The Number Breakdown
F. Scott Fitzgerald once said that the rich are different from us. To which Hemingway responded, “Yes. They have more money.” There is a fascination in this culture with the uber-wealthy. Take a look at shows like Cribs where opulent wealth is showcased. Tabloid magazines make their money from this cultural fascination. What do the rich eat? Do they shop where I shop? What do they do for fun? Where do they live? If you really examine what it means to be rich, you will find some surprising answers. But first, how many rich people are in this country?:
Household income (overall percent of US households over):
Income Percent of Households over:
Some of you may be surprised to see this data. If anything, it should point out to you that there is not nearly enough of an income base to support the $500,000 median home prices in
Risky Loans and Easy Credit
How can a family earning $65,000 a year, jump into a $500,000 home? Easy. We can lock them into the world of subprime loans. Only a few years ago, it was incredibly easy for a family to go stated income and jump into a 2-year teaser rate mortgage with a 1.25% rate. The rate would adjust but by that time, you could flip your home and make a nice little return. Don’t know how? Just watch the show Flip this House. I remember a mortgage broker telling me, “it is easy to get anyone into any home. All they need is the willingness to find a place and sign.” He even told me about his ability to squeeze in families with $50,000 incomes into $500,000 homes and got joy how he was churning $10,000 a month in commissions. That was 2005. Fast forward to 2007. He is no longer working at the company since it imploded early this year. When I last talked with him, I asked him what his plans are now that he is unemployed. “I’ll go work for another lender but one that focuses on foreclosures. That’s the next big market.” Didn’t want to burst his bubble but in a bear housing market, sales drop massively therefore cutting into the churning of transactions. Therefore, his $10,000 a month will only be seen again if he has some advanced college degree or sells crack on the streets. Ironically, this person has nothing saved up after 3 years of being in the business and making $100,000+ each year. The product of conspicuous consumption and financial irresponsibility – easy come easy go.
This is only one case of many. The person above is young. But so many people got caught up in this housing frenzy and believed it was a ticket for easy street. They under funded their retirement accounts in belief that Social Security will be there for them. But think about the culture of credit that they blossomed in to. They entered the workforce with a national negative savings rate, credit cards being given out like candy at colleges, and cash becoming almost a thing of the past. People even pay for $1 cheeseburgers at McDonalds with a credit card! So is it any wonder that they have no fear issuing out or taking on absurd mortgages? Credit will always be there for them. It was there in the past, why not in the future?
Age and Culture Conflict
I have a colleague telling me how buying a home is always expensive. He tells me about earning only $30,000 a year and buying a home that cost $110,000 back in 1988. He is also proud that he would not be able to afford his current home if he bought it at today’s market value. It is a sense of pride that he can’t afford his own home, “if I were in the market today, I wouldn’t be able to afford my own home!” This from a baby boomer nearing retirement with a locked in pension. Looking deeper into the income stats, we realize that the top earning households are those headed by working baby boomers. The exact range of top earners is 45 – 54. The conflicts of managing a high cost of living seems to be disconnected from those from the 25 – 39 age group. For one, we do not have the luxury of having a Social Security safety net, therefore many of us actually have to over fund our 401(K) if we do not want to live off government cheese. Yet we pay 15% of our income into a fund we will not see. Not only that, but many companies are now eliminating defined pensions and passing on the cost of health insurance to the young working class. The cost of living is much higher even though incomes on the surface may seem high for young working professionals.
In addition, housing has never been this expensive in relation to income. Even though buying a home may stretch a family’s budget, anyone buying a home in today’s market would need the flexibility of Gumby to purchase a starter home. There is a generational divide in our culture. Many young folks feel they are getting advice from a person that has a locked in retirement, years of Social Security, and locked into affordable housing – things that are not in our lexicon. These items are remote to any young professional. So the “live and spend” culture of today has some direct correlation to the psychology of both generations. Even though I disagree with this mentality, I can understand where it comes from.
Yet this housing market also affects baby boomers. Many are counting on their equity in their home for retirement. I’ve talked with many people telling me that in 5 years when they retire, their home will be worth $1 million and they’ll use the equity to downsize. When I ask them how they know 10% annual appreciation will occur from 2007 to 2012, they reply, “real estate always goes up.” So not only does this housing market hurt families looking for a starter home, it also hurts those nearing retirement with an inflated few of their home and a perceived idea that a built in safety net will always be there for them. In general, the young overestimate the difficulty in paying back large amounts of credit (i.e., buying a $50,000 car) and the older generation underestimate the need for a larger retirement nest egg (i.e., American’s nearing retirement have an average nest egg of $50,000).
In the end, looking at income numbers, home prices do not justify their current market rates. These rates are inflated on bubble psychology and easy credit that is slowly evaporating. The market will contract and a major shift in cultural psychology will occur.
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