[ybc]

Masayako, I thought of your earlier comments when the news came out yesterday. So do you know what type of jobs got impacted the most? And will Qualcomm and Motorola asborb a lot of these jobs?

[ybc]

Yes, all behavior is voluntary. But while we insist individual takes responsibilities, how about the government, and how they use our military? I don’t think that national guardsmen are supposed to be used in long-term combat missions overseas…if they really think that the war is so good, they should send their own kids and nieces and nephews (who of course are so privileged that they don’t need military benefit to go to colleges, etc) there, and/or bring back the draft. I’m sure that the draft dodgers’ kids are good draft dodgers too.

Anyway, I’m off topic. I do think that that particular guardman perhaps has overextended himself. But one would think that the country should be more grateful towards those who served and cut them some slack…

[ybc]

Concho,

Good questions! Sometimes I wonder too. A lot of content is repetitive, and I think that we read them over and over again to seek confirmation. (yes, we’re all subject to confirmation bias). It comforts us. I think that people here generally do welcome opposite view if that view comes with good data support. But the majority of people here believe in a housing bubble, and it shows. By constantly coming here, we’re seeking confirmation and comradeship – because beliving in a housing bubble is still a minority view in the broader context.

From time to time, you really get stuff that you won’t get otherwise — what realtors / mortgage bankers are seeing in real time, examples that people put forward (housing prices, employment, etc). So I enjoy reading these. Occassionally, you get a link to a good piece of research work – if you enjoy reading research.

I try to skim the content, and read only the part that’s interesting.

[ybc]

Two interesting recent news/articles on individual’s finances.

Based on this AP resporting, FED reported that in June consumer borrowing (mostly credit card) jumped:
http://biz.yahoo.com/ap/060807/consumer_credit.html?.v=4

This is on today’s WSJ — I am amazed to see that people under the age of 42 have a negative saving rate of 18%!!!

So don’t think that either first-time buyers or renters (assume that they’re mostly young and carrying debt) will rise up and solve home owners/sellers’ financial problems…
—————————————–
Fund Fiend
Benefits of Saving
Wasted on Youth

By IAN MCDONALD
August 7, 2006; Page R1

Day by day, it’s painfully clearer that we’re on the hook to pay for our own retirements. Someone should tell folks in their 20s and 30s.

The national personal-saving rate — the fraction of after-tax income left after spending — has been falling for a long time. Between the end of World War II and the early 1980s, U.S. citizens consistently saved about 9% of their income after taxes. So far this year, average savings are negative by more than 1%, according to data from Moody’s Economy.com Web site. This calculation doesn’t include capital gains on assets you already own and counts tuition and a Hummer as the same type of “spending,” but the numbers are still ugly enough to merit worry.

You would think the necessity of socking away a little money might be clearest to young people. After all, their careers coincided with the proliferation of 401(k) plans and a decrease in the role of pensions, now so rare they verge on being quaint. They also came of age with the notion that Social Security’s financial support is iffy. The saving rate for post-baby boomers — people 42 years old or younger — has steadily slipped during the past 15 years. It was nearly minus 18% in the year ended March 31. That is chilling, considering that most pundits suggest we save 15% to 20% of pretax income for retirement and other goals. “It’s absolutely counter to the fact that the vast majority of us will have to fund our retirements,” says Mark Zandi, chief economist at Economy.com.

What gives? One theory says the under-42 crowd has been spoiled by above-average returns from stocks, bonds and real estate, combined with low interest rates and inflation. U.S. stocks averaged an 18% annual gain in the 1990s, compared with a 10% historical average. While cooling now, high housing values led many to borrow through equity loans.

People who expect big returns, low interest rates and low inflation may figure they can meet their goals with paltry savings today — or none today and a little tomorrow. This wastes the advantage of a longtime horizon for reaping compounded investment gains.

These folks haven’t had a deep economic downturn to underscore the importance of saving over spending. As the economy has slowed, young people have spent more, not build up cash cushions. Let us know how that works out.

[ybc]

If rents have to increase because owners’ finances have to work, then there should be no bankruptcies and foreclosures…

[ybc]

X1Y2Z3, thanks! Two follow-up questions:
1) Has lending standards been tightened today vs a year ago, or is it just as bad?
2) If the fed lowers interest rate once a recession hits, will that likely rescue many homeowners with ARMs that reset?

[ybc]

For accounting purpose, you can only value your inventory at cost (land, fees, material and labor). That’s why they realize a gross profit when they sell. In fact, if there is convincing reason that says your inventory is worth less than cost, then you take a charge, called “inventory write off”. So depending on the quality of their inventory, i.e. how many are built on spec, how many cancellation, etc, price needs to go down quite a bit for them to take a charge on inventory.

Yes, it’s possible that these homebuilders lose money for a while, and the psychology takes the market price way below book value, and the book may decline too if they take charges/lose money. From an investment point of view, that’s a time to buy. To bet that it’ll happen within a certain time frame is a bit risky (as what buying a put is about) in my mind. These home builders stock have come down a lot already.

I won’t short GM either (in fact, I bought GM at around 19 in December last year). Charlie Munger once commented on that one shouldn’t short a stock of 15B market cap with 200B in revenue when someone asked him about GM. Its problems are deep, but well known. Things can go wrong, but can go right as well. If it can somehow address its legacy cost issue (i.e. health care for retirees, pension actually isn’t too bad ’cause it has a well funded pension), then the stock should be worth more than today’s price. It has a high short ratio for a while, so many hedge funds got burned on the short side.

CFC is a different story. Even though the CEO may recognize the risk, individual loan officers may still be motivated to generate a loan and get a bonus/commission. Wall Street’s pressure on them to is continue to grow. It has come down 15% from its peak, while DHI has dropped about 45%.

Again, anyone buying options should be ready to lose it all, even as you do all the calculations trying to make money.

[ybc]

I will not short DHI, or any home builder stocks. The reason is that the current market price (Market cap is $7.1B)is very close to their book value. for DHI, book is about $6 billion with Tangible book about $5.3 billion. So P/TB is only 1.3x. Now most of their book is in inventory, which they made about 27% gross margin in the latest quarter, and 16% operating margin. So they could reduce price/give incentives to move inventory and still make money. About 13% of their tangible boook is long-term investment, which could be option to buy land. While some of that might be written off, probably not all of it.

So for DHI drops to 17, it’ll get close to its tangible book. It’ll be more likely worth more than that over the long run. That’s why it’ll attract a value buyer, not because it sells at 5x earnings – earnings can disappear fast. I personally will likely be a buyer if it’s sold below tangible book.

Personally, I own some long-term puts on CFC (country wide financial). It sells at 1.6x book (was 1.8x when I bought the put), and its balance sheet has expanded rapidly in the last several years. Because it has more financial leverage, higher loss on its mortgage portfolio will do real damage to its book, so I think that it’s a better bet. And I think tha t plenty of knowledgeable people commented on its lax lending practice — I think that these lenders have to retain some risk (usually the highest risk portion) before they sold their portfolio to investors.

They are bets indeed — DHI could very well drop below its tangible book, and CFC could very well stay high. But I think that the odds favors CFC on the short side.

[ybc]

Another un-intended consequences of prop 13 is that existing homeowners do not feel the pain of high house prices. So you see homeowners are all very protective of house prices — they don’t care about affordability at all. There is a very strong “not in my backyard” mentality. In fact, the higher the price, the merrier. So what should be a community problem (i.e. high housing prices) became a minority problem (i.e. for the unlucky late comers).

So I probably will be for using a 5 year average property value as a tax base (maybe subject to an initial price adjusted by inflation cap) to make it easier for curent homeowners, but not making them forever delinked with high housing price except at the time of profit taking — not that I’ll be a policy maker anytime soon, and not that prop 13 will be changed anytime soon.

Sorry for the many posts on prop 13. Obviously I feel strongly about it. I don’t like a policy that seems to serve a good purpose at the time but creates distortions years later. So I’ll make it my last. You’re welcome to disagree.

[ybc]

The problem with prop 13 is the it discourages mobility (over a very long time). So suppose that 50% of the people bought houses 10 years ago. Suppose 20% of them have some desire to go somewhere else or take the profit, but would rather not “lose” their property tax base. So this 20% of housing stock will stay somewhat permanently within the family, hence increases the price volatility for the rest of the market, mostly upward volatility. I believe that I saw families with savvy parents who’ve bought several houses early, and it seems that the whole family (adult kids) now live on rent income due to later inflation. This is NOT a productive way of life.

I agree that the scenario in Idaho is not desirable either. A better solution could be a hybrid — prop 13 like protection only for primary homes; not for rental and 2nd/vacation homes. A “cap” that’s inflation indexed rather than an arbitrary 2%.

Again, a policy like Prop 13’s impact is only felt decades later…If you think that overal inflation is always positive and likely higher than 2%, then a home, relatively speaking, is always a fairly good bet in California in a normal environment (and I don’t consider today as normal)..

[ybc]

PerryChase, thanks for answering my question on prop 13. Yes, I think that prop 13 is a bad policy, too. (And I don’t benefit from it). The shortcoming of the policy is that overtime, it really creates different “carrying costs” for homes based on when you entered the market. It’s kind of like rent control. While it reduces costs for earlier residents, it makes the marginal cost of late entry much higher.

[ybc]

I think that once interest on other consumer debt (student loan, or even some other loans) was also tax deductible, but were taken away (don’t remember when). So relatively speaking, mortgage debt became more attractive to other consumer debt. Also, the capital gain tax was introduced in 1995 or 1996, I believe. Before that, you have to “roll” your gain into another house. So again, relatitively speaking, the added flexibility makes a house more attractive as …. an investment. So over the years, house became an asset class of its own as far as tax is concerned.

As far as prop 13 is concerned, the result is cumulative. That is, if you bought a house 10 years ago and had a very low tax base, you’ll want to keep it, or to give it to your children. So that might have reduced housing turnover in CA and pushed up the marginal costs for new buyers.

Note that I’m not arguing for a “permanent” high price point because of all these. In fact, I think that these favorable factors couraged more speculative buys in California, therefore making the size of the bubble bigger. How it’ll deflate depends on interest rate, credit availability and employment….

[ybc]

One factor that “justifies” high real estate price is the very favorable tax treatment – tax deductibility on interest and property tax, and capital gain tax exemption for the first $250K/$500K. No other asset class enjoys this much tax benefit! In California, proposition 13 further strengthens a homeowner’s hand. In an inflational environment, no other asset compares to a home.

But if price starts to decline, some of these benefits will become less meaningful (capital gain). How does prop 13 work in a declining price environment? Do you get to adjust your property value downward and pay less property tax?

Also, if price starts to decline, it’ll reduce people’s tendency to “stretch” to buy a home… by then, the only motivation is a shelter, a home; not an investment.

[ybc]

It’s called “comfirmation bias”. That is, people simply look for and believe in evidence that supports their belief. When data points to the contrary, a weak argument like “this time will be different” comes up. But while history rhymes, it doesn’t exactly repeat. So we should just discard any arguments that has nothing but “this time it will / won’t be different”

However, some actually points out what’s different. For example, the exotic lending practices were pointed out as a difference this time around. So the question for a reader is to decide whether that factor is important enough to cause a “difference”. To me, the argument then has some credibility and can’t be immediately ignored. To translate into housing, if in the past (high housing price + recession/high unemployment) –> price correction; then today (high price + low wage growth + higher interest rate/stricter lending) will cause the same impact, because the root cause is always that the borrower can’t shoulder the burden of mortage payments. But without recession and massive job losses, the process probably will be dragged out longer. Before they give up, they always hope…

[ybc]

Two interesting measures will be quarterly default notice as % of inventory and as % of quarterly sales for exsiting home. I assume that unless the lender and the default homeowner work out an alternate payment solution, otherwise the solution is always the sale of the house – either by the owner or by the bank. So I see default notices represent a pipeline of potential “urgent” sales coming on the market, then the above two percentages can be a leading indicator. I wouldn’t be surprised if these numbers have positive correlations to subsequent price changes. Anyone knows where to find the data needed to make the calculation?

Also, do you know if these default notices are “One-time” only, or do home owners in default get them in a couple of months in a row? How does the process work?

[Author]

Posts