The housing run-up post-COVID panic was so absurd that even highly qualified buyers with loans made using traditionally sound lending standards are in the cross-hairs as prices simply revert to mean.
Great research. Another potential issue that I would love to hear the numbers on: many short-term-rental (i.e. airbnb) buyers used hard money and private lending to purchase properties - thus feeding the "cash" buying frenzy. I've seen offers to get approved for a large DSCR loan with nothing but an airDNA rentalizer estimate, and there are numerous facebook groups and so-called "mentors" for hire connecting up these amateur investor/hoteliers with services to set up their LLCs and get bridge loans for the down payments. Dodd Frank carved out provisions for real business investors to take on risker loans for property assets, but it appears folks have figured out they'll just teach yesterday's sub-prime buyers how to be "real business investors," at least on paper. Not to mention, these are businesses reliant on: 1) residentially zoned properties and the whims of municipal governments to decide how or if they can be used for hospitality purposes, and 2) that the travel industry and demand for short-term rentals somehow remains robust through a continuing pandemic, inflation, political unrest, highest than ever gas prices, airline pilot shortages, and a likely recession...
Thanks Linden, I'll look into the details you have listed here. I have seen (in my local area) a lot of chatter about changing zoning and I do know that our governor recently changed the zoning bylaws so that towns only have to reach a simple majority to make major zoning changes. My initial thoughts on this have been to reject activist attempts to rezone suburban towns to allow for more multi-family development within existing single family zoned districts but I'll give it another look.
Thanks, though the issue as I see it isn't so much zoning, as housing being purchased with commercial loans on the basis of their airbnb/vrbo estimated revenue and net profits, not their lower (but already inflated) appraised market value or the market value of long-term rents. However, the zoning plays a role in that all of these investments are treated as commercial loans for businesses by the lenders, but they're in residential housing zones where there is no by-right allowance for hospitality business. If there are declines in the demand for short-term vacation rentals (which, there already is), people who took on those loans on the basis of boom-time revenue estimates, will not be able to pay their loans (and it's already happening - just join any social media groups or reddit threads with airbnb/STR investors). By they way, I'm not one, just an observer and professional researcher.
Linden, very interesting! I'll take a look at reddit and my local area to get a sense of the scale of the phenomena. I like the theme though. Basically small-ish investors using residential real estate as a sort of "gig-economy" arbitrage, levering up and buying and properties for cash-flow from short term rentals and price appreciation. It is sort of like this cycles flipping... an arbitrage that works really well until it doesn't and then it quickly goes south. Thanks for the excellent insight!
The reasoning that everyone keeps using that this housing price mania will continue is that there's such a backlog of folks who want homes. I've been rather confused about that though, as I just can't fathom so many people organically deciding to buy a house at the same time. Sure, Millennials have been late to the home buying party, but the jump just doesn't make sense without considering the extra money coming from stimulus measures and quantitative easing.
I don't have the monetary chops to figure out how much of an impact it is, but buying $1.3 Trillion in mortgage backed securities is going to throw the market for a loop. The MBS indexes I've been able to find were all flat between March 2020 and ~December 2021, when they started dropping. I would be really curious to see how much of the Jumbo Loan issues have been directly because of the Fed's intervention.
Ken, you hit on a couple interesting points that I would like to expand on. First, since the Fed started QE back in 2008, they have actually purchased > $2.7 trillion in agency MBS and have been estimated by Bloomberg to essentially represent about 30% of the MBS market overall. BUT... since they only buy GSE (Fannie, Freddie, Ginne) MBS, they are only directly influencing the conforming mortgage market (i.e. not the non-conforming jumbo privately funded portion of the market). That said, while literally purchasing the MBS on a first-order had the effect of propping up the mortgage market (particularly when the Fed first started to step in as the "lender of last resort" and saving the market back in 2008) the second order effect that the Fed was angling for (and brought about) was to control the long end of the yield curve particularly for the mortgage market (the market in such distress back in 2008). So by controlling mortgage rates (through these preferential purchases) the Fed forced mortgage rates down which affected BOTH the conforming and non-conforming portions of the mortgage market. Fast-forward 13+years to today and I believe that the effect of this activity overall is to literally change the nature of how home buyers view debt and dollars. The reason buyers were "bid-happy" enough to routinely throw hundreds of thousands at a bidding-war (my post details $300K+, I have seen some $500K+over-bids) is because their sense of the dollar has been seriously eroded, in a sense they simply don't respect the dollars. This, I believe is the REAL source of our current bout of inflation (namely the shift in psychology) and precisely why I'm so negative and don't think this period will clear very easily. When you see people (en mass) losing their marbles like this over homes, its a fundamental economic function playing out not some one off event. Fundamental macro-economic manias like these call for fundamental corrections.
This article flew over my head. I'm lost. Doesnt this just mean that house prices can afford to drop by 25% and owners can still sell the house and break even? Isn't it a lot more scary if home prices didnt go up and we face a possibility of 25% drop?
Well if home prices drop, the home "owner" will first be losing the equity that they have in the home, namely their initial deposits. While 20%-30% deposits look good from the perspective of having equity right out of the shoot and "skin in the game" from the lender's perspective, it doesn't look that good if you over paid by bidding 30% over an already highly inflated price. As home prices turn down, these buyers will almost immediately lose their equity (their deposits) and the next question will be whether they will end up truly "under water" whereby the home has 0 equity and further, is not even worth the amount of the loan.
I still feel that the article is basically saying house prices can go down a lot because they've gone up so much recently. And it's implying that house prices wouldn't go down a lot if they didn't recently go up a lot.
"it doesn't look that good if you over paid by bidding 30% over an already highly inflated price" <-- This statement is only true if you have a crystal ball and already know the prices will come down by 30% in the near future. A future where prices level off for a few years until they start to increase normally is also possible.
"As home prices turn down, these buyers will almost immediately lose their equity (their deposits) and the next question will be whether they will end up truly "under water" whereby the home has 0 equity and further, is not even worth the amount of the loan." <-- This part of your reply holds true no matter what price the buyer bought at.
Point #1: Not really, did you study the price model I developed? It's just a simple "back-of-the-envelope" estimate of a the more "fundamental" price of these homes using the S&P CoreLogic Case-Shiller Home Price Index as the basis to extrapolate a more reasonable path for home prices than what occurred in the wake of COVID / ZIRP. There no crystal ball but you can always look to some basic indications of reasonable price trends or other fundamentals like debt-to-income rations etc to decide if what just occurred in the market was divorced from reality. I'm suggesting that the COVID pandemic period with the Feds zero-percent-interest-rate policy worked to artificially boost home prices and further, that even prime buyers with decent down-payments went absolutely nutty over-biding for homes. Obviously, to some extent this is just conjecture but I believe this post takes a pretty decent approach to prove out this position using data.
Point #2: The point of the post is to say that if lenders were respecting the appraisals (or if the appraisals were more reasonable) that they would have demanded more down-payment from the bid-happy buyers. If the lender had required that the buyers had brought more money to the closing table to cover the overage as a result of over-paying for the home, there would be that much more equity in the home from day one. The buyer would still lose some of their equity with a price slide, but it would have been much harder for them to end up at a 100% LTV position where they are near being actually upside-down with the debt (i.e. more debt than the home is worth). The point is that the lender doesn't want an impaired home owner, impaired being either either high LTV or literally underwater (> 100% LTV)... this is not a great position for the home owner as any life change (illness, job change, divorce, unemployment etc.) can result in severe financial distress with a short-sale or foreclosure.
Great research. Another potential issue that I would love to hear the numbers on: many short-term-rental (i.e. airbnb) buyers used hard money and private lending to purchase properties - thus feeding the "cash" buying frenzy. I've seen offers to get approved for a large DSCR loan with nothing but an airDNA rentalizer estimate, and there are numerous facebook groups and so-called "mentors" for hire connecting up these amateur investor/hoteliers with services to set up their LLCs and get bridge loans for the down payments. Dodd Frank carved out provisions for real business investors to take on risker loans for property assets, but it appears folks have figured out they'll just teach yesterday's sub-prime buyers how to be "real business investors," at least on paper. Not to mention, these are businesses reliant on: 1) residentially zoned properties and the whims of municipal governments to decide how or if they can be used for hospitality purposes, and 2) that the travel industry and demand for short-term rentals somehow remains robust through a continuing pandemic, inflation, political unrest, highest than ever gas prices, airline pilot shortages, and a likely recession...
Thanks Linden, I'll look into the details you have listed here. I have seen (in my local area) a lot of chatter about changing zoning and I do know that our governor recently changed the zoning bylaws so that towns only have to reach a simple majority to make major zoning changes. My initial thoughts on this have been to reject activist attempts to rezone suburban towns to allow for more multi-family development within existing single family zoned districts but I'll give it another look.
Thanks, though the issue as I see it isn't so much zoning, as housing being purchased with commercial loans on the basis of their airbnb/vrbo estimated revenue and net profits, not their lower (but already inflated) appraised market value or the market value of long-term rents. However, the zoning plays a role in that all of these investments are treated as commercial loans for businesses by the lenders, but they're in residential housing zones where there is no by-right allowance for hospitality business. If there are declines in the demand for short-term vacation rentals (which, there already is), people who took on those loans on the basis of boom-time revenue estimates, will not be able to pay their loans (and it's already happening - just join any social media groups or reddit threads with airbnb/STR investors). By they way, I'm not one, just an observer and professional researcher.
Linden, very interesting! I'll take a look at reddit and my local area to get a sense of the scale of the phenomena. I like the theme though. Basically small-ish investors using residential real estate as a sort of "gig-economy" arbitrage, levering up and buying and properties for cash-flow from short term rentals and price appreciation. It is sort of like this cycles flipping... an arbitrage that works really well until it doesn't and then it quickly goes south. Thanks for the excellent insight!
Congrats on the MarketWatch mention
Thank you sir!
The reasoning that everyone keeps using that this housing price mania will continue is that there's such a backlog of folks who want homes. I've been rather confused about that though, as I just can't fathom so many people organically deciding to buy a house at the same time. Sure, Millennials have been late to the home buying party, but the jump just doesn't make sense without considering the extra money coming from stimulus measures and quantitative easing.
I don't have the monetary chops to figure out how much of an impact it is, but buying $1.3 Trillion in mortgage backed securities is going to throw the market for a loop. The MBS indexes I've been able to find were all flat between March 2020 and ~December 2021, when they started dropping. I would be really curious to see how much of the Jumbo Loan issues have been directly because of the Fed's intervention.
Ken, you hit on a couple interesting points that I would like to expand on. First, since the Fed started QE back in 2008, they have actually purchased > $2.7 trillion in agency MBS and have been estimated by Bloomberg to essentially represent about 30% of the MBS market overall. BUT... since they only buy GSE (Fannie, Freddie, Ginne) MBS, they are only directly influencing the conforming mortgage market (i.e. not the non-conforming jumbo privately funded portion of the market). That said, while literally purchasing the MBS on a first-order had the effect of propping up the mortgage market (particularly when the Fed first started to step in as the "lender of last resort" and saving the market back in 2008) the second order effect that the Fed was angling for (and brought about) was to control the long end of the yield curve particularly for the mortgage market (the market in such distress back in 2008). So by controlling mortgage rates (through these preferential purchases) the Fed forced mortgage rates down which affected BOTH the conforming and non-conforming portions of the mortgage market. Fast-forward 13+years to today and I believe that the effect of this activity overall is to literally change the nature of how home buyers view debt and dollars. The reason buyers were "bid-happy" enough to routinely throw hundreds of thousands at a bidding-war (my post details $300K+, I have seen some $500K+over-bids) is because their sense of the dollar has been seriously eroded, in a sense they simply don't respect the dollars. This, I believe is the REAL source of our current bout of inflation (namely the shift in psychology) and precisely why I'm so negative and don't think this period will clear very easily. When you see people (en mass) losing their marbles like this over homes, its a fundamental economic function playing out not some one off event. Fundamental macro-economic manias like these call for fundamental corrections.
This article flew over my head. I'm lost. Doesnt this just mean that house prices can afford to drop by 25% and owners can still sell the house and break even? Isn't it a lot more scary if home prices didnt go up and we face a possibility of 25% drop?
Well if home prices drop, the home "owner" will first be losing the equity that they have in the home, namely their initial deposits. While 20%-30% deposits look good from the perspective of having equity right out of the shoot and "skin in the game" from the lender's perspective, it doesn't look that good if you over paid by bidding 30% over an already highly inflated price. As home prices turn down, these buyers will almost immediately lose their equity (their deposits) and the next question will be whether they will end up truly "under water" whereby the home has 0 equity and further, is not even worth the amount of the loan.
I still feel that the article is basically saying house prices can go down a lot because they've gone up so much recently. And it's implying that house prices wouldn't go down a lot if they didn't recently go up a lot.
"it doesn't look that good if you over paid by bidding 30% over an already highly inflated price" <-- This statement is only true if you have a crystal ball and already know the prices will come down by 30% in the near future. A future where prices level off for a few years until they start to increase normally is also possible.
"As home prices turn down, these buyers will almost immediately lose their equity (their deposits) and the next question will be whether they will end up truly "under water" whereby the home has 0 equity and further, is not even worth the amount of the loan." <-- This part of your reply holds true no matter what price the buyer bought at.
Point #1: Not really, did you study the price model I developed? It's just a simple "back-of-the-envelope" estimate of a the more "fundamental" price of these homes using the S&P CoreLogic Case-Shiller Home Price Index as the basis to extrapolate a more reasonable path for home prices than what occurred in the wake of COVID / ZIRP. There no crystal ball but you can always look to some basic indications of reasonable price trends or other fundamentals like debt-to-income rations etc to decide if what just occurred in the market was divorced from reality. I'm suggesting that the COVID pandemic period with the Feds zero-percent-interest-rate policy worked to artificially boost home prices and further, that even prime buyers with decent down-payments went absolutely nutty over-biding for homes. Obviously, to some extent this is just conjecture but I believe this post takes a pretty decent approach to prove out this position using data.
Point #2: The point of the post is to say that if lenders were respecting the appraisals (or if the appraisals were more reasonable) that they would have demanded more down-payment from the bid-happy buyers. If the lender had required that the buyers had brought more money to the closing table to cover the overage as a result of over-paying for the home, there would be that much more equity in the home from day one. The buyer would still lose some of their equity with a price slide, but it would have been much harder for them to end up at a 100% LTV position where they are near being actually upside-down with the debt (i.e. more debt than the home is worth). The point is that the lender doesn't want an impaired home owner, impaired being either either high LTV or literally underwater (> 100% LTV)... this is not a great position for the home owner as any life change (illness, job change, divorce, unemployment etc.) can result in severe financial distress with a short-sale or foreclosure.