Monday, October 27, 2008

Flashback 2005: No bubble in San Diego

Three years ago today, Kevin Forrester, president of the North San Diego County Association of Realtors, said "the housing bubble is an economic myth":
San Diego County has experienced unprecedented increases in real estate values in recent years, with homes appreciating as much as 20 percent to 30 percent a year.

Such appreciation has given rise to the notion that there is a "housing bubble" — that is, an unsustainable gain in home prices that, in effect, creates a price bubble that will suddenly "pop," resulting in a loss of equity by homeowners.

The housing bubble is an economic myth, particularly in North San Diego County, where demand for housing has long outstripped supply — even in today's cooling market. A cooler housing market in which price increases are more in line with other economic growth factors does not signal the bursting of any so-called housing bubble — or the end of a vigorous housing market. Housing price increases can level off significantly and still provide good investment opportunities for buyers and sellers alike. ...

The only threat we face is loss of confidence on the part of those who want to buy or sell homes and other real estate. The plain fact is there is a lot of misleading and jaded information out there.

For example, those pundits who try to compare real estate to NASDAQ's meteoric rise are missing a couple of important points. Unlike stocks, real estate, especially at the national level, rarely decreases in value. Even when declines have occurred, they've been modest at best. ...

In the end, it is the marketplace — not panicky doomsayers — that will determine the future of our region's housing market. Continuing confidence in the viability of San Diego County and the fact that more people want and need to live here is the best evidence there is to disprove any housing bubble.
Mr. Forrester forgot to mention that the significant financial leverage (i.e. the mortgage) used to purchase a home greatly magnifies the effects of even a small percentage decline.

He also engaged in the type of thinking that says "the place I live is special, so even if prices fall elsewhere, they won't fall here because of its specialness." In fact, southern California is ground zero for the housing decline. Whoops!

1 comment:

  1. The other day I was talking with someone I know who works in finance, and I drew parallels between buying a stock on margin and buying a house with a mortgage.

    She rejected my comparison - mainly because you are paying the mortgage off (albeit slowly). But my point really is that when you buy a home with a mortgage you are essentially conducting two financial transactions.

    The first is the home purchase. The second is borrowing the money to purchase the home. The two are really only coupled in the sense that the mortgage debt is backed by the home, but other than this they are really independent of each other.

    The distinction is important - the terms of the mortgage are set at the time that the mortgage is originated. If the price of the home goes up, the homeowner gets the difference. If the price of the home goes down, the homeowner is stuck. And these are the characteristics that make a home purchase similar to buying a stock on margin - you are leveraging a small amount of your money with borrowed money to purchase the home.

    But unlike purchasing a stock on margin, there is no immediate margin call when the price of the home drops below the balance of the mortgage, at least directly. But the ARM resets in a way are forcing the same result - a forced sale of the asset.