Published July 13, 2005
Google the term “condo flipping” or “preconstruction” and you'll get a sense of how speculative animal spirits are flowing in the coastal areas of Florida and California and the New York City / Boston / Washington, D.C. boroughs.
The debate should not be about "are we or aren't we" in a bubble in these areas — We are.
Tune in to "The Cost of Freedom" business block, Saturday at 10am ET and Sunday at 3am ET, when the "Bulls & Bears" gang tells you if real estate will stay a hot investment.
SO, WHAT NOW?
One historically accurate definition of a real estate bubble is that more than 20% of residential real estate purchases are by investors looking to rent, or more than 20% of homes bought in one year sold during another.
Another definition is simply running at a more than 20% rate of excess to the 10-year standard deviation of these statistics for a 12- to 18-month period.
On BOTH of these counts, we have a condo real estate bubble — guilty as charged.
The real questions about the mini-bubbles in U.S. residential real estate are:
1) When the markets flatten — not crash — what happens to the speculators who are holding excess condo inventory?
2) When the reporting of the bubble breaking hits the news cycle and front pages in every TV and newspaper in the world, what does that do to national consumer spending?
3) Will the mini-bubble bursting lead to a national recession?
Quick answers are this:
1) Condo speculators will walk on their underwater condos and lenders will be prudent in selling them as they do NOT want to cause a real panic and suffer skyrocketing loan loss reserves.
2) The condo bubble bursts in the super hot areas, and the rest of the country will laugh at the lunatics running the asylum, telling themselves, “They got what they deserved.”
3) The bursting of these regional mini-bubbles will cause some regional GDP slowdown and construction deals to slowly evaporate, and price escalation slows cash-out mortgages.
But will this cause a national recession?
Japan had the worst speculative real estate bubble bust of all time, and therefore some people use it as an analogy for forecasting a U.S. bubble burst. But that dog won’t hunt.
First off, since 1990 Japan has had declining household formation, aging population and hyper-savings rate, NONE of which relate to the U.S. Second, the valuation bubble to income was about double the rate of ours today in the most bubblicious regions.
Australia and Great Britain have seen residential real estate prices level and stall as first-time buyers are somewhat priced out of starter real estate and the HUGE buy-to-let market (i.e., buy-to-rent and then sell) has fallen sharply.
Bear in mind that in Great Britain and Australia, buy-to-rent has grown to 40% of ALL residential transactions, which I called a bubble almost two years ago.
We are not NEARLY at those extremes nationwide — less than 11% fit that description. And most of our non-owner occupied home ownership comes from second homes, NOT speculative purchases.
THINGS ARE DIFFERENT HERE
It's true that more than two-fifths of all private sector jobs have come from housing related sectors like construction, mortgage lending, etc.
But bear in mind another difference in the U.S. The average age of our housing stock countrywide is 38 years old — our houses are among the oldest in the G-8 nations. A rebuilt Europe and Japan after WWII means newer housing stocks than the U.S.
So we have a VERY strong rebuilding component to our construction industry that will continue to happen, bubble or no bubble.
And let's not forget the employment rates in the U.S. versus Britain, Netherlands and Japan. (That's the REAL rate, not the fake numbers.) Australia has a low unemployment rate but, as mentioned, their buy-to-let mania grew to twice our rates as it stands today.
The real risk to the housing market is an ENERGY-BASED RECESSION that then tanks the real estate market as unemployment runs to 7% or more.
That is the risk in the real estate market — a global recession from a higher dollar and $80 oil. (The strong dollar exacerbates the energy prices in Europe and Asia, which have escaped energy price pain because of currency exchange and price supports in Asia for gasoline.)
Moral of this story: If you are playing the condo flipping game in the super-hot coastal areas of the U.S., you are playing with fire and you will be burned unless you can get out now.
Worry about an energy-led recession that reverses employment gains and takes around 5% of the buyers out of the market.
That’s when the speculators get locked up and run for the hills with the keys to their “investments” left in the door.
This weekend our Business Block has much more on the housing market. Tune in Saturday 10am — noon ET.