False Hope in the Real Estate Comeback

The Los Angeles Times tells us that mortgage defaults in the prime category rose in the 3rd quarter. If you are wondering what might happen to housing prices in the US…should the depression continue…you might want to keep an eye on the default rate.

Housing prices are down about 30% nationwide. In some areas, they are down much more. But they had been going up for so long…this downswing still seems like an aberration. Hope has momentum…especially in the housing market. Housing prices rose along with inflation for 100 years. Then, they rose much faster than inflation over the last 10 years, ending in 2007. This leaves people with the impression – false – that housing always goes up over the long run. As we have pointed out many times in these Daily Reckonings, housing prices in the nicest neighborhood of Baltimore, where we have our offices, hit their highs, in real terms, in the 1920s. They’ve been going down ever since. Even after the big run up to 2007, they were still below their ’20s peaks. That’s a bear market in real estate prices that has lasted, so far, 80 years.

We don’ t have reliable numbers – in fact, we don’t even have unreliable numbers – but our guess is that property prices in central Rome topped out during the reign of Trajan…or maybe even Augustus. They must have gone down for the next 1700 years, because as late as the 1800s, the most precious real estate of the Roman Empire…around the forum…was being used as a goat pasture. That’s still better than say Troy or Ctesiphon – cities that were abandoned and forgotten completely.

Real estate doesn’t go up over the long run. Sometimes it goes down…often for a very, very long time.

In the early stages of a depression, people may believe that “prices will come back.” They wait. They hope. Sometimes, prices do come back. Sometimes they don’t. But if the depression continues, people will give up hope and lose confidence. They will begin to put unwanted properties up for sale – even at much lower prices. And they will begin to default even when they can still make mortgage payments.

There were only 2 million houses in the subprime mortgage sector. There soon may be as many as 30 million houses that are ‘underwater.’ When those homes stop expecting prices to recover, they will want to get rid of these waterlogged properties. And they can do so easily. They just send the keys to the mortgage company and walk away.


Bill Bonner,
for The Daily Reckoning