Since 2007 I have compared the Lafayette housing market with the state lottery. Both have big winners and both are run by the government.
Once in a while a high end home in Lafayette will sell at 2007 peak bubble price. This event can create up to a million dollar gift to the seller above the "present value" or utility value of the home. The short term dysfunction in pricing props up the comparables and allows other sellers to continue the lottery. Historically, after a bubble, "high end" home prices trend downward much more slowly than their "lower end" brethren. Interestingly, most of the "high end" areas of the Bay Area are not trending down to fair value, they are staying close to 2007 bubble prices.
I made up the term "lottery" because I needed a new word to describe this unprecedented economic behavior. Our nation's leaders are desperately borrowing trillions of dollars from our children as they frantically attempt to keep home prices in a bubble. The end goal is for real estate values to stay unaffordable for the future generations that will have to pay off this boondoggle(scheme that wastes time and money).
I am not a psychologist so I don't quite understand why we hate our children as we are attempting to mortgage their future with stifling debt and unaffordable homes. But I am an accountant with a degree in economics so I do understand that this market manipulation is unsustainable in the long run.
I don't disagree with a flood of money to help the unemployed. I take pause when our government unconstitutionally borrows trillions of dollars with the malicious intent to artificially distort capital markets so they can reward bankers and speculators. The amount of money being spend on bailing out banks dwarfs the money going to the unemployed 100 to 1.
The worst part of it is that this malicious money only creates short term distortion and will have no long term effect on the housing market. No amount of hope, money and debt that our politicians and their lobbyists throw at our housing market will keep real estate prices from going back to valuations that are in line with historic value trends.
Lower priced housing markets like Antioch are almost through the bubble. Some "low end" areas are selling below 1998 prices. In Antioch it is easy to see how prices come back to fair value. Presently Antioch prices are below fair value compared to rents and household income. Speculators are being kicked out of the market as young families and prudent investors are able to feel the joy of owning a home that is "affordable". This is the same feeling that my generation was able to enjoy for 25 years up until 2001 when the government and the banks colluded to make real estate unaffordable.
The wave of foreclosures in Antioch is allowing families to trade hundreds of thousands of dollars of debt for rents that are half of their former mortgage payments. The only cost is a 2-5 year ding in their credit. Each foreclosure eliminates personal debt and in the end makes our country stronger. Why is the government involved in this at all? Well, it appears that they feel that all bankers need large bonuses to keep the country strong.
There is a rebirth happening in Antioch and other "lower end" housing areas. This has nothing to do with the government. Houses are coming back into line with fair value. This is a wonderful event. Fairly priced assets are the foundation of a sound economy. The fact that our government is attempting to fix prices with Ponzi schemes and market manipulation makes me question the soundness of our government.
It will be a long slog for "high end" real estate. The government would say that Lafayette is benefiting from the stimulus. I myself do not see any benefit to manipulating the housing market to delude young families into bad investments. House prices must come in line with intrinsic value in the future. I believe it is unethical for our government to spend trillions of dollars of our children's money to slow the process.
Let's look at the significant variables that will drive future high end home values:
- Prices on homes in Lafayette are selling at a 30% premium in relation to intrinsic value. Prices are also out of line with historic value trends. This makes sense because most of the time house prices find equilibrium at prices that buyers can afford. Eventually Lafayette prices must fall in line with rents and household income.
- If interest rates rise from 5.5% to 8.5% then homes must be discounted by 25% to have the same mortgage payment. As interest rates rise real estate prices fall - always.
- People are presently not saving. Historically we have saved 10% of our income. Future discretionary spending on housing will be reduced in the future due to higher savings rates that are in line with historical norms.
- Taxes for the upper middle class will increase at least 10% in the future. The upper middle class will pay for just about all of the debt that is presently being created by our government. This will also have a large effect on discretionary spending on housing.
- Rents in "high end" areas are trending downward so renting is becoming even a better value.
I can think of no scenario in which these 5 drivers will not push high end prices down at least 30%.
There are many other factors that will effect real estate in the future. Almost all of them will have a negative effect on "high end" real estate.
The recession of 2011 will have a significant effect on our nation's psyche. Hopefully this watershed event will send our nation on the road to saving instead of speculating. We must understand that the easy money of the last 25 years is over. Our government is spending trillions to keep the party going but this government largess must end soon. The longer it lasts the bigger the bill for the upper middle class taxpayer of Lafayette and for our country.
New buyers in "high end" Lafayette will slowly sink underwater over the next 5 years. During this time they will be responsible for the lion's share of the debt that is being created by our government. $1.3 trillion divided by 290 million is $4,500 a person. So this year an upper middle class family of four is responsible for about $45,000 of deficit for 2009. It works out to $4,500 for each family member and $4,500 each for another family of four that does not pay income tax. Also they will pay for half of an Antioch middle class family. Remember, the top 50% of taxpayers pay 96% of income tax with the highest proportion going to the upper middle class.
The $45,000 debt is just for 2009. The government is planning to run these deficits for at least 10 years. So multiply the $45,000 by 10 to get a realistic idea of an upper middle class family's portion of the government deficit.
The stimulus ends up being a circular function as it flushes through the upper middle class. The government debt is creating market dysfunction that is allowing high end home buyers to overpay for real estate. These new buyers will be underwater in their homes in 5 years and also be responsible for the $450,000 worth of debt that distorted the market to make the house seem like a good deal in the first place.
Let's look at the numbers comparing buying a mispriced home or renting the same exact $1.2 million home:
Realistic estimated loss in property value over 5 years = $300,000
Difference in cost of rent to house payments after tax = $120,000
Difference in cost to move = $48,000
So as a home buyer you are locked into a possible $420,000 loss until you decide to pay $48,000 to exit the investment.
As a renter I can move as many times as I want. I can buy a house next year or in ten years as my down payment grows with interest.
Also my landlord is responsible for cleaning my pool, maintaining my yard and cleaning my gutters.
It doesn't quite seem fair.
It's almost like there's a renter's bubble in Lafayette.
As a renter the only thing that I miss out on is the chance to hit the Lotto.