Faith in the Economy
Friday, October 17th, 2008
When you stop to think about it, our whole economy is based on faith: faith as small as knowing that the check you receive from your employer is going to be accepted by your bank and that the check you write to buy your groceries will be accepted by the supermarket. Faith as large as knowing that if you borrow hundreds of thousands of dollars to buy a home, you’ll pay the money back as agreed.
Based on that faith, markets are created where goods and services are traded, homes and real estate investments are bought and sold, and stocks, bonds and other securities are trafficked in orderly fashion.
What began as a housing crunch has spread to the credit markets and now threatens the financial markets as well. In the process, our faith in the overall economy now seems at risk. Until institution A trusts that monies lent to institution B will be repaid as agreed, things will probably deteriorate.
Housing Peak-2006
The housing market actually peaked in 2006. That simply means that the number of homes sold that year was higher than the number in 2005 or in 2007. What actually happened, of course, was that demand for housing grew every year since 2000, resulting in more booked sales each year until 2006. In those halcyon days, one could buy a home with the comfortable knowledge that when it came time to sell, a ready, willing, and able buyer would be easy to find—so easy, in fact, that each year’s growing demand drove prices higher as more people participated in the American dream of homeownership.
With ever more demand for housing, resourceful mortgage lenders devised ever more exotic ways for people to buy. Underwriting standards and down payment requirements were relaxed and sillier loan programs were created to the point where a recent college graduate could buy a $700,000 home with no down payment, no verification of employment and little scrutiny of their actual ability to repay the loan.
In order to create enough money to supply the ever-expanding pool of home buyers, lenders went to the financial market to “securitize” loans, bundling hundreds of loans into packages of securities that were sold to investors, using the proceeds from the sale of the securities to make more loans.
Credit Crunch-2007
The credit crunch of 2007 followed the housing market down. Since the number of home sales declined, prices softened and people who were stretched too thin couldn’t cover their loans and walked away from their obligations. Unjustified faith at work, maybe?
Confidence Crisis-2008
Now the securities markets are roiled in turmoil because even companies with stellar histories can’t borrow the money that was always available just a phone call away in the past. Exotic instruments like collateralized mortgage obligations and credit default swaps, which were created to diversify risk have turned into millstones around the necks of whole companies and pulled down Bear Stearns, Countrywide, Merrill Lynch and now Lehman Brothers…with more to come?
Our collective faith in this complex system of intertwined relationships is being shaken as the Dow Jones Industrial Average plummets over 500 points in a day and the government steps in to prevent total collapse of the markets. This seems to be more than the cyclical ebb and flow of a normal market correction; it feels like our economy has a bad case of the flu.
In times like these, it is helpful to reflect carefully about what we can depend on. We at Tupper’s Team are pleased to remind our readers that a home is still a sound investment. Not a fix-and-flip, bet-on-the-come, highly-leveraged real estate investment, but an honest-to-goodness home, bought with reasonable due diligence, a reasonable down payment and reasonable loan terms. A home is not only a place to live, but a sound investment as well.
When analysts (including me) report that the market is up or down, we’re really doing so on a macro level. If fewer homes are selling, we call it a down market. If average and median prices are lower, we refer to slumping values. But statistics can be misleading. An unusually large number of fire sales (like deeply discounted foreclosures) can pull the overall median price in a community down. But the value of any particular home probably hasn’t dropped nearly as much.
4 Signs the Market’s Improving
The nation’s debacle began with the housing market and the housing market will probably lead the economy out of these troubling times. The adage that all real estate is local is true, and we at Tupper’s Team will be watching the following local statistics for signs that we’re turning the corner on the doldrums.
• Sales. Home sales in 2008 are down over 20% compared to last year. Since the demand side of our market equation is home sales, we’ll watch for year-on-year increases in sales activity. The most desirable homes are selling today at only modest price reductions. As demand increases, more ‘main-stream’ homes at reasonable prices and in reasonable condition will sell. Eventually, even less-than-beautiful homes will find owners.
• Inventories. The supply side of our market equation is homes on the market. In 2008, the number of homes available exceeds 2007 by 10%. As the number of homes for buyers to select from declines, prices should begin to firm.
• Days on Market. With more demand, it follows that homes won’t take as long to sell. It now takes approximately 5 months on average for a home to sell; we’ll watch for this indicator to fall to 3 months or less.
• Prices. We’ll know that excess inventory has been wrung from the market and that the supply/demand forces are in balance when we see prices firm. Increasing median and average prices will mark the end of this down cycle and the beginning of the next up cycle.
In general, it could be said that home values today are (very roughly) about the same as they were in 2005. So while it may SEEM like values are falling, in most cases they are simply not rising. And that’s what sets our market apart from so many others like in Florida and California.
If values don’t rise over the next couple of years, it does not really matter as much as you may think. Paying the mortgage on a home you own is the same as paying rent for a place to live, so buy a home and at least pay down the mortgage a bit each month. You’ll also enjoy tax benefits while you own and when you sell. You can change your home to accommodate your changing tastes and lifestyles. And the long-term prospects for appreciation are historically inevitable.
These times will pass. Anyone who buys a home in Evergreen/Conifer/Genesee today and stays for at least 3 years will be amply rewarded in the future. In the meantime, enjoy your home.
Keep the faith.
By Tupper Briggs
