patrick.net

I expect inflation will be about 4% in the near future, but will drop below 2% by 2009. So the nominal declines should be about 15% for single family detached homes in the areas like the ones mentioned, and about 25% for condos.

For the countrywide averages I expect prices will be close to flat or modestly increased (0 to 15%) by 2009.

There will be examples and selected zipcodes where much more significant drops will be seen. Of course, there will also be some places where prices will continue to rise even during the worst years. For the most part, the more that prices have recently increased, the more they will decline.

I expect inflation will be about 4% in the near future, but will drop below 2% by 2009.

Which inflation?

The switch by speculators from the buy side to the sell side of the market is the major factor tipping the scale now. Many of these people bit off more than they could chew, and were naive about the realities of the market cycle.

It will take about two years before most of these amateurs will have given up, sold out and gone away. Then the market will have only the real need buyers, and the experienced investors.

CPI, but at such low inflation numbers there is little difference.

I also expect a mild recession to start about one year from now.

On Easier Credit and Tax Deductions…

I think there is some confusion on the topic of how easier credit affects housing affordability. Clearly, easier credit contributes to higher prices. The reason that easier credit drives prices up is that it makes housing more affordable at the same price, which then causes the prices to rise to restore the previous affordability balance (all else being equal). To be sure, the effect (like all market changes) affects some buyers more than others. If credit were more difficult the prices would be lower, but it would be harder for most people to pay them.

The tax deduction for mortgage interest has a similar impact. However, it helps borrowers who pay a high income tax rate more than it helps lower income tax borrowers. The price level is driven up to the middle ground of this effect (probably by about 10 to 15%). People who get very little benefit from the tax deduction lose out because the prices are higher. So ironically, because first time buyers tend to be in lower tax brackets, the tax deduction for mortgage interest may actually make housing less affordable for most first-time buyers. Offsetting this is the fact that the tax deduction clearly favors those who borrow a larger share of the price – a characteristic of first time buyers.

Also, tax deduction causes some people to lengthen mortgage term or use interest only mortgages in order to "maximize" deduction.

Zephyr writes:
I expect inflation will be about 4% in the near future, but will drop below 2% by 2009.

I'm sure this has been discussed already, but isn't taking out a home loan most expensive in real terms when the rate of inflation is low, although the loan interest rate might be low, too?
Main reason being that your monthly payments are inflated down only very very slowly, and thus stay painful (like: "no vacation, no furniture"-painful) for a longer time?

Girgl, The real rate of interest on a mortgage will be higher if the rate is fixed and inflation subsequently declines. However, if you have an adjustible rate loan your nominal rate would (normally) decline along with the decline in inflation (and rise with increasing inflation) keeping your real rate somewhat stable over time.

As borrower you should prefer a fixed rate when you expect rates to increase substantially in the future, and an adjustible rate when you expect stable or declining rates. In the very long run borrowing with a fixed rate is significantly more expensive than using adjustible rates because of the premium you must pay for certainty.

I financed all of my property with fixed rates prior to 1987, and switched to adjustible rate loans thereafter.

Zephyr says:
In the very long run borrowing with a fixed rate is significantly more expensive than using adjustible rates because of the premium you must pay for certainty.

Interesting! I had never really thought it through to that depth. Certainly makes sense.
So if you assume that the trend towards a world economy based on free trade does not reverse (and there are people who state there's a long-term cycle between free trade and a more closed world economy), the deflationary pressures brought forward by globalization and increased productivity are here to stay, and thus interest rates will stay low for quite a while.
At this point an ARM mortgage might be the better choice.

At this point an ARM mortgage might be the better choice.--Girgl

Don't count on it--interest rates are still at historically very low levels right now. Globalization cannot continue to make things cheaper forever because globalization requires energy to run on. Energy being a limited natural resource necessitates a long-term upward trend in its' price. Furthermore, the new FED chief has long declared deflation as the devil and basically will not allow it to happen no matter how much money he has to print.

I agree that markets tend to revert toward the mean. However, the key question is determining the mean value. The market mean shifts with time as the underlying fundamentals evolve. What was a valid mean a few years ago at higher interest rates and lower GDP will no longer hold true today.

Look at some other areas for comparison -- medical expenses have risen faster than GDP and inflation for decades. Must these costs collapse in order to revert to the mean? Not likely. The economics have evolved – the mean value has shifted. How about college tuition, which has increased even faster than medical costs? Will there be a collapse in tuition prices to revert to the mean? No. There are sound economic and demographic reasons for the continued real increase in tuition prices. The mean value has shifted.

People who currently forecast serious housing price declines do so based primarily on the fact that prices have gone up so much, along with easier credit and speculator activity. These are all significant considerations. However, it is not enough to focus on the imbalances that come with the temporary exuberance near the cycle peak. One must also examine the evolving nature of the fundamentals that drive real housing demand. There will be a decline, but how far depends not only on the current frothiness but also the underlying enduring fundamentals.

While the easy credit and flippers have been getting all the attention, nearly all of the bubble trackers have neglected to look at the shifts that are taking place in our economy and our population.

If you study the demographic profile of our country you would see that the age distributions are such that we are about to experience a significant increase in household formations, and an accelerated shift toward higher average age of the population. The propensity to own goes up with age, as does income and wealth. This means that we will have significant growth of real demand for owner-occupied units in the coming years. So the mean value has been rising underneath this frothy market, and will mitigate the magnitude of the decline.

The housing-price decline that seems to be starting now will be short-lived and less severe than usual. This mild correction will be followed by an unusually strong market thereafter.

Girgl, ALL of my debt is adjustible.

We have finally exited a three decade aberration in interest rates. The normal world has finally returned. It only seems abnormal to those with a shorter sense of history.

I expect short-term rates to rise a little further in the next six months or so. Then the cycle will likely turn and rates should decline. Between 5% and 6% is a realistic long-term sustainable level for the 30 year mortgage interest rate. This is the mean value for the reversion tendancy. ARMs should hang around 4% for most of the next decade.

I wish this low inflation and low interest rate scenario would not happen because higher inflation is very friendly to my investment strategy and positions. However, all of the data and economic forces point to this low inflation scenario for the longer term. So I will adjust to it... We can't change it through wishful thinking.

If you study the demographic profile of our country you would see that the age distributions are such that we are about to experience a significant increase in household formations

You Sir are a fucking idiot.

Leveraged ownership of real estate and stocks. Debt declines in real value as the assets rise in nominal price and real value. Moderate inflation accentuates the economics of this position, and rising inflation enables one to achieve lower real interest rates, as the debt markets lag the shift.

Surfer-X... Thank you for the compliment.

One must also examine the evolving nature of the fundamentals that drive real housing demand. There will be a decline, but how far depends not only on the current frothiness but also the underlying enduring fundamentals.

Huh?

If it were women and children I would feel guilty. But I know that it is just a bunch of bay area types who are as selfish as I am and, hence, when the screw gets turned on them it brings no pangs of guilt.

There should be no guilt whatsoever. Money ought to be amoral. Market participants ought to be apathetic.

If you study the demographic profile of our country you would see that the age distributions are such that we are about to experience a significant increase in household formations

If that is the case rent will go up extraordinarily. Once it is confirmed that such fundamental change overpowers the effects of the credit cycle, I will probably buy.

On the other hand, credit and markets do tend to affect the fundamentals. I will not be surprised that "household formation" be muted by "market conditions".

Moreover, one can argue that the current boom was caused by the anticipation of the "householf formation" going too far.

We will see.

If you study the demographic profile of our country you would see that the age distributions are such that we are about to experience a significant increase in household formations

FYI, here's a graph on population demographics.
I see a bulge past the usual "household formation" age
http://tinyurl.com/7r4pe

Zephyr, can you explain why the rate of household formation will increase?--flak

I would really like to hear that too Zehpyr. I agree wholeheartedly with basically everything you said EXCEPT for this about the demographics pointing to increased household formation. I don't see that in the data. I thought the demographic trend was toward an aging, larger population of boomers followed by a much smaller younger generation (even if you clump together Gen X, Gen Y, and the new breed coming up now), most of whom have already bought in to the RE market. And of course, many boomers own TWO homes. I don't see how we get to increased household formation going forward from where we are now.

More reaons why it is good to be a renter.

Homeowners' insurance: 10% to 35% more
Heating costs: 20% to 40% more

I don’t see how we get to increased household formation going forward from where we are now.

Especially given the fact that many have put off having children in order to be able to buy an overpriced shitbox.

I'll let ya'll know how this one works out:

Your Day Buy to open order for 1 TOL Dec 35 Put at a limit price of $0.95 was executed at $0.95. See order # 6 for details.

Gambling on the housing market is fun!
Disclaimer: options trading is not a viable long-term investment strategy for most people. Actually, it is risky and stupid, but it's more fun that the horse track! And better odds if you have some clue of what's going on...

Especially given the fact that many have put off having children in order to be able to buy an overpriced shitbox.

Exactly. Current conditions have really stunted a "normal life" for many in the bay area.

"People who are involved in raising the next generation are typically paid far less than they would make doing something else. You can earn more, for instance, teaching real estate than (teaching school).

Figures!............We need to hand out pins to the workers in the condom factories!

Funny thing, people want bigger houses yet they don't want children.

The MSN article is about a book by Phillip Longman, THE EMPTY CRADLE: How Falling Birthrates Threaten World Prosperity And What to Do About It.

The thing about this particular book is it contains some pretty good demographic research and is probably correct about the world's long term population trends. Where Longman falls short is in the over-broad conclusions he draws from that trend --namely, that a falling population will somehow "threaten" world prosperity.

Longman is definitely a student of the anti-Ehrlich "prosperity equals population growth" and "quantity over quality of life" school of thought. If anything, decades of environmental and economic research suggests the exact opposite conclusion: that smaller families and less population growth correlates with a rising standard of living and less environmental degradation. This makes sense, as smaller families can devote a greater percentage of their resources towards improving their overall quality of life (education, health care, sanitation, etc.) as opposed to the bare necessities for survival. If you are a typical parent in a third-world country, how much do you have left over after providing basic food and shelter for you and your 12 children? Your kids are probably not going to finish elementary school, much less college, and forget about health insurance.

The world's human population has already reached staggering proportions (6.4 billion+) and has gotten so large that the environment may already be stretched to the breaking point. Exactly how much more population growth do we really need? How about economic "growth" via an improving standard of living for those who are already here?

Exactly how much more population growth do we really need? How about economic “growth” via an improving standard of living for those who are already here? --HARM

The reason we have these downward pressures on population growth particularly in the developed world (i.e. dis-incentives to rampant procreation) is just economics at work. Downward pressure on growth would not exist if the current system were not stressed at this point on the demographic curve--the system is trying to create an equilibrium at a point of lower population.

In addition, economic "growth" can still occur given a static or decreasing population level, however it is called "increased efficiency" instead of growth when this occurs. Technological advance and ingenuity does design ways to run the economic system of the world on less manual human labor, at which point efficiency is increased and a larger population is unnecessary. On the contrary, the larger population creates "diminishing returns to scale" whereby too many people actually strain the system and hinder its' smooth operation (think: too many cooks in the kitchen getting in each others' way).

Sorry if I bored anyone to tears with that little diatribe. I was an Economics major and actually find this stuff extremely intersting. :)

Double jeopardy for landlords

do you guys still think a bubble exsists? did you read ww.ReyEstate.com’s theory or UCLA’s Forecast report yesterday? Ouch, tough pill to swallow eh guys?

There will soon be no bubble in housing.

Lobster rules!

"SpendingURRent" -- what an F'ing idiot you are. Of course I read the report, the difference between you and me is that I don't need to take "hooked on phonics" to comprehend an economic report. Your chosen screenname alone belies your idiocy--there is no mortgage available in the entire Bay Area that charges less in monthly interest than I currently pay in rent. And that's just the interest expense of home-owning. So who's spending what? It's idiots like you that inflate asset bubbles in the first place--markets only deviate from fundamentals when their participants are irrational. Good luck off-loading your condos at break-even.

SpendingUrRent, do you happen to know a restaurant in SF that serves fugu? I want the whole meal: sashimi, nabe, skin, "white roe".

maybe i can form an asset bubble with lots of crap postings around the net on how its the next housing boom … A1337

I know you're kidding, but that is actually market manipulation and can be prosecuted. In addition, if you had a professional investment designation such as a CFA, you would be stripped of it by the CFA Institute if the spreading of information (even on the internet) was traced back to you. No joke.

maybe i can form an asset bubble with lots of crap postings around the net on how its the next housing boom …

Physical gold is a small asset class though.

How did SpendingUrRent miss this?

http://news.yahoo.com/s/ap/economic_forecast

He only reads what he wants to hear.