Sunday, August 30, 2015

The Great Housing Debate-"Housing 2.0"

A House Should Be Earned-It Is Not A Right
The future of the housing market is a topic that has been subject to a great deal of debate and can be somewhat confusing. The intention of this post is to dispel some of the myths that have been generated and add some clarity to the discussion. When looking at the chart below we see new construction is still far below the level prior to 2008. It should be noted that much of the new construction is in apartments and not single family dwellings. In much of the country, units are being built using cheap money flowing from the Fed and Wall Street under the idea that if it is built "they will come." While many people claim the formation of new households and pent-up demand drives this construction I beg to differ. I contend it is a combination of too much money looking for a place to hide and buyers looking for a safe place to put their money.

Home-ownership In Decline
As I wrote this post I tried to do a bit of additional research to supplement what I know as a contractor and Apartment owner but what I found was more like a pack of lies and half-truths spun it fit an agenda. In America, the government, coupled with a slew of builder and Realtor associations control the housing narrative. Huge discrepancies exist in the cost of housing in the various markets across America and while price variations are not uncommon they should be seen as a red flag and reason for caution. Many of the messages being promoted as common knowledge do not past serious scrutiny. Those of us in the trenches and with our boots on the ground often see things from a different perspective than the economist in their ivory towers, Washington politicians, Wall Street elite, or the media. Homeownership in America is in decline and demographics are not shaping up as a factor to drive prices higher.

Chart Dating Back To 1977 Shows Single-Family Starts Weak
A close look of permits and starts shows many of the future housing starts are multi-family units, these are being built with cheap "Wall Street" money for the markets of tomorrow with little regard for the realities of today. It is a fact that single-family housing starts languish at 1991 levels and the percentage of multi-unit buildings under construction has risen to a 29-year high of about 35%. Shortly before the onset of the last recession, multifamily units accounted for only about 20% of all new housing stock. Call these condos if you want, but another name for an unsold condo that is being leased is "apartment."  Let us call a spade a spade, this is not a housing market, it is a place where too much money has gone to hide under the impression and hope it will pay off when inflation awakes and comes out roaring from its quiet slumber.

Get your financing in order and get the project started before the market dries up has been how developers everywhere have operated for decades. I have owned an apartment complex in the Midwest for many years and we are currently experiencing the largest number of vacancies we have ever had. Many houses in my area are empty or under leased. In 2005 and 2006 prior to the housing collapse, many people were looking at second homes, today not only have they shed the extra home many have doubled up with family or friends reducing the need for housing. This has left me busy trying to sort out and make sense of the current economy. This is no easy task, it seems we are pushing on a string and calling it demand when someone who can barely pay the rent is encouraged by the government to buy a house they can neither afford or maintain. Currently, we have a shortage of "qualified" buyers and renters.

Note the amount of traffic, or calls an apartment complex receives may have little to do with the strength of the market. A well qualified potential tenant only has to apply at one complex while those who are rejected continue time after time. Government subsidized housing through programs such as section 8 have cannibalized the market often taking the "best of the worse" and leaving those landlords who choose not to participate with a rather unsavory lot that often includes those thrown off the program, near bankrupt, or chronically unemployed. The city where I live ranks 23rd in the nation for having the most "zombie foreclosures" however, markets in other parts of the nation are often not as strong as the media claims. A relative of mine who sold a home with an extra lot that was on a golf course north of Houston two years ago took a severe beating. Weak pricing in a market that many view as very solid is to me more proof that what many claim is a "boom" is far from spectacular.

A Bloomberg article titled "Wall Street Unlocks Profits From Distress With Rental Revolution" looked behind the curtain and pointed out that a great deal of this housing recovery that has driven the average home price up 30% since 2012 has been the result of Wall Street hedge funds buying in bulk foreclosed houses in order to turn them into rentals. Like many people, I find it totally objectionable these deals were "bundled" and offered in such a way that allowed big business to crowd the average American out of the housing market. In parts of the country cash fleeing China and Russia has also flowed in to pump the market higher. This creates a questionable base for higher home prices when we consider the low end of the market is driven by Fannie, Freddie, and the FHA all insuring 3.5% down payments from borrowers that lack substantial collateral. This begs people to rush into buying homes they cannot afford. It is important to remember that low-interest rates do not necessarily bring about quality growth or prosperity, decades of slow growth in Japan has proven this.

One of the sad accomplishments of current Fed policy is that by creating false demand today we are not creating more sales, but just moving them forward. To make the situation worse the FHA is busy issuing and guaranteeing risky mortgages written by thinly capitalized non-banks. In 2012 the large Wall Street banks represented over 65% of FHA backed loans, today that number is under 30%. Even they have realized loaning money to people that won't pay it back is a recipe for disaster. America is preparing for a replay of the 2008 housing crisis.  Our politically motivated government has insured subprime mortgages with down payments of as little as 3.5% while using weak underwriting standards.We are even seeing restrictions raised on borrowers with past foreclosures in a housing market that may drop 20% when this Fed Wall Street bubble pops. Years ago Lee Iacocca who brought Chrysler back from the brink and made the company viable said something to the effect of when you special out all your cars on Monday you have no sales for the rest of the week.

When it comes to real estate, low-interest rates at some point becomes a double edge sword, that affects both the value by making it easier to purchase thus driving up prices, and at the same time allowing more building to take place and increasing the supply. Often we reach or exceed demand, this eventually has a dampening effect on rents and people stop buying it as an "investment". Rents from real estate and the prices it brings when sold must appreciate more than the natural depreciation from the wear and tear from age or the main driver for owning it vanishes. Oversupply is the bane of real estate and crushes the value of this hard and expensive to maintain commodity. History has generally shown homes that are paid for and unleveraged to be a better than average place to store wealth when purchased for a good price, as to whether now is a good time to buy that is difficult to say. Currently, we are in uncharted waters and where this market is headed is anyone's guess, but one thing is certain it is not straight up.

How does the reality of a half-empty apartment complex and a slew of empty houses gel with what we hear about soaring rents, the demand for more housing, and more affordable housing? If you call it a recovery at least admit housing prices vary greatly across the nation. Only politicians in Washington would be silly enough to think that landlords who have to compete against subsidized housing would be eager to remain in the game or that someone working for a living enjoys paying more for an older apartment than someone on the dole who moves into a brand new unit for a fraction of the cost. By not rewarding those who do the right thing our current policies have a corrosive effect on both housing and society. Instead of creating policies to rebuild our cities and housing Washington has doled out low-interest money to Wall Street and home builders in an effort to kick-start the economy this has generated the illusion of growth and rising prices.

When people leave older neighborhoods and move to a new house in the suburbs enticed by current artificially low-interest rates they in effect hollow out our cities. America has built a lot of housing units over the years, now we must face the fact that they need to be maintained. The policy of putting people in older houses that they have no interest or knowledge in how to maintain causes those living around them to flee the area and brings about further decay. When offered the choice many people find moving easier than repairing and maintaining their homes or neighborhoods and low-interest rates power this trend forward.  Policies should be geared toward creating jobs that maintain these units instead of making them prematurely obsolete. This is a flashing red light warning of danger ahead. By choosing the easy answers America has not faced its housing problems with long-term solutions and encouraging this bodes poorly for the future.


  1. I do not really understand what you are trying to communicate in this article. Government and Business are no longer concerned with the future when they can grab the profits and The feds money will continue to flow into unproductive channels until the spigot is turned off.

    1. This article is an overview of why we should not believe that we have a solid and thriving housing market. It sounds like we are both on the same page when it comes to how government, and mostly big business is misallocating capital.

  2. Bruce,

    I've been reading your blog for some time now.

    I've been debating if this is a good time for us to upgrade to another house, or keeping waiting.
    We’ve owned our current house for around 4 years, bought it in 2011, and got almost 15% under ask (guess it was a buyers market then) and put about $30K in upgrading both kitchens, replacing all wood paneling with plaster veneer, upgraded electrical, lights, dimmers, upgraded basement game room with a projector and recessed screen, etc. Our friend, a real estate agent, says we can get about $80K or more above what we paid. The house up the street, similar to ours, but with one less full bath, just sold for $281K. The up to $350K market is pretty hot here in Pittsburgh
    We want to upgrade to a larger house with 4 bedrooms, flatter yard, pool, etc, looking at around the $450 to $500K range. However, after looking for a few months, it seems a lot of houses in the above $400K range sit for quite a while, and aren’t as hot here. I wonder if it would be wiser to see how the housing market plays out before buying. We’ve found one house we really like at $550K, which we may be able to get at $500K. So, I have mixed feelings about waiting too long and losing it. But then again, it’s been on the market for almost a year now, so perhaps I shouldn’t worry.

  3. Tough call George, A lot of factors go into a decision like the one you face. That is a lot of house and with it will come a lot of maintenance and overhead. A large house is a sizable commitment that must fit your lifestyle. I liked the fact you got a good deal on your current home and are not afraid to do some of your own work. Thoughts other than that;

    *Hows secure is your income and is your significant other on board?
    *Will you be going in debt? Mortgage rates are low, inflation will help you, deflation painful
    *While I often work with Realtors they are not my friend, many are incompetent and all are commission oriented
    *It is important you don't get stuck with two houses or have to take an unexpected hit or your current home.
    *Housing values are location and driven by the local market.

    Looking for a great deal and negotiating an even better price is part of work that should not be avoided. In all the years I have been involved in such things I have found you can never go wrong offering less and softening the offer with a good reason. In doing so it is important the seller gets to hear that reason. This house has been on the market for a long time and the seller is motivated, always offer far less and make concessions that cost you nothing.

    Don't allow yourself to be seduced by your ego into buying a house that will wow people because 50,000 years from now nobody will care. You should remember this is not the last good deal out there, another is just around the corner. Sorry I couldn't be more help. The article below delves into how values constantly shift. Good luck with your decision.

    1. Thanks for your response Bruce. You make many good points, some of which I've been thinking of, and other's which I hadn't thought of. Based on your articles, I figured you'd have some good thoughts on the matter.

      My spouse is on board, but like me, we both want to make sure the numbers make sense. For example, the taxes are double from our current house, so that's sobering, but it has a seperate mother-in-law suite, which we would have our nanny live in, and thus save money in pay (or rent out to a someone). That's how we picture lessening the financial impact.

      Thanks for the negotiating tips/realtor tips. And the realistic advice that there are other good deals around the corner, especially given this recessionary economy (even if they don't call it that).

  4. I too own apartments and the overbuilding is insane. My CC overrides zoning laws, passes a building moratorium, and ignores studies it commissions that say to quit building, but then they start another project and come up with some reason the rules they just passed don't apply. I have been able to maintain 100% occupancy, but it is getting harder to do. The only reason is I have good locations near campus, but still I have tenants that are not students and are in the prime age to buy houses, but might as well be on Pluto. I'm trying to get my partner to buy me out or sell out and split the assets.
    My late father, who started this business, said something I'll never forget "When money is cheap, they will build whether its needed or not". As the years go by we realize just how true some of the things our parents told us.

    1. When you say it is harder to maintain full occupancy, from your tone I have a feeling it is getting much harder. Sadly for me I'm close to a huge new subsidized student housing complex build for what they call our "regional campus." Thanks for your comment.

  5. The artificial housing market has always been driven by malinvestment. Malinvestment is a mistaken investment in wrong lines of production, which inevitably lead to wasted capital and economic losses, subsequently requiring the reallocation of resources to more productive uses. "Wrong" in this sense means incorrect or mistaken from the point of view of the real long-term needs and demands of the economy, if those needs and demands were expressed with the correct price signals in the free market. Artificiality low interest rates created by the Fed and Government backstopping housing purchases distort price signals and lead to malinvestment.

  6. Call this a comment or a late footnote; a while back I wrote a piece delving into some very real numbers concerning housing. The link to that article can be seen below. It may surprise those who see housing as a strong market.