[bubba99]

Euros are doing very well against the dollar. In January one euro would buy 1.20 US dollars. Today it will buy 1.29 US dollars. Or all else being equal, you get 9 cents more per euro today than in January.

[bubba99]

Remember that the fed has a special credit position. If the fed buys US govt debt itself, the loan is placed, the purchase goes into an account, and money supply increases by the amount of the purchase – the only loser is holders of US govt debt. This is the fed printing money to pay current account liabilities.

Of course the dollar slides against foreign currencies, but that is already happening. There is some room for the fed to postpone a recession by just printing money – covertly, but just printing it just the same.

[bubba99]

Clearly the big banks saw the upcoming squeeze of the middle class. The changes in the bankruptcy laws protect the banks against the middle class walking away from debt.

Under the old rules (chapter 7) if an individual got into serious debt, he or she could file bankruptcy and the debt would be completely discharged – giving the debtor a fresh start. Under the new rules, if the debtor has any money ($130/month)left over after basic living expenses, he or she must pay off a sliding scale of the debt over the next few years.

So our indebt middle class homeowner who has maxed out credit cards to pay growing variable mortgage payments will not get a fresh start. He or she will be repaying the banks for years to come. Although the mortgage debt does not follow the borrower, the credit card, automobile, and some HELOC’s do. Although the debtor can protect $125k homestead exemption, this debt service could keep the previous homeowner out of the home market for some time to come. The homestead exemption could be meaningless if the bubble takes the home equity out of the equation.

[bubba99]

Although one would expect a recession if housing prices collapse, I do not think that it is an automatic. Yes consumer spending should be lower, and savings and disposable income also lower because of increased payments to ARMS, and HELOC because of higher interest rates, but will the FED allow a serious recession, just a minor one, or try to prevent it all together.

We saw back in 2001 that the FED could significantly impact the economy by lowering interest rates – this is not the only trick in their toolbox. It is likely that in the event of a recession beginning, the FED will begin to ease liquidity by increasing money supply. As long as the US can continue to buy low cost consumer goods from abroad, the economy will keep moving. But how do we pay for the net outflow of dollars to foreign governments. One possible answer is to print money.

As long as interest rates stay ahead of the deflation of the US dollar, the US will be able to finance its growing trade deficit. For a time, this will stave off a “real recession”. The US dollar will lose against foreign currencies, but they are so dependent on the US consumer to keep their own economies going they will fight to prevent a US consumer recession. Thus a serious recession may be avoided. The forecasts of Gloom and Doom for the US economy because of a housing led recession are overstated.

But just to be sure, I am out of the market.

The FED may pull some other rabbit out of their hat and create a new “real estate” like boom. Or maybe in 5 years or so we do real estate again. But the world economies will not allow a real US recession if they can help it.

[bubba99]

I have considered these other motivations, but don’t think they are the only candidates. I think information is a stronger posiiblility. The desire to make a good financial decision. I knew the market was headed for a correction, but I am not sure I would have had the conviction to sell last March if I was not able to gain the insights of others who were also studying the market.

Ultimately I want to buy another house and am as interested in when I should buy as I was in when to sell. The boat is already getting too small.

[bubba99]

Chris,

I completely agree that the most troubling factor about the bubble is the belief by so many that it will happen. In the past that kind of assurance has been met with surprise when some un-predicitable factor like the fed and money supply stepped in and shocked the system

Plus I now am sitting on way too much cash. I can get 5% on short-term treasuries, or .8% on Swiss Francs, but the lack of any real robust returns has left me un-comfortable – like what am I missing?

[bubba99]

I think the issue of housing continuing to reap double-digit gains is answered. No one expects a continuation of rapid price increases with inventories at six and a half months and interest rates moving up so quickly. But I don’t think the down turn will be as quick as the author of “The Coming Housing Crash” predicts.

He captures all of the standard economic arguments, plus the following:
“many people who had been holding homes in anticipation of price rises will rush to sell, now that the market is headed downward.”
Although this is a logical step, I don’t think it will happen with any great frequency. Having just gone through (4 months ago) selling in front of the price peak, I can say that moving will be avoided by any and all who can.

Moving is expensive and traumatic and a lot of hard work. Catching the peak netted me $500k, but I would be reluctant to go through that now that the peak has passed if I did not have to. Increases in variable rates will force many to the sales office, but the rest who can will keep chasing the price down trying to avoid the “move”.

[bubba99]

Most of the big brokerage houses handle. I buy through Morgan Stanley. I use a Choice account which carries an annual fee, but pays no transaction fee on individual purchases or sales.

[bubba99]

There are other safe plays for the upcomming real estate led recession. One would be foreign denominated bonds. Buy fixed interest bonds in Euros of Swiss Francs. You get a guaranteed fixed return and the only risk is currency exchange. If the US dollar reverses its slide against foreign curriencies, you lose. If it stays the same you get the fixed rate of return. If the $ continues its slide you win big.

[bubba99]

I tried posting this elsewhere but I think I failed. It speaks to why this time is different

Of course it is a bubble!

During the discussion of bubble or no bubble, people tend to cite history and argue that we have seen housing correction in the past and never has there been anything like the crash currently forecasted for California housing. But this crash is not the product of nature, but the product of 9/11

Remember back in late 2000 and early 2001, how the dot com bubble had burst and the stock market began a significant slide. It was not coming back, and then 9/11 struck and the market began to crash. The only thing the United States could do to counter the looming financial disaster was to inject liquidity into the market place. I don’t think the Federal Reserve intended the real estate market to move so quickly, but it was a conscious decision to combat a financial panic after 9/11. Why else would an economy based on growing under employment create a trillion dollars in new wealth?

Like all attempts to control the economy by the fed, this one had un- intended consequences. Housing almost doubling in value was un-intended, but OK as long as it did not get too far out of control. The early increases in housing values must have been read as a positive result by the fed. It allowed people to borrow against their houses and raised consumer sales across the board. As it developed in late 2002 and through 2003, the federal reserve must have been delighted that they were able to stave off the financial disaster from 9/11 and create trillions of dollars in real estate value all at the same time. The stock markets were not only stabilized, but growing with gusto. People speculated with two and three houses, serially refinanced their own home and took full advantage of the liquidity injected by the artificially low interest rates.

But housing grew into the proverbial 200-pound guerilla. Housing had superheated, and interest rates were almost as low as they could go. Lenders had fully embraced the easy money and created financial instrument meant for investors that were being used by mom and pop to buy more house than they could afford. Housing had almost doubled in value by the end of 2005, most of the new debt was “special instruments” – arms, interest only, negative amortization and even more exotic loans. It was time to rein in the monster. Predictably, the fed thought they could fix it by simply un-raising interest rates, and that is where the pop is going to come from. The wide spread between short term and long term interest rates is narrowing.

Unlike when they lowered rates, there is now a lot of special financing out in the market place, and it will begin to have un- intended consequences in a few months. Rates will continue to rise, they must to continue to sell US debt to foreign investors. The dollar has been falling against all major currencies, and “they” will not continue to lose money on US government debt. This will start a rapid move out of real estate. The creative financing will accelerate the move out of real estate, and the bubble pops. This is already too long, or I would continue on why the bubble bursting in real estate is not going to cause a financial crash.

[bubba99]

Another worry is the fed funds rate vs the prime rate. Although the prime rate was in the 4 plus percent range, the fed funds rate was 1 percent. Money left in savings accounts did almost nothing. The 1 percent return forced money into the stock market and (you guessed it) housing. Money now has a safe haven at 5% just sitting in a World Savings account. The savings rates will continue to rise as the fed raises interest rates driving more investors out of the volatility of stocks and housing. Leading to a downward “explosion” in the housing market.

I have trouble not seeing a depression like decline in the general economy as housing declines. If borrowing against the house is not available as values decline, where does the money come from to fuel consumer spending?

It is so obvious, one wonders how it will be avoided?

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