What Do Homeowners Expect

Barry Ritholtz says that homeowners don't have a clue:

The Big Picture: Polling Homeowners (they do not have a clue): Jonathan Miller's blog Matrix ("Interpreting the Real Estate Economy") has an interesting post (Consumer Reality Distortion, Or Is It?) outlining a recent WSJ poll on US Homeowners' perspectives and attitudes. In particular, Miller noted that:

Only 10% of homeowners polled said they believe that rising real-estate values had affected their spending.
85% of homeowners surveyed said they had experienced real-estate gains in the past three years.
70% saw gains of more than 10% in the past three years.
50% had extracted funds through home equity loans.
60% expect home values to rise at least 5% annualy for the next 3 years.
3% expect home values to fall over the next 3 years.
60% said rising energy costs were causing them to reign in spending.

Its fair to observe (as a commentor did at Matrix) that "only 10% said their spending had increased with the value of real estate, yet 50% had taken out loans against their equity. Is there a contradiction here?"

That's more than a contradiction; Its the entire underlying premise for why I believe a) Real Estate has been the key driver to the US economy; and 2) why so many people -- professionals included -- do not have a firm grasp on the underlying economy.

Any subsequent "retracement" will simply catch a majority quite unaware.

Its is all too true: Most people know not their own minds, including their biases and beliefs, their predelictions and prejudices . . .

Comments

[a]

Is there any contradiction in saying that real estate has been the key driver to the American economy and that the Greenspan Fed has done a superb job at monetary policy? The low-interest-rate policy of the Fed has been the main boost behind real estate.

[MobiusKlein]

In this homeowner's mind, Spending is the month to month sorts of spending. The Re-fi I did recently was not for spending per se, but for captial improvements on my home. Without that, I would have had to buy a house with a more expensive monthly payment anyway. (More rooms for kids, etc.)

So in a technical sense, it does effect my spending - but not the same was as if I got a wad of cash equal to the appreciation of my house.

[Barry Ritholtz]

Well, not all homeonwers:

Somewhere between 40 and 50% don't have a clue. (A Venn diagram might help right about now)

If 50% took a home equity loan, and only 10% of homeowners polled said they believe that rising real-estate values had affected their spending then it might be as little as 40% and as much as 50% who are self-contradictory . . .

(The half that didn't take a home equity loan could be telling the truth).

[Ian Montgomerie]

So, I have a question... does anyone know how to short real estate?

I generally have a pretty diversified investment portfolio in index funds. But it's soooo tempting to try and find a way to take advantage of the coming crash. But how would one go about that?

[dearieme]

"not for spending per se, but for capital improvements": be careful about the company you're keeping, MK; the British Finance Minister keeps using just such language, and he's a POLITICIAN.

[Ian Montgomerie]

Shorting *residential* real estate, I mean. Not commercial real estate, which is what the real estate securities I know about are.

[howard]

mobiusklein, help us out here a little.

if you did a cash-out refi and ended up with the same monthly mortgage payment, i could understand that you don't really think that rising real estate had affected your spending (essentially, you looked at the cashout as a one-time gift, and you used it to further increase the value of your home).

on the other hand, if at the end of your transaction, you ended up with a higher mortgage payment (or a longer mortgage), then your spending was most assuredly affected, even by your definition.

[howard]

ian, i don't know any instrument offhand, but others may know something exotic that i don't.

but what you could do if you really wanted to short the residential real estate market is to sell your house now, rent for a while, then buy it (or an equivalent) back after prices fall....

[Francis]

re: shorting residential real estate.

I believe that new homes in the US are built largely these days by a small number of builders, including Lennar, KB Homes, DR Horton, Toll Bros., Centex, Pulte and MDC Holdings. Shorting a basket of those stocks is the best way I can think of to short that market.

The recent change in the volume of insider sales in those companies may be interesting.

[steve]

Given the obvious lack of rationality in investors (in this case, homeowners), why seek finely grained explanations for problems such as the equity risk premium? (e.g., fat tails, rare events, bayesian calculus, etc.)

Why not accept that just as homeowners are not all behaving in a self-consistent (or self-aware) manner, many stock and bond investors have not deeply grasped the statistical results of the last 100 years of financial performance?

Fancy models built assuming rationality are mathematical overkill, given the behavioral quirks of the underlying actors. They lend the spurious air of technicality to what is merely guesswork.

[David Walker]

In Australia at least, there's clear evidence that home-equity loans are replacing other sources of consumer loans and even small business loans. Car purchases, for instance, are now much less likely to be funded by personal loans, since home equity is a much cheaper funding source. In essence, for home owners the home loan is becoming the central source of non-home-directed finance.

This will not account for the bulk of the discrepancy that's been noted in the US numbers, but I would be surprised if it's not happening at all in the US.

[ilsm]

Residential real estate has become an equity rather than a home.

Unfortunately, the perceived price of that equity is beyond any reason.

I agree, with the above, it is pushed by low interest rates, also; aided and abetted by loose lending underwriters and scurrulous real estate assessors. I am being kind to the bankers and mortgage originators.

But as in 2000 NASDAQ prices; real estate can only be turned to cash if someone pays it.

Housing is not an equity, but that is the effect, hopefully not intended, of huge current account/ federl deficits complicated with wrongful fed policy.

Where is the comptroller of the currency when we have a trillion is high risk mortgages????

[Gene O'Grady]

Not sure this is entirely relevant(hardly an economist, after all -- but I can write Greek verse), but in three separate Oregon small towns I have had the same experience in the last month. In a context of closed small businesses and emptying downtowns, I asked how the town or the local economy was doing. In each case (whether by coincidence or not, all three people I happened to ask were women, two of them clearly not a homeowners) the response was the same -- "We're doing really well, real estate prices keep going up."

[nate]

There are still many cities in the U.S. where one can live for less than many other parts of the world.

http://money.cnn.com/2004/06/11/pf/costofliving/

http://money.cnn.com/2004/11/11/real_estate/investment_prop/pf_worldhousing/

http://www.economist.com/finance/displayStory.cfm?story_id=4385293

[Richard Green]

Not all home equity loans are used to spend more. Some are used to consolodate debt (which is very rational behavior) and some are used to diversify away from home equity toward other assets (again, a perfectly rational thing to do).

Moreover, to the extent home equity is used to finance home improvements, the funds are being used for some combination of spending and investment.

It is hard to know exactly home much home equity affects consumption. Case, Quigley and Shiller have probably the best estimate, and they suggest a marginal propensity to consume out of changing housing wealth of about .03 to .04 in the short run.

[A. Zarkov]

Taking out a home equity loan does not necessarily mean you spent the money either on capital items or consumer items. You could have taken out the loan to pay off other debt, for example, paying off a big credit card balance. You might also think that you could invest the money and get a better return than the tax-adjusted interest rate on the loan.

[Passenger 37A]

Oh, I believe the consumers understand what is happening. They're playing video poker with their homes. So good so far...

[someguyinthecorner]

A few years back the federal government tracked me down 15 years after I completed my graduate work and erroneously attempted to recover my stipend money for 1.5 years and interest annually at 14%. At the time, I wondered: if they thought that they were legitimately lending to me at those rates, why not go into the credit card business? They could call it the Freedom Card or some other misnomer. Is there no way the gov't could turn the American consumer's insatiable thirst for debt to its advantage?

[Gerard MacDonell]

Ian:

Buy EUR, JPY, and RMB. If US real estate crashes, as you expect, they will appreciate. You could also sell Home Depot, Loews and Toll Brothers.

Finally, you might try shorting Exxon, which is favored by the current federal government -- which will go away if real estate crashes. Related, go long publishing companies that produce biology textbooks that do not include chapters on intelligent design. Or try to create a long in Smith and Wesson.

[Jonathan W. King]

A. Zarkov writes:
> Taking out a home equity loan does not necessarily mean you spent the money
> either on capital items or consumer items. You could have taken out the loan to
> pay off other debt, for example, paying off a big credit card balance

I don't get it. What you're saying is that people didn't spend the home equity money on capital or consumer items--they used their credit cards for that. So when they pay off their credit cards with the equity loan, all I see is the same debt rolled into a different form. Yes, the interest rate is lower and it's a good move in that sense, but you still have the same amount of debt hanging around. And the numbers suggest that indebtedness has gone up recently, not down.

That said, it's been a pretty tough week, and maybe I'm missing something subtle here...

[Tom N]

Invert the question a bit I suppose?

How could housing prices have gone up so much and continue to go up? (not that it will last for ever but How could it last forever)

If there is 6% more money per person printed a year why shouldn't housing prices tend to rise over the long run with the supply of money per person?

While supply will meet demand demand in terms of quality or higher premiums paid for location might very well sap up a constant percentage of earnings (be it 20% or 30% or whatever the current number is).

Certainly the drop in interest rates from 10% to 5% probably accounts for half of the increase in home prices...whether or how soon that interest rate element would be retraced will depend on future movement of mortage interest rates.

What is truly remarkable is how interest rates can remain lower than the rate of money printing per capita.

In such a situation people will tend to bid up anything of lasting value...or just borrow and use it hoping that the shit won't hit the fan ant the effective zero interst (or negative interest) rates won't go away and show people a cost to the capital they control

[MobiusKlein]

howard,
my main point was that quasi rational humans divide their resources mentally. Refinancing the home to take cash out to improve the home is psycologically different that getting cash out to buy caviar.

In my case, refinancing led to about the same monthly payments (=spending) with a house worth more (+assets).
The spending would have been needed, since we needed a more bedrooms anyway, and buying a different house would have similar costs, if not more.

From a personal standpoint, my month to month spending hasn't changed. It's just that the micro and macro usages of the words are different. (And yes, I know I spent the cash out on the contractor - I recognize the contradiction.)

[anne]

http://www.nytimes.com/2005/09/14/business/14lend.html?ex=1284350400&en=8a63d70db58adbe3&ei=5090&partner=rssuserland&emc=rss

September 14, 2005

Blacks Hit Hardest by Costlier Mortgages
By EDMUND L. ANDREWS

WASHINGTON - Regardless of income levels, blacks were about three times as likely as whites to borrow through more expensive "subprime" mortgages last year, according to a nationwide lending survey released Tuesday by the Federal Reserve.

The new report, based on data collected from 8,853 lenders, is the Fed's first attempt to look for evidence of racial and ethnic discrimination in the booming business in exotic mortgages and subprime lending.

Among low-income homebuyers, about 39.2 percent of blacks but only 12.9 percent of whites took out high-priced mortgages, which the Fed defined as loans with interest rates about 2 percentage points higher than those for "prime" customers with good credit.

For buyers of a $200,000 house last year, that would have meant about $3,000 extra in annual interest payments.

In its report, the Fed cautioned that its study included no data on the credit ratings of individual borrowers, which greatly affects the rates they must pay. The Fed also said that part of the gap could be explained by differences in the kinds of mortgages that people used and by differences among lenders.

But even after adjusting for those differences, blacks were nearly twice as likely as whites at every income level to take out expensive mortgages....

[anne]

http://www.nytimes.com/2005/10/02/nyregion/nyregionspecial2/02libank.html?ex=1285905600&en=3711bd0a9938fc4c&ei=5090&partner=rssuserland&emc=rss

October 2, 2005

My House, My Piggy Bank
By FORD FESSENDEN

EDWARD BRIGGS had a good job, but better still, he had credit cards. The job provided the solid middle-class life - a home in Colchester, Conn., two cars in the driveway, food on the table. But the credit cards underwrote dreams.

"In addition to the normal credit-card usage, I used the balance-transfer option to pay for a couple of things here and there, and got carried away with it," said Mr. Briggs, 56.

When the payments started to squeeze him, he realized his predicament and tried to dig himself out. But he still owed about $70,000, he said, when he lost his job three years ago. He found some work consulting, but "I just didn't have enough money coming in to cover everything," he said.

In July, with his credit-card debts approaching $90,000, he declared bankruptcy.

"We all think everything is going to be fine, and we'll have a little money and can live comfortably, and it didn't work out that way," said his wife, Karen Briggs, 48.

The couple are now also enduring bankruptcy's secondary infection, divorce. "I feel like I'm going to lose everything," she said. "I never thought this could happen to me, not all this. It's just very hard."

While bankruptcy has been on the rise in much of the country, the suburbs of New York have, for the most part, been spared. Now, though, there are signs that the holiday is ending.

Elsewhere, bankruptcy has been on a steady upward march since 2000. A surge of spring and summer filings in anticipation of the new, tougher bankruptcy law that takes effect on Oct. 17 could easily push filings in the United States to a record. Hurricane Katrina victims could push the total even higher. In fact, 1 in every 120 people over 18 will go bankrupt this year.

In the New York suburbs, though, bankruptcy has been declining, a trend that has seemed every bit as steady. In the last five years rates went down 20 percent in the counties around New York City.

But that doesn't mean that all is well in the suburbs. A closer look at the trend in the New York metropolitan area shows that some neighborhoods do not share the region's bankruptcy inoculation. Bankruptcy is high and growing not only in the Bronx, Manhattan and Brooklyn, but also in many areas of the suburbs, among them Mount Vernon and Hempstead in New York, Orange in New Jersey and much of Connecticut.

The pattern reflects some of the familiar geography of wealth: bankruptcy is usually higher in poor areas than in rich ones. But it also reflects the special geography of insolvency: it's low in places where the struggling would lose their homes....

[Kennybabes]

http://thehousingbubble2.blogspot.com/

Not my blog, but a very good on IMHO that discusses these very topics.

I was thinking of buying a house a few months ago, talked to some real estate agents, was amazed at how freaking stupid they were.

1 example the tax deduction. They could not grasp the concept that you were paying the bank a dollar to have the Feds give you 33 cents. Hey if it is such a brilliant thing I will buy that dollar from you for 33 cents.

Kinda like the car salesman who couldnt figure out that the 0% interest rate on the 20,000 car over 5 years was better than the $1000 cash back and a 6% rate.

Oh and for foreign currency you can look at www.everbank.com I personally bought Swiss Francs---would have bought RMB but didnt have the 10,000 miniumim.

[Ian Montgomerie]

OK, possibly stupid question: why would you want to buy non-US *currency* to take advantage of a drop in the dollar?

Wouldn't it be better to buy foreign market stock or mutual funds (or even bonds depending on your needs), which will earn interest in the meantime? So you'd earn nice interest and diversify your portfolio for now, then reap a windfall gain when the US dollar drops? (Or at least, if there's a global stock market slump caused by a drop in the US dollar, use the currency exchange gains to offset the drop in stock prices).

So, I have plenty of Vanguard index funds invested in European and other overseas markets. Isn't that a fine strategy to protect against a decline in the US dollar?

[wkwillis]

This is kind of late to be commenting, but homebuilders build homes, and if we can't import stuff anymore because the dollar drops, we are going to have to build a lot of homes near the places we are going to be making our own stuff.
Like coal mining areas, lumber cutting areas, farming areas, iron ore mining areas, oil well drilling areas, oil shale mining areas (well, probably not), for the miners, forresters, farmers, ranchers, smelters, synfuel workers, blast furnace operators, etc.
These will be in the flyover areas, not the metrocoastal areas that have been built up in the twenty five years since the last commodity boom.

[jon livesey]

"not for spending per se, but for capital improvements": be careful about the company you're keeping, MK; the British Finance Minister keeps using just such language, and he's a POLITICIAN."

Well, sort of. Gordon Brown's "golden rule" is that over a given business cycle, the Government should balance its books WRT spending, but it may legitimately borrow to fund "investment" because future generations will benefit from investment. This isn't a bad rule and many business follow a similar rule.

That said, Brown isn't balancing the books WRT spending, and some of what he classifies as investment looks a lot like spending to me. For example, I've seen estimates that suggest that as much as a half of all British GNP growth in the past decade has been Government hiring. All those terrible essential people who go around reminding you to eat five fruits and vegetables a day, and similar drones. He calls that an investment because it supposedly improves the quality of life.

As you say, he's a politician.

jon.

[glenn hefner]

A great way to profit from the eventual collapse of a housing bubble would be to short many financial companies highly linked to the mortgage industry. It would be wrong for me to mention specific companies, but there are several financial companies that are full of mortgages that have the potential to decline in value. And for several, this is just about all of their assets.

[five]

http://desamil.descom.es/ehjarg/voyeurshower.html iwasshoespilling