Archive for December 14th, 2005

A Housing Market Bust?

On Stormfront Acushnet was talking about a coming crash after the wildly spiraling rise in real estate prices.

I normally don’t discuss economics, but the first sentence of his piece made answering it irresistable to me.

He started off, “Is there an economist in the house?”

So I replied:

Yes, I am a professional economist and a former economics professor.

The first thing I would remind you of is the fact that you should not take that seriously. Any economist who really understood economics would be richer than Bill Gates.

But unlike other economists, I can do simple arithmetic and not get lost in some theory. In short, I have outgrown my college education.

As a simple matter of geometric progression, the boom in real estate will have to end.

It may end with a bust, or it could do what the stock market has done the last few years, just sit there. The stock market had a huge boom in the 1960’s and just touched 1000, then it stagnated and never got back to 1000 again until 1982 or thereabouts.

The present Dow-Jones average of about 10,000 is likely to last a LONG time.

When that happens, money pours into real estate, as it did in the 1970s.

You know that the great stock market crash of 1929 was so sudden because invesments were heavily leveraged. You could buy a stock with only ten percent cash and ninty percent borrowed on the stock itself, called “buying on margin.”

I never buy on margin, but after the Crash of 1929 the new rules only allowed a person a margin of thirty percent, so you had to have seventy percent of the price in cash. It was moved up to 50% in the 1960s and I don’t know if it has been moved back to 70% since.

Whe money moves into real estate, it moves into a highly leveraged market. You can easily buy a house or an apartment with 30% cash and if you watch TV at all you know lenders are desperately trying to give out second and third mortgages that go as high as 100% of a house’s value.

This is a formula for a crash.

The cushion real estate has that the stock market does not is that you can live in a house and you can’t live in a stock. If a stock drops and you are margined out, you sell it. Not everybody who lives in a house on which he owes more than it’s worth will sell it.

So one major determinant of whether the present real estate boom will end iwth a crash or a leveling out will be how many people are buying places to live in and which are speculators.

It is the speculators who can’t make money in the stock market who are now moving into real estate.

And that is arithmetic talking, not an economist.