patrick.net

EBGuy,

SF has a very small sample size, we'll have to watch trends in the city. Sonoma's looking grim. Every other house up there seems to be for sale right now.

Here's the thing. So commodities and housing are the traditional hedge against inflation, but to some extent both are already very expensive. I'm with some other readers who were wondering whether it's worth bailing now when it will be expensive.

Generally you want to buy into things before they get expensive, but if you're diversifying now, haven't you already missed the boat? I'd hate to buy gold now and then watch as the dollar value of gold declines while the dollar slowly gains value over the next decade.

I guess it comes down to whether you think the dollar will lose substantially more value (buy gold) or whether you think the dollar will start to regain value (stay with the dollar).

I have no idea.

The Decision Strategist,

At this point I'd settle for "under valued". Never mind potential for upside, just not... over valued.

Hmm, the nuclear option...

http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2007/08/07/bcnchina107a.xml

SFWoman,
Keep us apprised of the situation in Sonoma; I do miss Athena's(?) first person reports on that region.
I am not in doubt that the Bay Area is burning down, but I hold that the price(TIC)-to-rent ratio is the metric to watch in the City. Once that goes, the rest will start to fall. ... And about the only way that is going to fall is if rents go down, which could happen for two reasons: the rest of the Bay Area has burnt to the ground (real estate falling, not actual burning) or enough new condo-to-rental inventory hits the market. Or a recession. At this point SF seems to have an inventory problem (as in, not enough).

Yes the women are beautiful in central europe. Our great ally during WW2, Communist Russia, raped about 300,000 women leading to about 100,00 births. The Germans and central europeans were very concerned that they would get f-ed before WW2. It wasnt until after.... We choose our allies in an interesting way......

Here is an interesting view of the current financial situation in US: http://www.moneyandmarkets.com/Event/p225-75893.html

EBGuy :

hold that the price(TIC)-to-rent ratio is the metric to watch in the City. Once that goes, the rest will start to fall.

Not sure I understand your point. TIC = Tenants in Common ? Are you comparing condo PITI to rent ?

I think this chart is interesting because all the Federal Funds rate cuts in the early 90s did not stop real estate (particularly California real estate) from imploding...

http://www.federalreserve.gov/fomc/fundsrate.htm

Are you comparing condo PITI to rent ?
No, much worse than that. TIC PITI to rent. You have to understand that SF city govt has done everything in their means to stop the conversion of rental stock to desirable forms of ownership likes condos (or coops) so, with the advent of fractional TIC loans, TICs have emerged as the bottom rung in the ownership ladder.
And for some reason I have become the waterboy for why SF is special on this blog. I guess I am just trying to understand the world around me a bit better :-) I have a hard time envisioning a scenario where SF doesn't eventually sink like the rest of the country (and Bay Area), but they will manage to keep their heads above water longer than the rest. According to Socketsite, their inventory is still lower than last year. Now isn't that special.

"TICs have emerged as the bottom rung in the ownership ladder"

That has got to be the worst thing I have ever seen. Take a house for $400K and sell quarters for 25% above cost. I cant imagine anyone
will want to even walk into this TIC pest as prices decline, unless its a
half way house. Realtor marketing has gone nuts... they need their meds.

I'm glad I signed up for a 13 mo. CD at 5.5% last month. Too bad it's only the FDIC max. 100K. I should have converted two of my bank money-market accounts over to CDs too.

EBGuy - Or jobs move out, as they have...

One of the biggest hits to home prices in early 90s was when Bank of America left San Francisco. No one saw that coming. Lots of people started to sober up!

I don't see what is wrong with TICs, with the individual mortgages on them they just seem like the poor man's coop to me.

I think the marginal areas of SF will be the first to crack.:
http://www.socketsite.com/archives/2007/09/perhaps_its_now_priced_to_rent_841_webster_returns_1.html

Bought January 2005 for $650,000
according to propertyshark lots of permits taken out and work done on the house
'failed to sell at $989,000 despite four months on the market'
now availible to rent at $4950

Anybody want to rent a house next to the projects that looked like a good idea in 2005?

Of course BofA was later purchased by NationsBank so the HQ was going to move out of SF anyway.

I don’t see what is wrong with TICs, with the individual mortgages on them they just seem like the poor man’s coop to me.
Not a bad deal in SF, and then you can get into the condo conversion lottery. Berkeley used to be okay (well at least the two and three unit projects). After some "reform", now you have to pay a 12.5% affordable housing fee when you convert (and do a lottery if a certain threshold of units apply for conversion). Not so nice! Of course, there are also occupancy restrictions to prevent specUvestor condos. Here is another interesting two unit TIC property in the East Bay. Not a flip as they bought for $205,000 in 1997. They refied in March 2007, though, and took out $825,000, presumably, to do some work to get the house ready for sale... and of course, have some fun money (why wait til the homes are sold)! They are trying to sell for $999,000 after some aborted attempts above the magical $1 million mark. Judging from the current Craigslist ad, they may not be pushing the TIC angle so much these days. Oh, and did I mention, variable interest loan...

Regarding COOP and CONDO, what are the pros and the cons of each?

I'm waiting for that watershed moment to get a beautiful coop/condo that was built in the early 1900's. I can't stand the new constructions. Utterly soulless.

Gotta' love Socketsite! They describe the above mentioned property as:

"Priced to Rent!"

(Damn! Why didn't I... think of that!) It's a perfect play on Peter P's "Priced to SIT!" which of course was based on Realtwhore's (TM) "Priced to SELL!". See how twisted things have become?

The Oregonian revealed today that "The Wyatt" in the "Pearl District" has failed miserably (selling only 53 units) and will now be 100% rentals! Yeah! (And this was supposed to be the "Pinnacle" of the Pearl District?) Oh wait a minute they already have a loft called "The Pinnacle"!

So, no, the inability to secure financing has not been a factor.

Decision Strategist, DinOR:

I gave up trying to outguess the market. Two words: asset allocation.

If you have a decent asset allocation, over time as you rebalance you will naturally reduce positions that have run past where they should be and buy positions that have yet to catch up. I can't tell you how many times I thought I knew more than the market, but didn't. You watch something plunge, think you'll pick it up cheap, only to watch it plunge some more. For example, the way Bill Miller bought home builders last year for Legg Mason. Or, you watch something run up, think it's overpriced and due to correct, only to watch it continue running past any point of return. In my case, that's oil's trip above $30/bbl. I should have just held my nose and bought, and let asset allocation worry about whether I'd paid too much.

DJM,

What DJM said.

I particularly appreciated the "should have just held my nose" part. If I have a fault (and there are many) it's selling early. I'm o.k with that.

I understand Bill Miller's position though, the money keeps pouring into the fund and well... he has to buy SOMETHING!

Thanks for the kind words StuckinBA.

Actually even within the commodity class, there are some bargains to be had. Oil price hit new high, but uranium took a big hit and has not recovered to 2006 peak. Oil and uranium should move in tandem, here is your arbitrage opportunity. US will have to build large scale nuclear power plants, the later we wait, the more we need to pay.

Yen, for example, has not appreciated much against USD and is the only currency among the developed markets that is still under-valued. Here is your opportunity to take a small bet. Japan has aggressively adjusted its export policy to focus on Europe lately, to mitigate its dependence on the US consumer market.

For the believers of gold as a hedge, gold is still very cheap if you look at the price adjusted for 30 years of inflation. In 1974, when the Bretton Woods standard came to an end, gold was 183 an ounce. I used DOL official inflation number to compute the CPI index, using 1974 as 100. 2007 CPI index with 1974 as base is 431. So today's gold price adjusted for 1974 price is 725/4.31 = 168. Today's adjusted gold price is actually lower than the gold price when the US just abandoned the gold standard.

If you look at 1980's average gold price, it was 594. Using 1980 as the base, 100, today's CPI index is 258. Therefore, today's gold price expressed in 1980 term is only 281, half of the average 1980 price, not the peak. It took Volcker 18% Fed rate to curb the rise of gold price and keep it dormant for 20 years. Do I see the Fed raising rate to 9% any time soon? Hell no.

The above brief analysis is only for people who are comfortable to deal with the huge swings of commodity price, and believe in precious metal and commodity as the ultimate hedge against inflation or stagflation.

OO,

Great analysis. Should I buy mining stocks or metals themselves?

OO said:
Yen, for example, has not appreciated much against USD and is the only currency among the developed markets that is still under-valued.

Do you have any thoughts on the 'currency war' theory - that China may try to force the Yen up against the USD in order to make Japanese imports less competitive?

[impressive case for gold in your post, btw. I was wondering if it was too late to hedge with some GLD, but your analysis gave me some food for thought.]

SP,

China has been trying to do this without much success, because currency market is much harder to manipulate than stock market due to the sheer size. Also, its own currency is not freely exchangeable, while most of its reserve is in USD that is being rapidly inflated away, so it doesn't have as much ammunition as people think.

But more importantly, up till next June, Summer Olympics is China's no. 1 priority, so the top imperative is to keep the apparent prosperity up at all costs, and that's why PBOC is not very keen on mopping up the excess liquidity, although it is doing lip service. Fighting a currency warfare is quite low on the laundry list.

However, the biggest problem of Yen is Japan itself. Addicted to an artificially low exchange rate, its knee-jerk reaction is to interfere whenever Yen marches close to the 110 line. What it takes to break the addiction is beyond me, and that's why I only suggest taking a small bet.

The reason why I call Yen artificially low is because the cost of living in Tokyo (outside the top-prime districts) is already lower than that of the Bay Area. I always like to compare grocery and shopping costs wherever I go, and Japan's grocery cost has always been more expensive than the Bay Area except for the last 3-4 years.

Galloping,

it depends on whether you want to take on extra risk of management, mining reserve, hedging positions taken on by mining companies etc. If you just want to hedge, metal itself is sufficient. Obviously mining stocks may deliver a higher reward at a higher risk.

(not investment advice)

GallopingCheetah Says:

> Regarding COOP and CONDO, what are the
> pros and the cons of each?

CoOp Pros: The board has to approve new residents and tends to keep the riff raff out of the building. Cons: When you are ready to sell you don’t care who moves in to the building and it may be harder to find a buyer if your board is looking for a WASP who has a million in cash to buy your unit (many CoOps require all cash purchases)…

Condo Pros: You can sell your unit to anyone and the homeowners ass. can not stop anyone from moving in (even a punk rocker with no job and 100% financing). Cons: You may end up with a building full of punk rockers or people going BK since they can’t pay their mortgage after the teaser rate ends.

> I can’t stand the new constructions. Utterly soulless.

I'm with you on the horrible soulless new construction. One of these days I'll have a nice 20's home in the Bay Area (and if things go really well a Meussdorffer designed full floor co-op in SF)...

P.S. CoOp boards are weird and will sometimes turn down a buyer for strange reasons. One of my parents neighbors (rich WASPs that went to Yale and Stanford) wanted to buy a unit in a prestigious SF CoOp so they had a place to stay after events in the city, but they were turned down since the CoOp board wanted “full time residents” not people that had a $8mm place on the Peninsula who only planned to spend a few nights a month in the unit…

FAB,

Thanks. It seems to me that the best (old) buildings tend to be co-ops. I may just get one when the time comes. A co-op in the city and later a rural retreat with a few horses. I need more money.

OO,

I go for the mining stocks, because I'm a gambler.

Very interesting blogpost. (Found at CR)

http://blownmortgage.com/2007/09/16/do-you-think-chinas-gonna-forget/

When asked if the housing market is going to “come back” he frankly said, “never.” The reason? “Do you think China’s gonna forget [how screwed they got]?”

I am sure you folks read CR's post on Saudi Arabia.

http://tinyurl.com/3cp9jq
(Also has a nice graphics of Ben on a $100 bill)

Some snippets worth discussing.

Saudi Arabia has refused to cut interest rates in lockstep with the US Federal Reserve for the first time, signalling that the oil-rich Gulf kingdom is preparing to break the dollar currency peg in a move that risks setting off a stampede out of the dollar across the Middle East.
...
They face an inflationary threat and do not want to import an interest rate policy set for the recessionary conditions in the United States
...
There is now a growing danger that global investors will start to shun the US bond markets.
...
The risk is that flight from US bonds could push up the long-term yields that form the base price of credit for most mortgages, the driving the property market into even deeper crisis.
...

Thank you Mr. Barnanke. I mean, really. Thanks you.

As a friend of mine says, all fiat currency is plumeting through space; sometimes one goes faster than another but in the end they are all going zero.

Remember the Bank of England sold HALF of their gold at an average price of $307 about five years ago and Gordon Brown was proud of the job he had done. A job indeed! Now the BOE says "no worries" run on the bank(s) no problem we will print more money so your money is safe. Your worhtless money is safe because we can print more.

Read the last FDIC quarterly report. They are quite proud to mention that there were no bank failures. However, more than 50 institutions merged. Why, because they failed! I had accounts at one, it is / was called Net Bank in GA. The accounts were sold/given to Everbank. I closed mine before that change when I saw the sub prime losses and a private placement of stock in the $2 range only to see it trade into the pennys a few weeks after.

No bank failures. You've got to be kidding me! Net Bank FAILED pure and simple.

StuckInBA Says:
Saudi Arabia has refused to cut interest rates in lockstep with the US Federal Reserve for the first time, signalling that the oil-rich Gulf kingdom is preparing to break the dollar currency peg in a move that risks setting off a stampede out of the dollar across the Middle East.
…
They face an inflationary threat and do not want to import an interest rate policy set for the recessionary conditions in the United States

Ditto for Australia, in fact -- facing inflation, and want to increase interest rates, not decrease them. There is not really a recession on due to commodity sales strength. However, I think reports of GDP growth are highly exaggerated also, and most recent GDP growth was due to lending in the property boom...

Commodities have a very significant impact on the Australian economy. When the cycle turns for commodities it will be hard on Australia.

I think AUD is a good bet if you don't have the stomach for a gamble on Yen.

My biggest forex holding is AUD in the form of simple TDs. I was actually very surprised with the last hike on Aug 8, because it was really uncalled for. There was no strong, impending reason for them raise the 6.25% to 6.5%.

I like AUD because
1) it is supported by high interest rate (NZD pays higher but NZ is a much more insignificant country in terms of resources and size)
2) Australia has a very sound financial system that rivals the best, including the US.
3) AUD and CAD are both commodity-based currencies. Australia has the biggest known uranium reserve, ranks in the top 3 for almost every kind of mineral deposit.

The downside is, AUD is the main counterpart of Yen carry trade, so whenever Yen unwinds, AUD suffers. However, the fundamentals of the currency is strong, so after 3 rounds of unwinding, it is right back to near recent high.

I pick AUD over Euro because Euro spans across many countries with different agenda and economic issues, so it is more difficult to keep track.

AUD was freely floated in 1983, as the world just stepped out from the high inflation era. It was trading in the 0.9x in 1983 and gradually came down as inflation subsided. I won't be surprised if AUD reaches above par with USD in the next couple of years, especially if AUD is able to hold off cutting rates and maintain its current spread.

Zephyr,

of course. Commodity is having its turn to shine, and it will retreat again like what happened in history before, giving way to another era of low inflation coupled with high tech breakthrough. This pattern has happened many times.

Each cycle will take at least a decade, if not two, to finish. We are just entering the mid-phase of inflation as of now.

One possible way to play Aus$ is FXA. They also have other flavors. FXY, FXC etc. Do your due diligence. Esp for filing taxes on dividends.

The exchange value of the dollar contains an element of premium as a result of being the world’s dominant reserve currency. As the Euro gains market share for reserve currency status, some of that premium moves from the dollar to the Euro. So the Euro gains and the dollar declines. At some point this shift will stop, and the subsequent value movement will be driven by economic fundamentals. Those factors favor the US dollar over the Euro.

Compared to the Euro the AUD is a more pure play. However, it is an indirect bet on commodities as well. The long-term trend should be favorable, but commodities can be volatile, and do have prolonged downturns.

Zephyr Says:
Commodities have a very significant impact on the Australian economy. When the cycle turns for commodities it will be hard on Australia.

hmm, tell that to China who wants as much iron ore as Oz can provide forever... until demand from China as the world's manufacturer subsides, I'm not sure that those sorts of commodities are going to go in a 'cycle' at all. esp with uranium on the front foot right now going forward probably for decades to come. However, a sensible govt will make sure an economy has multiple strings to its bow, such as being a financial centre (Sydney), tourism (entire east coast), less tangible exports such as English language, education, software, etc...

OO Says:
I was actually very surprised with the last hike on Aug 8, because it was really uncalled for. There was no strong, impending reason for them raise the 6.25% to 6.5%.

Possibly trying to cool an 'overheated market' being either mortgage lending or general private sector borrowing in households or businesses. It's hard to know who they are trying to punish and why with their interest rate lever... Certainly the govt was aghast at the increase due to popularity effects in an election year, and many voters had apparently voted for the conservatives based on their promise to somehow magically control interest rates and keep them low... I know many swinging voters with high mortgages who believed them and voted almost exclusively with the hip pocket nerve are now talking about voting for the other side...

Headset,

The cost of debt is a fundamental cost for everyone because whether you have debt or not, your government has lots of it, and most of the businesses and individuals who sell goods and services to you also have lots of debt. Their interest costs are passed on to you in their prices and in taxes.

So, lower interest rates can lower your costs even if you have no debt. In addition, lower interest rates are favorable to employment.

Different Sean,

Do you really think that China will be immune to cycles?

I do not. And with all their over-investment, rampant corruption and other market inefficiencies, when they do get their inevitable cyclical decline, it will be a big one. In fact, with their existing internal stress and demographics the unemployment from a downturn is potentially a political regime changing event, and a time of risk for war.

BTW, China is the #3 manufacturing economy of the world. Japan is #2, and #1 is the good old US of A.

Justme,

In response to your earlier question: Yes, my personal investment returns are without any IPO windfalls or one-time big deals.

My returns do vary dramatically over time, with some years bringing 50% to 100% returns, and others a loss of 5% to 10%. I make my money by betting big (with lots of leverage) when I think the economy will do well. And I duck for cover to minimize my losses when I expect trouble.

My main investment vehicle is real estate (which is why I lose money in some years). I also invest in stocks.

I only invest long – no shorting, and no puts or calls. When I expect declines I sell to pay off debt and go to cash or bonds (as I did for the entire 2000 to 2003 stock market decline). After a decline I jump in heavily using leverage (as I did with stocks in early March of 2003, and real estate during 1998 through 2003).

My current asset allocation is 38% cash, 36% real estate, and 26% stock. With very little debt, I am poised and waiting for another buying opportunity.

I play the cycles, getting in and out. You know, classic market timing – which any good investment advisor will tell you can’t be done. Well, they are wrong about that.

Most people (and the market in general) tend to be too superficial in their analysis and oblivious to changes until they finally over-react to them. This causes volatility that is a great opportunity for the informed investor who can calmly exploit this condition to achieve above average returns.

As Rudyard Kipling said (roughly): “If you can keep your head when all about you are losing theirs… …yours is the earth and all that’s in it…

If you felt screwed as a saver, don't feel bad. You have been promoted. You will now be screwed as a tax payer as well !

http://biz.yahoo.com/ap/070919/paulson_mortgages.html

As has been pointed out this is worse than the rate cut. Not only the USD is tanking now, but the bond market is going to be suspicious about FNMA issued securities as well. This cannot be good for the housing market. The more they try to help, the more they mess it up.

But let's come to the point. This is not designed to help homeowners and FBs. This will only allow Paulson's former employer to unload some junk during the temporary-yeah-right phase.

You have to admire their talent. Neither Bernanke nor Paulson are fools. They are doing their job perfectly. Only people who call them idiots are those who do not understand what that job is.