Fleckenstein: Many-Headed Housing Hydra

[partypup]

I think my advice is pretty clear, DC. We are no longer living in a time in which you can have it all.

I realize thousands of San Diegans love their homes, have lovely families in those homes and have good jobs. My advice is to prepare. “Renting” is obviously anathema to you, but are you telling me that downsizing is not an option? You don’t have to take your kids out of school or leave your job. There’s no need to take such drastic action. But are you really so wed to a plot of land and four walls that you wouldn’t be able to part ways with it and live in another abode to weather a coming storm? For most of mankind’s history a house served as shelter; now it has become shelter, investment, retirement, ATM and a conspicuous display of status. That’s simply not healthy.

That said, it is absolutely critical to realizethat the lifestyle we have built as Americans over the past 30 years is quickly coming to an end. The housing bubble is just the tip of an enormous iceberg. It is a lifestyle that has been built on faux wealth (inflated home prices), faux productivity (eliminating well-paying jobs and hiring independent contractors and consultants w/o benefits) and faux income (credit cards).

So you think rates won’t skyrocket? On what do you base this assertion? We have amassed a level of debt (as a nation and as individual consumers) that simply cannot be sustained. For the first time in our nation’s history we have a negative savings rate. The average American household (per a CNN survey) has NINETEEN credit cards. People are routinely using credit to purchase food and gas. Our debt is simply unsustainable. And THAT is why interest rates will and must skyrocket. The party is over, and we partied way too long. The thing about this party is that the longer it went on, the more trash we created, so the longer it’s going to take to pick the crap up.

If you think for a nanosecond that the real estate boom we have experienced would have existed if interest rates where anywhere near their pre-2000 levels, you are sorely mistaken. My parents bought their first and second homes (between 1970 and 1980) at 10 – 18%. I bought my first condo in 1991 at 9-1/2%. Interest rates have historically been much higher than they have been for the past 6 years. Would you buy a $750K house at 9-1/2%? Would you? I want you to ask yourself this question, because as you cling to the vestiges of your So Cal dream and hang onto your faux wealth, you will have to find some sucker who is willing to do this.

What we have done is attempt to duck a recession by artificially lowering rates. But you can’t cheat the laws of economics for long. Like death, eventually they will come to claim you. Sadly, our need to have it all and keep the party going means that what might have been only a recession may now erupt until a full-blown depression.

DC, you simply can’t continue to borrow $57 billion a day from foreign investors and expect that there won’t be severe repercussions for the economy. We are finally witnessing those repercussions. Interest rates must rise — to continue to attract foreign investment in our dollars — but that will kill the stock market (notice how we’re seeing 200+ market swings based on the mere speculation of a possible rate hike?) Conversely, if we don’t raise rates, the dollar will continue to fall, in which case foreigners will eventually start dumping their dollar reserves. Either way, it spells doom for you and me. Why do you think Bernanke is agonizing over this? Because he knows he faces a choice between Scylla and Charybdis. Death by fire or death by ice.

And do you honestly think $3.50/gallon gas won’t be a factor in this unfolding saga? Do you really think gas is going below $3 — ever?? We are at or nearing peak oil — so prepare yourself for $100/barrel oil in the near future. And yes, that will affect homebuyers and homeowners in San Diego, too. Because every penny you put into your tank means one less penny toward your mortgage.

One good hurricane? Another well-timed terrorist attack? Can you really factor these things into the history you seem to be relying on? I think not, because there IS no historical precedent for the uncharterd waters we find ourselves in now.

And speaking of history, does it really tell us that home prices — no matter how high — will simply dip a little, then stabilize? What happened to San Diego — or most of So Cal — in the early 90s? I recall that prices did plunge and took years to recover. Are we conveniently ignoring this piece of history? And by the way, as per my earlier post, we didn’t face half the crap in the 90s that we are looking at now. Compared to the crap storm brewing in 2006, the early 90s seemed like a night at Studio 54 in retrospect.

And here’s one more thing to wrap your mind around: as of March of this year, Iran is now selling its prodigious oil reserves in EUROS. That’s right. They are dumping the dollar. And other countries — Venezuela, Bolivia for starters — are following suit. And Russia just opened its oil bourse in rubles last month. What does this mean for San Diego? I will spell it out. It means a lower demand for dollars, which means higher interest rates on the gazillion dollars of debt we have accumulated, which means homebuyers will think twice about buying $750K at 9-1/2%, which means your coveted market with fabulous weather will be hit with price reductions like you can’t even imagine.

So you want me to clarify my advice? My advice is to get real fast and stop dreaming. Your life is about to change. My life is about to change. I hardly think by posting on an obscure board, I am giving an open call to 950,000 residents of San Diego to dump their real estate. I think most of us head to these boards so we can share information to stay one step ahead of the herd. There will be victims in any collapse. Maybe I’m wrong, but isn’t the point of this exercise that the victim NOT be you?

He who fights, then runs away lives to fight another day. I’m not by a longshot suggesting you never return to real estate. I am simply advising to take your equity while it is still there, then pounce on the bargains that will inevitably present themselves when the factors I listed in my last post come into serious play.

But know this: before you make your long-term plans, realize that the housing market is simply one part of a much bigger play with many moving parts. You can’t fully understand where this market is heading without a full appreciation of the marcoeconomic forces in the background.

And if I am wrong and you have so much faith in the intrinsic value of your house, then stay put and hang on. I’ll check with you in 6 mos and we’ll see whose advice was better.

[bob007]

what is the consequence of getting a huge home loan and defaulting on it ?

[bob007]

what is the consequence of getting a huge home loan and defaulting on it ?

[partypup]

If you have re-financed or taken out a home equity line of credit, the consequences are severe. The lender can seek a judgment against you and pursue recourse in all of your other assets, including stocks, savings, other real estate and wages. This is precisely why I believe that 1 out of every 3 homeowners could be royally screwed.

[DaCounselor]

“I am simply advising to take your equity while it is still there, then pounce on the bargains that will inevitably present themselves when the factors I listed in my last post come into serious play.”
_________________________

Doesn’t this advice conflict with the position that using a home as an investment/retirement/ATM is unhealthy and is part of the reason why the sky is about to fall? And why pull out of the game now, when interest rates are at the very low end of a 40 year spectrum? When money is at its cheapest, shouldn’t that be taken advantage of? Why not lock into a low fixed rate now? Especially if interest rates are indeed going to “skyrocket”?

If you like your home, would like to stay there if you can, are not intending to use it as an ATM, have built up a cushion of equity and can lock into a fixed rate loan at historically low levels, why sell? You will be disembarking from an environment where you know the variables into the great unknown if you do so. Is this really the smart play?

[partypup]

If you sell your home and take the equity while it’s still available, that’s not using your home as an ATM; that’s just prudent when you’re sitting on equity gains that have no place to go but down.

Those who use their homes as ATMs actually keep their homes, draw out cash and steadily increase their debt. So no, my advice doesn’t conflict with the position I took because I am advising that homeowners reduce their debt by selling, not that they incur more debt by taking out a home equity loan.

You may be one of the very few So Cal homeowners that doesn’t steadily draw cash out of their homes; kudos to you. But even so, the price of your home will nevertheless be affected by those who have chosen to use their homes as ATMs, and if you decide to stay you run the risk that as they fall behind on their payments and become despereate enough to bail, your home value will be affected by their price reductions. Do you really want to be in the position of having to stay in a house for 10 years in order to recoup your equity? That’s what happened to me in 1992.

As for skyrocketing interest rates, think of it this way: if the price of a home falls far enough — and it will in the next 3-5 years — 9-1/2% won’t be as punishing. If a 750K home falls to 300K, your payments have been reduced from $5K/mo to $2500/mo. Do the math. Meanwhile, you’re looking at the neighbor who refused to sell — who owes twice as much as you do on a house that’s worth half of what he paid for it. It’s all about timing. And it is the smart play IF you believe the market is headed for a steep decline.

Which brings me to the question: do you have any response to the other points I made in my last point, because that really will determine what the smart play is. If, based on the points I made, you really feel like we are in for a soft landing, then by all means sit tight and don’t make a move. If, however, you are disturbed by the signs we are already witnessing — price declines of $25 – $50K/per month on the same house — and you are compelled by the evidence I presented about the future of this economy, in general and the housing market, in particular, then I believe the smart play is clearly to get out while the getting is good and wait on the sidelines.

[Anonymous]

Chris Johnston

As a trader it would be hard for anyone to convince me that selling my home last year for a $1.2 million dollar profit and going into rental mode was a bad trade. I have no idea how far prices will fall, but the potential is certainly there for a nasty illiquid drop. Now even on an after tax basis, I am much lower in monthly cost renting a home.

For someone who loves their home, and is content to live their forever regardless of what happens, there is no reason to sell. I felt I could make a much better return on the $1.2 investing it, than what it would return staying in the house. For someone who has the above stated opinion, I am not sure why they would even be in a blog like this. Why would you care if you have no plans on selling.

For of us here are of the belief that prices are going to fall, and feel it has begun. So we visit here to bounce ideas off of each other.

I would not be so sure of myself that whatever equity one has cannot evaporate. When this drops, it is going to happen painfully, and who knows how far it goes. I can tell you that I have studied parabolic price moves in asset classes for years. I have yet to see one correct sideways. It could “be different this time.” However, it never has been different the last time those arguments were thrown out.

[powayseller]

partypup and theplayers – great posts!

partypup wrote “Do you really want to be in the position of having to stay in a house for 10 years in order to recoup your equity? That’s what happened to me in 1992.” My neighbor said she doesn’t care if her house price falls in half, because when she sells, she would buy a bigger house and that house would be 1/2 off also. That made sense to me. What do you think?

chris, did you see edna_mode’s posts, about a new paradigm shift than can move the ratio of income to house prices permanently higher, just as global warming is causing a new median temperature, some other unknown factor could cause a new median home price. I told her not to compare biological systems to asset bubbles, and that Grantham challenged 2400 professional investors to find just one exception to an asset bubble reverting to the mean; no one could think of one, and Grantham has shown that all asset bubbles returned to mean. Do you want to add to this?

Foreclosure: you will owe the IRS taxes at your tax rate, NOT your capital gains tax rate, on the forgiven amount. Lender gives you a 1099. If you refinanced or took out a HELOC, you cannot avoid this. Only if you kept your original mortgage you are safe. Google recourse loan and non-recourse loan for California.

[partypup]

This makes sense at first blush, Powayseller. But think about it: if we are in the midst of a housing depression, buyers will be few and far between because no one wants to catch a falling knife. We will see much more of what we are starting to see now: a glut of homes on the market.

Your friend is fooling herself if she thinks she will be able to easily unload her home during a crisis. What makes her home so much more special than the many others that will be on the market in her neighborhood? I stand by what I said: when the hammer falls, you will want to be a buyer with no existing property to unload.

[partypup]

This makes sense at first blush, Powayseller. But think about it: if we are in the midst of a housing depression, buyers will be few and far between because no one wants to catch a falling knife. We will see much more of what we are starting to see now: a glut of homes on the market.

Your friend is fooling herself if she thinks she will be able to easily unload her home during a crisis. What makes her home so much more special than the many others that will be on the market in her neighborhood? I stand by what I said: when the hammer falls, you will want to be a buyer with no existing property to unload.

[powayseller]

She will have to discount her house heavily to sell it, but the other people will be discounting heavily too. As long as you buy/sell into the same market, whether it was on the way up or on the way down, you should be ok.

What is more of a concern is whether her husband will still have a job in 2 years. Is his company real estate dependent, or MEW-dependent? I don’t know the answer to that. If he is laid off and forced to sell, then they will wish they had sold at the top of the market and not the bottom.

But as Bugs said, we can’t have everyone escaping the market. We can’t have all 1.1 million homeowners in SD bailout out to escape the housing bubble. So only a few win.

Of course, none of this matters if we start another war in the Middle East. We could all be dead by September.

[partypup]

I still think she will be facing a problem when she is competing with others who are also discounting. What will put her at an advantage over other sellers? As yourself this: if you were in the Great Depression, would you want to be in the position of trying to unload a house to the masses of unemployed and destitute? An extreme example, but you get my drift. Not the market a seller wants to be in…buy low, sell high. NEVER sell low….

[powayseller]

Let’s say she tries to sell in 2 years, and her current $500K attached home will be worth $400K, or 20% less. She undercuts to $360K, 10% lower than market.

Then she turns around and buys a $640K home that is listed 10% below market by a motivated seller to $576K home. Assume this huose in today’s market would be worth 800K, so she has the same ratios of discounts on the new house as the one she is selling.

So today the price difference in moving up is $300K, and in 2 years it is $216K. So if they want to own, and plan to move up, it is better to wait to do it. They don’t want to rent, as they are attached to their home, and they believe in the logic I just outlined. After all, the move-up home will be cheaper too.

[Author]

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