Housing no longer a wealth builder

From The New York Times, via CNBC:

Housing will eventually recover from its great swoon. But many real estate experts now believe that home ownership will never again yield rewards like those enjoyed in the second half of the 20th century, when houses not only provided shelter but also a plump nest egg.

The wealth generated by housing in those decades, particularly on the coasts, did more than assure the owners a comfortable retirement. It powered the economy, paying for the education of children and grandchildren, keeping the cruise ships and golf courses full and the restaurants humming.

More than likely, that era is gone for good.

“There is no iron law that real estate must appreciate,” said Stan Humphries, chief economist for the real estate site Zillow. “All those theories advanced during the boom about why housing is special — that more people are choosing to spend more on housing, that more people are moving to the coasts, that we were running out of usable land — didn’t hold up.”

Instead, Mr. Humphries and other economists say, housing values will only keep up with inflation. A home will return the money an owner puts in each month, but will not multiply the investment.

Dean Baker, co-director of the Center for Economic and Policy Research, estimates that it will take 20 years to recoup the $6 trillion of housing wealth that has been lost since 2005. After adjusting for inflation, values will never catch up.

The end of housing as a wealth builder is especially true in areas where the bubble has not fully corrected, like Washington, D.C., New York City, and Boston. Nominal prices there will likely remain flat for a long time.

5 economic 'new normals'

Fortune Magazine lists five "'new normals' that really will stick":

1. Long-term unemployment
2. Renting over owning
3. Saving over spending
4. Staycations over vacations
5. Higher taxes for 'the rich'

I just got back from violating #4.

Bits bucket

I'm on summer vacation. I'll be back in about ten days. In the meantime, consider this a bits bucket post. Leave any housing news or thoughts in the comments.

Decline of the "ownership society"

The percentage of Americans owning their own home continues to decline:

FOR YEARS, government policy has aimed at driving up the owner-occupied share of residential housing, on the theory that everyone should have a shot at putting down roots and building up wealth. But judging by the latest numbers, that dream is fading. The national homeownership rate fell from 67.2 percent in the first quarter of 2010 to 66.9 percent in the second quarter, according to the Census Bureau. To put it another way, the recession and its accompanying wave of foreclosures have wiped out the past decade's worth of increases in homeownership. And there's more trouble ahead. According to an estimate from J.P. Morgan analysts, for every house already on the market in the United States, there is another one in or near foreclosure. Some industry forecasts suggest that, by 2012, homeownership rates could retreat to levels last seen in 1960.

Fun with trendlines

In the comments from a few days ago, JAC asks:

One question for you. You mention that Shiller's "own graph" suggest home prices are still overvalued. When I look at the graph and then "add a trend line" to "home prices", then home prices are indeed below the trend line now, which suggests they are undervalued, no?

My response to JAC was:

Are you including the bubble period in your trend? If you've got a 110-year period of relatively flat prices (adjusted for inflation), followed by a huge and temporary bubble, of course the trendline will be upward sloping. The bubble distorts the trendline's slope.

With my graphs I measure the pre-bubble trend only, to avoid any distortion. And surprise, surprise! It gives me a slope that closely matches the change in rental prices.

Here is Professor Robert Shiller's graph of housing prices (adjusted for inflation) since 1890. On it, I have drawn two trendlines. Eyeballing the two trendlines, which looks to you like a better measure of normal housing prices, the black trendline or the red trendline?

The black trendline measures housing prices for the entire 1890-2010 period, with 1950 being the midpoint. Notice it has two periods that add significant slope to the line. To the left of the midpoint, there is a roughly 25-year dip in prices from the end of World War I to the end of World War II. To the far right of the midpoint, there is a 10-year housing bubble.

The red trendline only measures housing prices for the post-World War II part of the 20th century, i.e. 1945-1999. I'm guessing that most people will see what they want to see, but to my eyes the red trendline is a better measure of normal. It goes straight through the the graph of the 1890-1917 period, even though that's not data used to draw the red trendline.

Now look at this graph, below. The dark blue line graphs housing prices since 1983. The magenta line graphs owner-equivalent rents since 1983. The two straight black lines are trendlines for housing prices and rents, respectively. It should be obvious which trendline is measuring which data set.

Theoretically, housing prices and rents should rise at roughly the same rate. After all, rent is the revenue that housing generates. Yet, in the graph, the house price trendline is significantly steeper than the rent trendline, because the housing bubble distorts the house price trend.


Now look at this graph below. In this graph, the rent trendline has been removed (although the graph of owner-equivalent rent remains). As a replacement for the rent trendline, I have added a trendline for pre-bubble (1983-1999) house prices. Notice that although the pre-bubble trendline is slightly flatter than the graph of rents, its slope is still much closer to the rent line than the original house price trendline. To me, this verifies that a trendline of pre-bubble housing prices is a better measure of normal than a trendline of all housing prices.


Ultimately, however, the change in rents is a better measure of the long-term house price trend than any trendline you can draw.

How few new homes are being built?

Very few.

New building permits:


New housing starts:


Hat tip: Paul Krugman.

House prices vs. rents

Nominal home prices vs. nominal rents:


After yesterday's blog post, in which MacroMarkets LLC suggests national home prices are actually undervalued, I decided to post another home price graph on my website. This one compares home prices to owner-equivalent rent inflation (i.e. nominal home prices vs. the nominal amount they could rent for). Like my original housing graph, the price vs. rent graph suggests national home prices are still overvalued.

Also, despite the fact that Robert Shiller is chief economist at MacroMarkets LLC, his own graph available in a spreadsheet at irrationalexuberance.com suggests that home prices are still overvalued compared to their historic inflation-adjusted norm.

The owner-equivalent rent index is available at http://data.bls.gov/cgi-bin/srgate by entering series id CUUR0000SEHC.

Are U.S. home prices undervalued?

MacroMarkets LLC has an online tool to compare actual home prices to their pre-bubble trend. In disagreement with my own graph comparing actual home prices to their pre-bubble trend, MacroMarkets suggests that home prices are slightly undervalued nationally.

Although the country as a whole is slightly undervalued according to MacroMarkets—with some cities such as Atlanta, Cleveland, Detroit, and Minneapolis substantially undervalued—two sections of the country are still overvalued: Southern California and the DC-to-Boston megalopolis.

The chief economist for MacroMarkets LLC is Robert Shiller.

Update: In the comments, Boston Bubble makes some good points:

I actually think your graph is better, given that you adjust for inflation before determining the trend whereas MacroMarkets only calculates a trend based on nominal growth. Inflation has varied dramatically over the years and that will necessarily distort any trend calculation based on nominal prices. I see that the MacroMarkets chart doesn't go back far enough to hit the Great Inflation of the 1960s - 1980s, so maybe it's not as big of a deal as it could have been, but that's another reason that I would trust your trend line more, because it goes back further.

I think it makes much more sense to measure the trend after adjusting for inflation. Most of Robert Shiller's research on housing prices looks at prices adjusted for inflation. However, as far as I can tell, the MacroMarkets "Gap Gauge" does not.

Also, my trendline measures the trend from 1970-1999, while MacroMarkets uses a trend period of 1987-1999. Thus, they are only using a 13-year period to tell you what prices should have been over the following decade. I use a three-decade period to tell you what the prices should have been over the following decade.

To MacroMarkets' credit, they use a very slightly upward curving trendline, while the trendline I use is perfectly straight. I originally tried to use a slightly upward curving trendline, but the result Microsoft Excel gave me was nonsensical. I also have a graph (not online) that compares home prices to rents. The rent line looks very similar to my perfectly straight trendline.

Renting vs. buying a home

Here's some good advice on renting vs. buying a home.

Paging Greg Mankiw!

Are stocks cheap or expensive?