US Housing Bubble -
The Leak Is Growing Bigger
By Richard Russell
Richard Russell has written The Dow Theory Letter since 1958. He is a wise man. Here is what he says about the housing market in San Diego where he lives:
As far as the US consumer is concerned, real estate is "where it's at." Half of all US families now own some stocks or mutual funds But the amount of money US families have in real estate far outweighs what they own in stocks. Therefore, what happens to the price of real estate, homes, condos -- is crucially important at this time. This is particularly true since US families now hold over $7 trillion in mortgage debt!
Let's start with an anecdotal story. I ran into an old neighbor a few days ago. This fellow owns 250 units in San Diego. His oldest son manages 1,500 units. I asked him what was going on in real estate. He told me that we're past the peak, that prices are softening, and that it's taking longer to sell property in La Jolla and throughout San Diego. He added that all his real estate friends agree with that appraisal.
I get Robert Campbell excellent "Campbell Real Estate Timing Letter" (858 481 3235). This is a unique report that uses a clever type of technical analysis plus fundamentals in analyzing the San Diego to LA real estate situation. Campbell follows a number of items such as "existing home sales," "new home building permits," "foreclosure sales," "notices of default," and he gives each category an index number. Then he works all of his various categories into what he calls his "Real Estate Crash Index." When this Index drops below zero, it's time to get out of Southern California real estate, or at least it's time to batten down the hatches on what you own.
"I believe the California housing market is a bubble that is nearing its final hours," writes Robert in a report that I received yesterday. His Real Estate Crash Index has finally given a bear signal.
Robert computes that California home prices could drop as much as 42%. He comes to this analysis in a very logical and scientific way based on current and past statistics, which I won't go into here. But I will include the following paragraph from Robert's current report.
"The median price CA (California) house, for example, now sells for $533,000. If a buyer puts 20% down, the carrying cost for principle, interest, property taxes, and hazard insurance with a 30-year fixed-rate mortgage of 6.5% is $3,400 per month. If the buyer only spends 35% of the family income on housing payments -- which has been an historical norm -- this family must be earning $116,000 per year. Earning only the average of $60,300 per year, buyers are purchasing twice as much home as the can really afford. Given these statistics, is it any wonder that interest only and negative amortizing loans now account for 70% of all CA home purchase financing?
"As the CA housing mania ends and the concept of risk returns to its rightful place, there is going to be a rush for the exit doors. Speculators are going to find out -- and many for the first time ever -- that as demand continues to soften, liquidity in real estate investments is far lower than they envisioned when they went in."
Russell Comment -- California real estate is priced far above the average or the median price for US real estate. Nevertheless, San Diego has been a leader on the upside, and many consider San Diego to be a sensitive bellwether area. The current issue of Smart Money magazine (a WSJ publication) carries an article entitled "Property Predictions." The article lists "Overvalued, "Fair Valued," and "Undervalued" real estate area. San Diego comes 7th on the list of "Overvalued." The article lists San Diego real estate as 61% overvalued.
Thus, as prices turn down, San Diego and much of the West Coast could take a beating in real estate. Nevertheless, as I said, San Diego was one of the first places to see surging real estate prices, and San Diego is evidently one of the first places to see weakening real estate prices.
San Diego real estate is now soft, inventories are too high, there are too many condos, and prices here are beginning to come down. I believe the rest of the nation will follow. The real estate bubble has backed into a spike and is beginning to deflate.
Wednesday, November 16, 2005
New Home Sales Fall 40% In N California
News Ten in Sacramento has some breaking news. "The latest figures on home sales in Sacramento give further evidence that the Northern California real estate market is slowing down. A report from the California Building Industry Association shows new home sales in Northern California fell 40 percent during the past three months, compared to the same period last year. It's the sharpest such drop in the last 15 years."
"Pam Deangelis sees the slowdown as a correction in a market that's been overheated for several years. Deangelis said a year ago people would come in panic buying mode. 'They would come in and be anxious to buy anything we had available,' she said. '"Now they're in panic selling mode because it's taking them longer to sell their existing house.'"
"Deangelis added Cresleigh Homes is no longer taking contingency offers, because some would-be buyers have been unable to sell their current homes."
"To counter the decline, many developers are offering incentives to buyers. Some are putting in thousands of dollars in upgrades at no extra charge, while others are discounting the base price of homes by five to 10 percent."
"The cooling of housing market appears to be accelerating, although the market has been trending downward for much of the year. In the first ten months of 2005 new home sales fell by 14 percent over the same period in 2004."
Homebuilder Confidence Sees 'Sharp Decline'
The homebuilders trade group has their internal index out this morning. "Responding to sharply lower measures of consumer confidence as well as rising mortgage rates and other factors in recent months, single-family home builders are adjusting their market expectations downward to a still favorable perspective, according to the National Association of Home Builders/Wells Fargo Housing Market Index (HMI) for November."
"The index declined eight points to rest at 60, a level well above the midpoint that indicates the majority of builders still see conditions as positive in their markets. 'No huge drop is in the cards, the sharp decline in the HMI probably overstates the actual degree of deterioration in the single-family market, and it's most likely that we're engaged in an orderly cooling process that will lead to somewhat lower home sales and production in the future,' added NAHB Chief Economist David Seiders."
"Each of the HMI's component indexes registered declines this time around. The index gauging current sales activity fell eight points to 66, while the index gauging sales expectations for the next six months dropped nine points to 64 and the index gauging traffic of prospective buyers fell five points to 46. The last time the HMI hit 60 was in May of 2003."
"In the West, the HMI fell from a very high level of 91 in October to a still-impressive 78 in November, while in the South, it declined from 76 to 68. In the Northeast, the gauge slipped six points to 61, while continued job-market weakness in the Midwest brought that region's HMI down from 45 to 38."
Skeptics Line Up Against Homebuilders
The homebuilder DR Horton reported earnings this morning. "The No. 1 U.S. home builder, on Wednesday posted a better-than-expected fiscal fourth-quarter profit and raised its outlook for the current year on strong demand nationwide. But some analysts were cautious and unwilling to overlook industry cost pressures, slowing price increases and rising inventory of existing homes for sale."
"Horton may feel some pain from Phoenix, Arizona, one of the hottest U.S. real estate markets, when speculators who have helped drive up median prices 49 percent, flee the area, unloading homes en masse, said Raymond James analyst Rick Murray."
"'We suspect the future of this market may unfold similarly to the recent slowdown in Washington, D.C., or a situation similar to the events that transpired in Las Vegas a little over a year ago,' Murray wrote. While the inventory of homes for sale is low in Phoenix, where Horton is the market leader grabbing 9.6 percent, it has more than doubled over the year, Murray said."
"Horton ended the quarter with a backlog of 19,244 homes on order and awaiting construction." As was posted yesterday, there are a record 500,000 new homes sitting on the market. Speculators are using the public homebuilders as a low cost play on the housing bubble.
"Even the National Association of Home Builders now concedes the housing market may be full of little tiny bubbles. NAHB chief economist David Seiders Seiders seemed to agree with a rising chorus of other economists. 'We're on the cusp of change,' the economist said after a presentation by David Berson, his counterpart at Fannie Mae, who told the conference that 29 of the top 100 metropolitan statistical areas are experiencing price gains that are not sustainable."
"David Wyss, chief economist at Standard & Poor's, came close to throwing his hat in the ring, too, pointing out that the number of 'seriously over-valued' markets has increased from 30 percent to 'almost' half within the last year. Historically, Wyss reported, the ratio of the average home price to average disposable income has been 2.6. But the price-to-income ratio is currently 3.2 on a national basis, and two to three times that in many cities, he said."
"In San Diego, for example, houses cost 9.68 times the average household income. In San Francisco, the ratio is 9.19. And in New York, it was 8.62. These ratios 'have to come down,' the rating agency's top economist warned. And whether prices decline or continue to rise at a slower pace depends on the strength of the overall economy."
"Seiders pointed out, 'Things continue to be very, very good for the housing market, but its role as an engine in the economy is coming to an end.'"
Signs of Sickness in the U.S. Consumer
Tuesday, November 15, 2005
On September 15, ("Record Earnings-Record Debt") reported that the personal savings rate was negative for the first time since the Great Depression (excluding the month following 9/11). Now, the personal savings rate has been negative for three months in a row.
Following a revised minus 0.3 percent rate in June, and a revised minus 1.1 percent rate in July, consumers again spent more money than they earned in August, with the personal savings rate at minus 0.7 percent.
Personal income during August also fell by 0.1 percent, as did consumer spending-by 1 percent (Washington Post, October 1). What makes these statistics worrisome is that even though consumer spending decreased proportionately more than personal income, people still spent more than they earned. This indicates people had to dip into savings, sell assets, or take on more debt to maintain their standard of living.
Consumers are finding it increasingly difficult to keep up with their debt.
A record 4.81 percent of credit card accounts were at least a month behind in the second quarter of this year (USA Today, September 28). This number surpasses the prior high, set the previous quarter. Unfortunately, over the short term, things are not looking good for credit-maxed Americans. Many credit card companies have been raising the minimum monthly payments and have been switching to variable interest rates that rise and fall with the short-term federal funds rate. New regulations doubling the minimum payment are also set to take effect this year. This means that a greater and greater portion of income belonging to people with credit card debt will be used to make minimum payments.
Personal bankruptcies also set a record in anticipation of the October 17 change in U.S. bankruptcy law, which tightened the requirements for personal bankruptcy filings. September filings were at all-time highs, averaging approximately 9,000 per day, 50 percent higher than last year. About 1.24 million Americans declared personal bankruptcy this year through September 17. Thirty-seven states have seen the percentage of bankruptcy filings jump by double digits since March.
Swelling energy costs are also starting to build pressure on the American consumer. In fact, the rise in gasoline prices alone is starting to squeeze some.
Any one of the hundreds of thousands of Angelenos or New Yorkers that suffer through two-hour daily commutes will tell you how gas prices are taking a bite out of their bank accounts. As gasoline prices have spiked, so has the use of credit cards to pay for it. People are trying to put off the pain of paying for as long as possible. All across the country, rising gasoline prices have been linked to increased theft. Last year, gas thefts more than doubled over the previous year to $237 million.
Home heating and energy costs, reflecting record-high oil and natural gas prices, will also hurt consumers-this winter, especially.
Higher borrowing costs are also starting to pressure American consumers and small-business entrepreneurs.
The U.S. Federal Reserve has been increasing short-term lending rates since June 2004. Since banks must base their prime lending rates upon the Federal Reserve rate, this has led to higher loan rates. On average, these loans are now at 6.75 percent, the highest in the last four years. These rates are used for many short-term loans, including home equity lines of credit (, September 29).
Declining consumer spending, a negative savings rate and falling personal income bode ill for the U.S. economy.
Consumer spending accounts for two thirds of U.S. economic activity. As consumers continue to feel the pressure of rising energy costs, credit card payments and interest rates, watch for consumer spending to keep dropping. Ultimately, this will lead to recession-and with all the other problems of the economy, it has the potential to be a doozy.
For more explanation on why consumer spending is vital to the American economy, read "The Burden of John Q. Consumer." 



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