March 10, 2008
And What Happened Seven And One Half Years Ago In San Francisco?
As we’ve often pointed out, sales volumes and home price appreciation have been falling in San Francisco over the past couple of years despite the fact that that by most accounts our local economy remains strong, employment and wages are up, and the cost of borrowing remains near historic lows. And this has been in marked contrast to our last real estate decline (2001-2002) which directly coincided with a local economic meltdown (a.k.a. The Internet Bubble).
And now, both the national economy and Bay Area Business Confidence Index are faltering and Federal rate cuts are failing to spark sales (but are doing a great job of weakening the dollar). In fact, The Bay Area Business Confidence Index “tumbled to its lowest level in its 7 1/2-year history, based on results of a survey conducted in late January and early February.”
Let’s see, 7 1/2-years ago would be right around...
∙ Record low Bay Area business confidence [SFGate]
∙ U.S. Economy: Payrolls Unexpectedly Decline for Second Month [Bloomberg]
∙ Bay Area “Notices Of Default” Heading North? (So To Speak) [SocketSite]
∙ February S&P/Case-Shiller Index Decline Continues For SF MSA [SocketSite 4/07]
First Published: March 10, 2008 9:55 AM
Comments from "Plugged In" Readers
economic news does look dire.
but who knows what will happen to nominal RE prices?
I feel very confident that SF houses will lose value in REAL prices, but nominally, who knows?
As example, people trumpet that the median home values are up a bit over the last year or whatever...
however, the prices are up in NOMINAL terms only.
The dollar's value has plummeted since last summer. The dollar is worth less than it's been worth in decades against almost every major currency in the world (pound, euro, canadian and aussie dollars, swiss franc, yen, you name it) as well as against gold (near all-time high price in dollars, nominally not inflation adjusted) and oil (all time high price, even inflation adjusted)
Americans have lost 20-30% of their entire wealth in the last year, and don't even know it!
it's all a game. Force Americans to be poorer, but do it in a way that they don't realize.
the more the govt tries to do bailouts, and the longer they refuse to allow the financial markets to take their medicine, the more we will all pay by having our dollar continually destroyed.
Posted by: ex SF-er at March 10, 2008 11:02 AM
Don't worry, ex SF-er. Even if Americans have to spend more nominal $$ on essentials like food and fuel, and the job losses pile up and employers lower wages, and foreigners fear to lend us money because it will be inflated away and so effective interest rates rise, there will still be room to support the nominal prices of a highly leveraged asset class like housing. Didn't you hear? Fannie and Freddie are coming to ride to the rescue... Take a look at their stocks today (he, he, he, he....)
Posted by: Satchel at March 10, 2008 11:24 AM
Well, that's a good point about nominal prices. The Fed is doing its best to keep nominal prices aloft because all the housing debt and its collateral is nominal. They are clearly so worried about massive deflation and the subsequent credit freeze and bank failure that would occur, that they are willing to risk inflation and weak currency.
But what's the alternative? It will be painful for the average American no matter what happens. Andrew Mellon's advice in 1930 to just liquidate everything didn't seem to be a great strategy, if that's what your implying. Do you think that massive deflation and 25% unemployment is a satisfactory cost to incur to protect the dollar? Will that approach not also make Americans poorer?
That approach might appeal to a very small percentage of the population (with tons of US dollars in their mattresses and zero debt) but that group is a minority and, unfortunately for them, the Fed is a political animal. (And this is an election year...)
Posted by: "Dave" at March 10, 2008 11:50 AM
If only we DID have a Mellon today! But, truth is, they didn't listen to him back then. The politicos tried everything possible to resist deflation, including foolish public works programs, housing "assistance" an a forced devaluation of the dollar (subsequent to the Gold Reserve Act). That's why we got the Depression!!
There's no way out of a credit inflation that goes bust. None. What's that famous quote from the early 1930s, something like, "The surest way to ensure a depression is to resist it", or something like that.
Well, I shouldn't say no way. The inevitable can be postponed by attempting to inflate another asset class, although the Fed and the politicos can't specify this in practice ("just cut rates and see what happens" seems to be the consensus approach - also tried in the 1930s, BTW). Didn't work in Japan, probably won't work here - the problems are too large. World war also works (the best way to raise equilibrium wages we found out in the late 1930s/early 1940s was to take 10 million men OUT of the civilian work force....)
Anyway, whatever happens, the adjustment is coming. If the Mellon approach were employed it wold be over in a few years. Since it won't be, let's see how long this drags out. In the meantime, might as well sit back and enjoy the show!!
Posted by: Satchel at March 10, 2008 12:08 PM
Dave - everything doesn't have to be liquidated. Just stop all intervention and manipulation and let all credit products get marked to market and find a new equilibrium. It's going to happen sooner or later - so why not sooner? Then, let's move ahead with sound monetary policy and transparent, market-dictated lending and securitization practices. A quick re-set of housing prices (even with a flood of foreclosures, etc) will benefit the majority of Americans in the long run (including realtors).
Posted by: FSBO at March 10, 2008 12:12 PM
I never said the plan will work... just that the intended outcome is RE devaluation through dollar devaluation. (although i do think a sizeable chunk of the RE losses will be through dollar devaluation)
Look at the bright shiny object over here!
(while we steal your money through dollar devaluation)
even now people today don't understand how severe the SF downturn was in the late 80's early 90s because they look at NOMINAL housing prices and say "look, RE didn't fall at all!"
devaluation through dollar destruction is so horrific because it's so hidden from the average joe.
I also succoumb to it sometimes. Just the other day I thought "wow, my gold position is up like 50% in the last year or so, and my shorting funds are up 10-15% in the last WEEK"
but then I realize that the REST of my assets (home, money market funds, treasuries, TV, bed, car, you name it) have all lost money in real terms due to how piss-poor the dollar is right now.
Posted by: ex SF-er at March 10, 2008 12:21 PM
Last comment I promise! (I just wanted to help this thread get some traction, not to get us too far off on a Great Depression tangent!)
About measuring the value of things solely by the dollar - I would caution against that. Things have an intrinsic value - or "real" value. That doesn't change too much, but the assignment of a dollar value to them is heavily influenced by the supply of money and credit.
I've been watching the Game Show Network lately (my little boy has dicovered it!) which runs classic game shows like The Price Is Right from the early 1970s (when I was a kid). The dollar was fairly strong back then against European and Asian currencies (although less strong after Nixon pulled us off the gold standard!). Watch those shows and note the prices of the "Showcases" and you will be amazed. In NOMINAL dollars, things like beds, mattresses, TVs, furniture, etc. are broadly COMPARABLE to today! I worked in a butcher shop in 1978-80 or so (too young, but no one cared about the laws against child labor back then). I can still remember the price of the "good ham" and "good swiss cheese" that I used to slice. In NOMINAL dollars they were only about 30-50% (at most) lower 30 years ago, meaning the REAL cost of those items has fallen DRAMATICALLY, even as the dollar has weakened through to today on a trend basis.
But then look at what things which are now financed by credit cost back then: cars, college tuition, and (biggest of all) houses. That's where the inflation has been. CREDIT inflation. And that is what is reversing right now.
BTW, the Fed and the USG don't care about the average joe or whether he realizes his losses or not. The population consists solely of pawns now. But they do care what LENDERS and the holders of paper assets think. Don't count deflation out just yet!!
Posted by: Satchel at March 10, 2008 12:40 PM
Ok, so if bundles of mortgages are 'marked to market' at pennies on the dollar BUT they are still secured by some underlying asset which has at least SOME nominal value-- why wouldn't people buy up the delinquent loans for, say, 5 cents on the dollar, and then foreclose on the collateral, sell it at auction and pocket the difference?
Seems like a good plan to me ...
Posted by: Jimmy (Bitter Renter) at March 10, 2008 12:50 PM
Jimmy - there are a slew of people trying to do this already. They advertise on craigslist (amongst other places) and sell portfolios of REO paper for like 40 cents on the bubble dollar. Think minimum bids are like $10MM, though. Plus you have to deal with the stigma of being the guy who forces Joe Sixpack out of his American dream (in SF I guess it would be Joe CultCab). But rest assured it's not a new arbitrage opportunity - people have been buying defaulted tax liens for a long time with this in mind.
Sorry for the tangent here - hey Satchel - checked in on your favorite little house lately?
Posted by: Dude at March 10, 2008 1:29 PM
I tend to agree with most of the sentiment here. But marking to market is only going to get forced on the weak hands. I'm not going to sell my Porsche to you for $30 just because you're the only bidder who showed up at the auction... unless of course I'm starving.
On the surface short and painful sounds better than long and painful. But I don't think anyone's very seriously considering what a true rush for the exits would look like. A lot of people are advocating strategies that would result in panic. The Fed unfortunately doesn't have a toolkit for creating quick and painless financial panics.
If forced to choose between a great depression and a Japanese-style lost decade, most of us (who don't own a bunker full of ammo and gold bars) would choose the latter.
Posted by: "Dave" at March 10, 2008 1:53 PM
I don't mind the stigma. Honest. Someone just give me the $10 mil and I'll be happy to buy up as much pennies-on-the-dollar MBS paper as I can get my hands on and then evict the entire city and auction it!!
As long as I get my 2% yearly management fee and 20% of profits, I'm sure I can make new friends afterwards.
Posted by: Jimmy (Bitter Renter) at March 10, 2008 2:14 PM
I think the issue with letting this play out is the risk of overshooting and destroying a huge swath of collateral which would maintain some real value under non-panic conditions.
Panic destroys value, people, livelihoods, and economies. It's not morally cleansing or uplifting.
Now, prosecuting the fraudsters, and running the conservative drones with their anti-regulation free market ideology out of office - that is morally cleansing!!
Posted by: dissent at March 10, 2008 2:43 PM
Perhaps we can get Eliot Spitzer to prosecute some of the fraudsters; I suspect he may have some time on his hands in the near future.
Posted by: DavidQ at March 10, 2008 3:08 PM
I both agree and disagree with you.
I believe, as many do, that we will have overall deflation through credit destruction. I also believe that in the end we will have increases in non-credit money supply-however it will be insufficient to overcome the credit deflation; hence we will have overall deflation.
price deflation in assets you don't need, most of which are financed by credit (cars, houses, 50 inch plasmas, etc)
and inflation in assets you do (food, energy, medical care).
There are those that believe the fed is trying to inflate away the debt, and those that believe the fed is subtley deflating.
There are good arguments on both side.
I personally believe the Fed is trying to inject liquidity in a TARGETED way (e.g. by using the TAF, but then draining liquidity out of the system in other ways) in order to have an inflation neutral way of saving the secondary credit markets while slaughtering the shadow banking system. I also am one of the few people on the planet that think that Ben Bernanke might be the smartest chairman ever, but dealt a near-impossible set of cards. I am amazed at what he has done thus far, and I actually think it's a good effort excepting the "surprise" rate cut.
My only point is that there is a good chance that RE values will fall more in real terms than nominal terms, and to be cognizant of that fact.
Hence my own personal example.
I'm up big in gold and CEF in the last year
and I'm up big in the Proshares short funds the last 4 months
but the dollar is worth significantly less in the last year as well. (due to a host of factors)
thus, my overall REAL wealth is DOWN, even though my nominal wealth appears greater.
Many people don't notice this fact.
which is why people don't think the RE downturn of the early 90's was severe. It was for many San Franciscans, but it is hidden by inflation.
Posted by: ex SF-er at March 10, 2008 4:26 PM