Well, all the headlines said Alan Greenspan said that there was a housing bubble, and it was going to pop. I read his remarks, and the fact he said no such thing means little, I guess. The front page of newspapers is the editorial page now, masquerading as news, and the editorial pages are the equivalent of a disturbed person standing on the streetcorner handing out mimeographed screeds, while wearing a sandwich board that say: “The World Will End Yesterday.”
And what does Alan Greenspan know about housing prices, anyway?
Everyone wants to report on the housing bubble, because they are mired in tired old thinking about all investments, housing included. They believe Wall Street is a big casino, not a place that uses the sale of securities to determine the value of publicly held companies. And they believe that if housing prices go up, they’ll have to go down. “Because you know, they have to, and stuff, because, like, they went up, and I don’t know why, so like, they’ll have to go down, and we’ll keep saying so until they do even if it takes ten years, and then we’ll say we told you so.”
I’d like to ask every one of the authors of this kind of drivel, after they blurt out “It’s a bubble!” to tell me what a bubble is. I doubt they could.
Let’s go to the dictionary, shall we?
a : something that lacks firmness, solidity, or reality b : a delusive scheme
According to CLNN, 300 million people joined Amway last year, and decided to sell each other houses until we all have enough money to, well, I don’t know what, buy a house?
So as you observe the desolate landscape laid out for you by CLNN, (the Chicken Little News Networks,) I advise you to keep a few things in mind:
1. Alan Greenspan doesn’t set mortgage rates.
You heard it here first, folks. Alan Greenspan’s job is to make sure there’s not too little, or too much money in the banks. That’s it. He’s done a fair job of it, for the most part, but he’s a bit of an old thinker. He waited way to long to cut interest rates six years ago or so, still fearing nonexistent inflation around every corner, while deflation was much more likely.
Al likes to say obscure things about inflation, and people at the newspapers who don’t know the difference between inflation and indigestion wax wroth about how dire it all is. Gas is $2.50 a gallon, Crazy Al jacks up the short term interest rate every time Andrea Mitchell brushes her teeth, but inflation never appears. Passing laws against imports could trigger it, but Smoot Hawley redux can’t get any traction in Congress.
Inflation is when productivity gains can’t keep up with rising wages, regulation, and ambulance chasing lawyers. Look up France and Germany for that kind of problem, we don’t have it- except the lawyers; we've got those in spades. But in France and Germany they’re running the country instead of leeching off it. Big difference.
The more Al jacks up short term interest rates, the less likely that the term of your average mortgage is going to see runaway inflation. So he jacks it up short term, and the 15 and 30 year rates go still lower. Smarter people than me, and Old Al maybe, are betting their money on long term stability.
2. Beware the Blanket Statement: “Houses are overvalued.”
What houses? Where?
This one amuses me. All houses everywhere? Says who? Based on what? Your house is worth what another is willing to pay for it. If you ask me, a house in San Francisco is worth about ten percent of what they’re getting for it. But you’re not asking me. You’re certainly not asking some community college grad working at the newspaper to put a value on it. Mr. Greenspan’s too busy to do your home inspection and appraisal, I presume. So you put a sign out front that says: For Sale. If someone gives you the money, that’s what it’s worth.
There was a joke that circulated around Japan twenty years ago. You remember, back when Japan was taking over the world, at least according to the knuckleheads now saying we’re all going to be living in our cars while Alan Greenspan and the banks decide what to do with our repossessed bubble houses. We were all just gonna be slaves, buying VCRs with borrowed money, and Japan would own the USA lock stock and barrel. For you youngsters, I didn’t just mistype “China.” It was Japan back then, the unstoppable economic force that was gong to wipe us off the money map.
Anyway, the joke went something like this:
Two men are on the subway. One says to the other: “I have a million dollar dog.” His friend says:
How do you know it’s worth a million dollars?
“Because I traded my two $500,000 cats for it.”
That was a bubble. A real one. The Japanese were swimming in money, and being unable to buy decent real estate or any other worthwhile thing, it chased its tail around the island, looking for somewhere to land.
They saved it like crazy, and the smart ones invested it in the USA, and made even more money they couldn’t buy anything worth owning with. And Japan’s been in a recession for about fifteen years. But at least they don’t have “a trade deficit” Bubble people are crazy about trade deficits too. They’re really big numbers they don’t understand, so they make them nervous. I don’t have time to make fun of that today.
3. Beware People Who Say: All Home debt is bad.
Let me get this straight. If you borrow against a tax deductible appreciating asset, while you get 100% of the use of it, you’re a fool. I see. Since you’re certain, for reasons unknown and inexplicable, that housing prices are going to tumble, I’ll be a lot better off if the money I’m losing is all mine, as the equity in my home plummets.
Let’s say I buy a house for $250,000.00. I pay cash. You buy the one next door, and pay the same, but mortgage the whole thing. We both make the same amount of money. Houses go in the toilet, because, well, they just do, the bubble people said so. Both homes go down to $200,000.00. That’s a twenty percent loss, and just what the doomsayers are expecting, and I suspect, secretly hoping for. Who’s screwed?
Well, we both still have houses to live in. The bank doesn’t throw you out because you lost equity. You just have to make the payments every month. I paid cash, so I’m out $50,000.00 if I sell. You sell your house, and you’re out the same $50k to get out of the mortgage. But you had your money the whole time. That money returns about 11% a year, on average, if invested in the stock market long term. And you got to keep more of what you earned, because the tax deduction for home mortgage interest is one of the few really big deductions you get. I don’t write these tax laws, by the way, I just read them. The bank owned your house, but you lived in it. And you got the use of your money for yourself, and used the bank’s money for a place to live. And when your house appreciates, you keep it all, even if you have five cents equity in it to start.
I keep picturing people burying money in coffee cans in their yard, or moving to a bunker compound in Montana, when I hear investment advice like this. Owning things free and clear is nice. My house is the last thing I’d pay off.
4. Beware misinformation: “People are remortgaging their houses to go on cocaine and gambling binges.”
No they’re not. 99% of them are refinancing their homes to lower their interest rates. That makes it easier to repay whatever they owe on their houses, whether it’s 10% or every last dime. I’m in the housing business, and know lots more people who are too. Trust me, people are plowing the money they cash out on refinance mainly on two things: They add on to or improve their existing home, or buy additional property, like vacation homes. The additions make the homes still more valuable and useful, and add equity again. Many more are using their equity money to start businesses, (I did) and add home offices to their houses.
Greenspan’s comments, where they weren’t totally opaque, basically said it’s unwise to take equity out of your house and spend it on beer and cigarettes. That’s why he gets paid the big bucks, for insights like that. I doubt Mr.Greenspan would advise you to spend your rent money, children’s college fund, welfare check or your toll change on those items either, but that wouldn’t make a headline for the Bubble people.
5. Some people are going to get killed in the housing market.
They always do. And some lenders will take it on the chin. But how does that have anything to do with rising home values? People are investing exorbitant amounts in their homes in places where their homes can become almost worthless, but that’s not a housing bubble. Spendthrift and/or corrupt public administrations, who overregulate business and building but take a laissez faire attitude towards criminals, all the while jacking up taxes inexorably, are far more likely to make people overpaying for property regret it eventually. But that’s politics, not banking.
6. Will somebody please read the tax code?
It’s complicated, I know, and so much easier just to slap Greenspan’s picture on over: “Housing Holocaust Imminent”
They changed the tax code to allow you to keep 100% of the capital gains you realize when your house appreciates and you sell it. It’s the only investment available to the average Joe that does that. Even 401k and suchlike only postpone tax liability, but Real Estate capital gains tax has been voided if you stay in the property for two years. Lots of people buy dumps, renovate them and sell them. Selling your home and getting the equity money tax free is a powerful inducement for home turnover. Lots of people are doing this, and in general the whole market is more wide open to churn, with people buying and selling more often because the IRS isn’t looming over their shoulder like Kong.
Let’s recall the old formulation was you HAD to IMMEDIATELY spend your realized equity on a more expensive house than the one you just sold, or suffer crushing capital gains taxes. That was a much more potent formula for overspending and overvaluing housing than the current tax landscape. The landscape of Real Estate, taxation, and employment has changed dramatically, but the fuddy duddies are mired in the past, and think: Meltdown!
7. What about the cost of land?
This never gets any attention. People shrieking that housing will become worthless overnight never analyze what drives housing prices. Ever try to get a building permit? People who write for the newspapers about real estate bubbles must all go home to their rent controlled apartments after their all night foam party raves and think, any time you want, you can build a house.
It isn’t the same everywhere, but for the most part, a building lot is extremely difficult to get your hands on these days. And if you do manage to get one, it will have myriad of restrictions on what you can build on it. Towns like the one I live in, tax Real Estate sales and use the money to buy land and leave it fallow, because they like mosquitoes and skunks. Oops, I mean "Open Space." What do you suspect that does to the cost of real estate? Do you think the lawyers and engineers you have to hire to run the gamut of committees and officials will work for food?
The cost of a building lot in the town I live in currently is difficult to express as ratio, because there aren’t any lots. Infinity for a price, or zero as a divisor mucks up your bubble ratios. All the bubble popping in the world isn’t going to repeal one of those zoning, environmental, or building code restrictions. And I doubt we’re about to start building dikes to get more real estate like the Dutch did. They blew it all on tulip bulbs anyway. Now there’s a bubble.
8. Be skeptical of people who say: The banks are in a drunken stupor, and are loaning money to felons and imbeciles by the truckload, or are hoping to repossess the properties when they default.
I’m an American, and as such, I’m willing to listen to anything that disparages bankers or politicians, of course, but this one doesn’t hold much water either. The last thing a bank wants is repossessed property.
Listen to NPR. They, among others, have their knickers in a twist because bankers aren’t adhering to “conforming loan” standards. “Conforming loan” refers to strict guidelines set by a bizarre government /private lending business called Fannie-Mae. Now, when I say strict, I really mean bizarre and difficult to comply with. I don’t mean to say they have any correlation to the ability or willingness of a borrower to repay his debt. It’s just that bureaucrats like a pile of paper with heft, and the paperwork they make you fill out to “conform” has that nice heavy feel they like, in that manila folder with the accordion bottom they adore, and they lift it up and say: “That’s about five pounds, here’s your half a mil”
So NPR interviews a guy that gives “no-doc” loans. No doc loans, and their many related cousins, determine your credit worthiness by reviewing your credit history, appraising the property you want to buy, and lending you the portion of the property price they feel comfortable letting out of the bank, in the unlikely event they have to recover the asset and sell it. They charge a premium rate to cover the increased risk of less documentation.
That sounds a whole lot more like sensible business, banking, and risk management practice than the bubble people and their conforming loans.
Let me give you a concrete example of which I have first hand knowledge:
I was an employer twelve years ago. I wanted to buy a house, or buy land and develop it. My brother worked for me, and wanted to buy a house for his family. We applied, by coincidence, at the same bank for “conforming” loans.
The phone rings in my office. Bank lady says, sorry Greg, but we can only lend you $89,000.00 to purchase a five acre lot and build a three bedroom house on it. You’re not incorporated, so you’re considered self employed, and you’re too much of a risk to lend more than that to, even though your credit is spotless. It doesn’t matter that the property will be worth double or triple that amount the minute you’re finished with it, and you’re a licensed builder unlikely to build something unsaleable. Click.
Phone rings again, ten minutes later. EXACT SAME BANK LADY asks: Does your brother work for you? Yes. What are his prospects for future employment with you? Pretty good, mom will be mad if I fire him. I ask the nice lady: Don’t you feel a wee bit silly telling me that owning a business makes me a risky loan prospect, but all my employees have to do is flash two paychecks from me and they’re good to go? Yes, but rules are rules. Click.
I call my brother. How much are you borrowing?
There’s your conforming loan, bubble dudes.