"Real E" Blog by Quantum

Over the last few weeks, the Financial Markets have, and will continue to make a clear statement relating to "risk aversion"! Or,  is that really what we see happening?   Needless to say,  the rush to the Bond Markets is having an effect. The result of which has been a softening in Fixed Rate Mortgages.

For those of us observing the inevitable exhaustion from Heated Housing Markets this will no doubt, be received with a bit of mixed emotions. If you, like many in high cost housing areas, took the route of a high leverage (90% LTV or greater) interest only or “neg am” ARM’s you may be thinking GREAT, but I’ve lost 15% plus in market value in under a year and I can’t refinance even if I wanted to!

I’ve been in or around the Real Estate/Lending Industry for most of my professional life, I’ve worked commercial, multi-family and residential for much of this time in the California, Arizona, Nevada, Texas and Colorado markets and I can tell you this “cycle” is not the first and it will (barring severe systemic reconstruction) will most definably not be the last. Here in Sonoma, Marin, Napa and other Bay Area Counties this will be not unlike an annual visit from an unwelcome relative only this one occurs ever 8 to 10 years and can be far more painful, financially speaking.

Our Nation’s financial ethos has substituted creative thought and deliberate action for “speculation”, National Economic Security for “piracy” , fiscal responsibility for “debt spending” and it has trickled on down the line to the average Homeowner and mostly, in my opinion, out of necessity.

I find the explanation for the recent Financial Market upheaval to be utter rubbish. The “word on the street” is that “sub-prime lending” is the culprit which, for me, show’s either a deliberate (calculated) disregard for the facts or complete and utter ignorance of what drives the mortgage markets.  I believe, further, that the "sub-prime" dribble is,  in actuallity, a cover for what is really happening and it's referred to as "debt restructuring"!  In relative short order,  Billions of Dollars of Investor Capital (Domestic and a greater porton Foreign) are wiped out.  That's one way to cure a balance of payment problem and it has been accomplished several times before!

This is a seemingly complex issue that time and space doesn’t accommodate to lengthy a discussion so I will simply cover only a few of what I believe to be the most relevant. Speaking specifically to high cost housing areas - which pretty much includes the entire San Francisco Bay area as well as other major metropolitan areas- where the Residential Markets are driven by supply and demand. The supply being increasingly limited and, as well, the underlying costs due to increased Government Imposition, Land Use Limitations, Material and Labor Costs every increasing, makes for a supply chain ever more expensive and decreasing in volume. Coupled with a favorable Living Environment as well as other factors, we have an ever increasing field of Buyers vying for the limited supply. Now, add to the mix and for the past 7-10 years, historically (at time) low interest rates and we have a recipe for a robust real estate market!

Let us return to my earlier comment regarding our “Nation’s financial ethos” for a moment to introduce another, to me, interesting component, a microcosm of where and how this plays out for the average homeowner. On a National level, saving rates are at an all time low (in fact, statistically they are barely measurable) yet the Economy, the consumer spending component, has been quite healthy. Incomes, adjusted for inflation are at mid-1980’s levels, I ask you, where are the funds, which fuel this “boom”, coming from. One word, Debt! Refinance the home, why not, “…in the last year our house increased in value by $100k….”, we can pull out some cash, pay off those credit cards, or better yet, let’s put a Home Equity Line of Credit on the old homestead to buy that $50k SUV! And, we can do it because the Lender has a program with a 1% interest rate and we don’t have to pay for it, it’s a “no point loan”! Here, let me help you place the rope around your neck!

I’d love to introduce the “Real Estate Investor/Speculator” into the mix, but let's just say everyone knows one, however, for now, I’ll leave this subject for another time. For now, let’s just know that they don’t help and frequently, in a market correction, they actually make it worse!

The Federal Government (and many States) have made a mockery of the ideal we call “fiscal responsibility”. They deficit (debt) spend without consequence, Corporations debt spend through the aid of equity and bond markets and Banks have the printing presses of the Federal Reserve. Special Interests and their Political Hacks stand at the ready with purse strings in hand like a pack of over-fead Sloths.  The average American (and I don’t mean average in the realm of mediocre,…not at all) has no such backing, no such cushion for a soft landing! No you are forced into the requiem of “il debtorato” out of necessity. The Government is clearly aware of this yet has no interest in addressing it as they (and the system) answer to a higher God,…and it simply is not you!

The Mortgage Industry, simply put, responds to a market conditions (demands). Particularly in the case of “high cost” markets where the cost of the average home is well beyond the qualifying ability of the “traditional” mortgage product, the venerable 30 year fixed rate mortgage. These markets are a phenominally attractive means to pull funds into the U.S. Financial Circles so long as the upward trends continue.  At the first sign of trouble,  the finger pointing starts and the whiplash begins again. 

I recall in the mid-80’s purchasing my first home in San Diego using conventional financing. The $79k first mortgage on a $90k purchase price seems paltry by today’s standards but the point worth noting is that fixed rates were at 15% and I was thrilled to take the ARM program as 12.25%. By the way, the home, sold in June of 2006 at $635k which was financed using an 80% LTV (Loan to Value) First @ 6.25% and a Home Equity Line of Credit (HELOC) 2^nd at 8.25%.

Clearly interest rates have been at historically low rates, though not the cause of high priced housing, they’ve been an enabling factor. Don’t think for a moment, that my old home in San Diego would have ever seen a 600% gain had interest rates stated in the mid-teens!

The Mortgage/Banking industry has responded to the high housing costs by introducing products and/or modifying lending (qualifying) criteria. It is possible (currently) to obtain 100% financing without even qualifying for it based on income! Let me put it another way,...it is possible to obtain 100% financing on a home purchase with out having to document your ability to pay for it! Add to this that the loan (Ist) is most likely a “Neg Am Adjustable” with a “teaser rate” of 1% or an “Interest Only”, the Borrower will, if the market continues to spiral upward, be fine. You live in the home for two years, sell, take the “tax free” gain on a personal residence and do it again! Right? It’s not unlike a pyramid scheme,…sooner or later, the fuel runs out!

Who looses? The Fed surely doesn’t! One might think the Financial Markets do, they may fluctuate but in the final analysis, the market adjust for it in ways to detailed and time consuming to discuss here! Just remember, for the moment, this simple truth,…the asset is still there. The Banks don’t loose, they end up with the property which they turn around and sell (and by the way, a new mortgage is created!) and if they should loose value up to the 80% LTV bench mark, they recover it from/by Federal Guarantees. Yes, secondary financing does get wiped out but that Lender gets to write it off against their operating income. No, the looser is the Property Owner who’s forced to “take the hit”!

Personally, I think the greatest single contributor to volatility in the housing market is the concept of “forced housing”. Particularly in high priced housing markets. The idea of “entitlement” in this Country has , in my opinion,  placed huge pressures on the Housing Industry and has positioned Government in the capacity of micro-managing an industry effecting market forces in a most adverse manner! I know of no single Government program that has been financial successful, do you? In fact, it is functionally not possible to expect a entity that has no fiscal accountability to effectively participate in a structure, in any positive manner, that responds to a market driven cycle that is based entirely on fiscal restraints. Try not making a house or a car payment and see what happens!

We continue down this slippery slope! Congress, who doesn’t participate in mandatory Social Security participation yet guarantees a “life time” retirement benefit “starting” at $15,000/month. City Governments that extend fiscal responsibility for infrastructure costs on to Homeowners by leveraging their homes with “development bonds”. Or in a State who’s per student contributions and parcel bond/tax assessments for education are the highest in the Nation yet consistently delivers results among the lowest! I don’t get it,…we actual tolerate Bond Initiatives to the electorate permitting parcel assessments on properties who may not have students “of age” and voted on by Individuals that may not even own property or better yet, live in the area were the funds are spent! Can you think of “War For Independence” fought over a similar issue?

I can think of a comment by Ayn Rand in one of her magnificent books, “Atlas Shrugged” and it goes something like this “…if you perceive a conflict in your observation, it’s only because you haven’t looked deep enough.” After all, there’s always a reason, one just has to be willing to look for it and be prepared for the answer, it is quite possible that it will not be to your liking!

In the final analysis,  the blood-letting has started,  the boarders remain unsecure,  the national identity continues to fracture under the weight of "globalism", the Socialist Ideology of "Political Correctness" and "Entitlement" while the Country and its People, who I so dearly love, appear as "punch drunk" and seemingly without National Leadership willing, capable and interested in preserving it!  God Help Us! 

March 26, 2007

“Real Estate Trends 101”

I know of few people in the Real Estate Market that don’t want simple answers to a complex issues. Let us simply refer to it as “crystal balling”!

Thinking on it for the past few hours I found myself chuckling at myself wondering, if only I had that crystal ball ten years ago. Then I thought further and realized, I’d had the “crystal ball” all along! WE ALL DID,…We All Do!

The Real Estate Market operates in a peculiar yet predictable manner. Here in the San Francisco Bay Area particularly, San Francisco, Marin, Contra Cost, Santa Clara, Napa and Sonoma Counties, and I’ll suggest most major Metropolitan areas around the Country, this would be the same case as well. There are, as will always be the case, exceptions to this but I’ve neither the time nor the space to delineate each geographical area, I’ll just trust that you’ll be able to see the similarities, should the apply, in your area as well.

In the final analysis, I’ve observed and studied many real estate markets and there appears to be strong, consistent, similarities to the function that perpetuates these up/down cycles.

Fundamentally, it looks like this:

We start first with “Demand” , triggered by a variety of factors but typically it is a blend of desirability (area) and relative property values. That is, relative to other choices (area).

Then, we move toward “Outlook”, which is to say, the perception on the part of the Buying Public as to the “hopefulness factor”! If the “feel” is there, the participants tend to be proactive. Wiling/Eager to make a move.

Add to the mix, “Money Costs” , or simply put, cost and availability of Financing. Also, add to this the “creative” financing solution! We’ve seen this issue be an extremely relevant issue through any cycle.

“Ability to Pay”, is in some ways a component of “Money Costs” however it is a distinct, stand alone, aspect that can straddle “Outlook” as well yet can operate independent of either.

And then, the “Absorption Point”, which is the point when, Demand is curtailed by changes in “Outlook”, “Money Costs” and “Ability to Pay”.

There’s surely more room for a more detailed discussion on each of these issues, a host of near infinite variables that can be explored further however, I like it simple and straight to the point and frankly, dissecting them deeper will not change the observation, it will serve only to broaden its scope!

Now, I imagine that some might say that I’ve neglected one critical point! Why have I not addressed the issue of “Supply”? To be frank, I wanted to avoid to lengthy a discussion on the subject and not as I felt it unimportant. More so as I believe the issue is most relevant as it relates to “extremes” than the actual Cycle itself. In other words, if “Supply” is limited, then the “Cycle” develops more rapidly and prices become more extreme. In the case were “Supply” is reasonably abundant, the “Cycle” develops at a more measured pace and the extremes are, well, less so!

Here in my home town of Santa Rosa ( Sonoma County) , where the average home price is among the highest in the nation, the stage is being set for the next market “Cycle” which, I believe, will set new records for Average Home Prices though, admittedly, it will need to wait for the next “round”. We’ll discuss this issue, in greater detail, another time.

For now though, this Area Market as reached its “Absorption Point” approximately eight months ago and is now in a “correction spiral” which I believe will continue until we reach what I refer to as the “replacement cost” floor (another issue for later discussion) and we, sadly, have not reached this point yet!

Hold on tight, it’s going to be a bumpy ride! In the end, nothing suffered, nothing gained!

Watch for my next “post”, ”Staying Ahead of the Curve”! You’ll not want to miss it!

Curtis C. Greco, Realtor

Broker/Owner

Quantum Realty Services

Santa Rosa, CA. (USA)