Tuesday, January 27, 2009

Charles Hugh Smith says...

...the housing market is even more unaffordable and unrecoverable than we thought previously. This article as a lot of good charts and graphs if you are reasonably acquainted with economic statistical analysis. If you're not, I've posted a couple of the simple ones below.

Of Two Minds.com
Endgame 6: Housing As Shelter, Not Speculation
(January 27, 2009) Charles Hugh Smith

As housing and real estate continue to decline, the questions arise: how low will it go? When will it hit bottom? There are powerful reasons to suspect the answers are: much lower, and not for quite some time.

San Francisco is the example case here, but the general bubble structure and shape of the graph can be applied to any current real estate market in the US (and the UK, for that matter).

...We are now approaching "the last gasp of the bottom fishers" which I now expect to last into 2010--that is, everyone has accepted that 2009 will be a year of deep recession, so they're busy buying for the "upturn" which the MSM is predicting will begin in 2010.

The MSM will be as accurate in that prediction as they were about Lehman Brothers or the housing bubble imploding. Bottom-fishers who snap up "bargains" in 2009 (as noted above, houses which once sold for $470,000 can be had for $200,000--such a deal!) will be finding in 2010 that market rents (assuming they're even able to rent their bargains without spending tens of thousands of dollars in repairs) are not even paying their costs of ownership, and so they'll be trying to dump their "bargains" purchased for $200K for $150,000--and finding few buyers.

Even my wife is skeptical of my longstanding calls for housing in once-hot locales to bottom at 10% - 20% of their bubble-era valuations. Thus on the chart above I indicate that a house which sold for $470,000 at the bubble top may well fetch a mere $70,000 at the final saucer-shaped bottom.

(That is, the bottom will not be marked by some sharp capitulation as occurs in the stock market; the bottom will last for months or even years, and the recovery will be akin to watching paint dry.)

I reiterate that this is a prediction based in history--which means that it may not happen, but that the possibility falls solidly in the realm of historic fact. In the depths of the Great Depression, highrise buildings in Manhattan sold for about the value of the elevators: roughly 10% of the cost of the entire building's construction.

In areas with decreasing economic opportunities such as greater Detroit, houses are already sold for $1, and many are listed for less than $10,000. Prices in Manhattan, Honolulu and San Francisco have softened, but watch what happens when global tourism dries up and blows away to a mere 5% of its previous traffic, and what happens when the financial-services sector of the economy shrivels from 18% of GDP down to 2 or 3%...

...As the economy shrinks, as lending tightens, as deflation eats away at assets and as stock and bond declines wipe out pensions, then we have to ask: how long might this real estate recession last? If the answer might be 10-12 more years, then the natural question becomes: why buy now and have your capital trapped for a decade or longer?

...So when does housing finally bottom? In my oft-stated view, two conditions control that timing:

1. Housing must be widely viewed as shelter, and be totally discredited as a speculative vehicle for wealth creation.

2. Market rents must provide a buyer/investor with an absolute cash-accounting positive return, that is, after all repairs have been made and all costs of ownership have been tallied without tax-related legerdemain. This calculation must also include vacancies, i.e. the reality that the dwelling may not be generating income 365 days a year.

When these two conditions have been met, then we'll be somewhere in that multi-year saucer-shaped bottom in housing/real estate.

This issue had come up a couple of years ago, I believe, so I'll revisit this issue for you: Your truth in lending statement that you got when you took out the mortgage on your house shows that when your entire mortgage is finally paid off, you will have paid 2-3 times the purchase price by the time interest is added in. In order for you to actually make a profit on a house, you have to sell it NOT JUST for more than you "bought" it for, but for more than you ACTUALLY PAID in principle and interest payments, PMI, taxes, homeowner's insurance, all repairs and all maintenance and all redecorating and updating over the entire time you owned the house.

In other words, very few people have actually earned a profit buying a home, and for the next couple of decades (or so), nobody will. The point of buying a house therefore has to be considered for the ability to have control of the property, whether or not the property can be sustainable for you (victory gardening, home office, cottage industry, passive and active solar, sound construction, wind turbine, energy efficiency, proximity to mass transit or work, groceries and other errands, etc.) in other words, a place for your kids, grandkids, and parents to actually live in, not as an investment - at least not for the foreseeable future.

This puts the vast majority of people in a tough spot, because when they bought the houses, they weren't thinking of it as something they'd be stuck with for 20 or 30 years, they thought of it as something to flip and make money off of in 5 or 10. That bird, however, as flown - and then some. The new reality is that most people owe more on their homes than they can sell it for, much less recoup all the interest, taxes, etc. And worse, little consideration went into choosing a house that could deal with peak oil and climate change and a collapsing economy. House prices will keep falling because these problems have to be worked out of the system - painfully worked out, since very few people live in a home that actually MEETS their sustainability needs (economically or otherwise).

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