The latest Case-Shiller Home Price Index is in, and it shows continued, steep declines in home values across the country. The Forbes.com Investor Team weighed in on what these latest numbers mean and discussed possible regulatory solutions. Overall, our industry observers see a long, slow slog back to normal for real estate as excess inventory is burned off.
One reason any recovery could take a long time is because bubbles rarely re-inflate. "Real estate, over a very long period of time, has done just slightly better than the inflation average," says Ken Shubin Stein, head of hedge fund Spencer Capital Management. "Now ... real estate overshot it for a long time. If it's going to get back to the average it will undershoot it for a long time."
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First, some details from the index. The February figures show 10 of the 20 leading metro areas had record annual declines, with 15 showing losses of over 10% compared to February 2008. There is some slight good news, as the overall February declines for the 10- and 20-city indexes were not a record, for the first time in 16 months. All told, the Case-Shiller 10-city home price index is down 31.6% from its 2006 peak, and the 20-city index is down 30.7%.
Over the past year, Phoenix prices slid the farthest, down 35.2% since last February. Las Vegas is second, down 31.7%, and San Francisco is third, falling 31%, just a fraction of a point ahead of Miami. Since the bubble's peak, Phoenix again is down the most at 50.8%. Six other metropolitan areas--Detroit, Las Vegas, Los Angeles, Miami, San Francisco and San Diego--are down over 40%. Dallas was down the least at 11.1%.
Howard Berg, president of Jackson Grant Consulting Group, thinks the falling index numbers show we have not reached an optimal level of home affordability. "Homes are going to go down to the affordability index," he says. "I think in some places, like Las Vegas, Phoenix, and Miami, the prices are going to have to come way down, below value--the Case-Shiller index is a sign of that."
To piece together the fragmented housing regulatory landscape, on May 7, the House of Representatives approved the Mortgage Reform and Anti-Predatory Lending Act of 2009. The measure encourages a return to sound underwriting procedures, requires mortgage originators to hold up to 5% of the loans they make and sell, and requires all refinancing loans have the consumers' best interests in mind.
Some feel this new legislation will limit mortgage access--in a good way. "This will close off a whole lot of people from the mortgage industry," says Darren Robbins, partner at the law firm Coughlin, Stoia, Geller, Rudman and Robbins. "But, these were the same people who didn't have enough skin in the game and helped send homeownership levels up to an artificial level."
Still, blanket federal regulations may do very little to fix a highly localized real estate industry. While "we had diverse incentives that drove a national--and then global--bubble, real estate for most of us is just turning into a local business, not a national business," says Shubin Stein.
Still, the Mortgage Bankers Association, a trade group, does not believe localized mortgage legislation is the answer. "Mortgage law should be national law, because we work and live in [a] national, global credit market," says Francis Creighton, vice president and chief lobbyist for the MBA. "The patchwork quilt of lending laws is inefficient and leads to higher cost and consumer confusion." While the organization supports much of the federal bill, it believes the legislation falls short of a strong, uniform standard that would "protect consumers in every state."
As we await the Senate's follow-up with legislation of its own, it remains to be seen if lawmakers will address the wide discrepancies in the results of the Case-Shiller index. But our industry observers believe one thing is certain: "I don't think you can use your home as an ATM anymore," says securities attorney Jonathan Kord Lagemann. "At least, I would hope you can't."
Real Estate's Ongoing Fall
Forbes: Let's talk about the Case-Shiller home price index. The 10-city composite is now down 31.6% from its peak; the 20-city index is down 30.7% since its peak. Typically, things don't just reset to the mean, they bust through on the downside pretty far. In your collective opinions, how much further can home prices go on the downside, versus where they've been? And how much more can this keep going?
Howard Berg: Well, I think that every day somebody is on either television or on the Internet or in the news someplace saying, "Well, we're almost at the bottom." But, you know, the Case-Shiller index starts in 1970. You don't know the relative value of the homes in various areas in 1970. But anyway, I think, you know, the homes are going to go down to the affordability index.
You know, that ultimately the value of a home is what you can afford based on your annual income. And that presupposes a 20% down payment and reasonable and rational lending practices. And so, I think some places--like Las Vegas and Phoenix and Miami--the prices are going to have to come way down below value, because they have such a large excess. But around the country, I think you look at the average earnings in the area, and you're going to figure out where the prices should be.
Now, on the other hand, since we don't know what the investing and the interest rate landscapes after the government interventions here are going to be going forward. But, you're probably not going to experience this stampede of home buying again for a good number of years. So you're going to get back to a stabilized market. And I hear a lot of talk that home prices will recover, and I think that's a very long, tenuous process.
If the unemployment numbers are going up, and places like Las Vegas and Phoenix are also getting hit with economic problems, people aren't going to be so hot to buy homes, even if prices drop. Correct?
Berg: Right, you've got to remember we've come out of an economy where people were spending 110% of their earnings and using their house as an ATM machine. And consumer spending accounted for some 70% of the gross domestic product. And so nobody ever denied themselves anything for the last good number of years. All of that has to be wound back to some sort of reasonable level of existence.
So you don't see a real housing recovery for at least a few years?
Berg: For quite a few years.
I'm going to open this up to Ken and to Kord. I'd love to get your opinions.
Ken Shubin Stein: This is Ken, and I think that it is impossible to know where housing truly bottoms. And it's going to be regional, not national. Real estate is local. We had diverse incentives that drove a national, and then global, bubble. Real estate for most of us is just turning into a local business, not a national business. And certainly national policies will [impact] local affordability. And I agree that affordability will drive real estate purchasing, but will not come back anytime soon, I believe.
It's very unlikely that the speculative element of leveraging myself to buy stuff I can't afford--homes and properties I can't afford--is a good way to get rich. That's very unlikely to repeat anytime soon. Bubbles rarely re-inflate. And you know, Jeremy Grantham has done an excellent job of studying this and writing about it over time.
And it's just the way bubbles are, they rarely re-inflate. So there will always be more bubbles, but usually in different places or in different generations. So I don't think that the speculative part of real estate is going to come back anytime soon, which means that it's going to be based on affordability and need. And real estate, over a very long period of time, has done just slightly better then the inflation average. Now, in order to get back to that average, real estate overshot it for a long time. So, if it's going to get back to the average, if it will mean-revert, it will undershoot it for a long time.
And that will give us the average again. And I agree that you know it's going to be affordability-based. And I think that there are some real factors working against affordability coming up. For example, health care costs are spiraling out of control--they're one of the major reasons people declare personal bankruptcy in this country, and it's going to get much worse unless we change the health care system.
So we probably will change the health care system, because the political leaders will respond to the public need of being bankrupt by health care costs. I don't know how that plays out, but I suspect it will impact everything because it's so central. Health care costs are not optional for people, generally speaking.
And with an aging population, the amount of money spent on health care is going to just go up. And, you know, rumors were that a lot of the people who drove this most recent housing bubble were baby boomers. If they're selling off their homes, then what money they have left will be redeployed into health. You know, as they enter their golden years, right?
Shubin Stein: Sure, and health care utilization goes up dramatically as you get older. You know, the average 70-year-old uses a lot more health care dollars then the average 55-year-old.
Right. And so maybe that's the next bubble. Kord, what are your thoughts?
Jonathan Kord Lagemann: I agree with just about everything everybody ever said here, so I won't add to it except to say that I've been to Detroit this month, where the average home sale in the city, I'm told, is now $7,500. And it can't move, because nobody wants to pay the taxes. Now, I totally agree with Ken, it's very regional, very local. I just read [there's an] average 50% down in Phoenix. And New York doesn't seem to be as adversely affected, although it may be coming.
That's astonishing, $7,500 for a home.
Lagemann: Nobody has a tax liability. And look, it's probably burnt out, boarded up or both. Because just about every house is.
But that's average. That means there are cheaper places than that.
Lagemann: Yes. I didn't see New Orleans after Katrina, but it kind of reminds me of it a little bit. I mean, it's just a disaster area.
So that means you could buy a home in Detroit with, like, $500 down?
Lagemann: I'm not sure you'd get a bank to lend you a lot of money. By the way, that's another thing, too. I mean, about the bubble and the speculation. I don't think you can use your home as an ATM anymore. At least, I would hope you can't. Because I would imagine banks would not want to finance 100% of the value of your house now. They'd be crazy to do it in a declining market.
Shubin Stein: You asked about what we can do regulatory-wise to improve the system. One standing issue out there, something I thought of, is if the mortgage brokers had severe liability for falsified mortgages, the quality and accuracy of the mortgage application would rise dramatically.
Lagemann: Ken, one of the funny little twists of the security business is back 10 years ago, when the micro-cap frauds were underway, and a whole lot of people got barred for life. Where do you suppose most of them wound up? They became mortgage brokers. I'm not kidding, this is true. It was a totally unregulated market. They could do anything they wanted. As little, or as bad as securities regulation is, there's no regulation for mortgage brokers. And, yeah, I think there really ought to be. And there ought to be some penalty or responsibility associated with them.
Shubin Stein: And they get [a] $3,000 to $5,000 commission for each slash mortgage they sold. And the less advantageous it was to the borrower, the higher the commission.
Wow. So, seriously, yeah--where are these people going now? That's some kind of weird contra-indicator of where things are headed.
Lagemann: The answer is I don't know. But, we'll keep an eye out.