Archive for June, 2008

The Real Misery Index

posted on June 25th, 2008 filed under: Real Estate News

The misery index, in its popular formulation, equals the sum of the unemployment and inflation rates.  It is usually associated with the peak of about 20% that it hit in 1980.  Bad old times.

Currently, the current misery index stands at just under 10%.  Optimists highlight how much lower the misery index is now than it was in 1980, and argue times are not so bad.

One problem in making that comparison is that the methodologies for calculating unemployment and inflation have changed.  Economist John Williams at shadowstats.com has made a name for himself showing that the rates are much closer to the bad old times if the old methodologies are used.

Another problem is that the misery index does not account for wage gains, and thus does not fully account for what makes people miserable.  A real misery index would subtract the rate at which wages are increasing from the sum of unemployment and inflation.  If your wage gains outpace inflation, you’ll feel better than if they don’t.  If your wage gains fall short of inflation, you’ll feel a bit . . . miserable.

The chart below shows the popular misery index without subtracting wage gains (blue line), and the “real” misery index after subtracting wage gains (red line).  Although we are still not in as bad a position as we were in 1980, we are a lot closer in terms of a real misery index than we are in terms of the popular misery index.

Chart.MiseryIndex

Of course, the misery index is statistical nonsense.  Adding a percentage level of unemployment to a percentage rate of price inflation makes about as much sense as adding horsepower to miles per hour.  But as long as we’re creating this statistical chimera, subtracting wage gains is the least we can do to make sense of the beast.

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Crisis Identity Crisis

posted on June 25th, 2008 filed under: Real Estate News

Chatter about the economy is often sprinkled with references to the past.  The financial collapse that began in 2007 has been compared to the Asian crisis in 1997 and the Long Term Capital Management failure in 1998.  The housing bust is often compared to the downturn in the early 1990s.  But historical comparisons carry the risk of oversimplifying.  Which past crisis does the present one most closely resemble?

First, consider the major conditions of the current crisis:

  1. Financial crisis
  2. Extreme indebtedness (total, private and public)
  3. Housing bust
  4. Possible secular decline in equity valuations
  5. Commodity shock
  6. Rising inflation

How do these conditions compare with past crises?

2000-2002

  1. No financial crisis
  2. High but rising indebtedness
  3. Housing boom, not bust
  4. Declining equity valuations
  5. Cheap commodities (but starting to rise)
  6. Low inflation

1997-1998

  1. Financial crisis
  2. High but rising indebtedness
  3. Housing boom, not bust
  4. Secular expansion in equity valuations
  5. Cheap commodities
  6. Secular decline in inflation

1990-1991

  1. Financial (S&L) crisis
  2. Stalled, but not declining, indebtedness
  3. Housing bust
  4. Secular expansion in equity valuations
  5. Secular decline in commodities
  6. Secular decline in inflation

1980-1982

  1. No financial crisis
  2. Low indebtedness
  3. Housing bust
  4. Low equity valuations
  5. Commodities shock
  6. Inflation shock

1973-1974

  1. No financial crisis
  2. Low indebtedness
  3. Housing stable and rising
  4. Secular decline in equity valuations
  5. Commodities shock
  6. Inflation shock

1929-1933

  1. Financial crisis
  2. Extreme indebtedness
  3. Housing bust
  4. Secular decline in equity valuations
  5. Commodities sharply falling
  6. Inflation sharply falling

The present crisis appears especially acute in that none of the prior crises had all the pressures of this one.  And that may have consequences for our ability to make progress.  With financial institutions in trouble and extreme private and public indebtedness, we cannot expect to borrow our way out of the current slump.  With no sign of renewed debt appetites, housing remains moribund.  Equity valuations are neither extremely high nor extremely low, but have been falling since the last bear market, and in the past a new secular bull market has never begun when valuations were still this high.  Commodities and inflation are still rising despite a slowing economy, limiting the options of policymakers who might otherwise cut interest rates more.

Prior crises have never exhibited both a rise in commodities and inflation on one hand, and financial and debt destruction on the other hand.  The Federal Reserve may see a prolonged detente between those powerful forces as the least of evils.  The result might look something like what John Mauldin has called a "muddle through" economy.  Presumably, the Fed had the same intentions in prior crises.  Time will tell whether this Fed succeeds where others failed.

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The Tortoise and the Hare: A True Story

posted on June 9th, 2008 filed under: Real Estate News

A house in the Miami area was bought for about $700,000 in 2005 and immediately re-listed for about $950,000.  An interested buyer offered about $800,000, thinking that worked out to a fair profit for the owners on their one-month investment.  The offer was a non-starter, and the owner subsequently raised the price well into seven figures, to about $1,300,000.

The house never sold.  It’s now listed as a short sale for about $750,000.

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Home Sales and Home Prices: Know the Difference

posted on June 9th, 2008 filed under: Real Estate News

When you see news reports about the condition of the real estate market, be careful about whether the report is about the number of homes sold, or the price of homes sold.  The two measures usually move together, but sales figures can be expected to lead price figures at turning points.

For example, home sales peaked nationwide in 2005, but the median price nationwide peaked in 2006.  Similarly, in bubble-state Florida, sales peaked in 2005 and median prices peaked in 2006.  The difference there was dramatic: Sales fell almost 25% from 2005 to 2006, while prices actually rose about 5%.

When the market turns around, sales probably will begin to rise before prices.  In the early 1990s, the Northeast was the weakest region.  Data from the National Association of Realtors shows that sales in the Northeast bottomed in 1990.  Prices bottomed in 1995, five years later.

Lesson: Sales activity may rebound even as prices continue falling.  So when you see reports that the housing market is bouncing back, check to see whether the bounce is in sales or prices.  They’re not the same.

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A Tale of Three Cities: House Prices in New York, Miami and Houston

posted on June 6th, 2008 filed under: Real Estate News

The hot topic of conversation is no longer “What real estate do you own?” but “How far will prices fall?”  If history is any guide (and we like to think it is), there is quite a slog ahead.

The Landry Letter comments on real estate primarily in New York and Miami, but any historical bust is relevant, so we’ll look at Houston too.

Here’s a chart of New York metro house prices from 1976 to 2008:

Chart.OFHEO.NY

As you can see, prices rose gradually in the late 1970s and early 1980s, then boomed until the late 1980s.  In the ensuing bust, prices fell about 10% from 1988 to 1991, then went nowhere until 1996.  Eight years altogether.  That’s a long time to be underwater.

Now that prices have boomed again, what should we expect?  Considering the magnitude of the rise, homeowners should probably consider themselves lucky if prices merely fall 10% and then go sideways for another five or six years.

Here’s Houston over the same stretch of time:

Chart.OFHEO.Houston

Prices rose in the late 1970s along with the price of oil, and followed oil prices down in the early 1980s.  Because of the focused nature of the local economic woes, prices fell sharply — about 25% from 1983 to 1987 — and it was not until about 1997 that prices regained their losses.  Fourteen years underwater.  Ouch.

Prices have risen handsomely over the last ten years, but not as much as in New York and Miami, and to the extent Houston remains a hub for the domestic natural resources industry, the current boom in that sector continues to put a bid under the Houston market.

Here’s Miami:

Chart.OFHEO.Miami

The absence of volatility in the Miami market from the 1970s through the 1990s stands in stark contrast to the ensuing mania.

Don’t fall for the jive that Miami became a world-class city all of a sudden.  That’s been the city’s claim to fame for decades.  You can find posters from the 1970s declaring Miami to be the international gateway city of the future.  It’s a great place, and its future relevance is secure, but there has been no economic revolution making Miami the center of gravity for world commerce.

The only gravity that matters for Miami is the one that will pull the line on that chart back toward the long-term trend.  Prices are already falling, but to return to trend they would have to fall another 50%.  That seems so catastrophic as to be unlikely.  An alternative is for the market to stop short of catastrophic collapse and go sideways for an extended period, as New York did from 1991 to 1996.

In any event, Miami would seem to have at least another year or two of price declines ahead of it.  Prices fell in New York for three years from 1988 to 1991, and in Houston for four years from 1983 to 1987.  Prices have been falling in Miami for only a year or so.

A caveat to all these observations is that if the Federal Reserve pursues highly inflationary policies, real estate prices could stabilize and recover faster than the Houston and New York precedents would suggest.

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Throw Another Log on the Fire

posted on June 6th, 2008 filed under: Real Estate News

Oil is about $135 now.  Heating oil is about $4 per gallon.  Any notherners brave enough to be house-hunting should remeber to factor in a few thousand dollars a year in additional, non-deductible energy expenses.  If buyers care about their own financial well-being, the spike in oil will drive down home prices.

The yearly energy tab for a medium-size, 4-bedroom house might have been $5,000 earlier this decade.  Now it’s pushing $10,000.  What does that extra $5,000 of non-deductible heating costs do to housing affordability?  For a typical buyer, it’s the rough equivalent of $6,000 to $7,000 in deductible mortgage payments, which translates into about $90,000 of borrowing power.  (At 6% on a 30-year fixed, the monthly payment on $90,000 is about $540 per month, or $6480 per year.)

That’s a lot of bread, man.  Heck, it’s almost 15% of the $635,000 median price of a home in Westchester County, NY, and 45% of the $199,000 median price in Albany County, NY.  Maybe the median house is smaller than the 4-bedroom example above, so the implied price drop could be smaller.  But there’s clearly another reason here for buyers to beware.

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Double Bottoms Gone Wild

posted on June 6th, 2008 filed under: Real Estate News

The stock market is widely thought to have made a double bottom in January and March.  Maybe so.  But it is at least possible for a market to go sideways for a while and then head lower — perhaps a lot lower.

Consider 1973.  The market had scratched and clawed its way back to the high of the dearly departed great bull of the ’50s and ’60s.  It turned lower, falling about 16%, before going sideways.  It churned for six months, making from two to four bottoms, depending on how you count.  Then it broke to the downside, falling 10% beneath so-called support.  Again, it churned for six months, making from two to four bottoms, depending on how you count.  Again, it broke to the downside, plunging 30% beneath so-called support.  The total loss was almost 50%.

Sometimes double bottoms are unfaithful.

Chart.S&P.1973-74

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School Desegregation: Yonkers and Coral Gables

posted on June 6th, 2008 filed under: Real Estate News

Miami, 1971.  A court order desegregates the public school system.  Sort of.  It’s a big, county-wide system, so as a practical matter, desegregation can be ordered only at the margins.  Schools deep inside black areas are too far from white areas to bus blacks out and bring whites in, and schools far out in white areas are too far from black areas to bus whites out and bring blacks in.  So the desegregation plan focuses on communities like Coral Gables, where the all-black and all-white schools are close enough that their student bodies can be scrambled.  Carver Elementary (all-black), Coral Gables Elementary (all-white) and Sunset Elementary (all-white) are grouped into a single school-choice district.  A lottery determines school assignments.

Yonkers, 1984.  A court settlement desegregates the public school system.  It’s a big city, but it’s not a whole county, so scrambling the entire city’s student population is somewhat feasible.  A lottery is instituted to determine school assignments.

Fast-forward to 2008.  Coral Gables Senior High is a "C" school, failing to make adequate yearly progress, with 39% of students reading at or above grade level.  In Yonkers, three of the five high schools occupy the bottom spots in county-wide average SAT scores.

There are two problems with the well-meaning but wishful thinking that underlies these desegregation plans.  First, they are limited to the districts’ borders.  Whatever problems the Gables desegregation system aims to solve are unimportant to residents of the adjacent and increasingly wealthy community of Pinecrest.  And whatever problems the Yonkers desegregation system aims to solve are of utterly no significance to residents of the adjacent and uber-wealthy community of Bronxville.  In America, the ties that bind apparently end at the city line.

Second, families are free to send their children to private and religiously affiliated schools.  In Coral Gables and Yonkers, the practice is routine.  About one-third of students at Coral Gables Senior High qualify as economically disadvantaged — in a city with one of the highest median household incomes in the state.  Yonkers, meanwhile, keeps its property taxes strangely low — arguably to enable families to stay in Yonkers while paying for private or religious schools.

This is the point where it would be nice to offer a simple solution.  Sorry.

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The Harbinger: Housing Starts and Recessions

posted on June 6th, 2008 filed under: Real Estate News

If you could have had only one piece of economic information over the last couple of years, what would have helped you most?  This one’s gotta be near the top of anyone’s list.  Shaded vertical bars represent recessions.

HousingStarts.1960-2008

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The Embers of Inflation

posted on June 6th, 2008 filed under: Real Estate News

AP reports that a couple in Massachusetts caused a fire in their apartment complex when they hoarded plastic containers of gasoline in a closet.  They had nine containers of five gallons each, in a closet where an air-conditioning unit was also located.  (Not that it would have been o.k. if the a/c hadn’t been there.)

Too bad they didn’t read the New York Times story with the headline: Fire Department Warns Against Hoarding ‘Gas’.  Or maybe they did and can’t remember.  After all, the story ran on November 11.

November 11, 1973, that is.

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