US Housing Crash Continues
San Francisco Bay Area Hit Hard
Wed Aug 9, 2006
Why?
Prices disconnected from fundamentals. House prices are far beyond any historically known relationship to rents or salaries. Rents are less than half of mortgage payments. Salaries cannot cover mortgages except in the very short term, by using adjustable interest-only loans.
Interest rates going back up. When rates go from 5% to 7%, that's a 40% increase in the amount of interest a buyer has to pay. House prices must drop proportionately to compensate.
82% of recent Bay Area loans are adjustable, not fixed. This means a big hit to the finances of many owners every time interest rates go up, and this will only get worse as more adjustable rate mortgages (ARMs) get adjusted upward. Nationally, about $2 trillion of ARMS will adjust their rates to much higher levels this year and next.
A flood of risky "home equity loans". An adjustable-interest home equity loan is often a serious mistake. These loans do not have defined limits on interest demands. When the interest rate adjusts upward, it can double monthly payments, forcing owners to sell.
Massive job loss. More than 300,000 jobs are gone from Bay Area since the dot-com bubble popped. This is the worst percentage job loss in the last 60 years. It's worse than Detroit car problems or Houston's oil bust. People without jobs do not buy houses and owners without jobs may lose the house they are in. Even the threat of losing a job inhibits house purchases. Santa Clara County posted its fourth straight year of job losses in 2005, so it's not over yet.
Salary declines. From
http://www.mccallstaffing.com/need/needsal.html we hear that "salaries have in fact returned to 1997 and 1998 levels." Local household incomes are not even half of what they need to be to sustain current house prices, even with both husband and wife working.
Population loss. San Francisco continues to lose population at the fastest rate of any city in the US and most of those are professional jobs. The problem is not only the dot-com crash, but also the outsourcing technical jobs to India, which continues at a frantic pace as corporations realize they can pay an Indian only 20% of what they must pay a similarly qualified employee in the Bay Area. Fewer people in the Bay Area means less demand for housing. It recently cost $3623 to rent a UHaul from San Jose to the midwest, but only $1800 to move the other way. This is because far more people are moving out of the Bay Area than are moving in.
Stock market crash. The NASDAQ at about 2000 is still only 40% of the 5000 it was at the peak of the recent stock market bubble. The crash in the NASDAQ probably hit the Bay Area harder than anywhere else because of all the stock held by employees of tech companies. That money would have been spent on housing, but is now gone.
Extreme use of leverage. Leverage means using debt to amplify gain. Most people forget that losses get amplified as well. If a buyer puts 10% down and the house goes down 10%, he has lost 100% of his money on paper. If he has to sell due to job loss, he's bankrupt in the real world. Even a small price decline will bankrupt buyers with small equity. Buyers foolish enough to buy with no money down are already bankrupt, but still unaware of the fact.
House prices do not even have to fall to cause big losses. The cost of selling a house is six percent. On a $600,000 house, that's $36,000 lost even if prices just stay flat.
Shortage of first-time buyers. According to the California Association of Realtors, the percentage of Bay Area buyers who could afford a median-price house in the region plunged from 20 percent in July 2003 to 14 percent in July 2004. Strangely, the CAR then reported that affordability fell another 4 percent in 2005, yet claims affordability is still at 14%.
Surplus of speculators. Nationally, 25% of houses bought in 2005 were pure speculation, not houses to live in. It is now possible to buy a house with 103% financing. The extra 3% is to cover closing costs, so the buyer needs no money down. All this is on the unwise assumption that housing will rise ever higher, covering interest payments through appreciation. Even the National Association of House Builders admits that "Investor-driven price appreciation looms over some housing markets."
Lightbulbs going on in many brains in the Bay Area: "Hey, I can move to New Mexico or Oregon, buy a gorgeous house outright, and comfortably retire on the price difference. My neighbors just did it, so I'll have friends there too."
Trouble at Fannie Mae and Freddie Mac. They are now being forced to tighten up sloppy lending. This means they are not going to keep buying very low-quality loans from banks, and the total money available for buying houses is falling.
The best summary explanation, from Business Week: "Today's housing prices are predicated on an impossible combination: the strong growth in income and asset values of a strong economy, plus the ultra-low rates of a weak economy. Either the economy's long-term prospects will get worse or rates will rise. In either scenario, housing will weaken. Caveat emptor."
Who disagrees
that house prices will continue to fall? Real estate related businesses disagree, because they don't make money if buyers do not buy. These businesses have a large financial interest in misleading the public about the foolishness of buying a house now.
Buyers' agents get nothing if there is no sale, so they want their clients to wildly overbid, the exact opposite of the buyer's best interest. Agents take $100 billion each year in commissions.
Mortgage brokers take a percentage of the loan, so they want buyers to take out the biggest loan possible.
Appraisers need mortgage brokers for their business, so they are going to give the appraisals that brokers and agents want to see, not the truth.
Banks get origination fees but have been selling most mortgages, so they take no risk on those loans. They do not care about the potential bankruptcy of borrowers, so they will lend far beyond what buyers can afford. Banks sell most loans to Fannie Mae or Freddie Mac. The conversion of low-quality housing debt into "high" quality Fannie Mae debt with the implicit backing of the federal government is the main support for the housing bubble. That is ending as Fannie Mae shrinks.
Even for loans that banks keep, they have a motive to lend beyond what buyers can afford. Banks designate interest as "income" whether they receive it or not. As long as borrowers do not actually default, additional interest owed is counted as bank income, and banks can claim higher "earnings". That is going to end when those borrowers cannot even make the principal payments.
Newspapers earn money from advertising placed by Realtors®, so papers have a strong motive to publish the Realtors'® unrealistic forecasts.
Even worse, Realtors® have a near-monopoly on sale price information, and newspaper reporters never ask Realtors® hard questions like "how do we know you're not lying?" The result is an endless stream of fluffy stories which minimize or just ignore the crash. Asking a Realtor® if you should buy now is like asking a barber if you need a haircut.
Owners themselves do not want to believe they are going to lose huge amounts of money.
What are their arguments?
http://patrick.net/housing/crash.html
