Formula 409: Wiping Out Dirt, Grime AND High House Prices

Back in May, I posted an analysis on the remarkable similarities between the prices declines we are seeing now versus the last housing price decline we saw in the early 90's here in Orange County. In that post, I showed that during the last decline, according to the Case Shiller index, prices fell fully 40% over the course of roughly nine years.

With all of the talk about prices "stabilizing" and "bounces" set to occur next year, I thought I'd better come up with an easy way for people to remember the depth and duration of the last decline, lest they forget and make bad decisions in the absence of that context. The last decline wasn't pretty and to be quite candid, I'd to see as few of my friends and neighbor burned this time around as is possible. My guess is that if you're reader of my blog, you probably feel the same way.

So, here goes. With a 40% price decline ('40') over nine years ('9') and a little concatenation ( '40' & '9'), we get the handy mnemonic '409'; just like the cleaner of the same name.

Just to get things off on the right foot in committing this little ditty memory you ought to just go ahead and say it: "409." I'll wait...Now, you're going to need to exert more effort than that to remember '409', but I'd like to point out that remembering this handy phrase will benefit you in many ways:

1. You will have an accruate grasp of the extent and duration of the last OC RE price decline.


2. You will be able wow your friends and colleagues with your knowledge of OC RE history.


3. You will have historical context when considering how far prices might drop this time.


4. You will have a quicky and handy ready retort for many bullish rants on Lanser's blog.


5. Not that it's of any relevant value, but you will also know the area code for SE Texas.

One menomic, so much value.

Now, one way to use the valuable information provided by 409 is for your own benefit. There are a lot of shills operating in the OC RE market these days with "7% in the bag", "inverted year", "bounce scenario", "shallow decline", "price stabilization", "good time to buy" and "get off the fence" rhetoric. Before you buy into their bullshit, ask yourself these questions as sort of a first-line filter:

1. Do I think that this decline has fully ran its course?


2. Do you assume this decline is going to be roughly half as bad, as bad or worse than the last?


3. If you assume this decline is only going to be half as bad as the last (prices down 20%), has this market gone down 20%?


4. If you assume this decline is only going to be as bad as the last (prices down 40%), has this market gone down 40%?


5. If you assume it's going to be worse, do you have all of your money in gold bullion and sliver dimes?

If you can't answer "yes" to at least two of these questions, (#2 & #5 don't count) it is NOT a time succumb to the shills and purchase property in OC. The shills words are a siren's song, but if you consider 409, along with your beliefs about the current market

The other way to use 409, is to share it with your friends, colleagues and neighbors. If you hear someone you're acquainted with talking about housing, tell them immediately about 409. In fact, you might want to let anyone you who is considering buying a home about 409 to save them from the fate of those unfortunate enough to buy in the early 90's. Tell someone about 409 today!

Housing Sales to Drop 25% in 2008?

It was reported in the Orange County Register that executives at Countrywide Funding expect retail loan volumes to drop 25% next year and that they are going to lay off 12,000 people as a result. I don't think it's any stretch to say that this also means that there is going to be a 25% drop in home sales as well.

Let's have a look at July sales for the last three years and my estimate for 2008 based on Countrywide's figures:

Clearly sales in Orange Country are falling precipitously year on year and will continue to do so at least into 2008.

What's most striking and a bit difficult to derive from the graph, is just how far housing sales volumes are going to drop from their peak in 2005. In 2005, OC saw 4,341 homes change hands, based on estimates derived from Countrywide's numbers, we we only see anemic sales of only 1,793 units in 2007 or over 2,500 fewer units. That's a decline of nearly 59%.

UPDATE: Based on recent sales figures, I'm going to revise my estimates and am calling for monthly volumes under 1,000 units for some months next year.

So ask yourself this question: "Would I want to buy stock in a company where sales were going to drop nearly 60% over a four-year period?" If you answer "no", then you shouldn't even consider buying a house this year or next. If you answer "yes", I've got some .com-era stock options I'd like to talk with you about.

Viva los Osos!

Deadly RE Sins: Gluttony

Every day or so, Redfin sends me updates of market activity in a few areas of OC that I care to study. In essence, these updates tell me two things: new properties that have been listed and properties where their prices have changed for one reason or another. I always enjoy seeing what properties are coming on the market, but I've got admit, I find the prices changes the most interesting.

As I've been reviewing the pricing changes, I've found that there are essentially three elements to a price change: direction, magnitude and frequency. Direction is simply whether a seller is lowering his price or raising it, magnitude is the amount of the change and frequency is essentially how often the seller adjusts his prices.

Today, I thought I'd noodle a little on that first aspect of price changes: direction. And I'd thought I'd start by looking at people clever enough to raise their prices in today's market, and introduce the first of our Deadly RE Sins: Gluttony.

You might be tempted to believe that no one at this point in the market is raising the price on his home. And you would be wrong. Believe it or not, there are home sellers, some of whom have had their homes on the market for very long durations (90 days+) that are actually raising their prices. Here's an example:

20857 Cabrillo LN #7
HUNTINGTON BEACH, CA 92646
Days on Redfin: 123

Previous Price: $799,00

New Price: $899,000

I mean, seriously, how does conversation go around the dinner table?

Husband: "You know, dear, the house has been for sale for over four months now. And we still haven't gotten it sold."

Wife: "Yeah, hon, I've noticed that, too. Maybe there's something wrong with our pricing."

Husband: "Well sweetie, maybe people just don't realize what a primo condo this really is. Maybe if we raise the price, we'll attract a better class of buyer, the way a Four Seasons resort attracts blue-bloods!"

Wife: "You're right dear. If we're ever going to sell this house, we're going to have to raise the price..."

If we are to believe that the conversation went something like the conversation above, I think we'd have to come to the conclusion that our hypothetical couple just aren't particularly bright or are completely economically naive. Frankly, I don't think that's the case. Instead, I believe that people raise their prices when their homes aren't selling for one simple reason: economic Gluttony.

They want more for their house and damn the torpedoes, they are going to get it!

Rather than focusing on the reality of the market, I think some sellers convince themselves that can get a higher price for their home just because they are asking for it. Maybe the feel elite, may be feel lucky or maybe they feel entitled to earning better ROI, but somehow, they don't seem to feel that the prevailing economic conditions apply to them. They are WRONG. Their house is not going to sell for a dollar more than the market thinks it is worth.

By raising their price, they're seeking to line their pockets with more silver, but in the process they are decreasing the demand for their home! In a market where there is a lot of inventory and many substitutions for a given commodity (i.e. houses) demand elasticity is remarkably high. So, what I don't think they realize is that by raising their price by 15%, they likely are dropping demand for their home by more like 30, 50 or maybe even 90%.

Ironically, given that we are in a declining market, the greed that inspires them to raise the price of their house is the precise cause they will end up getting less than their original asking price.

In The Purgatorio penitents for Gluttony were forced to stand between two trees, unable to reach or eat the fruit hanging from either. What these sellers don't realize it that they are volunteering themselves to play out the same penance with their equity.