Housing's Last Hurrah?

With the troubles at Freddie Mac and interest rates taking a front seat in the financial press of late, we here at the Daily Reckoning have opined that top may be in for the housing market. Yet one of our most trusted contributors disagrees…in spades. On the contrary, "the bull market in housing," writes Dr. Steve Sjuggerud, "has just begun."

"We have 1,000 buyers for every 10 homes we have to sell. We have raised prices by $15,000 at each phase release and over the past 30 days not one person has come in here and not bought a home." – Sales manager at an entry-level new homes community in San Diego

"People are buying like crazy." – Sales manager at a move- up level new home community in the East Bay/San Francisco area.

"It seems as if everyone who comes in is a serious buyer. It’s great!" – Austin entry-level community sales manager

"We’re going gangbusters here." – A Tampa move-up community sales manager

It’s the most powerful bull market for new homes in recorded history. And the surprising part is, we are only just getting started…

Think of it like 1997 in stock prices, and you’ll understand the investment potential.

Talk about a bull market. According to the latest numbers from the National Association of Realtors, real estate prices in every single metropolitan area in the entire country were up over the last 12 months. That’s 126 markets! This marks the first time in recorded history that has ever happened. Nationwide, home prices increased by 7.4%, a large increase by historical standards – but home prices in nearly a third of the metropolitan areas in the country posted extraordinary double-digit gains.

Housing Bull Market: Are We Near the End?

When you hear numbers like those, you may think "we’ve got to be near the end of this boom." I can’t fault you for thinking that. However, be careful, that’s what everyone else thinks. Just last week, Money Magazine published an article called "Housing’s Last Hurrah" saying "the headiest days of the housing market are near an end." But then, this is the same Money Magazine that has consistently told you to keep buying stocks over the last three-and-a-half years – stocks that have lost two-thirds of their value in that time.

Now you might think "maybe I’ve already missed it…" Oh, boy, we are only on the front end of this big move…You haven’t missed a thing…

Right now, prices have been rising in part because the supply of new homes is at its lowest levels in recorded history. When the supply of new homes gets very tight, falling below 5 months of supply, a boom in housing prices begins. And when there’s a glut of new homes just sitting there (when supply is at 8 months or more), then housing prices level off.

Based on the current shortage in the new home supply, it looks like the price of new homes can continue to power higher. But the shortage also has another, more obvious implication: America is in need of more new homes. Hard to believe, isn’t it? But it’s true.

While most people think home prices have risen to crazy levels, the truth is, people buying homes today aren’t crazy at all. In fact, housing is more affordable today than at any time since the 1970s. Here’s why.

Housing Bull Market: Affordable Even at Higher Prices

People make the decision to buy a house based on their income and their mortgage payment, not on price. Based on these factors, housing is very affordable – even at these higher prices. In other words, the rise in incomes over the last few years and the fall in mortgage rates over the last few years have more than offset the rise in home prices.

The folks who are negative on housing often hang their hats on what they see as the inevitability of higher mortgage rates. "As soon as rates rise by a full percentage point or more, that’s it for the housing boom," they say. Oh really? Let’s ask the sales managers – the guys in the trenches selling homes – for their take again:

"The recent rise in rates hasn’t stopped people from buying, it has done just the opposite. People want to buy now because they figure interest rates have bottomed." – Phoenix entry-level community sales manager

"Prices are so low compared to existing homes that…it’s going to take quite a bit of time for the rate increase to make an impact." – Riverside/San Bern, CA entry level community sales manager

"I don’t think the higher rates have had any impact. In fact we sold 3 [in our community] this past weekend." – Orlando move-up community sales manager

Or forget about what people are saying. Let’s look at what’s really happening out there. Whether it was on purpose or by accident, a major homebuilder recently let the cat out of the bag in its July 25, 2003 conference call with analysts…

In the Question and Answer period of the call, this homebuilder said that orders are up about 100% year-on-year for the month of July – and the month of July wasn’t even over yet. So much for the ‘higher rates will kill the boom’ theory. The company sold 180 homes in Phoenix alone in July, for example, versus 64 homes in Phoenix last July. Remember – this is the same month of July that saw mortgage rates rise by over a full percentage point.

It all comes back to supply and demand. There’s a ton of demand, and there ain’t no supply. With such a staggering imbalance at play, we’re going to need more new homes. Who’s going to meet this extraordinary demand? The homebuilders…and they’re set to make extraordinary profits for at least a few years in the process.

Best wishes,

Steve Sjuggerud,
for the Daily Reckoning

September 02, 2003

Dr. Steve Sjuggerud has worked in the investment world as a stockbroker, the vice president of a $50 million global mutual fund, an international hedge fund manager, and the director of several research departments. An international currency expert, he is also a member of the Oxford Club advisory panel.

A version of today’s essay appeared in the September issue of Dr. Sjuggerud’s investment advisory, True Wealth.

We have come to Germany on the anniversary of the beginning of WWII to show off our Daily Reckoning. The DR is already published in German; our German friends want to know more.

"Don’t mention the war," was Addison’s advice. But then, the subject just came up:

"Everything looks so new, compared to Paris," said Addison to the taxi driver as we drove through Cologne.

"Yah…the city was destroyed in the war, everything except the cathedral. And that was badly damaged."

Nothing much happened on Wall Street yesterday…so we bring you the news from 64 years ago:

It was this week in 1939 that the Germans and Russians ganged up on the Poles and took over the country. It was mad, of course…but the whole world seemed to go mad in the early 20th century. Mussolini had invaded Ethiopia. Franco had invaded his own country, Spain. Hitler had already asserted his claim to German speaking parts of Europe and now was beginning his drang nach osten. Oswald Mosley was strutting around East London, looking comical, with his blackshirts. The Japanese were on the march, too…down the east rim of the Pacific Basin…toward Singapore and Bataan. Stalin, Hitler, Mussolini, Tojo…each had his own special nonsense. But nonsense was in a major bull market in the 1930s.

Refugees flooded into New York, bringing nutty isms with them as if they were infectious diseases. In art, cubism, minimalism, dadaism, fauvism and abstract expressionism enjoyed the spotlight. Isms, ideas about how things should be, were big in politics, too – socialism, communism, syndicalism, anarchism, nationalism. In philosophy, there was nihilism, existentialism and God knows what; in economics there was Keynesianism. There was an ism for every fool with a mouth to spout it!

And soon, isms were big in the U.S., too. American artists, architects, writers, politicians and philosophers snapped up the latest imports and showed them off. In a few years, ugly stalinesque bauhausian public buildings were replacing the graceful old neo-classical relics…artists were throwing paint against their canvases…and Roosevelt had introduced nearly all the faddish isms of Europe – a national retirement system, wage and hour rules, union privileges, and a whole new bureaucracy to pry and probe into every detail of daily life.

Why would the Germans waste their time and energy by marching into the desolation of White Russia, when they could have been enjoying their beer and frauleins on the banks of the Rhine or Unter den Linden? What was wrong with our parents and grandparents, anyway? What could they have been thinking? It was all mad.

Thank God those days are over. We’re all so much smarter…so much nicer…so much better informed and better behaved today. Now, we know better, right? Maybe, in the space of the last half-century, the species has evolved into a new animal. Maybe Yardeni was right after all…In this New Era, maybe there is a New Man to go along with it…

…or maybe we are just in the midst of a new madness, and cannot see it?

Over to you Eric…in New York:


Eric Fry in the Big Apple…

– Yesterday, the U.S. financial markets closed down for Labor Day, but the foreign markets continued laboring…and fruitfully so. Japan’s Nikkei Index surged 3.2%, South Korea’s KOSPI Index jumped to a new 14-month high and Thailand’s SET Index soared to a fresh four-year high. Most European bourses also added to their sizeable gains of 2003. Meanwhile, the gold price continued climbing, as spot gold jumped nearly 1% to a six-month high of $378.80 an ounce.

– Evidently, stock-buying is not just a trendy New York thing; it’s a global fashion. But how much longer will this fashion continue? When will stock-selling become the new financial craze? Stocks are expensive, but they’ve been expensive for some time…and still they rise. Nevertheless, expensive stocks are especially vulnerable to bouts of selling, especially in the month of September.

– "The calendar bodes ill for U.S. stocks," Bloomberg News ominously observes. "September has been the S&P 500’s worst month of the year during the past half century, according to Ned Davis Research Inc."

– The month of October is, of course, the most notorious month in U.S. stock market history. October played host to both the 1929 stock market crash and the 1987 crash, when the Dow Jones Industrial Average’s plunged 23% to record the biggest one-day percentage loss ever. But it is September that packs the biggest wallop. The Dow has fallen in 30 out of 51 Septembers since 1952. And over the past century, the blue chip index has fallen an average of 1.2% in the month.

– Despite the ominous precedent of Septembers past, the stock market heads into this particular September with a considerable head of steam…sort of. The S&P 500 and Dow have advanced for six straight months and the Nasdaq has gained for seven consecutive months. The S&P 500’s winning streak has propelled the index to a hefty 26% gain from its March lows. But the benchmark index still languishes just below the highs it achieved last June.

– "The market as measured by the Standard & Poor’s 500 has hardly budged since the start of lawn-party season," observes Barron’s Michael Santoli, "with the index traveling in the same narrow 6% channel since early June…The S&P first touched the 1000 mark on June 6…"

– In other words, the S&P 500 is spinning its wheels. But wheel-spinning isn’t the worst-case scenario for the U.S. stock market. Indeed, over the next few months, wheel- spinning could be the BEST-case scenario. That’s because several sub-sectors of the S&P 500 are performing heroically, without which the overall index would be well below its current level. Therefore, additional index gains will require additional acts of heroism.

– Consider, for example, that the semiconductor sector has rocketed nearly 60% year-to-date, or more than triple the S&P 500’s gains. Intel’s stock is the biggest gainer in the Dow Jones Industrial Average this year, thanks to its sparkling 84% advance. As a result, the stock now sells for about 40 times estimated 2003 earnings. Intel shares could certainly continue soaring, but why should they?

– These and many other weighty questions we contemplated yesterday, while stoking the coals of our bar-b-cues. While most folks were enjoying a respite from their toils, the Daily Reckoning staff continued its tedious reckoning. We reckoned silently about the strange juxtaposition of our feeble economy and our muscle-bound stock market. We also contemplated the economic trends that may begin to unfold as the nation’s workers return to their labors this week – contributing the national GDP from their offices, schools, coal mines and strip clubs.

– Will this socio-economic melting pot resume spending more than it earns? And will it resume paying too much for stocks and bonds that yield too little? Or will it repent of its spendthrift ways and cavalier investment habits to begin stuffing dollar bills – or gold ingots – under the mattress?

– Reckon as we will, we do not know the answers to these weighty macro-economic questions. Happily, our ignorance does not preclude offering an opinion. And it is our opinion that the S&P 500, the U.S. dollar and the 10-year U.S. Treasury note are all investments that offer more risk than reward. It is also our opinion that gold is likely to perform better than the S&P 500 over the coming months and years.

– But we recognize that wheat grows among the tares – the stock market contains both excellent investments and horrendous investments. And we endeavor, as always, to find many of the former and few of the latter…thus the reckoning continues…daily.


Bill Bonner, back in Bonn…

*** Some recovery. Last week’s Herald Tribune told us that Americans took few vacations this summer – because they were overworked, looking for jobs or worried about losing the jobs they had.

Now comes further disappointment.

"American workers are feeling stressed and shaky," reports today’s Herald Tribune, "because the United States continues to register month after month of job losses and wages are rising more slowly than inflation."

How about that? The average person is losing real income. Can you believe it, dear reader? During the recession, the average person got poorer – his assets and his earnings went down – but he kept spending money, thanks to the bait of lower interest rates offered by Greenspan’s Fed. Now, we are in an economic recovery; all the papers say so. But the average person’s real income is still going down!

Question: What kind of recovery is it in which people earn less money?

Answer: A phony one. A fraud. An imposter. A charlatan. A mountebank…a bounder…a flimflam…recovery.

Question: Could you give us more details?

Answer: Yes, 2.7 million jobs have been lost since the downturn began 3 years ago. But the slump supposedly ended in November of 2001. Since then, 1 million jobs have been lost. The average unemployed person spends 19 weeks looking for a new job, longer than at any time in 20 years. Plus, there are almost 2 million people who have been jobless more than 26 weeks – three times the number when the recession was said to have ended.

Question: Has the nation ever seen anything like this?

Answer: Yes, during the Great Depression.

Question: So what’s the cause?

Answer: It’s the wages of sin; it’s the result of Nixon’s Dollar Standard system. In short, Americans stopped saving and started buying. They became ‘the world’s mouth,’ ready to consume all that it produced. But you don’t get rich by consuming. You get rich by saving. Of course, when you switch from saving to spending you feel rich at first – because your standard of living goes up. But eventually you have to pay the money back. And it’s hard, because your businesses – lacking real savings and investment – are no longer able to compete; their profits have gone down, too. And they can’t afford to increase wages. Average earnings stagnate in nominal terms and fall in real ones. Note that business profits as a percentage of GDP, as well as wages in the manufacturing sector, have been flat or falling since the Dollar Standard system came into existence.

There is no reason why an American worker is innately more productive – or deserves to earn more – than say, a worker in India or China. The only reason he has earned more in the past is that the U.S. has more capital (including skills, know-how, customs, work ethics, and so forth) available. But the perverse pleasure of the Dollar Standard system was that it allowed Americans to feel rich, without saving…while actually transferring capital ownership overseas.

Question: Will it get worse?

Answer: Just wait until the dollar falls. Measured in gold or foreign currencies, U.S. wages will go way down. On the other hand, Americans will stop spending, begin saving…and eventually make a comeback, though perhaps not in our lifetimes. In fact, compared to the rest of the world, Americans may never again be so rich.

*** As the release of our new book approaches, we stand back and marvel at the bubblish turns the economy – guided by our fearless leader, Mr. Greenspan – has taken since we completed our tome. Especially glaring is the bubble in the housing market. But it is not as though we didn’t see it coming…

"As [Financial Reckoning Day] demonstrates, writes Jimmy Rodgers in our introduction, "artificially low interest rates and rapid credit creation policies set by Alan Greenspan and the Federal Reserve caused the bubble in U.S. stocks of the late ’90s. Now, policies being pursued at the Fed are making the bubble worse. They are changing it from a stock market bubble to a consumption and housing bubble.

"And when those bubbles burst, it’s going to be worse than the stock market bubble, because there are a lot more people that are involved in consumption and housing. When all these people find out that house prices don’t go up forever, with very high credit card debt, there are going to be a lot of angry people."

Last June, the bond market reversed its rally, sending mortgage rates skyward…and triggering a rush to buy houses before it was ‘too late’. Prospective buyers may continue to apply for loans, but fewer can now qualify; even if they do, their money affords them less house than before. Those fortunate enough already to possess a home will find the market values their equity less favorably…and those who financed using adjustable rates are feeling the heat.

There does not seem to be much room left for air in this bubble; its pin looms dangerously near. "[The ‘pop’] hasn’t happened yet," Addison wrote to you recently. "But when it does, there are going to be a lot of angry people."

Some, however, seem to see the pin father off in the distance than we do (more from Dr. Steve Sjuggerud, below). How much farther can this bubble stretch? We don’t know, dear reader.

But we will find out.

The Daily Reckoning