February 01, 2007

The Map of Misery. If Misery Loves Company it must Heart California's Housing!



I’m sure many of you have seen the above glorious “Map of Misery” showing the percent of new and refinanced mortgages into more risky loans. Yellow and red fill the map as if hell hath no fury on those choosing to live by the sea. If you take a minute to look at the chart, you’ll notice that there is a magnetism toward these loans being bulked in the coastal regions. Ironically, we can adjust the colors on the map with red and blue and we have our 2000 and 2004 Presidential elections. Regardless of fundamentals, economics, and politics one thing still holds true, real estate on the coast is expensive. Real estate on the coast or near water is something that is innate in our human nature and necessity to survive. Societies in Egypt built around the Nile many millennia ago and our “elite” society still builds around Santa Monica pier and Malibu. When before water was gold and a basic human need, now we see water as a symbol of wealth and opulence; think of yachts and waterfront condos in Miami beach.

Yet to what extent does this water world cost bleed into the country and dry our reserves? We can see that the hue in the Southwest runs all the way from California, Arizona, Neveda, and New Mexico. Last time I checked Albuquerque was not close to Pacific Coast Highway and neither is Phoenix or Flagstaff. But this mass exodus of funds from equity rich coastal states had to find a place to sit and those states around big brother got the spoils of victory.

To what extent this running of the colors will go on is yet to be seen. Current Census figures show that vacancy rates for homeowners is at an all time high. What is occurring here is many 2nd home sellers are placing their homes back on the market only to create a glut of non-owner occupied inventory. In previous decades you would normally see folks selling their own home and moving out once they found a seller. The game has changed. These new empty nesters are creating pockets of brand new ghost towns in Arizona and Las Vegas; brand new homes sit empty waiting for buyers to come by.

The current housing market sentiment is that housing is a guaranteed way to make money. Look at the number of real estate seminars and housing gurus out there promising to make you rich. No doubt, they do not highlight the fact that housing has historically only appreciated at slightly above the inflation rate. And we are still in a holding pattern with folks snorkeling in the coral of springtime essence with the hope that in a few months cherry blossoms will bloom and home prices will continue their trajectory to the moon. The map of misery may say otherwise.

What say you?

25 Comments:

IrvineRenter said...

Back in 2003 we were at the top of a bubble that would have resembled the 1989 peak. It was mostly built on conventional mortgages. Interest only was starting to creep into the picture, but it wasn't ubiquitous or even particularly problematic. At that point, if lending standards were not thrown out the window, we might have had an early 90's kind of slow deflation. But that isn't what happened.

Affordability problems caused interest-only to become the norm in 2004/2005 and prices pushed up even higher. By the spring selling season of 2005 affordability was again a problem, so negative amortization came on to the scene. By 2006 interest-only and negative amortization dominated the scene.

Now we have a real problem. A slow deflation like the early 90's is no longer possible. Catastrophic, equity crushing, price declines fueled by an unprecedented rise in foreclosures is the only way forward from here. Possibly late this year, but more likely in 2008 there will be a massive supply dump and very few buyers to absorb it all. Price declines in 2008 of 20% or more are possible. There will be nothing "sticky" about prices on the way down during the foreclosure phase of this crash.

Misery, yes, it won't be any fun.

bearmaster said...

$$$ volume charts for the LAX South Bay area for January are posted. Enjoy!

Dr Housing Bubble said...

irvinerenter:

I agree with your statement about the increase in number of interest only loans. My sense is that people are more willing to purchase ANYTHING on credit. So often I see people charge a $1 hamburger at Burger King or a $5 latte at Starbucks. What happened to cash? These aren't even debit cards.

Not sure if it will be sticky either. If anything, many subprime operations are going down in flames rather quickly.

Jessica said...

Wow. I'm impressed. I've been looking for information on real esatate for awhile and I haven't seen another site with such knowledgeable people. Thank you, this is a tremendous resource.

My question is: I'm just graduating University and moving to Seattle to begin my career. With such talk and evidence that a bubble is eminent, can anyone speculate on when would be the best time for me to look into buying a property, at a price I can afford. Also, what signs should I look for in my market before deciding to buy?

Any information would be greatly appreciated.

Thank for your time everyone,
Jessica

IrvineRenter said...

Jessica,

When the payment on a conventional 30-year mortgage is equal to rent on a particular property, it is OK to buy. The tax write off from the interest will about cover the costs of taxes and insurance, so this will be a level of market support that may form a bottom. Don't be surprised when you look around if you find rent being about 1/2 the cost of ownership. Prices have a long way to drop.

Dr Housing Bubble said...

Jessica,

Thanks for reading. Good luck with your career. I wanted to give you some raw data regarding the Seattle market:

As of November 2006:
Current Median Price: $390,000
Current down payment: $78,000
Current median income: $61,366
Current annual mortgage payment: $22,882
Current housing cost/income ratio: 55%


Keep in mind that this is rather high. You want to be somewhere around 33%. You can run these numbers very easily. The above only shows mortgage payment (you will have to adjust based on taxes, insurance, and the amount you will put down). The above scenario assumes you will put $78,000 down which in today’s market is unheard of.

You can run these numbers with your current rental situation and determine what is a better option. It’ll be clear when the time is to buy.

Dr. Housing Bubble

Dr Housing Bubble said...

Irvinerenter,

I’m not sure if we’ll ever see housing prices be the equivalent to rental prices in Southern California. There were a few times in the past that they were very close, like in 1995 – 1998. However, to get to these levels, we would have to drop over 50% in nominal terms, which is highly unlikely. I feel that we will most likely see the following occur:

1. Housing will remain high but slightly trending lower
2. Inflation will catch up and make “real” prices more balanced
3. On average, previous housing bear markets have lasted 3 to 5 years so we are looking at 2009 or 2010 as the bottom
4. Subprime market will take it in the shorts (already happening)

I’m waiting until this summer to see how the market will respond to dropping prices and massive inventory; this will be the first spring and summer that we may see double-digit declines in certain areas.

Dr Housing Bubble said...

All:

We've broke 20,000 unique visitors today! Thanks to all the normal contributors like irvinerenter, bubble_watcher, and zovall; and new readers are coming everyday. 2007 will be a fun journey. Early last year, the momentum started in the housing blog world. Now, we have many in the housing family ready to watch the fireworks this year.

Dr. Housing Bubble

Anonymous said...

Please, more "Real homes of genius"

Jessica said...

Thank you everyone that responded. I appreciate your expertise on the subject.

Dr. Housing Bubble, if you don't mind me asking, where did you find the raw data you provided for the Seattle Market. I'm sure the data changes with time and I'd like to keep up to date and do as much research as I am capable of. I chuckled when you said that "current down payment" is $78,000. I think I'll have to save up for awhile, and tackle my student loan at the same time. :D

Again, thank you. Your blog is one of, if not, the best I've seen.

Jessica.

Dr Housing Bubble said...

Jessica,

You can find the data for certain zip codes at:

Seattle DQNews

In regards to income, you can go to the Census.gov website and query the information. It'll take time for the market to come down but in the interim, you can save up and focus on your career. In a few years you'll be able to jump in and get a home.

anon: There is plenty of data for more Real Homes of Genius. Each day more and more examples are popping up...stay tuned.

Dr. Housing

er said...

California... Do you roll on the floor laughing, or lay down and cry?!?!

Jessica said...

Dr. Housing Bubble, I know you're not the famed pyschic Miss Cleo, but can you speculate how many years you think it will be until the market is prime for me to purchase a house?

The reason I ask is, according to my budgetting, it will take me 2.5 years to pay off my student loan and then it'll take another 2 years to save up a nice down payment - I'd at least like to have $30,000 to $40,000 (I hope this is reasonable for a CPA working at a Big 4 firm). So I hope your prediction is somewhere around the four to five year mark. :D

Thanks again for all your help.

Jessica

P.S. With traffic of 20,000 plus a day I'd seriously consider looking into Google Adsense. ;)

IrvineRenter said...

Dr. Housing Bubble,

I am pretty bearish. I think 40% nominal declines are a distinct possibility (I would say 50%, but rents and incomes will go up in the 3 to 5 years while prices are dropping.) I just don't think the slow grind similar to the early 90's is possible anymore. There are too many owners who are overextended through a combination of paying too much and HELOCs. The Map of Misery illustrates this very well. Nothing like this has ever happened before, and it's really bad.

Also, I think the role psychology has to play with be important. Right now, there are still a lot of people who would buy if prices dropped because the believe in appreciation is so strong. From 1995 to 1998 when rents were last aligned with ownership costs, nobody believed in appreciation. After 5 years of losses, nobody was anxious to jump on that bandwagon. By 2012 the belief in appreciation will be dead. Nobody will want to own a home. Nobody will believe rapid appreciation is right around the corner. That is when rents and ownership costs will align, and that is when it will be a good time to buy.

IMO, belief in appreciation must die. When it is dead, it will return to the market: it's just the way of things.

Dr Housing Bubble said...

Jessica,

If only the traffic was 20,000 a day but alas, it is 20,000 for 4 months of blogging! Although I must say daily traffic is picking up for various reasons including more people searching for the following on Google:

”Housing Bubble 2007”
“housing crash 2007”
“Real estate bubble”

Reading your post, it seems like you have 4.5 years before you are ready to buy (2.5 years to pay down your student loans and 2 years to save up $30,000). Working at the Big 4, that is KPMG, EY, PWC, and Deloitte for all those non-accountants, is a great way to save funds and an excellent place to start your career. Many folks set a timeline of three years before they move up or move on to their MBA. I have a few friends at KPMG and Deloitte, both excellent companies to work for and gain experience.

But back to your question about when is a good time to buy a home. Most will agree that the peak was reached in summer of 2006 nationally. Keep in mind we were on a run-up for close to seven years. Previous real-estate cycles go up for 6 to 8 years and down for about 3 to 5; this is an absolute rough estimate and I recommend you query “real-estate cycles and fed” on Google. There is a great study by the Fed discussing this in detail. Another good study by the Fed looks at world markets, House Prices and Monetary Policy. In terms of cycles, we are looking for a trough at about 2009 or 2011 depending on which tail of the spectrum we will hit.

It is hard to put a specific date on when it will be a good time to buy but it is definitely not now or all of 2007. Keep in mind the asking price is arbitrary in a buyer’s market. If the asking price is $390,000 and you offer 20% below, at $312,000 then who is to say this isn’t the current market price? Sellers are having a hard time not having multiple offers and bidding wars; they yearn for the days of antiquity when they had eager buyers stomping on one another for the privilege of offering a bid. The real estate world is now vastly different.

Hope this helps and good luck with your career at the Big 4.

Jessica said...

Dr. Housing Bubble,

Thank you for all the great recommendations. I love learning about the real estate market and its cycles. Like anything on the Internet, there's alot of useful information and even more that's useless. I appreciate you pointing me in the right direction.

A fan of Dr. Housing Bubble,
Jessica.

Dr Housing Bubble said...

Irvinerenter:

That makes two of us who are bearish regarding the real estate market. Yet, I’m not sure the market is ready to see drastic cuts. Sellers for one are in wonderland hoping for peak prices. Some buyers realize this, like many here and will not throw their hat in the ring. Banks still have this belief that they can unload house by moderately cutting prices.

I was listening to a local real estate program here in Southern California and they were saying “if you can’t afford here, you should buy out of state.” Funny thing these same folks last summer were talking about no bubble and no real estate correction. Now they acknowledge it and gloss over the fact that they were wrong.

We won’t see big changes until banks have REOs in vast numbers weighing their portfolios down. If it were up to many sellers, they’d just hold on for dear life and expect 2006 peak prices. Unfortunately we are seeing a classic stalemate and slow downward trend. 40% nominal declines seems rather large in the face of this resistant market psychology.

But then again who saw 135% gains in 5 years right?

Dr. Housing Bubble

IrvineRenter said...

Dr. Housing Bubble,

I agree with you totally that if it were up to the reluctant sellers, this market would not move. Prices won't come down much until sellers are forced to sell. Repos and loan resets will make this happen. 2007 probably won't see huge drops (about 6%-8%), but it will prime the pump for 2008.

I think a great market to watch is San Diego. They had about a 7% drop last year, so they are primed for a full blown implosion this year. San Diego County led Orange County by about a year on the way up, and they seem to be doing it again on the way down. Look for a 12% to 18% drop in San Diego this year if the repos hit the market in real numbers. They already have many underwater borrowers with time bombs due to explode this year. Anything less than a 6%-8% drop in that market would be a real surprise.

tom stone said...

I've been a loan brokerin sonoma county for a couple of years now,and gut feeling is that we are going to see a bigger drop this year than even mostb bears expect.I base this on the number of people who will have to sell due to resets and helocs,the very large number of foreclosures i see coming,and the inability of many to refinance...not to mention the fact that real estate and appraisal fraud will be front page news many imes in the coming months.all these factors together will have the effect of changing the attitude toward real estate of both prospective buyers,and those who provide the money for jumbo loans.california is almost all jumbo loans and none of that comes from GSE's...which means it can go away right quick...either throughcresed down inpayments being required or by charging a rate commensurate with the percieved risk.having spent a dozen years in risk management,i would like to emphasize that the "percieved" risk ALWAYS differs from the actual risk,that the people who decide the appropriate margin are quite incestous,and their decisions are based as much upon what they hear at the "right" parties as they are on any charts,graphs or other reasonably factual data that may be presented to them.BTW talking like this for the last two years did cost me one job,but my business is picking up a bit,being honest is beginning to pay off.

Dr Housing Bubble said...

tom stone:

Good to hear there is honest brokers out there. We appreciate your insight into the industry. No doubt, there are many ethical brokers, agents, and lenders but being a real estate agent for a few years, I saw more on the “shady” side than on the good. Who can blame them? You don’t get paid unless you sell so unless some outside body is governing you, why police yourself? It is the case of meeting the expectations of your peers. In graduate school we learn that we at times we reflect the values of those that are directly in relation to us; essentially you lie with dogs you get fleas. But in this case, unless some outside force imposes sanctions and restrictions the fraud will only get worse because you may not commit fraud as a broker, but there are two others who will. There basic psychological need of survival will propel them to sell no matter what. It is human nature to protect your self-interest; very few lift themselves beyond this basic level of being to help the greater good, even at a cost to themselves.

It is interesting what you say about Sonoma County. What are you currently seeing? New buyers? Interest only? Percent down-payment? What percent is business off from last year?

I’m sure many on this discussion would like to know what someone in the trenches is seeing.

Thanks,

Dr. Housing Bubble

tom stone said...

Hello Dr bubble,yes we are seeing new buyers,mostly I/O loans,the builders here are offering substantial incentives and below market rates through their captive lenders.we also see some builders offering a year with no payments.construction quality is very poor.refi applications are up quite a bit,approvals are down because there are now minimal underwriting standards.we also have quite a few people who cash out in the Bay Area and pay cash or close to it for homes in the better areas of the county...we have an hourglass economy,which skews the median quite a bit.in some cases i won't bother taking an app,why waste time?I did that today,a couple who bought a dozen years ago,used the home ATM,last refi a year ago to 90% with a teaser (now 9.6%,oops),and one of them lost their job,urrk.so,only one 6 figure income now,and a mortgage late.oh,and the home has lost a bit more than 10% in value...I told them i saw two alternatives 1) call Rob down the street whose friend skippy the appraiser is always willing to help,and get another loan you won't be able to pay,or call a good BK attorney NOW.oddly they didn't thank me.Oh and about 15%-20% of loan brokers are both honest and competent.about half should be in prison.soon,please.

tom stone said...

the first time buyers around here remind me of the folk's who drive around the barrier at a railroad crossing,the lights are flashing,the train horn is blaring,but they pass 10 stopped cars by driving on the wrong side of the road,the stereo going full blast playing "don't worry,be happy".there are differences,the idiots at the railroad crossing might make it,and if they don't,they remove themselves from the gene pool,benefitting society.

IrvineRenter said...

Tom Stone,

Thanks for sharing your perspective. It's nice to here what is going on in your world. You will be at the front line of the coming collapse.

I work in land development, so I see what is happening at the wholesale level. It's not pretty either. The builders are still dumping properties and taking some big haircuts.

Dr Housing Bubble said...

Tom Stone and IrvineRenter:

Since both of you have first hand experience in the trenches I'm putting together a post from multiple authors including blog writers. If you like, send me an e-mail regarding your first hand knowledge at drhousingbubble@hotmail.com and I'll include you in the post.

Thanks for the information.

Best,

Dr. Housing Bubble

Anonymous said...

At 8:58 AM, February 02, 2007, Dr Housing Bubble said...

irvinerenter:

I agree with your statement about the increase in number of interest only loans. My sense is that people are more willing to purchase ANYTHING on credit. So often I see people charge a $1 hamburger at Burger King or a $5 latte at Starbucks. What happened to cash? These aren't even debit cards.

Not sure if it will be sticky either. If anything, many subprime operations are going down in flames rather quickly.

Okay, I am one of those rare folks that does not own credit cards, nor do I have a car loan, etc. So, it is with great interest that I watch the implosion of the US economic system mainly from the sidelines. I am also mystified by those that pay for a burger, gas or a latte with a credit card. I like cash myself. I took some good advice back in the mid 90s and started putting up beans, water and other goodies, notably silver (which I have done very well on). The advice that I got looks better and better as time goes by. No way would I be in California these days, not with the water crunch that is coming, not to mention the economic situation which includes the state support of millions of mexicans.

I enjoy the Dr. Housing Bubble blog a lot. I wanted to share a few resources that you or some of your readers might find of interest. Some of these sources tipped me to the housing/subprime problems last fall.

(Possible bailout by Congress on subprime fiasco:)
http://www.marketwatch.com/news/story/emergency-funds-proposed-subprime-crisis/story.aspx?guid=%7BBD993ECB%2DC722%2D4616%2DBCE9%2D386ED004DD7D%7D

http://www.timebomb2000.com/vb/showthread.php?t=237366
(ECON - Just another DOT: NASD issues rare warning to investors)

ECON - Weakness in Capital Spending In Addition to the Housing Sector Will Be a Force......
http://www.timebomb2000.com/vb/showthread.php?t=237360

One of my favorites:
http://www.321gold.com/editorials/daughty/daughty040407.html

Lots of articles here, including water pinch that is coming to the West of the US, also kitco box and interesting story on Iran attack against the dollar:
http://www.stevequayle.com/index1.html

I remember well the S&L fiasco, though the US is in much worse financial shape now to try and weather a financial storm brought about by insane home sales and lending practices.