[Rich Toscano]

I’ve been thinking about your results in the context of my monthly payment chart:

My interpretation of this chart has always been that it shows that rates haven’t had a ton of influence on home valuations. If they had, then the red line would mean revert around a pretty flat line across the whole chart. In other words, monthly payments would be the constraint, and home prices/valuations would move up or down to accommodate a pretty constant monthly payment (as a % of income).

But that’s definitely not happening in this chart. In the 70s and 80s, valuations didn’t plummet to accommodate high rates. Instead, prices hung in there, and people paid a much higher monthly payment (as a % of incomes or rents).

Thus my conclusion that you can’t really value housing based off rates.

However, if you take a closer look at my graph, there are really 2 regimes there. In the 70s/80s, home prices weren’t influenced so much by rates. However, starting in the 90s, we DO see that more flat trend line where (with the exception of the bubble), monthly payments tended to stick to a somewhat constant level.

And that fits in perfectly with your conclusions — prices really have followed rates pretty closely. But if we were to extend your study back in time, we’d find that this wasn’t nearly so much the case.

What do we make of this? Well, it happens that this is actually a fairly controversial topic in finance generally.
One camp claims that lower rates justify higher stock valuations, pointing back to 30-40 years of a clear correlation there. The other camp points out that prior to that period, there was no such correlation! (Here is an article exploring some of the long term data). There are other arguments as well, such as: if low rates are such a benefit, why are stock valuations in Europe and Japan much lower than the US, while their rates are ALSO lower? IE, it seems that this relationship has only taken place in the US, which undermines the idea of a causal relationship.

So I just wanted to put that out as a note of caution here. xbox’s analysis happened to cover the period where there was an unusually strong relationship between rates and the prices of RE and risk assets generally. But, this relationship is not written in stone.

Now, let’s say the relationship does remain intact. xbox’s results jibe with my general view that even through prices look high, when you consider interest rates, they aren’t nearly so bad.

However, based on these charts I’ve refined my view a bit. Looking at my monthly payment charts, I was thinking, we’re still below the historical (post-1977) median. But that includes the prior regime. If we only look at the 90s+ regime, with that tight relationship between rates and prices, then we ARE in fact overvalued even considering how low rates are. xbox’s charts do a good job of showing that. But, it’s a reasonable level of valuation, part of the normal ebb and flow, and nothing I’d consider remotely bubble-like. (Of course I mean overvalued based on this model… there are of course things going on outside the model, eg long term supply and demand changes, which could impact fair value.)

The other thing to consider is that if the rate/price relationship remains intact, this doesn’t tell you much about future prices anyway, UNLESS you want to posit that you know what rates are going to be. It’s my view that rates (and inflation, which heavily influence nominal rates) are poorly understood, and that the world’s most preeminent economists and asset managers disagree on what the course of rates will be. IE, I don’t think anyone can really make a high confidence forecast on rates. So IF the rate/price relationship remains intact, it is a fact that any home price forecast has an embedded interest rate forecast.

[Rich Toscano]

xboxboy, this is awesome! Thanks for putting it together.

I’ve got to get on a meeting soon so very quick thoughts:

First, the steepening curve where as interest rates get lower, they exert a continually higher impact on affordability – that is something I had never thought about. That could be an important piece of the puzzle. I’d always observed that in the past, interest rates didn’t have such a big influence on valuations, but they seemed to have more of an impact more recently. This might be a result of the non-linear impact of rates — they didn’t matter so much when they were higher in the past, but matter a lot more now. Must think about it more.

Second, if you are inclined, I’d love to see a variation on the final graph that, instead of mapping both series, just shows the % difference between each series. That would give a more fine-grained look at how over- or under-valued SD housing is compared to your indicator.

Third, I’d be curious to see — what happens to the price model if rates go up to X? I guess I can do the math on that one based on the first chart. But for one example — rates got to the mid-4s in 2018. What would happen to your price model if they went to 4.5% again?

BTW I do have data that I’d be happy to share. To spare everyone the details on that, why don’t you PM me or email at [email protected].

[Rich Toscano]

hahahaha… 😀

[Rich Toscano]

Well I was… a very long time ago. 🙂

[Rich Toscano]

[quote=an][quote=sdrealtor]Actually she’s #1 on the list!

https://ucsdguardian.org/2017/02/16/six-famous-uc-san-diego-alumni/%5B/quote%5D
OMG, loved the Guardian… sdr, that’s a satire news paper if you don’t already know. Kinda like UCSD’s version of the onion.[/quote]

You’re thinking of the Koala… the Guardian is the real news publication.

[Rich Toscano]

Once someone has replied to a comment, you can’t delete it.

If you send me a link to the specific comment, I can blank it out. I could also delete it but that would delete all replies.

So, just send me the links to the comments you want blanked out. You can get the links by clicking on the comment title.

[Rich Toscano]

Although in fairness, I suppose that’s what spd was getting at with his “animal spirits” comment. But still, my reply to that would be “who cares?”

I am baffled by the idea that it’s somehow good for the economy if people want to overpay for stocks (or houses or other financial assets). That may provide a short-term economic boost via the wealth effect, but that cuts both ways and there will be a reverse wealth-effect if/when asset prices return to normal. (And if they don’t return to normal, then you’ve permanently lowered future returns, ie you just moved returns forward in time a bit).

Sorry spd, not to pick on you… you’ve just hit on one of my pet peeves*, which in this case is trying to derive meaning from short term stock price movements, combined with a second pet peeve which is pretending there is or should be a relationship between stock performance and presidential performance.

* – I have many, many pet peeves and this is a function of my bad personality, nothing to do with you.

[Rich Toscano]

[quote=XBoxBoy]Can we please stop with pretending the performance of stock markets is somehow correlated with presidential performance. 1) The presidents job is not to make stock markets go up. 2) The president has very little impact on the economy particularly in their first half year.[/quote]

Yes, thank you. Also 3) short-term stock market movements are driven entirely by sentiment and liquidity and have basically nothing to do with the long-term health of the economy.

[Rich Toscano]

Just to get this on record, I think you guys are very overconfident in your ability to predict interest rates.

[Rich Toscano]

PS which is it, “get ready for more inflation” or “rates look to be low for a long time to come”? I was basing my reply on your more-inflation-to-come prediction, which would imply higher rates.

[Rich Toscano]

[quote=sdrealtor]I was referring to inflation everywhere but I remember you documenting years ago home prices don’t always follow rates. Have you changed your mind on that? Inflation also means wage inflation. We have and will continue seeing that. Rates look to be low for a long time to come. Maybe not this low but still very low historically.[/quote]

You are right, they haven’t had much relationship with rates in the past, but valuations are so high at this point that I think it’s unsustainable in the absence of low rates. I’ve written about this frequently in the monthly(ish) updates. See late-2018 for a preview of what might happen if rates were to rise… and homes were a lot cheaper then.

[Rich Toscano]

[quote=sdrealtor]Inflation reported this morning is highest in 13 years. Who would’ve guessed? Get ready for more. Holders of hard assets gonna be the winners[/quote]

Depends on your timeframe, I would think (assuming you are talking about real estate here). In the very long term, higher inflation helps by increasing (nominal) rental income and eroding your mortgage. In the meantime, though, home prices are very vulnerable to rising interest rates. It’s hard to see an inflation shock as much of a benefit to the housing market given that ~3% mortgages are basically the last rational reason to buy…

[Rich Toscano]

Ah gotcha… I thought you were saying your prediction was for SD as a whole.

[Rich Toscano]

[quote=sdrealtor]I suspect you are lazy so I’ll give you the cliff notes version. Spot one! No one on this site came close to how accurate mine were.
[/quote]

[quote=sdrealtor]You are so wrong it’s laughable. Not only did I predict it but I placed bets on how it would play out. That I won and I can link to on this website. I predicted 30% worst case scenario and likely less along the NCC. The actual bottom was just short of 25% here.
[/quote]

Sounds like you nailed NCC, but SD-wide single family home prices were down 42% per Case-Shiller. Condos were down a lot more than that – I only have pr/sqft for condos, not a quality-adjusted index like CS, but that was down 56%.

If your prediction had been 30% decline best guess, I’d say that would have been a bit low but in the ballpark. However, a prediction of a 30% worst case scenario — followed by an actual decline of 42% for single familly and 50%+ for condos — seems like a pretty wide miss.

Perhaps I am misunderstanding what you meant what you said that you predicted 30% worst case. But taken at face value, this doesn’t sound like a particularly good prediction. At very least, I think you may not be a lock for “Spot one! No one on this site came close to how accurate mine were.”

[Rich Toscano]

Agree on all that… but that’s kind of my point, the more expensive it gets, the less likely that prices will keep going up at a rate that would price you out forever.

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