2007 vs. 1989 - How will the busts compare?
I'd like to hear opinions on how this housing boom/bust cycle will compare with the last one - which occurred from 1989 to ~1994.
The NY Times had a graphic a while back that did a good job of comparing where we are today vs. that boom/bust. As you can see, the two cycles compared side by side (to date) look remarkably similar.
It's also good to look at peak to trough comparisons across markets to see what the impact was:
As you can see, the impact varied widely - from several markets at 1-2% to LA showing up as an extreme outlier at 27%. The 10-city Composite average was 8% and Seattle experienced a 6% correction.
So what do people think? How will this downturn compare to the last one?
Personally, I think this downturn will be worse than that one- but in the range of 1-2x the impact. I often see predictions of 40 or 50% declines in home prices - but I think they are about as likely as Ichiro batting .800. Theoretically, it could happen - but history has shown it's pretty unlikely.
However, based on the thread on the blog this weekend, I am certain there will be healthy debate
The NY Times had a graphic a while back that did a good job of comparing where we are today vs. that boom/bust. As you can see, the two cycles compared side by side (to date) look remarkably similar.
It's also good to look at peak to trough comparisons across markets to see what the impact was:
As you can see, the impact varied widely - from several markets at 1-2% to LA showing up as an extreme outlier at 27%. The 10-city Composite average was 8% and Seattle experienced a 6% correction.
So what do people think? How will this downturn compare to the last one?
Personally, I think this downturn will be worse than that one- but in the range of 1-2x the impact. I often see predictions of 40 or 50% declines in home prices - but I think they are about as likely as Ichiro batting .800. Theoretically, it could happen - but history has shown it's pretty unlikely.
However, based on the thread on the blog this weekend, I am certain there will be healthy debate
Comments
If Boeing keeps selling airplanes, and Microsoft keeps selling Office, Starbucks keeps selling coffee, Nordstroms keeps selling clothes, and Costco keeps selling everything...well maybe a mere 5% decline is feasible.
Keep in mind though, Costco is the only company on my list that sells essential items. The rest are either luxury items, or at best companies that require strong economic growth to fuel sales. Even Microsoft is becoming a luxury seller with the popularity of Linux, Firefox, Google Apps...
Anyways, I picked 1x-2x, even though I actually think 1.5x-2.5x is a better spread.
Given where we are in the global credit cycle, a similar decrease in rates seems unlikely. That leaves either falling prices or wage inflation to return equilibrium.
When you consider that negative amortization loans were less than 1% of the total in the '90s to being over 20% of the market in 2006, it becomes clear that things are much worse today than in past downturns.
Unfortunately, I think this downturn is going to be truly massive and result in a lot of pain. Any neighbourhood that manages to see only a 50% price drop will be exceedingly lucky, with prices dropping 80% to 90% in most places.
Let's put it another way: when the credit taps get turned off (which is slowly beginning to happen) there just won't be enough buyers with ready cash to fill the void.
Of course, I am NOT saying these dramatic price-drops will happen over night. But take 4 or 5 years of 20%+ price drops, and we can get there.
12/89 = 9.86%
12/90 = 9.75
12/91 = 8.60
12/92 = 8.36
12/93 = 7.30
12/94 = 9.35%
http://www.hsh.com/mtghst.html
On the other hand, I wonder if interest rates really matter all that much as to the health of the real-estate market. There have been periods of appreciation with relatively high rates and periods of decline with low rates.
Instead, I think the shear availability of credit is a bigger factor: how low are the credit standards (e.g. how much down-payment/equity are required, etc)? On that basis, everything I've heard seem to indicate that we are in completely uncharted territory these days.
It would be interesting to see how the use of exotic mortgages (e.g. option ARM, 100% finance, 100% interest, negative amortization, etc) have changed over time. If it is true that these kinds of loans are far more prevalent today than in the past, then we should be very worried.
??
That doesn't really square with what I have seen. I think you are talking about IO - not neg-am. According to Credit Suisse, Interest Only + Neg-Am were 25, 29 and 23% of loan originations in 2004, 2005 and 2006 respectively.
So what % of those are Neg-Am? I think it is pretty small. I found this article, which says that IO loans went from 17 to 23% of loans in 2004.
So 25% IO+Neg-Am - ~20% IO only = 5% Neg-Am. If you apply the same ratio to 2006 you get 5/25 x 23% = 4.6% Neg-Am.
I'm not saying those are good loans, but ~5% is a long way from 20%, and the performance of an IO loan is likely quite different than a Neg-Am - so it's important to be precise.
There is as much bad info being passed about as fact on the bearish end of the spectrum as there is on the bullish end. Somewhere between the two views lies the truth.
May rates at the "high" point of the selling season:
5/89: 10.84
5/90: 10.54
5/91: 9.58
5/92: 8.76
5/93: 7.55
5/94: 8.44
5/95: 8.17
5/96: 8.31
5/97: 8.11
Yes, describing this as a steady slide from 10% to 7% is inaccurate since rates only spent a few months in the low 7's, but I don't think the drop needs to be steady for buyers to come back to the market - it just needs to happen.
The numbers do show a somewhat steady reduction of around 2.5% from the previous peak to the recovery in 97. 93-94 would be best described as a bottom, so other factors like pent up demand after years of stagnation may have played a role in the budding recovery.
Perhaps what's more interesting is that the 2 point drop between 89 and 92 didn't do much if anything to revive the market before it bottomed.
That is exactly what I was thinking. you did have unemployment ratcheting up + recession + Iraq war #1 in play in 1991/92. That probably slowed the recovery.
Interesting that the home price drops appeared to presage the recession by 6-12 months back then. I expect that scenario will repeat.
You are likely right. I am likely getting the various exotic mortgage statistics mixed up. But even 5% of mortages being neg-am seems pretty high. What was the average in the '90s?
But neg-am mortgages are beside the point: are exotic mortgages (all categories) more prevalent today than in the past? How does the 23% of loans for interest only + neg-am compare to the '80s or '90s? Were these kinds of loans even more prevalent during previous boom years?
Credit Suisse - Mortgage Liquidity du Jour: Underestimated No More
This is helpful, but it is still deficient in some key areas.
It's interesting to see that neg-am/IO loans were 33% of the market in Seattle in 2006. Neg-am/IO loans went from 2% of the US market in 2000 to 29% in 2005 (23% in 2006). Also interesting, 49% of all US loans were of the no-documentation variety in 2006.
Unfortunately, what is sorely lacking is historical data to show how these figures compare to previous booms/busts. I would really like to see how prevalent neg-am/IO loans were during the '80s and '90s. Were no-doc loans as prevalent during previous boom periods?
I think it is really hard to make any predictions as to what will happen in our market during this cycle unless we can see how closely the credit bubble today mirrors what happened in the past. Looking at inventory and sales prices only gives a small part of the picture. We need to understand the types of loans being used, and the credit standards prevalent during each cycle.
When I see the price of gold compared to real estate, the both look very similar since 2000. If real estate is in a bubble, then gold may be too.
If credit standards and wacky mortgages are a significantly higher portion of the real estate market today than in the past then I think it is perfectly safe to conclude that our bust will be deeper than in the past.
Let's say that neg-am/IO loans were only a combined 2% of all Puget Sound mortgages in 1989 and they are 26% of the total today. If this was true (which I don't know) then there is no reason prices couldn't drop at least 24% more than they did in the early '90s. I think just using percent difference in mortgage types understates the problem, but it gives a conservative estimate.
And this isn't even taking into account the fact that sub-prime lending is MUCH higher than in the past as well.
Just ask yourself this: what would happen to the real-estate market if no one could get a mortgage without 20% down, an 800 credit score, and full documentation? That would eliminate most current buyers. I can't imagine that tight credit standards such as this wouldn't have a MASSIVE impact on prices.
If there is anything I feel certain of it's that credit standards are going to tighten dramatically before this cycle is through (by which I mean requiring large down-payments, full documentation, qualifying for full payments instead of teasers, etc). There just won't be ANY demand from investors to buy sub-prime or exotic mortgages (e.g. neg-am, IO) when we hit bottom.
If you just take all the neg-am, IO, and no-doc loans out of the equation (another realistic expectation at the bottom), the real-estate market will get creamed. Add in requirements for 20% down and possibly higher credit scores than currently acceptable and things would be disastrous.
It's not as if lenders will have any choice. If the secondary market refuses to buy loans without big down-payments and documentation the financial institutions will have their hands tied.
Why would the market for homes and gold be comparable? Gold is an internationally traded commodity whereas homes are for the most part only valuable to locals. I agree the price changes look similar, but if you figure that gold is being purchased by people using all different currencies as an investment and homes are only purchased in USD (mostly) using wages from local jobs it doesn't follow that the prices should move in parallel.
Interesting comparison. Here's a chart for just Seattle. It's hard to tell because it catches only the tail end of the early 90's boom - but I am guessing it was close to this one at the peak, but not as long. If anyone has any data...
Yes, it would be very interesting to get more data on past Seattle real-estate booms. I repeat, however, that we really need to see data around the types of mortgages and credit standards in place at the peak of the last boom to get a good idea as to how comparable our current situation is.
If, as I suspect, credit standards are significantly looser (e.g. more no-doc, IO/neg-am, low downpayment, etc) then I think our bust will be much more severe. In fact, I think it is the relativeness loosness of lending standards that will determine how similar our decline is to the past rather than any type of historical data on inventories or median price declines.
If lending stanards are lower today than during the last boom, then our decline will be more severe. It's that simple.
FWIW I don't think neg-am, IO or 100% financing existed much, if at all in 1989. I know I read in that CS report that IO went from 2 to 33% of Seattle marketplace in the last 5 years - so I doubt the bolded statement below is correct.
I think there's much more shady financing today. Not that it means were going to be swamped with foreclosures - but I bet a 10% down ARM was pretty exotic in '89.
I got lucky on a google search and came across an interesting table.
http://www.fdic.gov/bank/analytical/fyi ... table1.pdf
For California the "bust" areas seem to areas that felt the shaker. I was in Pasadena at the time and it definitely shook hard.
The only other exception would have been San Luis Obispo/Paso Robles and I also wonder if their turning down of state water had something to do with it.
I was on the west side at the time, and I got shook hard too!
I think the earthquake + the riots were reasons that the LA downturn was worse than other parts of CA. That plus the loss of industry
Cool chart, btw. I am not sure where they get their data from - as it seems a bit off to me, but I like the idea. Would like to see the 2007 version!
Did you read the accompanying article? It is probably something anyone predicting a 20-40% haircut in housing should have a look at.
U.S. Home Prices: Does Bust Always Follow Boom?
Our February 2005 FYI report examined the historical pattern of home price booms and busts for U.S. metropolitan areas from 1978 through 2003. It defined a "boom" market as one in which inflation-adjusted prices rose by at least 30 percent in a three-year period. Based on this definition, some 63 cities had experienced a boom at some point in the last 30 years, and 33 cities were experiencing a boom as of the end of 2003. The report also defined metro-area housing "busts" as markets in which home prices had declined by at least 15 percent (in nominal terms) over a five-year span. While 21 housing busts have occurred since 1978 under this definition, only nine of them have occurred on the heels of a housing boom.
One conclusion of this study was that a housing boom does not necessarily lead to a housing bust. In fact, boom was found to lead to bust in only 17 percent of all cases prior to 1998. Moreover, when busts occurred they were typically preceded by significant distress in the local economy. The most common way for a housing boom to resolve itself was through a period of price stagnation that allowed local economic fundamentals to catch up with high home prices. In the end, however, the paper suggested the applicability of this historical experience to the current housing boom remains uncertain. The expansion of subprime and high loan-to-value mortgages, along with growing use of home equity lines of credit, could change the dynamics of home prices in future cycles.
I wasn't there, but in a counterintuitive way, any disaster which actually destroys housing or damages it so that it becomes unlivable would actual raise the value of the housing around it. I think during Katrina, housing which was actually hit plummeted in value, but housing in surrounding cities went up because demand remained the same but supply diminished.
Rose...I understand your thinking WRT disasters but could it be possible that New Orleans housing prices were already low and that a higher percentage of homes were wiped out created a supply/demand issue as you state? Not all that many houses were "red tagged" from what I remember due to the quake but I wonder how much people were just afraid of the earthquake factor. :?:
I was stretching things a bit (i.e. I actually think we will have a pretty serious downturn) in the interests of not ruffling the sensibilities of all the bulls on that site. I try not to be antagonistic if I can help it.
However, my point was a serious one: the depth of our current downturn may be determined by how much more prevalent shady financing was than during previous booms. I was hoping that some realtor on RainCity would chime in with anecdotal information about what the financing situation was like back in the '80s.
If it really is the case that dodgy financing is far more prevalent in the Puget Sound today than in past booms (which I suspect, but have no evidence to back up) then I don't see any way we can avoid a deeper contraction than the historical norm.
I think with New Orleans, that's definitely possible. Plus, it seems like many of the worst hit neighborhoods were the poorest ones.
With respect to sou-cal, if a natural disaster makes people frightened, but doesn't destroy many homes, then it might drive people out of the area. Such a disaster should lower prices because a) some homes are damaged and b) people are leaving the area. On the other hand, if a scenario arises which destroys a lot of houses, but people are unwilling or unable (in NO, many families are too poor to leave), then supply drops while demand increases.
I think another difference is the kind of damage. In a flood, low houses are hammered and houses on hills are ignored (NO). In an earthquake, there is a range of damage radiating out of a center point.