patrick.net

The US Treasury must rollover 1 trillion dollars of short term debt this year and 1 trillion next year.

This is because they took advantage of low interest rates in years past to finance the national debt with short term paper.

Because of this, bond yields will continue to rise for years to come; even if the fed stops raising interest rates. This means that mortgage interest rates will continue to rise as it becomes more and more difficult to float all that paper.

The debt service for the national debt will cause massive spending cuts or taxes to rise. Where will the money come from if taxes rise?

Here’s a thought. Before Regan took office, corporations were paying 32% of all revenues collected. Today corporations contribute only 7%. Should corporate contributions be ratcheted back up to pay for the shortfall?

It all boils down to the job situation, and the job situation boils down to how much the US consumers can still afford to keep spending, just a reminder, our consumers account for 2/3 of the US economy.

So I say housing price in SoCal will come down at least 50% in general, I always laugh when I heard people saying that LA has a supply problem, WTF are they talking about. Bay Area is the only place on the west coast with a true supply problem because the valley is confined by natural mountainous barriers on both sides, so desirable pockets of Bay Area may not come down that much, but 20-30% is still very possible. Once you get into places like Tracy, Danville, etc. expect half off at least. The high-end properties north of 2M in the Bay Area will take a serious haircut, there are simply not that many multi-millionaires to support that kind of price, and the last time I checked, 0 down neg-am loan is not offered to a 5M property.

For AZ, NV, oh well, I won't be surprised if I see price shaved off 80% Tokyo style.

The perfect economic storm is brewing.

I for one don't think housing prices would go down by 50% or any such obscene number.

Here is some investing 101 revision.

10% drop wipes out 11% gain.
15% drop wipes out 17% gain.
20% drop wipes out 25% gain.
25% drop wipes out 33% gain.
33% drop wipes out 50% gain.

So, it doesn't have to drop by 50%. I will be very satisfied with 20% drop, which wipes out 25% gain. I think we will have nominal price drop of 20% by 2008. The real problem would start afterwords, as I suspect housing will NOT be able to keep up with inflation at all. I do think, the deficit and money supply problems will cause long term inflation. And at that rates, it will be difficult to "afford" the monthly PITI payments.

Of course, this is just a guess.

Cruiser,

there is a flaw in your argument, where is the money pumped? Because where the pumped money enter the system will largely affect how it will affect prices of different asset prices.

For example, if you drop 100 dollar bill down from a helicopter to everyone on the street, you will see run-up in price for food and normal consumer items. If you pump the money through giving money to major IBanks for free, you see a different beast.

The reason why our inflation is contained is because it was dropped at a more concentrated point through the financial channels, the only way for those few parties who got showered with the free money is to lend it out at an artificially low rate, and hence the realty run-up. Also, that is why you see the stock market, commodity market, bond market all sustained at high levels, because that is where free money is channeled.

However, the run-up in commodity will eventually come back and haunt us in the consumer products, oil is such an important part of our economy not only in transporation but also in plastic containers for different beverages and food...It takes time for the commodity price to work its way through the aisles. When an average family gets squeezed on essential items like gas, heating oil, food, how can he spend much on buying a home, no matter how loose the lending policy is?

So housing price will fall, because housing in the end cannot be disconnected from people's income and pay. Anything that has something to do with our lives has a ceiling set by people's affordability.

There will be an after Christmas sale on houses this year. Everyting 50% off.

To BA,

if you don't disagree that Americans are made of special materials, and therefore entirely different people in psychology and emotional reaction from the Japanese, then housing can easily come down 50%. In fact, in the 1990 crash of SoCal, housing of select areas did come down 50% and more! I have a colleague who bought in LA in 1989, he didn't see his home returning to the original nominal value until 1999! At the lowest point, his home was worth 40% of what he paid. I won't even venture to compare the state of affairs in 1991 to 2006.

You will get your vengeance, just need to be patient. Once the market starts going down, market psychology will again overshoot. I have no problems seeing the nominal value of housing in the bay area return to 2001 price.

Cruser,

The fed can only play its game for so long.

Hate to rent,

The link was on this site. I believe a recent news story.

Not sure exactly where. Check it out.

A news story on The Daily Reckoning site, I believe.

Owneroc,

For the prices to reach 2001, they have to drop by 50%. Even if that happens, it will take a long time - like 4/5 years. Actually, till 2008, I do not see a significant downturn. That's when the ARM resets will happen en masse. I also believe housing prices are sticky on their way down.

Prices in Phoenix are not down much, in spite of inventory explosion. BA is way behind the curve.

The 50% drop you expect - is that real prices or nominal prices ?

Two more interesting facts.

The majority of Americans (More than 50%) earn less money today than they did 5 years ago, when factoring in inflation.

And, the national savings rate is now negative.

I expect 50% price in nominal terms for outlying areas of Bay Area, Tracy and beyond. I concur that it won't happen before 2008, that is why I won't even consider trading up until after 2009, when the ARM reset crest is past.

The saver for America is, people don't have that kind of savings to sustain the negative cashflow. In Japan, personal bankruptcy is considered a shame to himself and his family, they would rather commit suicide than turning the keys back to the bank, plus if one gets into the troubles in a family, everybody pitches in the help. I don't see this kind of culture here, so if there is a blowup, it happens faster. How many Joe sixpacks have enough savings to last 6 months? 12 months? What do you think the average household savings of the Bay Area is? I believe that even for the 250K families, it will be significantly less than 200K after they get into a home, and we know the annual running cost of mortgage + property tax + insurance, mortgage insurance these days for a million-dollar-home Bay Area household.

Prior to the bubble burst in Japan, the average household savings rate was close to 20%, as compared to negative savings rate for the US. For Hong Kong, the average savings *per person* (including kids and infants) was around $75K in 1997. Yeah I know housing is sticky on the way down, but the homedebtor must have enough financial cushion to make it sticky. Therefore, I don't see the average American moron homedebtors have that kind of financial resources to hold on to their homes when the market turns.

I told my family and friends a few years ago;

The next depression will make the great depression look like a picnic.

Some of you may like this.

http://tinyurl.com/m432t

I like the inventory figure for Pleasanton, for example. (Topic of discussion in prev thread) In case you have problems opening the link, the stats are for week ending 3/30.

Listings 139 compared to 56 last year. More than 100% increase.
Pending sales 11 compared to 30 last year. Almost 66% drop.

So I calculate. Ratio of inventory to pending sales has gone from
56/30 = 1.87
to
139/11 = 12.64

WOW ! This is pending sales, a very good leading indicator. I mean WOW.

This is just one week, and may be a particularly bad week. But heck, the numbers are awesome.

George says:
And now, I bring you a letter written to a Florida Broker (ripped from Mike Shedlock’s site)

Is this a true story, or a 'composite' fictionalised picture? Can you source it for me, George? I could certainly use that...

To BA Or Not To BA Says:

Drops and rates...

In mu locality, San Diego, I expect 40% drop. Yes, I know that pretty much wipes out 100% appreciation minus inflation over the same timeframe.

tsusiat,

Hope you don't mind me taking the liberty of supplying artwork for your thread --just couldn't resist with all your steroids/girly man imagery. :-)

George Says:
Here ya go DS

thanks, have sent him a note...

I think I found a property that will break the cuckooness index of the Los Gatos neighborhood.

Here is one property that is for sale at 2.75M, it was bought in 1998 for $270K, no space added, just some kitchen and bathroom remodeling. Must be one hell of a remodel with 10x jump in "value", but judging from the photos, one can only say such a remodel must be very subtle.

Welcome to the dotcom of real estate. Whoever is gonna buy that place for more than 1.375M should have his brain checked out.

Oh, come on... not even one measly comment about the graphic?

OK, $270K sounds too cheap for that neighborhood in 98, must be some kind of truly rundown home that is bought for the value of the land. The land is around 12K, the house itself is only 2300 sf, and the record said it was built in 1934.

The comparable for that home even in today's market won't sell above 1.5M. I don't know why anyone would have such an inflated view of his own home.

Took me 2 hours to Photoshop --was it worth it??

Thanks, George (I think) :-)

Owneroccupier,

If you based your numbers off of Zillow, I have a question about California's tax assessement system. That house is assessed for $861,799.

Every other house in that price range actually looked nice and had good views of the mountains. I couldn't even see a picture of the house you mentioned.

I guess I forgot to include the actual question, which is:

Is the difference btwn assessed value and purchase value the result of renovation? Is it an unrecorded transaction? Or does California due this for houses as a matter of course?

I think it is entirely impossible to judge how far housing prices will fall in the Bay Area. All I can say is that for people like me, married with a combined income of 90k, even the lowest median priced house would need to come down a minumum of 35-40% in order for us just to be able to squeeze into something.I gather hope from this personal observation in that the local average income is around 55-60k for the state, and still just 79k in SF proper. SO there are tons of people making less than us who are probably all doing the same thing.. waiting.Unfortunatly, it seems that there are also way, way more people who make an absolute killing in the area. Doctors, lawyers, executives, etc, all making hundreds of thousands, if not millions per year. I will have to compete against such people with more purchasing power. If I have to bid against Joe Millionaire, I will always lose.
The last report I read showed a minumum of 40% of the homes in the last 3 years having been bought by investors. If that is true, then the severe shock factor that will occur with the immense inventory being puked up will cause a potential panic followed by possible immediate price depreciations as homes are unloaded at an accelerated rate.It will also cause the local supply and demand equation to be heavily thrown off balance because the demand will fall as the supply goes up meaning the "precious" aspect of it will be severely diminished.
The other factor I am watching is how will the economy fare. I am a firm believer that California is losing a lot more business and market share in just about all sectors, and unless legislation like Proposition 13 is repealed and replaced with more reasonable changes that encourage more positive growth, this trend will continue. Ultimatly, it could very well be a sagging state economy that brings housing down since the vitality of the infrastructure will be crippled from a shrinking think tank of young blood and new startups, which will continue to move to other states.
Basically, I think the biggest threat to how low houses will go are people like myself- those who have been sitting on the fence for years now, saving their pennies and dimes, hoping, waiting, wishing the market would fall- even if it means a depression of some sort, just so that we can have our chance. It is sad that we have to hope for otherwise detrimental events in order to better our futures-basically meaning watch the downfall of others so that we can have our piece of the pie. The fact is that EVERYBODY should have their chance, and if you work hard, do good deeds and are responsible, you too should be able to make it here. If this ever blows over, I hope that there will be many questions asked in Sacremento as to what can be done to assure Californians that the next generation after us will NEVER have to go through something like this again.
Lastly, if the boom means that a new price standard has been set, and 500k is now the norm to pay for a small house, then this is unacceptable. I'll pack my bags and get the hell out of here, cut my losses, and get on with my life somewhere else.I hope other talented artists and intellectuals do the same. If artists, writers, intellectuals, and the other kinds of people that rightly made the Bay Area what it is are forced to leave, then so be it. If that be the case, who wants to live here anyway. Tragic really, and perhaps nobody will miss us.

I have a bit of a different perspective on why RE prices are sticky-down. After reading some perspective from FAB a few threads ago I had an epiphany.

F#cked Buyers are likely to get caught up in "escalation of commitment". That is, if you're 1 payment away from foreclosure, you will sell on a "needs-based pricing". You really have nothing to lose, so you're willing to take every bigger gambles in hopes of getting out of the hole you're in. This is well-studied behavior, and hard to argue with since like 90% of people tend to act this way when tested in experiments. These guys are the sticky sellers, not the fast, at any price sellers.

On the other hand there are long-time residents, many of which own all or their home, or most of their home, or used to own it all but took out say 20% as cash in the recent bubble. The key here is they've been long-time owners. They bought for 50%, 80%, 150% discount of today's prices. They may miss the top, but they are likely to consider their "winnings" very differently from the FB. It's very easy to live with, "gee, I should have sold 2 years ago when I could have gotten $1.4M instead of $1.1M, but then I bought this place for $385K in the 80s". Remember, people don't think in percentages, they think in nominal numbers, so the old-fashioned buyer is the guy who really isn't so sticky going down.

Randy H,

So true! I have a client in LA that bought in the late 80's. He owes about 60K on an 900K property. By his estimation, it's not all that special. Now that his mother back in the midwest is getting on he is thinking he may have to sell and move back to help any way he can. Now, if he sells for 900K great! If he sells for anything above 600K that's great too! At the very least he'll walk away with over 500K tax free! His motivations are more about family (and obligations) than they are about money. Would he have preferred to have listened to me and have sold back in "05"? Well sure, but either way he and his wife are going to be just fine and at this point it's more about getting AN offer, not multiple offers.

Randy H,
There are some mitigating factors to your hypothesis. For long-time owners, additional considerations are, if they sell and purchase a new residence in the BA, unless they downsize significantly assessment-wise, or move out of the bubble zone, they are looking at the penalty of significant property tax increases. This is a disincentive to selling. I also wonder how many long-term owners plan to estate their homes to their children, with the exact thought that their children would otherwise not be able to afford a home in the BA. Certainly, this sentiment might change if prices drop significantly. Of course, this is all speculation.

Skibum,
Not sure how much I'd count on folks leaving their houses to the kids. Social security and retirement options will be a thing of the past or in very bad shape come a few years when all the boomers retire. They will need other methods to assure their viality in retirement. I imagine many will sell their home for a smaller home or condo in order to get more financial security. It could get nasty too if there is more than one kid too, since one or the other will have to concede half of the value.

nomadtoons2,

Great observations about Alameda. While I was never stationed there I visited a number of times in the service. Back in the 80's it was a little rough but always a fun place. If you want to see total yuppification you really should visit Portland. They seem to have it down to a science!

Randy, DinOR, George, and Co. have debunked the buying from desperate specuvestor tactic. I want to add a couple wrinkles to the observation.

Firstly, much more likely than not, the specuvestors will lose their bet and the house will go into foreclosure. It seems to me that there will soon be a large number of foreclosed houses, much larger than any market’s ability to absorb them. It seems to me that the best time to buy will be in foreclosure, when there are a large number of houses and a tiny number of cash buyers. (vulture fund solicitations to rich Asians?)

Secondly, watch out for the long time homeowner who withdrew home equity during the bubble. These people may be even more overextended than new home buyers.

Thirdly, prop 13 considerations. The lure of prop 13 might be enough to convince people to stay put.

Dinor,
Yup, it still has a tiny amount of that look and feel. I moved here after 4 years in Berkeley. I like it because it reminds me of the hundreds of little towns sprinkled all over the appalachians back home. Very little of the boue collar element is still here, but many of the businesses are. People are also VERY animate about not tearing down anything. There is a tiny newspaper shack built on the corner of park and santa clara next to the waffle diner. It is from the 40's. One day, the local Elk's club decided to tear off the ugly 80's plastic siding from the shack to reveal and restore to origianl clapboard siding. Locals driving by thought they were tearing it down and complained. When a company bought and decided to restore the Alameda theater, built in 1926, it caused such an uproar that there are signs for both sides: " Say NO to the cineplex!"- and "Bring back the movies!". There is a big worry about gentrification, ironically even amoung the yuppies that are takin over the town. So anything new tha comes down the line and BAM! instant anger. it's ironic because this kind of behaviour is what causes prices to go out of control in the first place. There is a delicate balance between preservation and continuing a tradition of a maintable community for future generations.

nomadtoons2 Says:

"Lastly, if the boom means that a new price standard has been set, and 500k is now the norm to pay for a small house, then this is unacceptable. I’ll pack my bags and get the hell out of here, cut my losses, and get on with my life somewhere else."
_____

San Jose, although historically priced a little higher than other areas in the West, was never this insanely unaffordable. In fact, it was actually affordable to the average dual income family.

Either the Bay Area will become the new, largest Beverly Hills for the world's rich, or sanity will once again be restored.

I think sanity will be restored. Although what's sane in the BA is considered outright insane in other areas of the country.

The worm will turn.

Businesses are leaving; young couples priced out are leaving; peasant illegal aliens are flooding in and...well...we are all watching and waiting for history to play itself out on the California stage of illusion.

It will be an interesting ride, no matter what happens...

One thing is for sure: what happens during the next five years will set the tone for what happens in the next 20 years, good or bad.

Oops, looks like Skibum got there ahead of me on Prop 13.

Nomad's observation is great. Unless the real wages in this country starts shooting up all over (quite unlikely, especially with so much debt to deal with), California should be looking at a 70-80% correction in real dollars in most locations. The houses here are just too expensive for the amount most people make here.

Also, there's way too much BA SFH POS mascarading as upper middle class housing. (I think they should be torn down to make high quality, higher density multi-family housing.) If the majority of the POS housing stock stays, it'll an albatross on LA and BA's long term growth. Why would a young family want to live in tiny 1,000 sq. ft houses no matter what the price?

Also, the amount of price compression in most California markets is crazy. BA SFH under 500K are unliveable, BA SFH under 1M are largely tiny and barely better than apartments. However, once you get past $1.5, you start to get some places that most people anywhere would recognize as nice or very nice.

Once the LV and AZ markets crash hard and fast, I think a lot of the California retirees will make a run for it. Their kids or grandkids already can't afford California. Also, the bubble burst will be economic hardship, and any inflation will quickly eat into the real dollars available to someone on a fixed income.

Robert Cote,

To add to your observations, the practical inevitability of higher energy prices will empty northern cities even faster, the heating cost in much of the country is already equal to people's mortgages. Given that most of Detroit's housing stock is probably quite old and not very energy efficient, they may quickly reach the point of being unaffordable on heating costs alone.

HARM,

Thanks for adding imagery to older posts. Very nice.

My parents will be visiting me and my wife for the first time here in CA. They have never been to California. Truthfully, I'm a little curious what they will think about it.The price of a 800k SFO house is still around 50k there, 16 times cheaper. Her parents came in March and were absolutly amazed at how expensive it was out here. My folks and her parents see things that most californians have been shell-shocked into believing is digestable, which is that unaffordability is a natural given, and 400k is a real "bargain".To them, they'll probably see it from their perspective. It must look absolutly ridiculous.
As far as Prop 13, this thing was only enacted as a temporary fix for what was then heavy property tax in relation to home values. In other states like TX, the tax helps make sure that values can only reach a certain point and then the price of ownership becomes too high. As a result, the markets are more tame there with the exception of inner Austin, which is still in the 300k range. In California, Prop 13 solved one problem, which was to alleviate the tax burden of the then current homeowners, only to place the burden on anyone not owning a home. Basic science comes into play here. You can't abruptly stop one thing and not expect an equal or greater reaction on another level. Ever since the passage of Prop 13, there has been reliable and frequent housing booms and busts, which places a lot of instability in the entire state. This Proposition needs to be repealed and replaced with something that meets both parties in the middle, where homeowners will have to be somewhat responsible for the tax on their adjusted home value, yet not make it impossible for them to pay in a runaway boom either. This way home prices will be tied more to real income and not speculation and risk by means of unconventional loans. Placing a flexible taxation system on homeowners will cause them to put pressure on government officials to build more supply. The name of the game is create an environment where both parties- homeowners and homebuyers will want to equally cover their asses. It is all one way right now, and this is the sole reason for the imbalance.