Real estate

[It was nearly a year ago that our good friend Doug Behnfield, a financial advisor based in Boulder, Colorado, lucidly described here how America was headed  into an economic coma that would last for many years. With the financial phase of the crisis winding down, says Doug, we are about to enter a prolonged period of asset deflation, high joblessness and stagnant-to-negative GDP growth. A chief cause of this will be by-now-unavoidable, drastic cutbacks baby boomers must make in their retirement plans. For a close-up look at what to expect, read Doug’s essay, below. RA] Now, let's get this straight. We are in the early stages of a secular credit collapse following the biggest credit bubble in human history. The credit expansion that began in the late 1930s finally became a bubble as a result of a universal, irrational and linear belief in real asset appreciation that developed in the 1990s and reached its glorious peak in 2007. The credit collapse began with the financial crisis of 2008. That was followed by all the king's horses and all the king's men brandishing marvelous new tools trying, but failing to put Humpty Dumpty back together again. We got a pause in the collapse and a spectacular bear market rally, but now we are rolling back into contraction. Six months into the transition, it is time to deliver a forecast for the next stage in the new paradigm that began with the inflection of the secular credit cycle. The First Stage was the Financial Crisis. The Second Stage is the Economic Crisis, with all its attendant deflation and GDP contraction. I am reminded of a quote that Art Zeikel included in On Thinking. The quote was from economist Dick Stoken: "Because human psychology is slow to change, a broad economic move usually

Ah, what a day!  Even George Soros has decided to throw in the towel, so difficult has it become to find a winner one can stick with and still satisfy the regulators. The $25 billion that Soros had working in the markets returned just 2.5% last year and has lost 6% so far this year.  Judging from the numbers, it’s probably safe to say that he’s been underweighted in bullion. Very underweighted. But why?  Does he perhaps know something that Rick’s Picks readers do not?  Hard to say just what that would be, since the fundamentals that have been pushing gold higher were cemented in place when the Federal Reserve System was created in 1913.  Soros doesn’t strike us as the kind of guy who would be unmindful of the dollar’s 95% depreciation since then – especially since some of his biggest scores have been leveraged bets against various currencies. And what easier bet could there be than to pile up ingots against the day when the most endangered currency of them all receives its coup de grace? We don’t imagine he would have been socking it all away in real estate. Even a fool can see not only that real estate prices, both commercial and residential, are being propped up by government bailouts, Fed sleight-of-hand and malfeasant accounting, but that they still have a long way to fall. Not the kind of thing that would interest someone as savvy as Soros. Anyway, we don’t envy him the task of managing all of his billions privately, since one false move could wipe out 20% of his net worth overnight. Imagine the stresses of having to keep jockeying huge sums of cash around when it’s an absolute given that only the bold contrarian will win in the end.  Not that we

We’ve been treating the debt-limit donnybrook on Capitol Hill as a joke, just like everything else that goes on in Washington, but it now seems more than remotely possible that the issue could turn gravely serious. Even allowing for the usual brinksmanship, it’s hard to imagine what concessions either side might make at this point  that would be significant enough to break the logjam. For its part, Moody’s – as big a laughing stock as D.C. politicians since the Great Financial Collapse of 2008-09 – has put America’s AAA credit rating “on review” for a possible downgrade, sending the dollar into spasms late Wednesday afternoon. Of course, there’s no way in hell Moody’s would actually downgrade U.S. credit, since that would trigger financial Armageddon.  Consider the mayhem that downgrades have already caused in Europe, where credit spreads for the PIIGs have widened as much as 250 basis points over German bundts. This has put the PIIGs in a financial death spiral that all the official happy-talk in the world can no longer counteract. Now try to imagine how a mere 50-point widening of spreads would affect a U.S. credit edifice that dwarfs Europe’s.  Add just a paltry few basis points to the interest paid on nearly $15 trillion of federal debt for a year or two, and pretty soon you’re talking about real money.  And then you could start worrying about how it would affect adjustable-rate mortgages in a depression-bound real estate sector, and the interest paid by households on revolving charge accounts. It would also knock Obama’s fiscal assumptions for a loop, since he’s counting on the fed funds rate to average 2.5% between now and 2020. If credit problems should cause this rate to revert to the 5.7% average that has obtained since the early 1980s, the additional

An article entitled Government Stays Glued to Mortgage Market topped an inside page of the Wall Street Journal’s yesterday, offering a mostly trenchant assessment of the real estate crisis but no easy alternatives. The 1,200-word think-piece, written by one Nick Timaraos, ponders the chicken-or-egg question of how to lure private capital back into mortgage lending. Should The Guvvamint pull back on support and hope investors fill the void?  That’s the solution some policymakers are advocating, according to Timaraos, but we doubt they fully understand what it implies. They seem to think capital would return over time if Fannie and Freddie were made to compete for savings honestly with higher fees and no open-ended guarantees. And return investors would, although presumably not before housing prices collapsed a further 30%. Valuations would undoubtedly have stabilized by then, although we doubt that’s what policymakers have in mind when they talk about helping to promote price stability in the housing sector. Wading into the fever swamps of the academy for answers, Timaraos quotes Berkeley professor Kenneth Rosen, although we’re not sure why. Rosen’s one idea goes down easy enough – it’s only when you think about what he’s said that you wonder how his name wound in a Journal reporter’s Rolodex.  “We’re not going to get a recovery in housing until the average borrower can get a mortgage,” avers Rosen. We’d like to think the good professor meant to imply that, if and when housing prices fall far enough, the “average borrower” will be able to afford a home.  And we mean “afford” in the old-fashioned sense of the word --  i.e., putting 20% down, and making monthly payments no greater than 25% of one’s gross income. Since real incomes have shown no growth in this country for nearly two generations, it seems obvious

Colorado ski properties are enjoying a dead-cat bounce, although readers of a recent article in the Denver Post might infer there is something more to it than that.  The article noted that in Eagle County, which includes tony Vail, residential transactions were up 190% year-over-year for the first quarter.  That represents 276 properties changing hands, compared with 145 during the same period a year ago. However, as the article acknowledged, the surge was from very depressed levels, and it still fell 27 percent shy of the total for 2008 and 58 percent shy of the figure for 2007.  Nowhere was there any mention of price trends or rental costs. If these factors had been taken into account, it would have made clear that valuations will have to fall much further before ski homes and condos could conceivably experience a sustainable bounce. We recently sat down with a Vail property owner who worked the numbers for us. He said that even after collapsing from a peak price of $1.3 million to around $800,000, a two-bedroom luxury condo in Vail is still a lousy investment. Assuming the unit is rented 130 nights at $350 per night – a fairly optimistic assumption, according to our source – annual gross income would be $45,500. Half of that would go to the leasing agent, leaving $22,750. Subtracting a further $15,000 for taxes, maintenance and homeowner association fees would leave $7,750.  Then there are mortgage costs of about $30,000 per year. This is based on a 6.5% loan on 60% of the property’s value.  You should add a 6% opportunity cost, or  $19,200, on the 40% not financed, since that’s what you could earn – without all the hassles – in a closed-end muni-bond fund. Thus, the investor who scooped up a $1.3 million property for

(Editor’s note: We wrote here yesterday that mortgage forgiveness would crater the housing market to much greater depths, with homes ultimately falling 70% from their peak values.  The following response, from “Donniemac,” was one of the more interesting posts in the Rick’s Picks forum. He sees signs of a recovery, but also the death of the America Dream for many chastened borrowers.) Loan balances are either paid by the bank or the lendee. Therefore, the someone who is going to “pay” for the housing bust is the banking industry. And, eventually, the taxpayer probably will be called upon to prop up the banks -- maybe through very liberal tax write offs of bad debt or through another round of bailouts, who knows? What the collective “we” need to have happen is to have the current economic growth be real. I know that doom-and-gloom attitudes seem to be the norm, but from my view, a return to a functioning economy is slowly becoming a fact. But there will be a large number of citizens who will have their lifestyles drastically altered -- in particular, early boomers who are, say, 55 or older and who did not create any savings to speak of. I know, as my wife and I have a family full of them. And some of them are running scared. But I am off-topic. As the economy starts to gain some momentum, the pain of deflating the housing bubble can be eased, hopefully enough to not put economic activity back into a tailspin. The big unknown, IMHO, is how are the masses going to react to not being able to satisfy their consumer itch at the flick of a piece of plastic? For sure, the extension of unsecured credit, or credit lines secured by home equity, is going to