Disagreements About the Size of the Bubble

Dan,

I enjoy your web page and have found your series on the costs of waiting to buy a home to be very illuminating. However, I recently read this web page:

http://patrick.net/housing/crash.html

...which comes to the exactly opposite conclusion (in the "Who Disagrees" section). I wonder if you would comment on it.

Don't your two views hinge on an assumption of what housing prices will do in the future--something about which we really can know nothing?

Thanks for your thoughts on this.

Well, if you read my oldest articles (for instance Cold Hard Numbers ) I spoke quite strongly about San Diego being in a bubble condition. I used the metaphor of "When Wile E. Coyote looks down" more than once. What has changed since then? Quite simply, I think that we've seen most of the overall hit that we're going to get. Sure, there are still idiots who think it's 2003, but if you look at the transactions that are actually happening - willing buyer, willing seller, etcetera - we're a little over twenty percent off peak prices, at least in the areas I mostly work. I consistently predicted a thirty percent decline up until about a year ago. We've now seen most of that. Prices might drop a little bit more, but (I think) they've dropped most of what they are going to, and due to some additional considerations, I think that now is most likely the time of greatest leverage for buyers. They might lose money on paper for a while, but right now, they can make sellers do more than they will be able to later. With a decent agent (c'est moi) they can parlay that into a greater bargain than they will be able to get later.

Why do I think now is the time to move? Quite simply because working the market like I do, I am seeing an enormous pent-up demand that has been building since about October 2005, when the general public finally got the message that maybe prices were a little higher than they should be. There are a very large number of people out there on the sidelines who want to jump in, and are able to qualify, but have convinced themselves that prices are headed even lower. And you know, I can't prove that they aren't. Only time can do that. But I'm seeing demand and interest. The only thing stopping the market from breaking wide open right now, IMHO, is fear that maybe if they wait, they'll be able to get something better, cheaper. Kind of like the "test penguin" thing. They're all afraid there might be a leopard seal, but once somebody gets pushed in and doesn't get eaten, more jump in, then everybody. But real estate isn't like jumping into water in which there may be leopard seals. The greatest rewards accrue to those willing to do what nobody else will - jump in first - and if they're wrong but have a sustainable loan it will work out fine anyway.

Furthermore, it's not the overall proportion of people who can afford current housing prices that is important. It's the marginal demand and the marginal supply. If I already own, it doesn't matter that I can't afford the prices now. The price will stabilize where the number of people who can afford current prices matches the number who want to sell.

Fifteen years ago, we were hearing exactly the same sort of crud about bursting bubbles that weren't coming back for decades. I bought anyway, almost exactly at peak (one neighbor did spend almost 20% more than I did). Yes, I could have gotten a better deal if I'd waited, and I was upside down on paper for a couple of years. Right now, I'm very happy with the results of my decision. Even coming down off peak value, my CMA is still showing the equivalent of almost 8% annually compounded increase for those fifteen years.

San Diego has been, for the past several years, a bleeding edge market. So perhaps part of my disagreement can be attributed to the fact that San Diego is further along in the process than most of the country. Perhaps part can be attributed to the fact that while their one trick for readers has been the bubble, I'm a working agent with a responsibility to my buyers who nonetheless wants to sell some properties (to keep it even handed - giving them a reason to be overly pessimistic and me one to be insufficiently pessimistic). I'm still going to have readers after any talk of the bubble is long gone - them, not so much. Perhaps there's even some of the positive feedback effect you see so much of if you read political weblogs of either extremity. Those who won't consider both sides of the issue, and only hang with those who agree with them, get ever more extreme in their views.

I will readily admit, like I do to my prospects, that the market could go down further. Significantly further, even. Mostly due to the number of bad loans that were made, we could all be in for an ugly surprise. But Southern California is not Holland, not for any number of reasons, and for as long as records have been kept, our market's been increasing at an average annualized rate of about 7% per year, through up cycles and down cycles. I don't think even Holland is Holland the way they present it on that page without some pretty significant cherry picking of the data. If land ain't so valuable, why are they spending so much effort to reclaim more of it from the North Sea? If it were a debate, I would challenge just about all of their claims. Economics and the financial system just don't work like they claim it does. Demand is there. It's almost scary how much deferred demand there is. Affordability is there now, where it wasn't eighteen months ago. When the excess inventory dries up, look for the power to swing back from buyers to sellers. I don't think we're going to see twenty percent per year appreciation any time soon, but five to seven, average years or maybe a little less.

But my disagreements with them are more a matter of degree than of kind. There have been some serious abuses in the real estate marketplace, and they're not all straightened out, by any means. I just think that in my particular market, we've reached the right time to come off of the sidelines. I could be wrong, and I'm willing to admit the possibility exists, and examine the data, but the only way to be certain is to wait and see.

Caveat Emptor