We eat out, we vacation well, and I generally invest my money with rather bullish investment strategies. Right now I’ve gotten a bit more conservative, but that’s the exception, rather than the rule.

I could probably best be described as penny foolish and pound wise. I don’t sweat the small stuff, but I make sure my foundation’s secure.

Compared to the average American, you’re correct. But there are people (ahem, me) with far more liberal spending habits than you that are still financially in a sound position.

We have no debt (no student loans, no credit cards, no balance on our HELOC) outside of our mortgage. Our house was 2.5x our annual income. We have 6 months in cash savings for emergencies and a HELOC we could tap if we need to (emergencies only).

We also save significant percentages of our income for retirement and for our kid’s college education. Plus, we try to up those savings every year.

We also own cars that cost far more than 3k and take vacations at nice hotels. That’s what making more than 2x the median income affords you. I’m comfortable with the idea that we can strike a balance between living for today and planning for tomorrow. Too much concern with either now/then is what’s to be avoided.

My point is that while you can go broke on any income, you don’t have to be super-frugal at every income level to be financially sound. It’s just about, as you put it, living below your means.

On a related note, I worry, just like Christina, about where the economy is headed. I’ve felt the direct effects (job loss) of economic downturns at least twice in my the last 15 years. In each time I was “prepared”, but that didn’t make it any more fun. It’s possible if it happened again the downturn would be severe enough to really cripple the economy and I’d be screwed.

But that’s a level of worrying that does nothing to help you and has you doing things like: Stop contributing to your retirement accounts in favor of having 2-3 years of cash lying around; Move into the cheapest shack you can find just in case your home value goes down 50% far in advance of when you think you’ll need to sell; etc.

And who knows if any of your actions would really help. For example, what if there’s massive currency devaluation and your cash pile is worth 10% of what it is now? What if there’s hyper-inflation and rents shoot through the roof? Too many what-ifs to be living your life based on disaster scenarios.

None of the successful people I know live lives that are ruled by that kind of fear. A little bit of fear is healthy, keeps you from getting screwed by the occasional downturn. But too much fear is just paralyzing.

I bought a home only 2x annual income, never had a car loan (I’ve never owned a car worth more than 3K) and don’t have any CC debt, though I do have student loans (they’re 2.5% and 4.5%, so I’m not going to pay them off before I have to, though it’s tempting). The car thing may change, because my wife needs something more reliable than a 15 year old honda, but we are saving for it, not financing unless I get a heck of a deal (would you take 1% APR, 24 months? I’m tempted.)

Sadly, I think we are in the minority.

I hope that was sarcastic, because I’m absolutely not trying to shoo you away. I quite appreciate your comments, and I can tell that we have similar values when it comes to dealing with money and debt. I laughed because I know that there are very few people that are as cautious with their money as you and I are. The average credit card debt carried by Americans is $8,562, and half of all credit card holders pay only the minimum monthly payment! Don’t forget that the interest rate on most credit cards is usually above 12%.

The sad truth is that most people in America have little to no grasp of the concept of living within one’s means. It is most certainly cause to worry about our country’s economic future, but sometimes when faced with insurmountable adversity, laughter is the best medicine.

Are you trying to shoo me away from your blog because I’m demonstrating genuine concern and betraying to all my anxiety about this country’s economic future? Is that just not cool here?

I bought a house priced at 2.5-3 times my household income. Yes, in Seattle. No, I did not have rich parents, stock options, or a trust fund. I bought from income and savings.

The debt freaked me out then and, even though I’ve negotiated to a shorter term and stand to save $88,500.00 in interest thanks to divine timing of the refinance, the debt freaks me out even more, even though I could still buy my house for 2.5x-3x my household income, so I’m challenging myself to pay the balance off by a certain term, saving myself $26000, which will probably be my annual energy bill by then.

I think it’s because I don’t have the ubiquitous fairy godparents of stock options, trust funds, or financially permissive and able parents to back me up that I have this anxiety. I have no consumer credit debt other than the mortgage.

If I am mistaken in thinking other homeowners my age have these bibbledy-bobbledy-boo cash flow machines that I don’t to aid them when things get rough, how can they be comfortable with paying $450,000 in interest over a thirty-year term? They’ve got to have some wicked and proven investment formula employing forbearance, patience, discipline, or some plan to walk away from their home when the fecal matter hits the fan.

Ha-ha-hah! That’s a good one! No seriously, you’re cracking me up here!

That reminds me of one of my favorite idiot phrases… when people talk about buying a (brand-new) new car, and they refer to it as “investing” in a new car. Hah!

Worst. Investment. Ever!

Thanks. I’d been up too early this morning, consumed by anxiety that my spouse and I just weren’t doing something right. I keep thinking people buy a house that’s 2.5-3 times their annual income, and buy vehicles without financing them, and ensure there’s at least one vehicle per driver. In the case of parents it’s somehow a SUV or minivan.

Considering the earning power of wages hasn’t improved much since the 1970s, and that wages were stagnant from 2001 to 2004 (if not longer), and the pressure to fund one’s own retirement with 401(k)s and Roth IRAs and taxable accounts, I’m really wondering how it is that so many of us earn $140K-$180K a year. Or spend like we earn it.

I’ve been wracking my brain wondering what it is Americans know that I don’t. There’s a negative savings rate, the consumer debt nationally is astronomical, and people are buying homes priced $400K-$600K. Any savvy people with scintillating insight into American character or finances want to share with the ignoramus?

Thanks for demonstrating an amazing grasp of the obvious.

The point was about mitigating risk to the owner’s $500K nest egg, not whether they’ll be “forced to sell” – where do you come up with this?

Whether or not you ever sell, if the house price decreases, your net worth decreases – regardless of whether you paid cash or took out a loan.

However, if you took out a loan, you do (at least in theory) have the option of walking away and keeping your worth – at the expense of your FICO score.

People that have neither wealth or particularly good credit are excellent candidates for RE speculation in today’s easy money market.

I think the previous poster was saying “why only compare keeping $500k in CDs and putting $500k directly into a house purchase. Why not add the option of putting $450k into CDs, $50k down on a house and just have monthly payments for the rest.” In the short run home price declines shouldn’t hurt you.

Why do you automatically have to default on a loan because your home value falls? Hint:

If you can make the monthly payments, even a lengthy fall in home prices doesn’t force you to sell. If your ARM resets and you can make the payments, or you get a fixed rate loan before your ARM resets, you’re still ok (in terms of not defaulting).

Even if the home is never worth more than you paid for it, you’re not forced to take a loss until you are forced to move out of the house (e.g. you die, can’t move around anymore, etc.).

Negative equity doesn’t equal an automatic sale, default, foreclosure, etc. In fact, if you can’t afford the loss, you may be forced to stay put and continue to make payments until you’re above water. It would be a sucky financial situation, of course.

Unless you plan on defaulting on the loan if/when values fall, how is this any less of a risk to your net worth?

I’m assuming that’s your point since investing in CD’s (~5% return) when mortgage rates on $450K are about 2 points higher won’t save you any money – but you will have an easier time running off to Mexico after you default.

If you’re not concerned with your credit score (like most subprime borrowers) the best strategy is to leverage as much as possible and let someone else deal with the risk.

So, if I invest 500 K right now in the housing market, the probability that I’ll loose 250K in five years is VERY high.

Purely financial question -

Why not put in 10% down (50 K)
and have the lenders carry the
risk in case of a downturn ?

You would still have 450K to invest
in the CD’s.

I can confirm that prices and speculation have gone way up in France and the UK. The mentality is the same too. And the rest of what you said may be true as well: that capital flows to the hip-n-trendy cities. Hey, it’s where the creative class wants to live.

> I doubt the FED and all its
> Merry Men will be able to slowly
> deflate the bubble.

The FED faces a real conundrum. They need to raise interest rates in order to fend off the effects of inflation, but raising rates will start pushing certain people out of their homes.

Free market? LOL!

Thanks for the response.

I’ll look into it further, but based upon what you jotted down, here is my initial take on this.

I seems the difference is the fact that there is a great brain trust that can see that bursting bubbles would be really, really bad. While I am sure “they” will try to pull another rabbit out of their hat, and pass the bubble baton, my guess is the same idiocy that ran us into the bubbles will not be able to save us from their consequences. If they could, they would have essentially rewritten classical economics.

While many now have confidence in the FED, and all the other complementary powers, I believe that will vanish, and all the various economic concerns will seek out their own, INDIVIDUAL survival strategy.

Markets tend to become more unwieldy and unpredictable as you try to manage them. Alan Greenspan just replaced the biggest bubble of all time (equities) with an even bigger bubble (real estate).

Why is it, if this is a global phenomenon, that San Diego, Seattle, NYC, etc. can go up in a wild fashion, but Dallas, KC, Memphis, Denver, and Houston just watch the party? Does capital only flow to hip-n-trendy cities?

I ask these questions, not to be antagonistic, but as rhetorical questions.

I doubt the FED and all its Merry Men will be able to slowly deflate the bubble. There are just too many moving parts – the bulk of which are severely out of balance.

My predictions are pretty dire, and I would consider your scenario to be within my expectations, but on the optimistic side.

Thanks again for your response.

E

http://flippersintrouble.blogspot.com/

May be a similar one should be started for Seattle soon.

Investors- at least the pros- are not as emotional about their purchases so accept the truth when it hits them.

Unlike a screwed homeowner who thought their house was a ticket to everlasting riches and can’t let go of the dream, or the specuvestor who jumped in at the top of the bubble.

It’s a San Diego based board so yeah, looks like CA’s going to go down fast.

Yes, absolutely true here (N.CA) as well. Despite locals believing “everyone wants to live here,” the market is totally dead. Perhaps this is why Californians like me knowingly listen to the Seattle optimism–and can guess what will happen next.

The bursting/popping/deflating of the housing bubble will create serious pain/damage to the following groups:
- Speculators/flippers
- Marginal/sub-prime buyers who relies on creative financing, especially option ARM/teaser loan to get into the housing game
- Must sell buyers (job loss, relocation, divorced, etc.) who recently bought at the peaks of the bubble or has HELOC/MEW to the max of the value of the house

Again, you will see the bottom when nobody wants to talk about real estate any more at the cocktails, parties, etc.

Do I put my money where my mouth is? Yes, I do. Due to some recent transactions, not RE related, I have 500 K of cold hard cash.

Currently, I put most of them in a combination of CDs, Mutual funds, in a somewhat conservative way. Here is my calculation:

With the return rate of 6% for the next 5 years (some CDs now is paying you 5.8% for a 5 year term) , I’ll make about 150K.

If I use 500 K to buy a house outright, there is a very high chance that this house will be at 400 K in 5 years. (In many hot housing markets, a lot of people are under water 100 K or more already)

So, if I invest 500 K right now in the housing market, the probability that I’ll loose 250K in five years is VERY high.

This is my conclusion right now and I plan to stick with that.

But Seattle’s bubble will pop by this time next year – it’s already happening elsewhere.

Feel free to visit in 2007 and tell us how wrong we were. LOL.

Some say the middle-class is eroding, but I’ll counter and say the middle class has increasingly chased after an “upper class” lifestyle–whether they can afford it or not. I may have grown up comfortably, but with nowhere the excesses (luxury cars, mcmansions, entertainment systems, vacation, gourmet kitchens) that people expect today.

Here’s some more proof on how the middle-class has inflicted this on themselves. Of particular note is Heidi’s story halfway into the news segment.

I came up with these conclusions after reading many articles and papers related to the topic. However, there a few recent ones that really influence and shape my latest points of view about the bubble:
- World Real Estate Outlook 2006 from MacQuarie Real Estate published in 6/06
- Is Housing Wealth an β€œATM” – a working paper from the IMF published in 6/06
- Housing Cycles – a draft paper from NBER published in 7/06

In summary, here are the points:
1. For the first time in history, the housing boom is not confined to a single region any more. It is almost a world wide phenomenon
2. The financial tools being employed now is much more efficient in moving vast amount of liquidity around the world – think about hedge funds, central banks, credit swap, default swap, etc.
3. The unprecedented participation of new players like China, Russion, Oil exporters, Emerging markets, etc. These players usually following their own set of rules and agenda.
4. The liquidity pumped by Central banks in the last few years will take years to normalize. This process will be very slow because nobody wants to crash the global economy.
5. The liberalization and innovation in mortgage market, i.e. IO, negative mortgage, HELOC, MEW, etc. (I believe that these tools will be around for a long time, obviously with tougher rules and regulations)

Basically, most economists, including the Fed, believe that there is a bubble, or froth, or excessive speculation, whatever they want to call it, in the housing market. However, not many believe that there will be an outright crash to the market. The more bearish ones of these folks, i.e. UCLA Anderson school, Morgan Stanley global economy group, Nouriel Roubini from Roubini Global Economics Service, PIMPCO economists,The Economist magazine, etc, now seem to gear toward a tough landing (between soft and hard landing) rather then a hard landing for the housing bubble. It is in the interest of all the participating players to make this happen – slow down the world economy to remove excessive speculation, be it housing, commodities, oil, bonds, capacities, etc. , not to crash it and bring about a world wide recession.

D,

What changes to the financial model do you see that I may have overlooked?

Thanks,
E

Ooh, it’s like an NCAA betting pool!

I’ll guess June 07 will be the first month that shows year over year 0% (or lower) appreciation. But it’ll continue to creep down until then and keep going south after.

I’ll guesstimate the bottom to be around 25-30% nominal depreciation in late 2010 early 2011. Depreciation will be lower and further into the future if the interest rates aren’t going back down yet from what I assume will be a return to normal rates over the next year or so.

Biggest factor for when we hit 0% YOY will be fed rate hikes and what pace they come at. Though I believe we’d still get there in a slightly longer time frame if rates remain at 5.25%, as the balls already rolling downhill. All the other factors routinely mentioned are what will keep the slide going and going..

Overall 2006 is looking like a good year, maybe 3rd overall to 05 and 04, but it’s already obvious by the numbers trends that most of those gains will have been made Jan-May. It’s the last great time to sell.

1. Housing prices will be lower by 1-3 % next year in Seattle.
2. This process will continue for a few years until it bottoms at 2010 or 2011.
3. At the bottom, the fall in price will be ~ 15 – 20 % nominal, 30 – 40 % real, because inflation will remain high for the quite some time.

(Note: Even I am a housing bear, my view is less pessimistic compared to Eleua because I believe that some recent changes to the financial model seems to be drastic and long lasting)

According to a cyber exchange with The Tim, his numbers show slightly more than 1/3 (38%). His numbers are state wide.

I only care about my smuggy, bucolic wonderland, and according to my sources 60% of BI buyers are out-of-state, and appx 3/4 of them are Californians, which is about 45%. Those are rough numbers, and I imagine you can use them as a good starting point for whatever you are trying to divine from the data.

BTW, that 60% does not include X-Cal that live on BI and then relocate to another house on BI.

50 cents on the dollar only takes us back to ‘02. When this bubble breaks, you can expect that just as a starting point.

In ‘02, we were coming off of a VERY MILD recession, and you needed a microscope to find it. ‘00 was the end of a huge equity bubble that favored Seattle more than most cities. We really have not had the cleansing recession we needed after that tremendous excess.

I’m looking at early to mid ’90s prices, and that is without a major economic disruption.

Prices can’t keep going up, while incomes stagnate. Inflation and rising interest rates will weigh heavily on peoples’ ability to pay for homes. Finally, when it dawns on the Lumpenvestoriat that a home is a place to park your head at night, and not a 3-D 401(k), it will wring the speculative premium out of the equation.

Right now, X-Cal equity refugees are propping up our market. Once California inverts, our market will go down faster than a Clinton intern on Easter Sunday.

JNPR continued a breathtaking ascent to $244 while every other tech was swirling around the drain.

18 months later, JNPR traded at $5.

Brains will only get you so far; luck always runs out; nobody is special; the piper always gets paid.

I’ve been saying 20 cents on the dollar by 2010 for quite some time.

Most of my Seattle Bubble brethren think of me and my predictions in the same way many view some freak at Westlake Center shouting “Repent! The end of the world is at hand!”

I’ve sold all me RE holdings and now rent. I’m presently a short-seller, renter, and an accumulator of non-US$ holdings.

So, there you go. My money is where my mouth is. I’ve given you, not only a time frame, but an approximation of the bottom.

Could I be wrong? Sure. People were saying the same things back in November ‘99 and stocks.

Tell me, is your money where your mouth is? Do you have multiple, highly leveraged properties? Tell us where the market is going. Are we going up 5%, 10%, 20%, and over what timeframe? Will median properties sell for 10X, 15X, 20X, 40X, median incomes? Will people be able to spend 150% of gross income on their house payment?

Your serve…

I believe it can be sustained indefinately as long as you are willing to transform the US into something that resembles South America.

Here’s an opinion: By spring 2007, your home will be worth less than it is right now.

Make you feel better? I didn’t think so.

People who need a definite date/time frame on these things, just don’t get cycles. They are taken “by surprise” when the bottom falls out.

Fortunately, it’s a free country. If you want to buy now, you’ve got every right to do so.

Those of us who see all the signs of an imminent burst will refrain for as long as we possibly can because we’re afraid for our hard earned money.