Friday, November 18, 2005

Toil And Trouble

The housing bubble, summarized (also be sure to click through to the underlying article referenced in the post; there's a very good analysis of all the factors feeding the bubble):

Peter Schiff has put together a complete examination of the housing bubble and the players involved, titled 'With Real Estate, This Time it Really is Different.' Highlights; "It is not without coincidence that the speculative fever born in the stock market mania seamlessly found new life in real estate. However, were it not for the irresponsible actions and omissions of the Federal Reserve, the Federal Government, Wall Street, and the mortgage industry itself, such speculation never could have produced the unprecedented national bubble just experienced."

"The speculative mentality that has enveloped homebuyers has so clouded their judgments that they will pay any price for real estate, which is not only seen as a 'can’t lose' investment, but thanks to incredible leverage, the equivalent of a 'ticket to easy street.' With houses now regarded as sources of income rather then expenses, many people see no cost to homeownership."

"The unbridled speculative fever that has turned everyday citizens into river boat gamblers has created an artificial property shortage, as speculators buy properties they have no intention of living in, and for which no viable rental market exists. The concepts of rental income and positive cash flow are now as passé as earnings and dividend yields were during the tech bubble. Negative cash flows, easily offset through cash-out refinancing, are regarded as acceptable trade offs for price appreciation. No one even questions why a property that is already so over-priced that it produces a negative cash flow would appreciate in the first place."

"If owning one house is a good investment, then owning two must be an even better one. Rising real estate prices are self-perpetuating, as increased home equity gives homeowners the ability to afford more property, putting added upward pressure on prices and creating additional equity with which to bid them even higher."

"In the final analysis the temporary factors artificially elevating real estate prices will subside. Once the trend reverses, falling prices will purge speculative demand from the market. Once speculators become sellers, supply will overwhelm demand. As lenders see housing prices fall and inventories rise, increased default risk will result in tighter lending standards, restricting access to mortgage credit. As more mortgages go into default, the secondary market for mortgage backed securities will dry up as well. This will act as a self-perpetuating, vicious cycle."

"The housing mania, like all manias that have preceded it, is finally coming to a long overdue end. Time tested principles of prudent mortgage lending will inevitability return, and houses will once again be regarded merely as places to live. However, the country will be a lot poorer as a result of the unprecedented dissipation of wealth and accumulation of consumer and mortgage debt which occurred during the bubble years. Before real estate prices can return to normal levels, they will first have to get dirt cheap."

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