Back in the still-uncertain days of September 09, every market pundit had his or her own letter for what shape the recovery would take. I blogged about Ben Bernanke’s “U,” Liz Ann Sonders‘ “V,” and Nouriel Roubini’s “W” here. Though one could argue the jury is still out, I think it’s fair to say that Liz Ann won round one.  The recovery is looking and feeling like a “V”  — and in fact is falling pretty much within historical patterns. (Full disclosure — I had my money on Nouriel.)

I recently spent 20 minutes listening to her most recent webcast, and it all sounds pretty seensible.  What I like about Sonders in particular is that she’s basically a contrarian. So many people are betting against the stock market’s phenomenal rise right now — and in favor of bonds — that she thinks that the bears are refusing to accept the fact that a solid recovery is in place.  I like the way she puts it in a related article:

Skeptics are often the loudest folks in the room, and the bear case is often the more “intellectual” case, but the market has a tendency to reward the minority view, not the majority view.

What’s all this got to do with San Francisco residential real estate?  One of her points touches on a theme that I’ve sounded here recently. As everyone knows, interest rates are likely to rise as the economy starts to strengthen and the Fed starts turning off the easy credit spigot.   Sonders is not predicting the stratospheric rates that occurred in the early 1980’s.  Nevertheless, it doesn’t take much of an increase in rates to have a significant impact 0n the amount of house you can buy.

Say you’re thinking about borrowing $700,000 on a 30 year fixed rate loan at the current rate of 5.25%.  Your payment would be just under $3,900 a month.  Now say that interest rates increase by just half a percent to 5.75%.  Your monthly payment would increase to just under $4,100 a month.  Maybe a difference of $200 a month doesn’t sound like that much:  a couple of fancy restaurant dinners would would cost the same.

But look at it this way.  Say that the the maximum you’ve decided — or the bank’s decided — you can afford to pay each month on your mortgage is $3,900 a month.  Now that half percent increase in rates means that the maximum loan you can qualify for is around $662,000.  That’s a loss of $38,000 in the amount you can borrow and the amount of house you can buy.

It’s also a heck of a lot of fancy dinners.

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• Investors Should Give the Recovery Some Respect — but Watch for Rising Rates (dailyfinance.com)

The View From Space

The View from Space – 2010

Ken Rosen is a smart guy.  He’s the co-chair of the Fisher Center of Real Estate and Urban Economics at the Haas School of Business at UC Berkeley and the investment adviser of choice to some of the biggest players in real estate, from banks to insurance companies to REITS. Ken might not be able to appraise your house, but he could tell you how each sector of the real estate economy has fared anywhere in the country, and probably in many parts of the world.

Once or twice a year I spend the day in a windowless hotel conference room listening to Ken and some of the biggest heads in the real estate biz expounding on the state of real estate. These guys (and they are mostly guys) look at real estate through the lens of global macro-economics and finances.  Want to know where interest rates are going?  They study yield curves on T-Bills and monetary policy in the capitals of Europe.  This is “the view from space.”

I reported on Ken’s predictions from November of 2008 here. (Remember, we were already in deep doo-doo, though things got worse through the first quarter of 2009.)  Before moving into his predictions for 2010 and beyond, I thought it would be useful to see how well he did on on his forecasts for 2009:

The Ken Rosen Scorecard for 2009

• Chance of a deep recession: 70%. Bingo.
• S&P 500 at year-end under a deep recession: 850. Actual:  1115.   Woops (but who said the market was rational?)
• The dollar: “Will continue to do well.” Nope, it lost ground.

Not a great batting average you say?  Truth is, I’m cherry-picking here.  Overall, Rosen’s message in November 08 was that things were improving, but that there would be volatiility and a long, slow recovery in housing.  Notwithstanding our brush with death in March  — Rosen put the chance of a deep recession at 5% — his prediction on that aspect of the market seems to be holding up well.  As for the dollar, given the gaping chasm that faced the global markets in the early months of 2009 – led by crashing and burning US financial institutions – the dollar’s decline shouldn’t be a surprise.

And as for the stock market and its amazing recovery, given what still seems to be looming on the horizon, I just can’t figure that one out at all.

Rosen’s Predictions for 2010

In terms of the shape of the recovery, Rosen estimates the chances of a “broken W”  — read fragile recovery – at 65%.  This is where I’m putting my money folks.

He estimates the chances of a more robust recovery at 25%, and that of a long , Japanese-style recession at 10%.

Expect a slow, fragile recovery, a bottoming out of the housing market, and rising long-term rates.

Estimates for the Stock Market, Year End 2010

S&P  1150; Dow 11,000

Advice for the Home-Buyer:

If there’s any good news here, it’s that Rosen thinks that the sector will come back fastest is single family housing.

Here’s the takeaway quote:

“Take advantage of the windfall tax credit and low interest rates if you’ve got a good job”

Rosen thinks that prices have bottomed (I’m not so sure).  But it does appear that

REO’s (properties taken back by the banks) have declined as a percentage of all sales, and that should help to stabilize prices.

From a socio-economic perspective, housing affordability has increased significantly due to low interest rates and price declines, and that can only be viewed as good if you believe that widespread home-ownership is a public “good.” (I do.)

What could go wrong?

In a moment of brilliant serendipity, Rosen’s co-chair at the Fisher School, Bob Edelstein — no small brain himself –  happened to sit next to me at lunch.  In the next 30 minutes we covered everything from wine to Waziristan.  His outlook was not as sanguine as Rosen’s.  We didn’t get into details, but my impression was that Edelstein was more concerned than Rosen about a jobless recovery coupled with higher interest rates driven by enormous deficits.

Once again, the magic eight ball says:  “Ask again later.”

Ask again later

A front page article in the Business Section of last Wednesday’s New York Times, grimly entitled “An Upturn in Housing May be Reversing,” pulls together recent and contradictory data from various sources, including Case-Shiller, Moody’s, and The National Association of Realtors.  The conclusions are sobering.

There is a growing consensus that the positive national sales data that we’ve seen over the last few months is faltering.  Much of the recent activity, for example, was stimulated by the anticipated expiration of the “First Time Home-buyer Tax Credit,” originally set to expire in November, and now extended through April of next year.  Essentially, this means we’ve “borrowed” from future sales.

Also, despite some positive economic news and decent sales volumes, there’s been little improvement in sales prices because inventory levels – read “foreclosed properties” – remain so high.   Mary Maitland, VP of the S & P Index that publishes the Case-Shiller Index foresees a “W” pattern for the housing market, with prices this winter testing the lows we saw earlier in the spring.  Am I allowed to say “I told you so?”

The NY Times article has a cool interactive chart for specific MSA areas including “San Francisco” — remember this covers 5 of the 9 Bay Area Counties.

That was the title of an October 27 article in the New York Times, and, as one of my readers and clients pointed out, it’s what I’ve been tentatively suggesting as a possible scenario for this winter. See here, for example.

And, ironically, the gloomy head-line announced yet another “positive” month of data from the Case-Shiller Home Price Index. The little up-tick in the index from last month’s July data that I discussed as a possible “dead cat bounce” continued in August.

“San Francisco”  — remember, this is a Metropolitan Statistical Area (MSA)  consisting of 5 of the 9 Bay Area Counties — improved 2.6% on a seasonally adjusted basis from July 09.  The New York Times has a cool inter-active chart that shows the CS Index for various MSA’s here.

So why so glum?  The NY Times article points to a number of factors that suggest the improvement may not continue:

• an unexpected fall in consumer confidence in October.
• the end of the stimulus provided by the first-time home-buyer tax credit (though there’s pressure to extend this).
• doubt about how long the The Fed will keep interest rates so low.

Especially troubling for California is “strong evidence that foreclosures may be spreading from sub-prime inland areas to the more exclusive coastal region.”

My view hasn’t changed.  If you’re thinking about buying, this is probably a good time to be out there looking, with a view to buying some time during the winter months when activity slows and prices tend to soften somewhat.  Nobody knows how long interest rates are going to remain low — and some economists think that they may well remain low for a while — but with the government having thrown so much money at the economy to keep us from the brink of disaster, it’s hard to argue that the long-term trend is going to be anything but up.

As for whether we’ve hit bottom yet, it’s anybody’s guess.  While Mr Case of Case-Shiller continues to think that the worst is over, the NY Times article quotes another eminent economist who thinks that the recent improvement in the CS Index is an aberration and who wouldn’t be surprised by another — if limited — down-leg.

It’s a fool’s game to try to time the market to the nth degree.  And in this environment, with so many contradictory signs pointing in so many directions, you might as well flip a coin, or an economist, and see whether he lands on his head or his arse.

Me, I’m dusting off my magic 8-ball.

Does anyone really know what’s going on?  Despite the gloom and doom of my recent posts (Waiting for the Other Sheep to Drop, Alphabet Soup:  What Shape will the Recovery Take?), the latest publication of the Conference Board’s Leading Economic Index (LEI) on Tuesday trumpets:  “Fifth Consecutive Increase!”  The LEI is supposed to predict economic activity approximately 6 months into the future, so you’d think that a five-month run would mean it’s time to celebrate, especially given what looks like the impressive bounce shown in this graph.

(The Coincident Economic Index — blue line — shows what’s happening to the economy currently, and — no surprise — it shows we’ve bottomed out.)

To be sure, The Conference Board hedges its bets and says that while a recovery is near, “the intensity and pattern of that recovery is more uncertain.” You can find the full report here.

Meanwhile, today’s WSJ headline reads“Rebound in Home Sales Hits a Bump” , with national sales declining last month after four straight months of increases. (Thank you, X-Man, for the heads-up on this article.)

What does all this mean?  I think it means two things.  1. The worst is over.  2.  You might just as well go consult your magic 8-ball (“signs point to yes,” “ask again later”…) as consult the experts on what the recovery will look like.

I looked at percentage change from all time highs for condos and single family homes (sfd’s) since January 2003 and here are the results for the city as a whole.

Until June 2008, condo and home prices were in lock-step in terms of price appreciation and decline.   Thereafter, homes fell first and further. (Do I hear a lithp?) In March 2009, the delta between condos and home prices was a whopping 13%.  Since then, however, home prices have recovered smartly:  as of June, homes are about 4.5% further off their all-time highs than condos.

What does this all mean?  First of all, I wouldn’t take too much consolation just yet in the upward spike in both condo and home prices since the beginning of the year.  If you take a look at the chart, this happens every Jan/Feb when people start buying out of the winter doldrums.  I wouldn’t predict a bottom until we see what happens this winter.

Secondly, given the woeful condition of the economy and the credit markets, together with the fact that San Francisco is not a badly overbuilt housing market, it sort of makes sense that condos are holding their value relatively well as people are finding themselves priced out of more expensive single family homes.

Still, the current delta of only $100,000 between median condo and median home prices seems rather small.  If people are just begging to know what the historical average is, let me know and I’ll find out.

Here are some of the cheery highlights:

• One out of every seven apartments and houses in the US are vacant, a level not seen since the 1960’s. That’s about 19 million units
• Less than a third of those are actually for rent or for sale, meaning that many more could yet come onto the market.
• New contracts for previously owned homes fell at their fastest pace for two years.
• Some areas that have fallen fastest, like inland California, are seeing improved sales.
• Urban areas that have withstood the recession reasonably well, like San Francisco and New York, are “frozen.”

We pass Elk Grove on our way up to Tahoe.  Beautiful spot east of Sacramento.  You can buy a 3 BR house there for $193,000.  The same house sold for $336,000 four years ago.  The mortgage is a $100 less than it costs to rent a 2BR apartment.  It’s hard not to think of that as positive.  That is, unless you were the one who lost $143,000 in equity.

They’re predicting the housing market will get “worse” before it gets better.  Why “worse”?  Because a lot of people are going to feel — and be — a hell of a lot poorer than they used to.   And the people for whom an increase in housing affordability might make a difference are the ones who are getting hammered the worst.

Here’s a chart showing future’s contracts on home prices.  It shows prices deteriorating further this year, followed by a long, flat recovery starting some time in 2010.

Sounds like it’s going to be chilly spring.

Most of the data covers the state as a whole, and even when it’s broken down by county, Ms.  A-Y stressed that there can be huge differences when you get more “granular” with the details.  (I made the same point in my 10/27 post discussing how misleading the much-quoted Case Shiller Index can be.)

Still, the 2008/9 forecast is worth looking at and, surprise surprise, it ain’t pretty.

Look at that 31.7% drop in median price from 2007 to 2008, with another 6% drop forecast for 2009.  Keep in mind that these numbers are California-wide and San Francisco is holding up relatively well.  Here’s another CAR chart showing the movement of median prices for existing detached homes by county.  Note there are some HUGE discrepancies between some of the data presented here and the data collected by Dataquick (see the chart in my 10/27 post).  Remember that the DQ data includes ALL sales (condos, town-houses, etc.) and that they reflect “non-market” transactions like repossessions, sales to family members, etc.  Still, the difference in figures for some counties –e.g. Contra Costa — are astonishing.

And finally, one more chart for a long view through history.  How bad is this housing downturn compared to others?  Well, so far prices have dropped about midway between the catastrophic fall of 1978-82 (think OPEC oil embargo, Iranian hostage crisis) and the more moderate drop in prices that occurred from 1988-1992.

Are we at the bottom?  Probably not, based on everything I heard from the big brains, but the consensus seems to be that a full-blown depression is unlikely and that the economy will start seeing some daylight towards the end of 2009.

Future posts will return to earth and look specifically at San Francisco.  If there’s a bright spot in any of this, it’s that for once San Francisco’s not as cold as some other places in California.

Once or twice a year I spend the day in a windowless hotel conference room listening to Ken and some of the biggest heads in the real estate biz  expounding on the state of real estate. These guys (and they are mostly guys) look at real estate through the lens of global macro-economics and international finance.  Want to know where interest rates are going?  They study yield curves on T-Bills and monetary policy in the capitals of Europe.  This is “the view from space.”

There’s a lot of information that I can’t actually put to use:  I don’t really need to know whether the smart money is investing in CMBS’s (commercial mortgage backed securities) because folks like you and I can’t buy them anyway.  But I always come away from these conferences with a better sense of the “big picture,”  of where real estate is headed in the broader context of the national and global economy.

Right now, the picture ain’t pretty.  Here are some highlights from Rosen’s economic wrap-up.  More to follow in other posts:

• Recession or Depression? Rosen puts the chances of a deep recession at 70%, a moderate one at 25%, and a full-blown 1929-style depression at 5%.  This was echoed by many speakers.  The major global governments, including China, are throwing so much money into the system that a depression seems unlikely — but it’s still a possibility.

• The credit crunch: Inter-bank interest rates are coming down, which means that bank confidence is improving.  Easing credit should follow.

• San Francisco should weather the storm reasonably well because of its diversified “global gateway” economy and the fact that it hasn’t been overbuilt.  Not so, the East Bay.

• The dollar should continue to improve because, believe it or not, the US economy is doing well relative to the rest of the world.

What to invest in?  More anon.