Schadenfreude - It's the Word du Jour or What's For Dinner

With the dramatic decreases in the year-over-year percentage number of sales, all time lows in market activity, realtors (like Lereah) essentially begging sellers to lower prices so as to get transactions moving again, a proliferation of 'for sale' signs in this normally slow part of the season, one must wonder if we are starting to see a classic "seizing up" in real estate markets:

Unlike stock market bubbles, real estate bubbles don't pop. Collapsing stock market bubbles are characterized by a sudden collapse in prices because stock markets are highly liquid. You see huge volumes of transactions at ever lower prices during a stock market collapse. Collapsing housing bubbles, on the other hand, are characterized by illiquidity, a sudden collapse in transactions. Buyers and sellers seem to disappear. The reason is a reversal in the psychology of buyers that developed at the top of a speculative housing market. Buyers had been buying at prices they knew were too high but on the assumption that they'd be able to sell if they needed to. The thought was: "Ok, maybe it's overpriced, but at least I'll be able to sell it later for at least what I paid for it, but likely more." What happens on the way down is that houses go on the market and just about NO ONE shows up to look. That's because buyers weren't buying earlier primarily because they needed a place to live, but because they thought the price would likely rise and that, in any case, they'd be able to get out when they wanted with all of their money or more. On the way down, neither condition is true. So buyers stay home, so to speak.

But can't buyers be enticed by declining prices, by bargain hunting, you ask? No. Once housing sale transactions suddenly fall from, say, several hundred a month in a large community to, say, one or two a month, this creates fear and loathing about prices. Long periods of time pass when there are no transactions at all. Think of it this way. What's the comparable on your 3000 square foot home in San Mateo when the last sale was, say, seven months ago? Is it 10% less than the last sale of a similar home on the area? 30% less? This happened in Japan, and prices nationally are still more than 60% below peak prices in 1992, where real estate prices continued to climb for several years after their stock market bubble popped. Sound familiar?

Q: What happens when you can no longer reduce your asking price without going "under water"?

A: You just decide to sit on it for an unknowable length of time and hope for a better market in the future all the while hoping that during the meantime you won't be forced to sell due to illness, job relocation, divorce, a huge law suit, a disabling accident, kiddies go to college or some other large expense, etc.

And this never ceases to be fresh:

Justifications for abnormal price increases are themselves a symptom of an asset bubble. Ones I’ve been hearing to justify housing prices in recent years are similar to those I heard here at iTulip.com in the late 1990s about the stock market. The more a person had invested in the stock market, the more strongly he pushed the justifications for absurd prices, and the closer we came to the end the more rabid the defense.

There are nine key plausible but wrong "it's different this time" arguments most commonly used to justify housing prices during the bubble:

1. low inventories;
2. modest mortgage rates that will not rise high enough or fast enough to end the price expansion,
3. favorable long term demographics of boomers and retirees,
4. growing demand from immigrants,
5. the Internet has eased the cost and time needed to buy or sell properties,
6. banks and mortgage companies have automated mortgage underwriting, making financing a shorter and simpler process,
7. financial innovations have created new mortgage products to make homes more affordable to more buyers,
8. low-income assistance programs will continue to boost the level of U.S. home ownership, and
9. the 2000 stock market downturn and 9/11 attacks motivateed investors to avoid the risky stock market and put their money “safely” into real estate.

Taking on the nine key justifications one at a time:

1. inventories are rising just about everywhere and rapidly in some areas such as Denver, Colorado;
2. interest rates are now rising fast making not only monthly payments too expensive for homeowners with barely affordable ARMs but also making a switch to a fixed rate mortgage unaffordable for many;
3. baby boomers and retirees made up 40% of all home purchases in 2005 so they’re probably full up;
4. immigrants can only afford homes if monthly payments are kept inexpensive via low interest rates and Suicide Loans, but these are going away;
5. the Internet will be just as efficient as a mechanism for transmitting price deflation in a declining housing market as it was at transmitting price inflation when the market was rising;
6. banks are tightening lending standards as foreclosure rates rise, making loans less available;
7. Suicide Loans are behind the first wave of foreclosures in places like Denver, so banks and mortgage companies are taking them off the market and there is proposed legislation by banking regulators to place severe restrictions on them,
8. new legislation to control predatory lending will decrease sales in low-income areas, and
9. investors bought stocks in 1999 because they thought that stock prices only go up. The same psychology was allowed to develop in the housing market. The same reversal in psychology will occur in the housing market as home prices start to fall, fueling further declines and eventually a loss of interest in the housing for investment purposes.