Welcome Serfs to the new Housing System: How all cash investors are distorting the housing recovery and taking over the primary vehicle for wealth for Americans. » Dr. Housing Bubble Blog
Welcome Serfs to the new Housing System: How all cash investors are distorting the housing recovery and taking over the primary vehicle for wealth for Americans.
When you turn housing into a hot stock packaged nicely with a red ribbon and newly installed granite countertops, you have added neon lipstick to the biggest purchase most will make but don’t expect it to act as some kind of button down conservative asset class. Wall Street since 2000 has found a new asset class to inflate and invest (gamble) on. No surprise then that housing has had a religious conversion into the church of Boom and Bust. This is exactly what you are seeing in some markets where ravenous speculators are essentially the largest players in the game. The wealth gains in housing are largely distorted because of the massive entrance of investors into the game. For example, millions are buying homes with 5 percent down or less. To keep it simple, someone buys a $150,000 home and puts down $7,500 that goes directly into the equity of the property. An investor buys the home with all cash. For each one of these purchases, you would need 20 of the conventional purchases simply to match up the level of equity. All cash means 100 percent equity from day one at least when it comes to data being reported on housing. This is why as we will discuss in the equity chart later on, that this has been incredibly distorted in favor of investors. And where are these gains really going? 5 million Americans have lost their homes (if you can call it that since many were in debt up to their eyeballs with little to no equity) since the crisis hit and a good number have gone to investors. With rates shooting up, you are going to see the appetite of many investors sour quickly.
The real homeownership rate
Homeownership has been the primary vehicle of wealth building for most Americans for well over a generation. Stocks for all the raucous hype they carry make up a tiny portion of the wealth portfolio of Americans. It isn’t that housing is a great long-term investment, it has typically been a hedge against inflation and a forced savings account. Given that overall Americans are poor savers, this has worked out well for many. Yet today, even after all the fancy mortgages and gimmicks that have hit in the last two decades courtesy of fancy pants banking, the homeownership rate is no better off:
Let us spend a couple of minutes on this chart. The homeownership rate peaked at 69 percent at the height of all the easy money in the market. 5 million foreclosures later, we are down to 66 percent. But I would argue that we are closer to 62 percent if we factor in all the Americans that are simply not paying their mortgages. Do you even own your home if you have zero to very little equity and flat out are not paying your mortgage? Would you consider someone delayed by three payments on their mortgage as truly a homeowner? You miss one rent payment and you are out on the street.
The idea that somehow this housing recovery is benefitting your average American family is hard to find in the data. Sure, equity is up but what does that mean? If you are a family looking for a rental rents have gone up with no subsequent rise in income. Is that a benefit? If you are looking to buy, you are being crowded out by investors in many areas. Is that a benefit? Supply is low because of every gimmick from suspending standard accounting rules to basically using the Fed as some pseudo-mega bad bank. Is this a benefit? And those all-cash purchases are distorting equity.
Equity but equity from where?
In no time in history have we had so many investors buying up this much property. In Las Vegas, it is up to 60 percent. In Arizona, the figures are close to that. In Florida we have about 30 to 40 percent. In California over 30 percent. This has been the game for a few years now. Now say 50,000 homes sold in the Las Vegas region alone last year (say an average of 50 percent all cash). That is 25,000 homes that were bought with 100 percent equity. You would need 500,000 equivalent 5 percent down regular home purchases to have an equivalent amount of equity from this investor deluge! In other words, nearly 10 years of regular home purchases. You can apply this to other large investor markets as well. So when you look at the below chart, we have been on a race to inflate equity quickly but how much of this is because of the cash crowd:
This is a new equation in the modern day housing feudal system. If you don’t have all cash, good luck trying to buy in these insanely manic markets. People in California are now groveling at open houses crawling on bended knee like a jilted lover begging someone to come back. The only difference is that this is a 1,000 square foot lover built in the Great Depression selling for $500,000 and in desperate need of a makeover. So the low interest rate environment since 2009 has largely benefitted banks and those with easy access to this money. Rising home prices have come for all the wrong reasons: speculation, high level of investors, and artificially low interest rates. The market went into full panic mode just because rates went from 3.5 to 4.5 percent! If you even have any sort of working memory 4.5 percent is ridiculously low. Even 6 percent is great in the longer picture but we now operate in a market with the attention span of a gnat. So the market panicked and people were rushing to lock in purchases or were walking away. This market is so fragile that a mere whisper from Bernanke was enough to send shockwaves in the mortgage markets.
So why do I think this boost in equity has occurred so quickly? Because typical households finance their purchase and build equity slowly over time like slow cooking a pot roast. Where are those mortgages?
In fact, most households are still in the process of deleveraging since the crisis hit. So this recent jump in equity is coming from two large corners:
-Foreclosures: 5 million completed since the crisis hit
-Investors: Roughly 25 to 30 percent of all purchases have gone to this group since 2009
So are we going to get excited about hedge funds suddenly becoming the largest landlords in the US?
1 million more renter households
On the flipside, this is good business for hedge fund landlords. Rents have gone up because those 5 million foreclosed need to live somewhere. Rents in areas like Las Vegas however are reaching a threshold and the numbers just don’t make sense. You have a game of musical chairs now where investors are trading to one another simply for mere speculation on future gains. New home building has been invisible for half a decade. So we’ve added 1,000,000 more renter households in these last few years, mostly in depressed markets. The same markets flooded by hedge funds. So a normal family now looking to buy has to contend with all cash offers. What use is it that you have a 4.5 percent mortgage locked in when the sale is going to the all cash investor? Colleagues in the industry are even seeing 20 percent offers being ignored in place of the almighty cash buyers.
The mania is boiling over in California. Investment purchases stopped making sense over a year ago. Flippers are falling over one another to find the biggest sucker in the room at this point. And inventory is starting to increase. Look at the trends in sought after areas like Irvine that have local, foreign, and local family demand:
For the first time in a couple of years you are seeing inventory starting to increase and sales starting to reach a ceiling.
The idea that somehow the banking bailouts were for the middle class family is really being proven false. Ultimately these distortions hurt local families in these areas. If prices fell to reflect local family incomes would this have been so bad? For families looking to buy the answer is no. To banks the answer is a resounding yes. Now that home prices are back to near peak levels and people are stumbling over one another to fight for whatever inventory is left, we are left repeating a very similar scenario. We just saw that the Fed will need to go into QE infinity like Japan to keep this party going. In the mean time, make sure you take some Alka-Seltzer before entering the summer manic selling season in these markets. Some people enjoy acting like serfs at open houses begging mercifully that the seller will allow them to overpay for a home that needs much added work for an insane price. The crash hit in 2007 and six years later, it looks like the Fed is once again fueling insanity in the housing market.