Wednesday, August 26, 2009

New Home Sales are Strong! At the Right Price

Before I get started I thoughy everyone could use a laugh. Check out the new stimulus T-shirt:

Classic isn't it? I laughed my butt off when I saw this one.

Ok, back to the markets.

Today was another "borefest" on Wall St as the bears and the bulls continue to tango around the 1000-1050 area on the S&P.

We got some more bullish housing data on new and existing home sales. I have to admit, that tax credit seems to really be working. A few mortgage brokers have told me things(especially on the low end) that things have picked up as a result of the government stimulus.

What's interesting here is when you dig into the hew housing data, the real demand is coming from houses that haven't been built yet versus the spec "McMansions" that are already up.

According to the most recent report, new home sales are up 33% for houses that haven't been built yet while the new home sales for homes that are already up were down 6%. The reason for this is builders have adjusted to build what the buyer is looking for: Smaller and cheaper homes!

As I have said before, the 1-3's or 100-300k end of the market has been doing extremely well as a result of the first time home buyer tax credit. Homes in this price area are affordable which is critical in an environment that's dominated by tight lending. Buyers today must have the income needed to afford the mortgageor the deal isn't going to happen.

The answer to the problem with housing is simple folks. The price to income ratio must drop to where buyers can actually afford to buy them which is historically 3 times income. For example if you make $70k then you can comfortably afford something in the $210k range.

This means one of two things has to happen:

A) Incomes have to rise sustantially.


B) Housing prices must drop to fall in line with incomes.

Since we are in the midst of an economic collapse with soaring unemployment, I think we all know that option B is the only choice that realistically works.

The only way we got to this point was because Wall St created Ponzi lending products that enabled us to buy homes that we had no business buying. In the bubbly areas the price/income soared to 10-1 as buyers used no doc and subprime loans to buy up everything in sight.

What we have now learned is these homes were simply unaffordable which is why we now see a 13% delinquency rate on all mortgages right now!

What we are now learning as prime defaults soar is it didn't matter what your income bracket was: EVERYONE MADE THE SAME MISTAKE OF BUYING HOMES THEY COULDN'T AFFORD.

This is why the high end of the home market is totally screwed: The lending products are no longer available to buy these homes.

Banks would laugh at you today if you came to them with a loan application had a price to income ratio of 10-1. They would deny your application before you got two feet inside the bank. You would walk out of there with the word "DENIED" stamped right across your forehead.

Economic Disconnect found a great chart from Bubble-meter decribing the huge disparities in demand at the different home sale price levels:

The Bottom Line:

The numbers don't lie folks. The cause of this crisis is simple: Housing prices historically got way out of whack with incomes. The answer is also simple: All homes must fall back to levels where people are able to qualify.

The problem we have here is this adjustment will destroy the balance sheets of the banks on Wall St. The government has been desperately trying to prop up housing prices by lowering interest rates in an attempt to reflate the bubble and keep prices elevated.

Washington needs to realize that this WILL NOT WORK! Any economist with half a brain can figure out the problem here. Middle class Americans had no business buying homes for 500-600k just like upper middle class Americans had no business buying $2 million homes.

I also want to point out that this insanity was basically seen in certian "bubble areas" of the country. 600k homes in areas where housing is affordable will hold more of their value because there is less supply of them.

The fallout of this stupidity at the mid to high end will result in an upper end collapse in home prices because there simply aren't enough buyers to soak up the inventory.

This will put many prime loans at serious risk and will trigger another string of losses for the banks.

If you are in a home under $250k you have probably taken the largest part of your hit from the housing bust unless lending rates rise in the bond market as a result of our unfathomable deficit's.

If you are in the market for something above the low end in a bubble area, be patient, those $600,000 homes in suburbia will be $300,000 within a year or two.

As for the stock market: It's barely worth mentioning right now because the volumes are so low. When insolvent government owned stocks like AIG, C, BAC, and F are responsible for 40% of the trading volume on the exchange please accept this advice: Run away as fast as you can unless your an obsessed day trader or addicted to gambling!

These stocks are being gamed daily via HFT's so I would avoid this charade because you might be the one that gets stuck holding the ball when they decide to move onto something else.

The price action overall has been insane on Wall St recently. There is no rational way to accurately analyze it. Hopefully when the summer ends and the big players on the street get back to work, the market might start making sense again.


Tom said...

Hi Jeff

Do you really see prices on 600,000 homes dropping that much across the whole country, or just in certain areas? Is it that simple, everyone bought more of a home then they afford?". We do tend to make things complicated when we do not want to face reality. A man who I greatly admire said years ago " the truth is simple if wasn't everyone would get it."

silasisgolden said...

One (I think outrageous) reason for the high cost of housing is permit fees, red tape, and building codes. Have you checked how much it you pay in California to be allowed to build? It's a sum that in many countries would build a mansion. The standards of perfection now applied to housing are imposed by boards accountable to no one. A friend here in Massachusetts priced windows for his house. Last December 31st, code approved windows would have cost $9,000.00. Now? $22,000.00. The new standard gives you a window that won't break if the end of a 2x4 going 100mh hits the window. An event that might occur once in 150-300 years, providing the window is on the side of the house that faces the wind. This is insane!

Jeff said...


Certian bubble areas.

I should probably refine that on my post.

I really think its that simple. Inareas where housing is afordable, there are not many houses that are up in the 600k area so there is less supply.



Jeff said...


Great point.

We need a little deflation in building costs.

I think the new stuff going up will be half of the size of the average McMansion so I bet the builders can get their costs in line.

Thats a great point. The cost of everything is just too much versus what we make.

Who has 40k a year for anaverage liberal arts college?

I swear, the world's gone mad!

getyourselfconnected said...

great article. I see that FED player Lockhart sees unemployment at about 10%, probably into 2011. How this jibes with a renewed housing market is lost on me, but I only went to state school for biotechnology, so what do I know about these things.

jeff said...



I missed that.

Have to check that out.

The propaganda machine is running on high gear.

The recession is over! There is NOTHING to worry about.

America! Its time to start spending again!

What a joke.

flipdippy said...


Make no mistake about this, the volume in transactions in the conforming mortgage markets right now are just a money grab. We are doing a cash advance on future home sales.

Things are going to get fugly by Christmas time when the tax break expires and is not extended, and the pool of buyers dries up. It blows my mind realtors don't see this. Some acquintances I have who have basically been on welfare the last 1-1.5 years as RE agents who were just about to give up and change careers who are taking this blip as a sign the good times are here again.

Also, it remains to be seen what will happen with the $425k+ home market. There's no reason to think if these homes break through support for their size/market/location they won't put intense pressure on affordable home prices.

Anecdotally, in DC metro, what I'm seeing are a lot of dual income households (total income 200-400k ish) are STILL buying expensive homes, but they are cutting back on other things. They're driving older cars or trading their new ones in, they're not taking vacations, and don't tell anyone, but they stopped shopping exclusively at Whole Foods. Weird, innit?

And even if the US will never be Japan re: deflation, it seems we are at least similar in so much as prices will not increase in the next 2,5,10, maybe 20 years. Even if we do get a serious bout of inflation.

Anonymous said...

the big players on the street get back to work, the market might start making sense again
aha, it is going to start going up parabolically

Jeff said...


Was in a prime steakhouse on a Monday night and they had 1 reservation for the whole evening.

It was an eery feeling.
place was empty.

I agree, these dual incomers are spending their whole wad on their mortgage payment.

Why would anyone want to live like that.

I have friends in the mortgage biz who are saying the same thing Flip.

Money is flowing. Meanwhile all we are doing is stealing GDP for future quarters.

2010 is going to be much worse then many think. We may go positive on GDP in Q3 with the stimulus.

the punch bowl has gotta be pulled at some point and when it does...Lookout below

Jeff said...



Well said.

Herb said...

At noon today I stopped by an old favorite burger place that I hadn't been to in over a year. Its on the not so well to do part of town. The place was practically empty. Last year I would have maybe had to wait for a table to open. Everyone is getting hit hard now.

Flipdippy said...

I would bet a steak the Q3 GDP is negative and below expectations. The stimulus is not being spent fast enough. Imports are down but exports are down and should offset. Business inventories haven't been rebuilt in a meaningful way, and nobody is building until orders are booked and paid, so I can't imagine any increase in production would show up before Q4. Most of all the consumer is finally slamming on the brakes...even cash for carmakers won't have a huge impact if we see car sales crash again in september.

It would not surprise me, though, is even if GDP for Q3 is worse than Q2 it gets overlooked or spun differently.

Jeff said...


I am of the same belief.

the only reason I think GDP may rise is because we crashed so hard this time last year.

The spending on Obama's stimulus plan peaks in Q3 of this year.

I read the economy just like you do though.

2010 is going to be ugly, especially if the Fed pulls the punchbowl.

Jeff said...


I am seeing that kinda stuff everywhere.

Especially during the week. I think many consumers are saving their money so that they can go out one night on the weekend.

Anonymous said...

Every generation has one song that completely captures the mood of the times, this one gets my vote for today.