who determine market prices, it is the buyers. Think about this: what if every seller in the market decided they would not sell for less than $10,000,000? Would houses suddenly become worth $10,000,000? Of course not because no buyers could afford to pay that much. Buyers determine the market price by putting in competing bids. Sellers can decided to accept or reject the highest bid. If all bids are rejected, there is no market because there is no transaction.

Buyers are never forced to buy, it is always a choice; however, sellers may face circumstances when they are forced to sell. Over the past several years, greedy buyers motivated by rising prices and fueled by loose lending standards were able to bid prices up to ridiculous levels. None of them were forced to buy. The exotic financing was not a result of high prices, it was the cause of high prices. Those of us who are financially conservative and do not wish to take on debt under terms which will put us into bankruptcy have been competing with those afflicted with Southern California’s Cultural Pathology. It is a competition we were all better off losing.

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Now the tables are turned. The once greedy buyers are becoming desperate sellers, their dreams of riches from perpetual appreciation in tatters. Many will be forced to sell due to their inability to make their mortgage payments. Those that hang on will be homedebtors with 50% or more of their income going toward paying off an asset which will be declining in value. It is not a set of circumstances I envy.

Prices will fall. We will see weakness at the bottom first, but it will work its way through all market strata. It is only a matter of time. Will you remember The Day the Market Died?

A long, long time ago…
I can still remember
How that music used to make me smile…

I can’t remember if I cried
When I read about his widowed bride,
But something touched me deep inside
The day the music died…

I met a girl who sang the blues
And I asked her for some happy news
But she just smiled and turned away
I went down to the sacred store
Where I’d heard the music years before
But the man there said the music wouldn’t play

And in the streets the children screamed
The lovers cried, and the poets dreamed
But not a word was spoken
The church bells all were broken
And the three men I admire most
The Father, Son and the Holy Ghost
They caught the last train for the coast
The day the music died

Link to YouTube Video – American Pie – Don McLean