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The WSJ Is Wrong on the Housing Crisis

by: Mijka Samora May 07, 2008 | about stocks: HD / HOV / KBH / LEN / LOW / PHM / TOL / XHB    

Mijka Samora

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The Wall Street Journal editorial page had a piece yesterday titled 'The Housing Crisis is Over'. In my view, this assessment is premature by many years.

The article's main flaws, based on my own research, are its emphasis on pricing as the key driver of housing demand, and its sole focus on the inventory of new homes, ignoring existing homes. The author puts his faith in a rebound based on the issue of affordability: house prices have come down enough that people can afford them again. Fair enough but he treats the inventory of homes with a nonchalance that ignores underlying demographic trends, writing:

Even if home sales pick up, how can home prices stop falling with so many houses vacant and unsold? The flip but true answer: because they always do.

Flip, yes. True, no. This time it will be different because of two demographic factors:

First, the supply of homes is made up not only of new home construction but also of existing homes coming back to market. And we are facing a wall of existing homes coming to market in the next 15 to 20 years. How so? Quite simple: older people will leave their homes as they age or pass away. Some of these homes will be demolished, but most will come back to the market.

Average life expectancy in the United States is 78 years but many people leave their houses before their final years, to live in smaller quarters, with relatives, or at nursing homes. If we set somewhat arbitrarily the average age of a person who leaves his/her home at 70 years, we can see that the number of people turning 70 every year in the US will skyrocket from fewer than 2.5 million today to 4.3 million in 2025. The adjoining chart shows that this trend was quite favorable to housing in the last 25 years with the number of 70-year olds stagnating in 1984-1994 then falling in 1995-2003.

Conclusion: the number of existing homes coming back to market will see a dramatic and steady rise for the next 17 years. There will be somewhere between 1.5 million to 2 million homes coming back to market every year, equivalent to over 2 years of new home supply. This trend may provide a big boost to home remodeling, but it will erase the need for new homes in many parts of the country.

Second, the vast majority of home buyers fall in the 30 to 60 years age bracket. Here again, the trend was favorable from 1975 to 2005 as the number of people in this bracket was rising steadily. But it will now flatline for the next 12 years, as shown in the chart below.

On the more positive side, there may be a resurgence in first-home buying because the average age of first-home buyers is 32 years and the number of 32 year-olds will be increasing again. But this will not be large enough to offset the other two factors.

So is the housing crisis over? Hardly. Some areas of the countries will rebound sooner due to the migration of retiring baby boomers, or due to foreign buying stimulated by the weak dollar. But the housing picture nationwide is likely to remain difficult for another decade and a half.

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This article has 31 comments:

  •  
    May 07 10:12 AM
    The venerable WSJ has been saddled for a few years with editorial page editors who are there to put out ideology from the conservative political viewpoint, not from the business viewpoint. It's been described elsewhere how the professional business journalists at WSJ are embarassed by what goes on on their editorial pages; you're just confirming the problem. Conservatives can't stomach economic downturns, they (rightly) fear the public will turn to government and regulation and taxation and all of the things they hate on ideological grounds, so in Larry Kudlow fashion they try to bend the economy to their will with happy talk...
    Reply
  •  
    May 07 10:13 AM
    You forgot to factor in the large immigrant population flowing into the USA. Also not factored is the pent up demand that is now occuring as 20 and 30 somethings have been living with Mom and Dad and will be ready to venture out when houses drop some more and times get better which is most probably sometime in 2009.



    Reply
  •  
    May 07 10:18 AM
    BTW, I love the baby boomer getting older theory you attempt to sell. They tried selling that in AZ, NV and FL in 2004, saying the baby boomers are retiring and buying cheaper sunbelt houses and condos in advance of retirement. They argued that the sunbelt housing market will continue to soar. Then 2007 and 2008 rolls around and oops....that theory is now dust. Same as Mr Samora's theory will be next year.
    Reply
  •  
    May 07 10:41 AM
    A decade and a half is a long time. Houses get built and houses get old. They fall apart and people move up to new houses. Forecasters say "this time it's different" and it usually doesn't turn out to be. As for the Wall St. Journal editorial page, a lot of liberals complain that it's an editorial page that isn't politically liberal (the NERVE!!). Come on people. Can't you at least stand one regular paper that doesn't have the editorial views of the New York Times, L.A.Times, Washington Post, Boston Globe, etc. etc.? Are you so afraid of different ideas that you can't stand to see them in print?
    Reply
  •  
    May 07 10:53 AM
    There's a problem with the idea that all the 20 and 30somethings "living with Mom and Dad" as you put it will suddenly jump in and start buying houses. It's a problem of taste. Most of the most distressed property is in locations that are far from urban centers, entail extremely long commutes (by car, because there's no transit) to work, are as a result entirely car-centric, and offer little or no social or cultural opportunities. Yes, I'm talking about the 'burbs. Strip mall central. Two of the hardest-hit areas are the California central valley and Las Vegas. Both typify the exurban explosion we saw in the 1990s. Neither is attractive to Generations X and Y, the people you're relying on to buy up this massive, massive stock of housing. Meanwhile places like Portland OR, New York, San Francisco, and Seattle have experienced at most mild declines in house prices and sales, and even those figures tend to be skewed by statisticians' assumptions about substitution: that a house in Oakland is a direct substitute for one in San Francisco and that they should be considered a single market (they even include the entire east bay all the way to Fremont, which if you're familiar with the area is hysterical). That assumption itself denies the taste- and demography-driven changes that are taking place in the market right now. I can assure you that prices of quality houses in San Francisco (neighborhood that's not in the worst of the ghetto, buildings not needing major repairs) have not fallen a dollar in the past year. I rather doubt they will, either. There's plenty of demand. In Manteca? Ehh, not so much. The short-term "housing crisis" and "credit crunch" have people looking the wrong way. The BIG pendulum is swinging again. It takes maybe 60 years to go from one side to the other, and right now it's swinging back toward urbanism. Don't get knocked over by it while you're looking the other way.
    Reply
  •  
    May 07 12:02 PM
    When you download the q407 SEC filing of the WSJ author's hedge fund, you find:

    * 80,000 shares of Lennar
    * 72,000 shares of Centex
    * 165,000 shares of DR Horton
    * 20,000 shares of Hovnanian
    * 14,000 shares of Meritage
    * 110,000 shares of Pulte
    * 70,000 shares of Toll Brothers

    And, just for kicks:

    * 27,000 shares of Bear Stearns
    * 170,000 shares of Citigroup
    * 130,000 shares of Goldman Sachs
    * 65,000 shares of Citizens Bank
    * 440,000 shares of Morgan Stanley
    * 102,000 shares of Morgan Stanley China

    From a Calculating Risk comment
    Reply
  •  
    May 07 12:12 PM
    stu, that is hilarious! He better hope the crisis is over with these positions
    Reply
  •  
    May 07 12:44 PM
    Interesting analysis by Samora, because it factors in "other" economic and demographic trends in addition to the simplistic "pricing" analyses that are prevalent. Also, it contrasts to the fraudulent and misleading figures of the NRA (National Realtors Association) that reports "sales" on the signing of "contracts", and contract failures have escalated to 40% and sometimes more.

    Various factors, such as declining consumer purchasing power; auto financing crisis/defaults; credit card defaults; rising gas prices; declining traditional retirement programs; lack of boomer financial preparation for retirement; and purchasers "waiting" for bigger bargains and waiting for the price decreases to bottom...all also factor in as delaying the recovery of the existing houses on the market.
    Reply
  •  
    May 07 01:24 PM
    Originally posted May 6 12:44 pm

    Another indictment of the 'new' WSJ, that seems to like to sensationalize headlines to sell newspapers.

    What's also at work is the inventory glut that's appeared in the high-cost areas. 11.5 months of existing inventory in northern NV based on current sales rates means that housing prices will continue to drop until the inventory is worked off. Add to that the tightened lending criteria that require down payments (unlike in 2005) and you have a long, slow, recovery, but only to the sales levels of pre-2003. Since exotic mortgage products are history, the standard underwriting criteria will now apply in the vast majority of cases.

    And through it all, builders continue to build, albeit more slowly than before.

    Recovery? Perhaps return to a 2003 baseline by the next election is the best the industry can hope for.
    Reply
  •  
    May 07 01:59 PM
    Stu hit upon soething interesting-that looks like a hedge against wealth fund.
    Reply
  •  
    May 07 02:59 PM
    Stu, this is the type of comment people should strive for on this site with facts to support opinions/arguments.

    Bearfund, agree with the folly of the "pent-up" demand theory for first-time buyers who will suddenly rush in and save falling prices. When are these first-time buyers converting from savings-less, maxed-out credit card users to a group who can afford a down payment on even a $100K home or condo? No time soon...
    Reply
  •  
    May 07 03:23 PM
    You need some more old people in your family.

    At 87, my grandfather is still living in his house with his wife. Yes, she has had 3 heart attacks and he has had colon cancer, but they are on their own, at home.

    If you think 70 is "time to retire to a nursing home" you are seriously out of touch.
    Reply
  •  
    May 07 04:10 PM
    Excellent Work.
    Mike, where do you get the charts?

    Also, it appears that the age of materialism is largely over, thankfully, and that "Less" in the "new more."

    Welcome to Century#21.

    Time to some REAL crises ... like health care and energy.
    Reply
  •  
    May 07 11:00 PM
    The arguments presented in this article cherry-pick certain statistics to put a negative spin. The number of homes needed is primarily determined by what is called 'household formation'. A new household is formed when a person or a couple move out from shared housing (parents, siblings) and get a home of their own. Along with demographics, a key factor in the formation of new households are economic. When the economy is good and jobs are plenty, young people move out and get their own homes (rental or owned); when the economy is bad, they move in back with their parents/siblings.

    For the article to be credible, the author should have compared the new household formation rate instead of selected demographics. A decline in home ownership rates does not mean a decline in housing demand. A lot of people rent their homes. The distribution between renters versus buyers which may change, not the overall demand for homes.

    There is a misconception that as soon as boomers hit retirement age, they will sell their homes and go and live in a nursing home. Thanks the advances in health and technology many boomers are in no rush to quit their lifestyle. In fact there are many studies which suggest that the anticipated rush to the sun-belt by retiring boomers is over-hyped. People do not dump the community they have spent a life-time in just to enjoy warmer weather. Even if they decide to down-size and move to a smaller home, they are likely to buy another home in the same community.

    When it comes to state of the housing market, new homes are a critical metric since they correspond to the additions to the housing stock; existing homes do not change the total number of homes. Further, unlike home owners, who in many cases are not in a rush to sell, home builders are much more likely to reduce prices to drive sales since an unsold home costs them a lot of money. Home owners continue to live in their home, while they wait for their home to sell; something which contributes to the stickiness of home prices in down-cycles. The downward pressure on home prices is primarily driven by sales by builders; home owners typically are the last to reduce their price. As a result if new home prices stabilize, existing home prices will follow quickly; existing home market lags the new home market by a few months, but it still follows it.

    And finally the comment about Traxis' equity exposure to home builders and financials are irrelevant. Any smart money manager will be building a position in these cyclical sectors after they have been beaten down so much; they will recover as the economy moves out of the downturn.
    Reply
  •  
    May 08 12:01 AM
    I've had the same thought for a while. As soon as the short term starts looking up for the housing market, this long term trend will start to kick in.
    Reply
  •  
    May 08 09:53 AM
    One thing that no one mentioned is the still high cost of home ownership. The housing mania was fueled by zero down, stated income loans that pushed prices up to unrealistic levels. It was the greater fool theory at work. I'll buy this home for this absurd price because in a year I'll sell it to some other fool and make a pile of money. Some people did make a lot of money. Now some people are losing a lot of money. A debt pyramid can only go so high before it collapses. This is what we are experiencing now. With the mortgage market going back to traditional requirements (20% down and documented income and assets), the dynamics have changed. The debt engine that drove prices to unrealistic levels is gone. Do the math. A $1 million home, common in the SF Bay Area, now requires a $200,000 down payment and monthly payments of $4,860, plus property taxes of approximately $1,100 per month, plus insurance, plus utilities and other expenses.
    Reply
  •  
    May 08 10:10 AM
    Mijka,

    You have generated a solid threat of discussion. That's a good thing.

    Even though comment threads have a general tendency to lean toward criticism more than toward praise, stimulating a critical discussion is better than writing articles that receive no comments at all.

    Demographic trends are one of the most powerful drivers of long-term investment trends. You are on track by focusing on demographics as a force in the market.

    I don’t have a view on whether the particular data you chose is the "right" data or if your conclusion would be modified by incorporating some of the additional factors mentioned by some of the commenters, but I do believe your intent to uncover the demographic underpinnings of the long-term housing market is a good idea.

    In addition to housing, demographics will drive other key elements of our economy and the economies of other countries. One that may be of interest to someone out there is the likely portfolio allocation decisions of that growing 70+ cohort in terms of stocks versus bonds.

    If they use traditional rules of thumb and heavily allocate to bonds, there may be noticeable interest rate consequences, or equity demand consequences. On the other hand other strong forces such as international investor behaviors, government deficit or surplus budget conditions, and the proportion of the population in an asset accumulation stage versus those in an asset consumption stage will be apply other forces. That area might be fertile ground for research.

    Some high profile demographics are likely to drive economics in other parts of the work too. The excess of young males in China is an issue. The graying of Japan and Europe versus the slower graying of the US due to immigration rates is an issue.

    The apparent fact that literacy is a driver in economic development, and the fact that literacy is very low in some countries may help predict where economic growth in the emerging world is more likely to be high and low.

    The current and future shape of the population pyramids (which you are in effect describing in a different graphical format); can be useful in predicting consumption patterns for a number of goods and services.

    As a baby-boomer myself, I have watched my cohort distort every thing it encountered. We were like the picture in Antoine de Saint Exupery's children's book "The Little Prince" of the snake that swallowed the elephant. We expanded demand beyond supply for each new private or public good or service appropriate for our then attained age. As we aged further, we left supply greater than demand for goods and services no longer of demand to us – the follow-on group was smaller in size than our own. That created real economic consequences and flux.

    Anyway, I am happy to see dialog around demographics as an investment driver and hope that you and others will keep it going here and with other articles.

    Richard Shaw
    QVM Group LLC
    Reply
  •  
    May 08 10:18 AM
    The WSJ's dishonest position in favor of illegal immigration has undermined its credibility on all topics. But I don't think it ran the housing article because of ideology. The author wrote a good piece and presented an interesting perspecitve, and if he wanted to stick his neck out, the Journal provided the limb.

    My first reaction as a housing bear was that the author thought he could talk the market into bottoming out. Won't happen.

    Having said that, has anyone looked at the new housing and existing housing markets not just as markets that are correcting cyclically but as as a new price war? One reason builders PEs remained low during the boom was that investors anticipated this correction and weren't willing to overpay for companies that historically have gone through booms and busts like the one we're experiencing.

    Why, then, have builders' stocks rallied this year? Fools rush in? Speculators and swing traders play the bounce? HIgher interest rates, tighter lending standards, poor consumer sentiment and rising unemployment will restart the housing boom at still very high and unaffordable prices? I never trade against the tape, but sometimes I refuse to go along.
    Reply
  •  
    May 08 11:02 AM
    Housing rebound in 2009? Maybe a dead cat bounce...Middle class working folks buy houses to raise kids in. Unemployment? got enough room in those cubes for a couple million former working people?
    Have a nice day...
    Reply
  •  
    May 08 12:25 PM
    anyone who would rely on the wsj editorial page for objective information would walk into a village of cannibals and ask "what's for dinner?"
    Reply
  •  
    May 08 02:51 PM
    Need some input . Some have said that the tax credit of 250k /500k capital gains exemption spurred some of the boom in home prices (it got factored into home appreciation). They're still selling the no money down thing here in the inland empire which is still scary. By the way, all these people with foreclosures on their credit records what happens to their ability to buy the next house when the recovery happens? Most of the people were young who got caught up and now are mostly upside down in their homes. Also here in the california they have mello roos which is additional tax on new homes on top of your property tax of 1% which sometimes is double (1.7-1.8 depending on where you live) to pay for the cost of new schools, new roads, etc and this is an indefinite tax. It doesn't go away after a few years - it's unclear when it stops. With the avg home price in california that's an additional 6-9k a year in taxes on top of your regular property tax. So most people would rather buy a house which is 8 years old and save on the tax. Plus the empty neigbhorhoods in these new developments are depressing, unkept lawns, renters living near you rather than owners due to all the speculators. The worst parts are the new developments that have HOA -home owner association dues- which are not tax deductible and as more homes are foreclosed I've been hearing from a lot of home owner associations that they're forced to increase the fees because less people are paying the community dues. Also harder to sell. Also what happens when all these high paying jobs are outsourced to china and india or somewhere else? I've got friends who have masters in biology laid off at Amgen who are now working as salesclerks and coffee baristas just to make ends meet. They've been laid off for over 1 yr now. Then we have all those unemployed people from the housing boom- real estate agents, mortgage brokers, and everyone ancillary to that.
    Reply
  •  
    May 08 03:42 PM
    FINANCING will always be the key to real estate prices. Aside from the normal cyclical up and downturns weighed in by greed and fear, pricing and valuation of usable and relatively desirable homes and real property is a direct function of the availability, cost, and terms of purchase financing or (F.A.C.T). It is the ultimate ingredient that makes or breaks real estate market prices.

    While argument is plentiful for the law of supply and demand to be the governing factor for pricing and valuation, one need not forget that it is financing itself (or FACT) that keys the pricing that directly affects and determines real estate supply and demand cycles.

    Demand for desirable, affordable, and well priced real estate is a given. To measure or predict housing and real estate pricing/valuation trends use the FACT gauge.


    Reply
  •  
    May 08 05:25 PM
    The WSJ focus on new homes is silly. There's 10 months supply of existing homes out there - officially and that represents 10 times the number of new homes. That number may have peaked but, as this article indicates, we should not expect that inventory to go down steeply.

    And most glaring is the WSJ author's failure to either realize or acknowledge that his affordability argument fails to acknowledge that we are arguably in an affordability TROUGH. Mortgage rates may not get back up to the 18% of the 80's the author cites but they are unlikely to go lower any time soon. The author fails to mention that the '91 rate was better than 9%.

    But doesn't that make his argument for him?

    No, because what house owners want to see is rising LIQUIDITY in the housing market. And that's where the WSJ author's argument falls apart. Since the 80's the US market has not only seen a reduction in interest rates, but also a tremendous increase in total credit available for housing. Thus we have seen home ownership RATES in this country have increase dramatically since '94 and peak in 2004. The WSJ author fails to note that the '91 crash in real estate prices was in the middle of ten years where home ownership rate basically went sideways.

    To speak to Vikram's point about household formation, the last time home ownership RATES peaked and fell like this was '80-'81 to '86-87.Banks are lending cheaply, yes, but it is unlikely they will lend more cheaply. During the last fall in home ownership rates, mortgage rates fell about 45% or eight thousand basis points - eight thousand.

    Does anyone think we're going to see 3% mortgages? In 2002 the US mortgage security market surpassed the Treasury market in liquidity. Is anyone anticipating that kind of increase in securitization?

    The problem is exactly household formation. You can call a two-percent drop in home ownership rates a loss of two million *owner-occupied* households. I would not expect landlords to offer a price subsidy for taking up that slack. If we need two million new landlords then housing prices have to get to a place where it is profitable to rent.
    Reply
  •  
    May 09 12:53 AM
    This article misses a key determinate in real estate demand - New Household Formation. At the same time that seniors are downsizing, young families and will be buying. Out here in California there is a huge, let me repeat, huge number young people who will be forming households in next years and indefinite future. It is the same group of people that all th right wing Republicans are excoriating as the root cause of our trouble. These are the children of the wave after wave of immigrants that have come into the country in the last 15 years. If we would simply realize that these workers children are going to make a contribution to our country, we might be able to make the investment in education for these young people so they can get good jobs, start new businesses, and buy all those homes the old school americans are vacating...
    Reply
  •  
    May 09 10:47 AM
    Dear Happy,
    Good jobs...Americans need to buy GOODS and services made and provided by Americans. Look on the bottom of your toaster. That's where the good jobs went.
    Have a nice day...
    Reply
  •  
    May 09 03:05 PM
    In the past only 6% of retirees will have moved more than 50 miles away from where they raised their children. I am sure that the coming baby boomer retirement wave will increase that percentage but not by the implied amount I constantly see in these types of articles (both bull and bear stances). Also, 85% of baby boomers will need their social security benefits to make "retirement" possible. Combine that with the fact that most then will have to sell their current homes in order to purchase a new one in a different location leads me to believe that the baby boomer rescue concept is about as well conceived or thought through as the housing bailout plan. All written as if Peter Pan was the intended reader. Less is indeed the new More and they'll be sure to make it as hip as possible so that they can stomach the taste.
    Reply
  •  
    May 09 04:27 PM
    "Existing Inventories" is a difficult concept.

    Suppose I'm in Chicago and want to move to Denver. I put my home on the market (that's 1 home in existing inventories). But I ask too much and it doesn't sell. And I won't buy a house in Denver until my Chicago home sells.

    Jim lives in Denver and wants to move to Miami. He puts his house on the market (that's 2 homes in inventory). It's ideal for me, but I won't buy it because my house hasn't sold.

    Sallie lives in Miami and wants to move to Chicago. She puts her home on the market (that's 3). It's ideal for Jim, but he's not biting because I haven't bought his house.

    This situation creates an "existing inventory" of three houses for sale. Months of inventory looks even worse, because homes aren't being sold at a very fast pace.

    But then I finally get realistic I finally get realistic about price and sell to Sallie. I buy Jim's house. Jim buy's Sallie's house. POOF! The "existing inventory" is gone - without any need for household formation...

    Because of this, many people focus on the number of vacent houses. This number looks big (all time high, they say), until you realize that it's been on an uptrend for 40 years - and it really isn't that much more than it was 1, 2 and 5 years ago.

    The builders are currently building at a rate much lower than household formation, whereas the problem was created when they built at a rate much higher than household formation. This will eventually work itself out - just like any commodity cycle.

    The investment decision rests on just how long you think this will take...
    Reply
  •  
    May 10 02:25 PM
    It seems that the demographics do favor a return to the urban setting because of several factors such as cost of energy to commute and the desire of the newer generations to live closer to the “action”. Politicians and local governmental planning agencies/departments could add a helping hand in the problem to prevent even more housing coming on to the market under the given scenario.

    If the planning departments allowed “granny flats” where possible, Mom and or Dad could easily allow one of the kids to take over the house by either selling or a multiple of other means including gifting and move into the newly built “in-laws” quarters built over the garage, on the side by the pool or wherever.

    It seems that the change to allow more in-laws quarters solves a whole raft of problems such as less housing coming on the market, the added work of construction and the ability to have someone near an aging loved one.

    But the big problem is that politicians and bureaucrats need to get going. That is a slow moving bus!

    Reply
  •  
    May 10 02:31 PM
    My gosh what was I thinking! How can we expect government agencies to look for changes to the problems to the housing problems through such things as changing zoning laws to allow in-law quarters when gross receipts of housing permits will go down, water company’s hookup fees will fall along with sewer hookups?

    I forgot the Sheriff of Nottingham is still alive and well and in competition for our own money.
    Reply
  •  
    May 11 12:37 AM
    Having gone through the Real Estate Investment Trust Collapse of the 1970s I recall that unwinding took about a decade. Continental Mortgage Investors and Diversified Mortgage Investors were the subprime lenders who took on the mortgages and development deals the banks were turning down as too risky. The banks simply loaned money to DMI and CMI instead, who then loaned out the money and lost it anyway.

    The company I worked for was fortunately at the end of the list to be taken out so I had a job for eight years.

    The post Sept. 2001 boom eventually overheated from factors that included very loose lending standards that allowed prices to continually be pushed up. That has ended.

    In each area of the country home prices will have to fall to levels that are affordable for buyers who pass very strict and conservative lending criteria. Meanwhile, rising energy and food inflation is hampering consumers ability to pay down credit cards etc to meet higher standards, I would assume. Plus wages are not soaring 7 or l8 percent a year because the continual influx of illegal labor is depressing wages.
    Reply
  •  
    May 13 01:59 PM
    No one seems to remember 'location, location, location'. These are fixed assets. Seldom does one by a house in California and move it to South Carolina. There is also the units yet to be bought as a second home for only the perchaser's use. The inventory problem is only locallized to a few states. Unfortunatly, they are large population states and skew the numbers to scare the people in Fairbanks.
    Reply
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