Real Estate Bubble?

In San Francisco, $600,000 might get you a small condo with about 1,000 sq ft. HOA dues average in the $100-$600 range. Prices have been coming down a bit, but as a percentage of the total price they haven't dropped by much. Leaving the actual city reduces prices some, but not much. I suppose that counts as "out of control." This is one of the few places that I think where renting could be a smarter idea than buying (that would be a sweet article), depending on your ability to make a HUGE down payment. There are definitely pluses to both sides of the argument.

First off: If you don't think this is a bubble akin to the NASDAQ in 2000, this chart may change your mind.

In the DC area it makes sense to rent. The mortgage payment on the 3 bedroom condo I rent for--this hurts to write--$1600 a month, if I bought a similar place right now, would be about $2600 a month (assuming a $350K price). This does not even include $300 monthly condo fees (which my landlord pays).

If I had bought at peak prices back in December, like my landlord who paid $420K, the mortgage would be over $3000.

Condos have taken a dive here due to overbuilding. Townhomes are close behind- two weeks ago I stopped by a Pulte sales office for "manor style" townhomes, 24' wide as opposed to the usual 16 or 18. The asking price for the cheapest model was $535,000. Since then they've dropped it to $450K. That's a 16% cut. The homebuilding industry is hurtin', as a look at this year's 40-50% tumble of stocks like Pulte (PHM), Toll Bros. (TOL), and KB Home (KBH) indicates.

The neighborhood mentioned above is in Loudon County, Va, which the census bureau just called the wealthiest county in the US, with a median household income of $96,500. I work/rent in #2, Fairfax County, where the median income is a mere $94K. And yes, my household pulls in significantly less than said median.

So I am renting.

The whole "real estate bubble" argument is funny in that people are more polarized about it than Democrats vs. Republicans. Check out your local Craigslist housing forum if you don't believe me- there is no middle ground. My eyes tell me prices are dropping, but still unrealistic. $350K for a 3-bedroom condo may sound great compared to last year's $420, but compared to five years ago's price of $150K or most other suburbs' of $200-250, it's ridiculous.

Mark, I don't know what made you decide there was a bubble, but it seems like you only posted so that you could vent a little bit and post anecdotal evidence from Northern Virginia which is not very informative. You did offer one chart from Schiller, who is actually on top of real estate. The chart is interesting, but does have issues. Basically, it looks like we are due a heavy inflationary period. That would bring the pricing back into historical levels. Never underestimate the government's ability to print money.

The chart also is comparing 'standard houses'. Houses have gone thru

several iterations of getting larger then smaller. Houses got smaller in the 70's (energy cost) which would show up as a decrease in value on a resale - several years later. The 70's run up was also during the Carter misery years of combined inflation and recession.

I don't think the analysis of comparing only existing home sales is

correct. The value of a home is what it would cost to replace it which would be new home construction costs. (Unless there is over supply. An epidemic that killed off say 10% of the population would cause a drastic reduction in demand which would cause a short term decrease in value until demand for new housing started again.) another problem is geogrpahic, older communities that are not growing - say rural Ohio - would be stagnant now. Areas like Raleigh where there is a demand for new housing will maintain value equal to new cost.

The biggest thing to remember is that the real cuplrit is loose credit. Low interest rates, low reserve requirements for lenders, new exotic loan structures, very very lax lending standards as to who qualifies. All 4 of those are swinging the other way so that's it for housing. Many of the folks that used exotic financing didn't read the fine print on their loan docs. They assumed several things

1. Prices will go up and I will sell before my payments get ugly. Well, that's over for awhile. You also have to factor 6% for commisions and probably 2% for early payment so you need to exceed 8% to get back to even.

2. I will make more money by then. Not happening according to national statistics.

3. I will refinance to a fixed mortgage. Well, if they couldn't afford a fixed rate at the lowest interest rates since the great depression, I doubt they can afford them now. Even better, this is where the fine print comes in. Many of the exotic loans have $15-20k penalties for refinancing. Most distressed taxed out buyers can't handle that. Too bad they were in such a rush to buy and "build wealth" they didn't spend the $500 to have a lawyer read the documents.

I agree there is a bubble right now, but if you wanted to profit from it, you should have short sold the builders stocks like I did and made money on the way down. When you want to profit from something that only comes along so often, you can't wait until you read about it in the washington post. I suspect prices will decline some and you will buy and laugh at your landlord who bought last year, but you will probably watch your value erode as well due to inflation. I believe the clever real esate bears call this "catching a falling knife." Typically downturns last 5-7 years, so don't rush in and buy next year is my point, if you really believe there is a bubble.

You mention condo/HOA dues but neglect to mention what is included. If they include telecom or property taxes it makes a big difference. In addition you generally have to pay some if not all of the utilities as a renter so that offsets some of the same costs. You also fail to mention that you get both a federal and state tax break for mortgage interest and I believe state deduction for property taxes paid in VA. That is quite significant for some people and is better and better the more money you make. Remember that in a 30 year mortgage in the early years you pay almost all interest, so getting 30% of that back federal and some state as well is a hefty sum of money. You could assume that you only really pay about 70% of the mortgage payments in the early years.

I believe you have to compare housing to something besides housing prices from 1918 to determine if it is relatively overvalued. You are correct in that there is a bubble, but there are better ways of demonstrating it than saying I drove to this place and then they lowered the price. For example:

Number of active listings versus sales, aka sales chance - usually in months. Anything over 5 is probably starting to tip in the buyer's favor and you can start negotiating concessions, anything above 10 is really nice if you want to buy and you should think about lowballing. Right now many markets are hitting higher numbers, but real estate prices are very sticky on the way down. People will cling to their price for as long as they can. Some will certainly go bankrupt due to this. Loudoun county, VA is going to get crucified for the next 2-3 years while they work out excess inventory. Great place to live in that your neighbors are all affluent and have kids the same age, hellish commute to DC, and it was like a land rush mentality there. I think they are already up to 10+ months inventory and that is based on summer sales pace, smoothed out it is probably already 12-15 months. This is the loudoun link, http://www.nvar.com/market/marketstats/jul06/losf0706.PDF, it should update for august any day now so keep checking since you seem to enjoy bad news for your neighbors. Nothing wrong with a little schadenfreude. In fact, now that I look, July 4016 listings, 364 settlemts, not good for sellers. About 11 months, and 1000 of those were new lisitngs. Assume another 400 sales in Aug and another 1000 houses and you are up to 4600 listings, about 12 months inventory. That is not good post labor day because all the kids are back to school and family buying is pretty much over until next Spring. It is going to be a long winter all over the U.S. for sellers sweating out their finances. Let me say again, Mark, do not buy now, it will only get worse, and worse...

If you like Schiller so much, why not check the real estate futures market that Schiller created. For the record, it is showing that all the bets are for delcines from this year's prices to next year. In every single market they let you trade. Not a postive outlook.

Other Various indicators that are better than checking one Pulte development:

The overall economy - looks like a recession in 2007 is a real possiblity

Number of days on the market

Price/Rent multiple

Price/Median income multiple

$/SqFt

Builders profit margins

Builder confidence index

Buyer confidence Index

Local Wage Data and other items from BLS (Bureau of Labor Stats)

Census data for local population change and demographics

Rate of change for sales

Mortgage applications/Building Permits - nice leading indicators

% of households in foreclosure - Some states (Texas) they can start in like 30 days, I believe California is about a year. So this number can be trailing somewhat. This is one of the reasons that people in California have yet to start getting evicted even though they are probably bubble ground zero.

% of households past due 30 days, 60 days, etc - this is a more timely predictor, but they won't get tossed in the street for a awhile

% of buyers using exotic financing aka suicide loans - I believe the District was 50% last year with interest only.

Cost of raw land is a good indictor as well as studying the builders quarterly reports to see if they exercised their land options or took a write off and didn't go through with the purchase. Another good item is writedowns. This is where the builder has to show the actual value today of their land versus what they paid and writedowns occur when value has decreased. The builders work hard to hide this number by starting to build at least something on it or selling at lower profit margins allowing them to not show this decrease from an accounting perspective, but it always comes out eventually since market downturns last awhile.

NOVA real estate link, updated weekly with price changes:

http://www.benengebreth.org/housingtracker/location/DC/Washington/

The rest of the NOVA data like the Loudoun stuff:

http://www.nvar.com/market/marketstats/jun06/index.html

Since you seem to enjoy the bear market:

http://thehousingbubbleblog.com/

My aplogies for lack of spelling and grammar corrections. Not exactly my forte.

-mt

p.s. vnutz79 - you owe me a new tire, eunuch