Sunday, August 06, 2006

Inflection Point

Nothing like disaster staring you personally in the face to sharpen the mind and narrow focus to the important facts. These things are “brainers.” The problem is so many people sleepwalking or in denial.

It is important to remember that housing is priced at the margins. That’s also why the bubble won’t be as injurious to the general economy as some here believe. Imagine getting a letter in the mail saying you won a million dollars. Next day you get another letter saying a mistake was made, you only won $400,000. Did you just lose $600,000? Only if you went out the night before spent it all (MEW). [Calculations below.]

I’m not too worried about the coming and needed recession even if it is late and thereby harder than necessary. The jobs that will be lost are largely parasitical and not ultimately productive nor are they the jobs we wish to have created in a modern economy. Obsolete jobs are best cleared out. A recession will ease our crushing immigration pressures here in California as well. Schools are already talking about closing buildinngs, saving billions. Lower taxes, less crowded schools; what’s not to like? Maybe the national psyche can find enough breathing space to heal as well.

How deep will be the declines? Anyone will be able to justify anything from 0% to 80% with careful work. Small Midwestern stable communities that missed the bubble will drop in real terms with inflation but prices will stay flat. Certain problem properties in wildly speculative areas, a mudslide in Califorina for instance will see 80% declines. A brutal winter or two in New England with home heating oil prices or a brutal summer or two in Phoenix with home cooling prices could literally leave empty unsaleable houses. That’s 100%+ declines where governments may be forced to pay for dispensation. But all these are extremes. I’m guessing 25% on the national median which is actually about 35% on any one house same sale and 40% in the bubble zones with some truly spectacular outliers. Why the small difference twixt BZ and normal America? The problem is/was a nationawide credit/lending issue not local real estate issues.

Just like any herd behavior at infection points and changes in direction individual chaos overwhelms underlying trends. There are still large numbers of sheeple in the Euphoria category. Witness the continuing negative savings rate and massive MEW amongst some while at the same time people like me have recently sold off every non personal piece of real estate.

At the top of a cyclical process this noise in wave terms is called froth. Hmmm, who in the highest levels of economics do we remember using that term? "Although a 'bubble' in home prices for the nation as a whole does not appear likely, there do appear to be, at a minimum, signs of froth in some local markets where home prices seem to have risen to unsustainable levels." - Alan Greenspan 06/08/05.

Likewise at the trough the disorderly behavior of individuals will in wave terms be likened to churn. This is indeed the point of maximum oportunity. Those of us with forward thinking perspectives will be able to take advantage of those still panicing.

I commented back in April on the closer resemblance to physical waves ratrher than mathematical waves:

By my estimate $2.5T in MEW is unsupported by reasonable asset valuation. In total somewhere between $7T and $9T in phantom equity is exposed in any retracement to the mean. An orderly retreat will allow inflation to eat away much of this. A decline in the dollar may result in a disproportionate amount of pain to be taken by foreign investors. No matter how the pain is spread, there will be consumer pain. Likewise because of govt spending policies that resemble the proverbial cricket in summer we can expect massive deficits and even larger tax inceases. I hope everyone likes their neighbors because nobody is moving for a very long time. The new immobility class has moved in to stay.


Anonymous said...

I'm really liking your analysis.

You seem to cover the all the housing bases with this one, but I am significantly more worried about the recession than you are. I think you've got the economics about right (at least it sounds good to me, what I would term an interested and educated layman) but the social upheaval is another matter.

High unemployment and a lack of jobs offering a decent wage are going to push a lot of people into a place they never expected. I don't expect chaos, but there will be more than enough ugliness to go around.

I've got a feeling the divorce and smalltime criminal lawyers are going to be awfully busy.


Rob Dawg said...

Thank you Lindsey. About 200 people read for every person who replies. I sometimes feel a little like I booked too large a concert hall. I need to clarify. I am not worried about a recession. We did fine in the last 20-40 recessions, the next one should be no different. I guess the worry is that this one will become something more. The usual something more used to be called a depression. For good and ill we've moved past that. Which would you prefer; a US worker or two Chinese workers? This isn't a fair question is it? Neither is the question; "will we have a recession or depression?"

Anonymous said...

What is MEW? Mortgage equity withdrawal?

Anyway, compared to 1981 and 1990, one factor I see as different is the creation and dramatic expansion of the mortgage-backed securities market. If that market is indeed built on a house of sand, it will be ugly.

You know the curse about living in interesting times?

Rob Dawg said...

MEW is mortgage equity withdrawl. Loans against the value of the house. The problem is that it isn't even distributed. With like $19T in equity and 12T in mortgage indebtedness A hit of $7-$9T like I expect should only represent an normal overcorrection of a commodity bubble. Trouble is While I'm gonna "lose" $600k in "equity" I'll still have $600k equity "left over." No, the people with 80/20 loans are going to be faced with NEGATIVE equity. This isn't like regular debt. You didn't buy anything unlike regular debt which even if you wasted it you got the Bermuda vacation. Think of this as "Super High Individual Taxation." These SHITheads are gonna be paying inflation plus 4% while those with viable liquid assets will be collecting inflation plus 2%.

incessant_din said...


Opportunities, yes. The trick is seeing what is the real underlying value. Looking at, say, Las Vegas, one sees a certain value point based on the incomes and demographics. But what if you pull the trigger on an investment property in Vegas that drops to the point where it pencils out, only to find that the incomes were artificially inflated by MEW and construction. Keep your data fresh is my warning to the would-be vulture investor.

I like to think I see the intrinsic value of things pretty well, but I am hopefully wise enough to know that I should be at least as careful about the "good" deals as I am about the average deals.

By the way, excellent discussion you started on Ben's blog re. Buffalo. I've been trying to get traction on that subject for a while now, and it's good to see other people getting that information. I think people need to see for themselves what the long term economic costs of being the "it" market are. Young families are the lifeblood, and expensive markets decay when they don't provide them opportunities. Provided, it may take Buffalo coming to a town near them for the reality to reach the mainstream, but that could happen sooner than we think.

Anonymous said...

Nice britches. I'm sure the other 199 agree with me.

Rob Dawg said...

Come for the bloviation, stay for the numbers, comment on the posteriors. Hmmm, the magical combination?