The U.S. Housing Market

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The U.S. Housing Market: Land of The Home Seller “Delusion”
by Alexander Green, Chairman, Investment U; Investment Director, The Oxford Club
Friday, August 17, 2007: Issue # 702

I’ve spilled plenty of ink over the past few weeks on the stock market. Let’s change our focus today and look where the recent financial problems originated: the U.S. housing market.

It’s tough to talk about real estate in a general way, of course. (As though a person selling a condo in Miami and another buying a farm house in Iowa are dealing with the same set of circumstances.)

Real estate conditions always vary from one locale to another. While home prices are cooling off almost everywhere, some places are holding up better than others. And prime properties in any area will hold their value better (and sell quicker) than inferior properties.

But something very strange is going on in many housing markets right now

The U.S. Housing Market: Hanging On Too Long To “Yesterday’s” Prices

Oxford biologist Richard Dawkins had a runaway bestseller last year with his book “The God Delusion,” in which he argues that many people’s religious beliefs are irrational.

Much more delusional, in my view, are the thoughts of current home sellers who’ve convinced themselves that if they just shut their eyes and believe strongly enough, a buyer will suddenly materialize and pay them what they could have gotten for their home two years ago.

It ain’t gonna happen. Yet so many keep believing it will. As a result, the home inventory just keeps stacking up.

There are always motivated sellers, of course. Some people can’t wait for a better price because they’re relocating – or they can no longer afford their mortgage. But a lot of sellers, especially those who can afford to be picky, just can’t get out of their heads what they could have gotten for their home at the peak of the market. And so they keep waiting for the “right” buyer to come along.

They may have quite a wait

For example, I have a home in Orlando. Two years ago there were approximately 4,000 homes for sale here. Today there are over 26,000 – a record.

Yet housing prices here are down just 2%. How can that be when there is so much supply relative to demand? There are a number of factors, but one of them is that sellers simply won’t accept what reasonable buyers – who are now in the driver’s seat – are willing to pay. So deals aren’t getting done, and the inventory piles higher. According to the Orlando Regional Realtor Association, existing-home sales plunged 42.6% last month from the same month a year ago.

Sellers: Accept Any Reasonable Offer

I spent much of the summer at another home I own in the Shenandoah Valley in Virginia. The same thing is happening there.

In one community, Spring Lakes, the developer is sitting on several million dollars in unsold spec homes. He’s not getting any offers. But he refuses to lower his list prices a dime.

One homeowner in this development recently ran into financial trouble. He listed a home, similar to ones that the developer is trying to sell for $440,000, for $395,000.

He received no offers. He lowered the price to $369,000. He still got no offers. Eventually the house went back to the bank.

The bank held an auction, but no one was willing to bid even $300,000. So the bank, which had a reserve, refused to let it go.

Who is more delusional? The local developer who steadfastly refuses to cut his $430,000 list price for homes that no one will pay even 30% less for at auction? Or the bank, which couldn’t get $300,000 at auction, but now is going to list it and presumably get a higher price plus cover carrying costs and a 6% brokerage commission?

Delusional, I say.

I’ve said it before, but my advice to anyone who needs to sell a home in a tough local market is to price it below appraisal and accept any reasonable offer. What you could have gotten at the peak of the housing bubble is just as irrelevant as the price of Yahoo! in March 2000.

Bargain hunters, on the other hand, may benefit from waiting a few more months. The pain and suffering has clearly not hit its peak. When sellers finally realize that holding out is only likely to result in a lower sale price – plus property taxes, utilities and other carrying costs – that’s when the real bargains will materialize.

And given how much unsold inventory is on the market, there should be plenty to go around.

Good Investing,

Alex

Today’s Investment U Crib Sheet

What distinguishes the current housing slump from all others?

This isn’t the first time housing’s taken a dive. New York real estate crumbled after the 1987 stock market crash. And L.A. prices sunk during the 1991 recession. But the current slump is different. Why? Find out in Alex’s recent column, “The Housing Slowdown: Let the Seller Beware.”

Finance Speak: Add “discount rate” to your vocabulary.

This morning, the Fed announced it’s cutting the discount rate by 50 basis points – one half of 1% – in an effort to ease the current credit crunch. Stocks got off to a fast start on the news, and the 10-Year Treasury yield crept up to 4.67%.

But what is the “discount rate,” anyway?

Definition: It’s the interest rate that the Federal Reserve Bank charges on direct loans to banks, not to be confused with the Federal Funds Rate, which is the interest rate banks can charge on immediate funds to other banks overnight. The Fed Funds Rate is currently 5.25%.

To get nearly twice as much income than Treasuries are offering, here’s how Alex’s high-income portfolio works.