2011 Nov 16th

The Weekly Wednesday Wrap Up – Hoboken Condo Sales & Activity for the Week of Nov. 16th

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This Week’s Condo Sales & Activity versus last week’s:

  • 262 active Hoboken condo units – vs. 271 last week
  • 11 DABOs (Deposit Accepted By Owner i.e. under contract) vs. 4 dabos last week
  • 11 sold vs. 4 sold
  • 13 new listings vs. 12
  • 17 price changes vs. 11
  • 3 expired listings vs. 8

1 Bedroom & Studio Condos

7 new listings

6 price reductions

101 active

3 DABOs

  • 1500 Washington St., 6K listed on Sep 16 for $425K
  • 309-311 First St., 3B  listed on Oct. 10 for $369K
  • 79 Monroe St., 2RN listed on April 8 for $318K, reduced July 15th to $299K

7 Sold

  • 1500 Washington St., 12S listed on Sep 7 for $435K; sold for $423K
  • 1011 Park Ave., 5R  listed on Aug. 31  for $279K; sold for $267K
  • 809 Willow Ave., 4R  listed on Aug. 2 for $320K; sold for #315K
  • 80 Park Ave., 3A listed on June 9 for $375K; reduced Aug 1 to $359K; reduced Sept. 14 to $349K; sold for $345K
  • 201 Washington St., 304 listed on May 23 for $249K; reduced June 18 to $230K, sold for $220K
  • 1125 Maxwell Lane, 550 Listed April 29 for $625K; reduced Sept. 143 to $609K, sold for $587K
  • 705-707 Monroe St., 202 listed on Mar 23 for $394K; sold for $380K

2 Bedroom Condos

5 new listings

7 price reductions

133 active

7 Dabos

  • 415 Newark St., 8F listed on Oct. 19 for $465k
  • 12oo Grand St., 527 listed on Oct. 14 for $535k; reduced Oct 29 to $525K
  • 159-161 6th St., No.2  listed on Oct. 17 for $650k;
  • 81 Grand St., PH listed on Oct. 7 for $599k;
  • 131 Bloomfield St., 3 listed on Sept. 21 for 459k; reduced Oct. 18 to $449K
  • 507 Madison St., 3 listed on Aug. 15 for $499k
  • 700 Bloomfield St., 2  listed on July 11 for $469; reduced Sept 6 to $450k; reduced Oct. 26 to $446K

3 sold

  • 1125 Maxwell Ln., TH1, listed on Sept. 18 for $2.136Mil.; sold for $2.090Mil.
  • 1500 Washington St., 3F, listed on Aug. 31 for $669K; reduced Sept. 21 to $659K, sold for $625K
  • 511-515 Madison St., 301, listed on Mar. 23 for $624K; sold for $615K

3 Bedroom & Bigger Condos

1 new listing

4 price reductions

28 active

1 DABO

  • 1425 Garden St., 402 listed on Oct. 28 for $1.275Mil.

1 Sold

  • 802 Garden St., listed Sept. 7 for $839K; sold for $825K
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  1. Randy

    What happened here?

    131 Bloomfield St., 3 listed on Sept. 21 for 560k; reduced Oct. 18 to $449K

  2. morally_right

    I’ve recently heard quite a few people talking about things picking up and how there are multiple bids, etc, etc…

    But the bottom line is there are price reductions all over the place which would not be happening if the above claims were indeed the case. Maybe there’s a case or two where it is happening, but by and large, just talking to one person who tried to sell recently, he said he tried for a few months but no takers and was told by his realtor that the only way a sale was going to happen is if he got really aggressive and reduced the price by a lot. So he decided just to take the apartment off the market and look to reenter at a better time. I suspect there are a lot of sellers waiting in the woodwork for a “better time.” That’s why the inventory keeps shrinking and price reductions keep occurring.

  3. Lori Turoff

    Randy – 131 Bloom – it was a typo, sorry.

    Morally Right – the person in your example may have a unit that doesn’t show well, has a bad layout, is in a bad location, can’t be shown easily, is competing with a lower priced unit in the same building, is in a building with parking but doesn’t have parking, is a 5th floor walk-up, is in need of work, is over priced or your friend may have a bad realtor. There are plenty of places that don’t sell for a plethora of reasons.

    But does the experience of the one person you talked to outweighs the hundreds my colleagues I talk to every day of the month? Average sales price actually rose last month.

    There may be owners who choose not to sell because they can do better renting. That doesn’t change the fact that supply is shrinking (down to 260 today).

  4. morally_right

    Can’t the average go up if there are sales of more expensive apartments in any particular month?

    Can’t the supply shrink to zero if every seller takes their home off the market? I guess it would then be correct to say that “there are no homes for sales.” But it would not be accurate to say that it’s because the market is so hot.

    My friend’s apartment is actually beautiful, quite new, elevator, parking, etc…About 10 blocks from Path.

    One person doesn’t not make a good statistical sample. But I’m suspicious of the positive stories I hear from sources who have an interest in higher prices.

    Over time we will see where the market is really going–up or down. I hear lots of conflicting evidence now.

  5. Lori Turoff

    Do you think agents really have such a strong interest in higher prices? If a condo selling for 500k was to go up by even 10% (a very optimistic increase) to say, 550k, do you know how much we would actually stand to gain?

    About $625.

    Assuming a more realistic 2% price increase, you’re talking about $125.

    Personally, hundred bucks has zero affect on my life. I have much more of an interest in the continued health of the Hoboken real estate market as a Hoboken home owner, investor and long time member of the community.

  6. morally_right

    Wouldn’t a higher real estate market get some folks’ “animal spirits” up and perhaps entice some of them to buy/speculate who otherwise would not have? That would be quite beneficial to the real estate industry I would imagine. So it’s not the increase in income you referred to.

    And not ALL real estate agents would behave just in their own interests necessarily.

  7. Chuck A.

    Do you intend to say that it is better to have a sluggish economy and depressed housing market? I just read that an upturn in the housing market is what is necessary to kick start the economy. Why would anyone possibly be against that?

  8. laki

    “I just read that an upturn in the housing market is what is necessary to kick start the economy”

    Over the long run, this couldn’t be further from the truth. It’s a total misconception based on a multi-decade boom-bust style economy which was dominated by bubbles in various asset classes. So people got used to the idea that unless there is a bubble in some asset class (stock market, housing, whatever) the economy is not doing well. But you want exactly the opposite, you want the economy to do well while the pricing is stable. This is the true economic growth driven by real productivity gains, not the one due to ever-increasing levels of debt and collective malinvestment in an overpriced asset class. The latter will always result in a crash after which the society as a whole is worse off than they were before the “boom” began.

    “Why would anyone possibly be against that?”

    I can answer your question with a question: When you go to the grocery store, are you cheering for the “upturn” in the prices of groceries? Let me guess: you like prices of groceries to go up because that is a sign the economy is doing well. Right?

  9. Lori

    Google “housing market role in the recovery” and read some of the results. There is no consensus on this issue but some of the articles are quite interesting.

  10. homeboken

    Laki is correct, there are two ways to view housing. It is either an consumption or investment. If you beleive it is consumption than you will want lower prices or monthly costs. Like Laki stated, if your monthly housing expense were less then you could spend more on other items and kick start the economy or invest in a small business or invest in the stock market. Housing costs being low would boost the economy in this case, just the same way that low gas prices, heating costs, groceries etc leave more discretionary income in your pocket.
    If you beleive hosing is an investment, then you want prices to continually increase. The problem is that if housing is an investment then “investors” (aka owners) need to understand the risk they are taking on with the investment. Additionally, investments should not be backstopped by the fed or subsidized by the govt. The investment market should be able to operate without any intervention.
    In both cases, where you sit is where you stand, and how you view housing depends on your own personal situation.

  11. Lori

    Or it depends on your economic philosophy.

  12. homeboken

    Lori- People tend to define their economic philosophy based on their own incentives and motivations.

    You won’t find many would be First Time Home Buyers claiming that high home prices are a good thing. Of course, once they close, their philosphy will change.

  13. laki

    “Lori- People tend to define their economic philosophy based on their own incentives and motivations.”

    If one’s economic philosophy changes simply because of one’s personal profit motives – then that person is at best intellectually dishonest or worse just plain stupid (in which case it’s pointless to argue with them cause they just don’t get it). Though I agree with you that most people fall in one of these two categories. This is just a sad fact. There are very few intelligent, logically honest, and philosophically principled people out there.

    My economic philosophy is independent of my personal motives. For example, I would benefit greatly if home prices went up, but regardless of that, i argue that home prices going up is actually a bad thing for the economy if the driving force of the uptick in pricing is ponzi in nature (i.e. i buy today largely because i hope the price goes up so that I ca be wealthier tomorrow).

    In a hypothetical economy that doesn’t have bubbles and ponzi elements to it (which is what we should be aiming for) – if you want to buy real estate as an investment, you have to ask yourself – would i be a buyer today even if I assumed the prices stayed flat (in real terms) over the next 100 years? If the answer is yes – you should buy. If the answer is no – then you shouldn’t buy. The second point is trivially true because if the investment is “no good” at today’s price then why would it be good at an even higher price tomorrow? If you take a different view, than you’re re-introducing the bubble element to your decision making process. You’re implicitly saying, I’m only buying because i hope to sell to someone else for a higher price tomorrow. But this is not the type of an economy we should be striving for, because eventually all these bubbles do not bring long term prosperity (in fact the opposite is true as they distort investments and create destructive boom and bust cycles)

    The economy you want is the one where you evaluate investments 100% based on their actual merits, and you don’t assign any value to being able to “flip” your investment and book a gain on it.

  14. laki

    “Google “housing market role in the recovery” and read some of the results. There is no consensus on this issue but some of the articles are quite interesting.”

    I’m personally not disputing the fact that if home prices went up, say 25% in a year, there would be a meaningful short term uptick in the economy. This is undisputable. The economy would tick up for sure. But I challenge you to question the merits of this economic uptick. If it is just another boom and bust cycle where you trade short term “benefit” for medium/long term pain, than what good is it? Especially if the long term pain outweighs all the short term “benefits”. Think about dot com bubble, think about the housing bubble, think about the current unraveling of the debt bubble in Europe (Japan and US soon to follow).

  15. homeboken

    Laki – I think you make some good points and I agree with you that the vast majority of people make their short-term and long-term decisions on what is the most beneficial to them. I disagree with you that they are fundamentally wrong for doing so. Leave aside the concept of Nash equilibrium and the greater good. On a basic survival level people will generally choose the most beneficial personal outcome, even if it is to the detriment of the greater society.
    Think of the young couple buying their first home. You tell them that you can guarantee the home will double in value in 5 years. At which time they can sell and pocket the equity or trade-up. How many of them do you suspect will say “Oh no, the only way for my home to double in value in 5 years is for another real-estate bubble to occur, I think I will sit this one out so society doesn’t make this mistake.” Would not happen.

    Same with taxes. I do not like having to pay Social Security tax when there is a likelihood I will never receive it. Give me the option to stop paying SS taxes in exchange for foregoing any chance at future benefits, that would be appealing to me now. But of course, what happens when I am 80 and penniless, future me wants to be taken care of by somebody right. Does society let me rot becauase I made the risky decision decades prior?
    I think it’s a very interesting society discussion that goes far beyond just real estate.

  16. laki

    homeboken – Maybe you misunderstood me a little bit. I don’t necessarily disagree with someone acting in their best interest (also putting the Nash equilibrium aside, I don’t want to complicate the argument too much). Everyone has every right to act in their own best interest (as long as they don’t harm others or break the law). But if we’re having a philosophical debate about what is optimal for the economy as a whole, then one’s personal situation should have no effect on the argument. To dumb this down, if the federal reserve just added 10 zeros in my personal bank account (and my account only) that would be in my personal best interest. But how could i possibly argue that this fed behavior is legitimate? If i did i would be either dishonest or stupid. That was my point.

  17. laki

    homeboken – to put this in perspective for housing. If you’re a person of integrity, you shouldn’t change your philosophical stance on the housing policy just because you bought a house! If your opinion was that government policy XYZ was optimal on tuesday, and then you go out and buy a house on wednesday, how can you go out and say that policy XYZ is not optimal anymore? Either you were full of sh*t before you bought a house, or you’re full of sh*t after you bought a house, or both. In any case, if this is how you form your arguments, it is very likely that they have no merit whatsoever.

    But this does not prohibit you from acting in your best interest! Now that you own a house, you might support policies that you didn’t before, and that is fine with me. But if you’re an honest person, you would say: “I support such and such policy because it is in my own best interest”. You wouldn’t pretend like they’re good for the system when just yesterday you believe the opposite. Otherwise you’d be dishonest. If you couldn’t tell the difference, well then you’d be stupid.

    And when I say you I don’t mean YOU. Just a hypothetical person out there. From your posts, I get a feeling you and i agree on many things.

  18. Randy

    Laki – this thread is a very good read. Nice insight. You seem very educated and unbiased – I’m curious what your thoughts are of the current economic situation?

  19. laki

    I think i posted a lot of my thoughts on this blog before (even when it just started up a year or two ago). I’m not sure if you can go back and re-read some of my posts, but I’m reluctant to repeat myself too much because I don’t want to overwhelm the blog with my own views. But in short, the entire western economy is on a verge of a massive collapse. In my view, what is happening right now is just a continuation of the 07/09 crisis. Back then, in order to ease the collapse and to save the banks, the western governments took off the losses and the risk from the private balance sheets and added to their own debts. Even before they did that they had way too much debt, but now they’re definitely over the edge and there is no going back. Southern Europe is at the forefront here but once those dominos start falling for real, I fear that 07/09 crisis will look small in comparison. The wealth destruction that will follow will be massive and global in scale. In my opinion short of some kind of a miraculous growth in the emerging markets that would bail everyone out, the western economies will self-implode. As a practical matter this wealth destruction will either occur through a wave of defaults and lower nominal prices for all asset classes (stocks, bonds, commodities, real estate etc.) or through inflation where the savers will be punished disproportionately in order to ease the pain for those who are indebted. If you’re to protect yourself from these losses, you have to be correct in calling one of these two outcomes (or the “path” of losses which might include the combination of both). I think this is hard to do, but my instincts tell me that a first wave will be a deflationary one where all the assets start going down in value, the world GDP starts going down, people start losing their jobs, etc… After awhile this will scare the governments into devaluing all the currencies and purposely creating inflation. So in early stages the wealth loss will occur through bankrupcies and assets going down in value, and in later stages it will be though inflation.

    I’m not so certain about the path or the timing of the wealth destruction, but I’m pretty certain that it is coming. I would urge people to not pay much attention to the traditional economic metrics (such as GDP, unemployment, etc.) These things are only relevant if the “system” is stable and sustainable. If not, these metrics are no more than a rear-view mirror at a world the way it was – which is NOT how it’s going to be going forward.

    The analogy is an over-leveraged company with short term debt. Once people start questioning the sustainability of the business model, it doesn’t matter what the earnings were last quarter. Once you lose the ability to finance yourself, you’re toast. Just ask Lehman, Bear, WAMU, etc. These companies constantly had positive earnings and kept employing more and more people more or less until the day they went under! But once they went under, all the fallicies of the underlying businesses were exposed. You could’ve predicted the collapse of the banking system if you looked at their balance sheets and completely ignored their earnings.

    The same is true for the western economies today. You have to look at their balance sheets. Right now we’re living in a world with the largest amount of peace-time debt ever accumulated. And these debts are not repayable. The math doesn’t add up. The entities with debts will not be able to pay their debts back. And that means the entities with assets backed by this debt will have to go down. Once these systemic shifts start occurring, watch out anything is possible!

  20. randy

    sounds really grim. are we really doomed though? Couldn’t we simply keep kicking the can down the road until some other boom happens (tech, energy, healthcare…) and if not, is it even possible for our govt to establish some sort of plan to get us out of debt?

  21. laki

    Randy, I think it’s too late. The problem is rooted in the way the financial markets have functioned over last 30 or so years globally. We’re in a mature stage of a debt-driven pyramid scheme where the base of the pyramid simply cannot grow anymore. And we need the debt to grow just to keep the GDP flat and not lose jobs in the current system. It’s beyond the point where any government policy could change anything. In my opinion the best government policy would be to realize where we’re going (i.e. massive scale world-wide debt liquidation) and to implement policies to get us there in an orderly fashion as fast as possible. We’re getting there anyways, so doing it in a planned way is certainly better than having things implode spontaneously. However you slice it, this debt liquidation will be very painful in the short to medium term and hence runs contrary to what every politician tries to do. Politicians try to avoid short term pain at all cost (or otherwise they don’t get elected – it’s an irony of democracy in that long term optimal policies that have short term negative side-effects can never be pushed through). So politicians on all sides of ideological spectrum propose policies that are exactly the opposite of what needs to be done. The longer you prolong the inevitable, the bigger the bubble gets and the harder you will fall eventually.

    The growth that occurred in the western world post WW2 up until say early 80s (roughly) was real. The growth from the early 80s to late 90s was part-real, part debt ponzi driven. All the growth over the past 10-15 years or so has been totally fake, as we completely relied on ever-increasing debt expansion in all sectors (public, consumer, corporate) just to keep the GDP growing very slowly (if at all).

    And now we find ourselves in a situation where a country like Italy with its 1.9 Trillion of debt goes from stable to a full fledged panic mode just because their interest rates moved up by 1-2% ?!?! In Japan, if their 10 year interest rates went to 3 to 4% (where US rates have been a few months ago), ALL THE TAXES THEY COLLECT wouldn’t add up to what they would have to pay just on INTEREST ON THEIR DEBT! Think about what that means. That would be equivalent to you having so much credit card debt, that 3-4% interest on it would equate to interest payments larger than your annual salary. So even assuming you don’t need a place to live, you don’t need to eat, and you have no expenses you still wouldn’t be able to cover even the interest on your debt! And then you have US, which is in a somewhat better shape, but still spends 3.6T a year and brings in 2.2T in taxes… how long can that last on top of a 15T of existing debt? Any policy at this stage to close this gap completely (whether through massive tax increase or massive spending cuts) will lead to GDP collapsing, and hence reducing the tax revenues (look at Greece as an example) hence generating even larger deficits. All of this is especially true in light of the implosion that already started in southern Europe which will will push the implosion time-line forward for the rest of Europe, Japan and US without a doubt.

    There is no way for the growth to occur from within the western world that would get us out of the mess. The reason for this is that western world economies are consumption based (with an exception of Japan, but their population is shrinking), and the consumers are over-indebted. So the only way to drive growth without restructuring the system would be to have consumers take on more debt and spend more, but they can’t possibly take on more debt as they’re already on the edge. So as I said before, the only hope is that emerging markets start growing insanely fast all of a sudden with their domestic consumption exploding. I believe the odds for this happening are slim to none, but i guess it could happen which is why i mentioned it in my previous post.

  22. Lori

    Thank you everyone, for your insightful and interesting comments. What a great discussion!

    Laki, my follow-up question to you is, assuming your analysis and outlook are correct (and I do agree with much of it) I wonder, besides stuffing cash under a mattress, what you thing a good investment strategy for an individual would be in such a scenario. Just go out, enjoy and spend everything you’ve got before the world economies crash & burn?

  23. homeboken

    Lori – I have been struggling with that exact issue, what and where do I put my money? Right now, I am have about 90% of my savings in cash. The hard part, as Laki states, is getting the timing right. Assuming Laki’s steps are in order, asset deflation first, massive inflation second, the play for me is to try and find the right entry point into the market or at least be close to it.

    To bring the conversation back to real estate – In an inflationary economy, it is best to be a borrower. Oddly enough, if I knew significant inflation were coming I would want to be leveraged to the gills. I think a nice big mortgage would do the trick. It really comes full circle then, demand for debt increases as inflation rises and round and round we go again.

  24. laki

    Hm, if you don’t want to be a hero you can stay super diversified (cash, stocks, real estate, land, commodities, etc etc. – and be very diversified within each asset class – so don’t own a single stock – own the index of world stocks, same with bonds) In that case you’re more or less guaranteed to match the % wealth loss that the world experiences as a whole. If 1/3 of the world’s wealth is lost, you will lose roughly 1/3 as well. So if you were rich, you will still be rich, if you were middle class you will still be middle class… etc. You don’t try to be a hero.

    However, if you want to do better you’d have to take risks where you can outperform the world, but you can also under-perform. Really good investors will lose very little when they’re wrong and make money when they’re right. And you always have to assume you’re wrong. People who’re too arrogant in their views tend to under perform over the long run.

    So if my scenario is to play verbatim, you want to be long 30 year US government bonds, up until the point when inflation starts, you want to call that moment, and then you want to switch everything to a diversified portfolio of (stocks, commodities, land, and real estate). Clearly I don’t recommend you do that, if I did i would be one of those arrogant people. This would be a very risky investment strategy!

    I think I’m on record a year or so ago (maybe even more) on this board recommending something along these lines (I don’t remember exactly, but roughly it was this):

    80% cash
    10% US corporate and non-agency mortgage bonds
    9% insurance against european sovereign bonds
    1% out of the money call options on gold.

    I do realize the insurance on sovereign bonds is not something a retail investor can purchase easily (if at all), but if your allocation was roughly this, your wealth would’ve gone up by more than 50% within a year or so. So I was lucky! But it was more than just luck. Had I been wrong, the most i could’ve lost is 10% or so (because I was 80% cash). So you always want to position yourself so that if you’re totally wrong, you don’t suffer too much.

    I would not recommend the above allocation anymore, as the insurance on European sovereign bonds is not an asymmetric bet anymore. The rest of the world has woken up to the fact that Europe is imploding, so the pricing reflects this.

    I would replace this with something along these lines

    80% Cash
    8% US high yield corporate and non-agnecy mortgage bonds
    7% Stocks
    3% Out of the money call options on gold
    2% Out of the money option on Japanese yield going up (so put options on bonds or call options on yield)

    Again, I realize that the 4th thing here is not something a retail investor can do (the other 3 you can) but as a matter of principle i would look for an investment that would give me a huge leverage to the upside in case Japan started to implode. Maybe it doesn’t have to be Japan, maybe you can find something else where a consensus market opinion is totally skewed one way, but you can do the math and realize if things go sour, the consensus opinion will turn out to be way off. I personally don’t know of such a bet today outside of Japan.

    Or a totally alternative strategy (which might involve lifestyle changes) would be to go and buy a farm land somewhere and start making food. Put 50% of your wealth in this farm business, and keep the other 50% in cash. This will protect your wealth probably as good as anything in the coming years, but most city people would never be up for it. As an alternative, maybe you don’t have to work the land yourself, maybe you can rent it out to farmers?

    In either case, i would recommend to most people that they reflect on their own talents, skills and abilities. Reflect on how dependent you are on the system. We can all be out of a job when things start going down, and if that happens to you, you want to be ready. You want to be self sufficient as much possible and reduce your dependencies on the rest of the system. You don’t want to be caught off guard.

    The worst type of a situation i can imagine: You’re a middle school English teacher in a big city, and you spend what you make and have no savings, and no skills beyond that of an average person. (I don’t mean to pick on an English teacher, it is just an example). In this case you’re 100% dependent on the system, and if the system crashed you’d be totally screwed. If this was me today, i would start reflecting on my situation now and rethinking my setup in life. I would try to build up savings as quickly as i could and try to reduce my dependencies on the system.

    Ok. I’m done. Sorry for rambling too much.

    PS. No reason to keep your money in the mattress. You can keep your money in the bank up to the FDIC limit. If you have more money than that, just keep your cash at multiple different banks. Ally for example gives you around 2% yield on a 5 year CD, and you can break the CD with a small penalty where you give up 2 months of interest if you pull your money early.

  25. Randy

    Laki – what a great read. please tell me you work in finance and have book on this.

    As a person not in finance and not an expert, I currently have about 70% in cash and only 30% invested in Bonds & Stocks. I also have my apt in Hoboken which is partially paid off and has a really good mortgage rate. Some of my cash is in a TIPS style fund through vanguard.

    Laki, my question is what about healthcare or tech growth? Supposed in 5 years solar energy becomes cheaper than oil, or medical science has improved significantly in certain treatments. Obviously these are examples (and probably unlikely) but there might be some advancement that can really create big growth. Would that be enough? Or is that simply not even close? If not why isn’t congress doing anything about this other than not coming to terms?

    You also mention timing. How far away is America to being like Greece and having to sell the Washington Monument for revenue? Is this a year away or 10 years away?

  26. laki

    I do work in finance, and I spend all my time researching investments and developing strategy. Most of my knowledge/experience comes from me being a practitioner and “doing stuff”. But I also read other people’s research and books from time to time. Unfortunately I don’t know any good books for someone who is not in the field already. The stuff I read is not easy to understand unless you understand the lingo, terminology, math… and it took me a few years to get there, at first it was quite frustrating. Also, I’m not an expert on energy or medical science (though I like to think i’m not clueless either). That said, everything is possible. What you suggest could happen i suppose. Some big advancement that jump-starts the growth. But if I was a betting man I would assign very low probability to such an event. I can’t explain quickly why i feel this way, but there are multitude of economic/structural reasons.

    How far is America to being like Greece? In my opinion, all else being stable, probably 10-ish years or so. But all else is NOT equal. The timeline has been pushed forward by what’s happening in Europe. I think US is one major recession away from being in a big big trouble. But so is Japan, so is all of Europe.

  27. Lori

    Just to bring the topic back to real estate for a minute -I am confused –

    “The economy you want is the one where you evaluate investments 100% based on their actual merits, and you don’t assign any value to being able to “flip” your investment and book a gain on it.”

    How does one value an investment in a capitalist system if not by it’s rate of return, i.e., the ability to book a gain? Are you saying an investment that generates a return is a good one only up to a certain point and then it becomes a bubble? As I understand it, any investment that generates a positive return is a good one. If a bubble is defined as trading in a class of assets in high volume at prices that are above the intrinsic value of the asset, by definition, that can only apply to multiple trades and investors. It would not be a rational decision for an individual investor to say “I won’t buy this property which I believe is going to generate a positive return for me because that return is just a bubble.”

    Furthermore, I can see that the intrinsic value of a security can be determined by its future cash flow. What is the intrinsic value of my home? In calculating it, do I take into account the intangible benefits I receive from owning and living in it? Even if an individual investor could determine the intrinsic value of a property why wouldn’t he buy it if he thought the price was going to increase even above its ‘intrinsic value’? He would just enjoy a bigger gain.

    I think the problem is more about credit and investors buying assets with other peoples money, not paying it back, and the lender then transferring the loss onto society rather than taking on the risk of their own investments.

  28. laki

    Lori, let me try to address some of your comments by expanding a little bit more on what I was saying before. I don’t necessarily disagree with you, but I present a slightly different perspective on the same thing.

    Warning: Don’t read unless you’re ready for long nit-picky analysis.

    The framework i present is to be used to figure out what the intrinsic value of an investment is, and to assess whether something is a bubble or not. Also, I’m NOT saying it is wrong or bad to profit from bubbles. That is fine with me, but you should be aware of where your profits are coming from or otherwise you could be setting yourself up for a world of pain. Once the world starts deleveraging, the vast majority of bubbles will burst, so it is important to have some kind of a framework to gauge if what you’re looking at is a bubble or not.
    It is always preferable to make your profits from non-bubble situations as that profit stream tends to be much less risky.

    You should vale all investments based on the risk/return framework. But you have to properly assess where the returns are coming from. Are they coming from a bubble or not? Lets ignore the risk component just so that the argument doesn’t become too complex.

    If someone was looking to sell you a sandwich shop business, you could figure out how many sandwiches you can sell, figure out your revenue, subtract your expenses, and what remains is profit, call it X. Then you ask yourself, am I willing to pay Y for this business that gives me a profit of X? Every investor can figure out what that maximum Y is for them, and if the price offered is lower then Y they would buy the business, if not they wouldn’t. So in evaluating this investment opportunity, you never took in consideration that you can flip your sandwich shop in a year to someone else for more money. It might happen, but this is not something you should be basing your decision on.

    Translate this into housing. What is analogous to the profit above in a situation when your investment is a house? You can break that down into two components 1) The actual shelter utility of the house + 2) The intangible value you get from being an owner. The first one has a clear market price – it is the max amount you can rent the house for. The second one is more intangible but you could figure out a ballpark number of the value you place on being an actual owner as opposed to a renter (ability to repaint the walls, redo the kitchen, no one can kick you out ever, etc. you get the point). These intangibles could be assigned some subjective $ value. So 1+2 = “revenue” from owning a house. You subtract the costs (taxes, fixing the place up, aging of the property, etc.) and what remains is the “profit”. I put “profit” in parentheses because it is partially an abstract concept in this case.

    Now here is the argument: Assume we live in a world without bubbles. The question is: If the price of a house is Y and the “profit” as defined above is X, and you assume the price of a house stays flat for 100 years would you be a buyer? If the answer is NO, well then YOU DON’T WANT TO BUY PERIOD. If this wasn’t the case you’d be introducing a circularly flawed logic in the system (which is what bubbles are). If you’re buying in part because you hope the price goes up (but you wouldn’t buy otherwise) you’re implicitly saying this: I don’t like paying Y for “profit” X, but I’m buying because i will be able to sell it to someone else for an even higher price in the future. But who is that someone else? How come they’d be willing to pay more than Y for “profit” X when you yourself concluded that paying Y is not worth it? From time to time that someone might be placing higher value to being an owner than you, but this cannot be the driving force on average because there are so many houses and people out there and their collective opinions would form some equilibrium price for this intangible part of the “profit”. So, on average, the person who buys from you in the future at a higher price does so because he figures he can sell it at an even higher price to some third person, and so on. Sounds like a ponzi scheme doesn’t it? All along nobody is paying attention to “profit” X anymore. They’re all trying to capture the returns from the bubble. This can only keep going on as long as there are “greater fools” out there who are willing to pay more and more and more. But in a world without bubbles, this doesn’t exist. In a world without bubbles, at some point if it is not worth spending Y for “profit” X the price stops going up as there are no willing buyers at a higher price anymore. So the return component from flipping the house is just not there anymore.

    You have to analyze what i wrote very carefully. I am NOT saying that the price of a house won’t go up or shouldn’t go up in a world without bubbles. It might even double and that could be OK. But this doubling of the price should be accompanied with the “profit” of owning a house roughly doubling as well. In addition, all your expectations on future “profits” are built in your original decision whether you pay Y for “profit” X. For example, if you expected the “profit” X to skyrocket in the future and based on that expectation you decide to pay Y, then it is also true that you’d be willing to pay Y even if the price stayed flat for 100 years. Because in this case you’d be capturing awesome ever-increasing “profits” every year and you’d be a very happy camper that you paid “only” Y for these profits. Off course, in this case the price would probably go up too, but this is not the point. The point is that you would be a buyer EVEN IF THE PRICE STAYED FLAT FOR 100 YEARS. So in a world without bubbles, this is THE question to ask no matter what the future holds. If the answer is yes, you buy. If the answer is no, you don’t buy.

    The argument above is not totally trivial, but it is essential to understand it and embrace it. I also understand that the argument simplifies the real world, but nonetheless, the framework of the argument is 100% applicable in the real world.

    In the land of stocks, the equivalent simplified argument can be constructed by looking at a P/E (where E is the present value of the expectation of future earnings and P is the price of the stock). If you would be a buyer of a stock because you believed its P/E would increase (the lingo is “multiple expansion”) and at the same time you wouldn’t be a buyer if you expected the P/E to stay flat, you’re implicitly trying to profit from a bubble. You’re in effect saying i don’t like the profit stream I’m expecting at the current price, but i think there are people out there who will be willing to pay more for that same profit stream in the future. Again this is exactly what bubbles are.

    If you applied this framework to housing in say New York City and surrounding areas, it is clear you’re looking at a bubble. Bubbles of this magnitude don’t stand a chance if the debt in the entire system starts declining (as I believe it will). since the debt itself is the ultimate enabler.

  29. laki

    Also, just to make the framework a little clearer. In my previous post I frequently ask: “Are you willing to pay Y for profit X”? Why is this even a question? Isn’t all profit good as Lori says? Well, implicit in the question is the notion of risk. No profit is guaranteed so in a simplistic sense price Y of an investment is too high if you figure the risk associated with the investment is not worth taking if all the profit you expect to capture is X. (Some of the risks in the above examples are: your sandwich shop going out of business due to competition, your house going down in value because you paid too much for it, or even an opportunity cost: after you made your investment you realize there is a better investment out there that gives you higher profit for less money for less risk, etc etc. every investment carries all kinds of risks).

    So there is a risk component to all of this which I haven’t properly introduced in my framework, but to keep it simple the risk is roughly taken care of in the question: “Are you willing to pay Y for profit X”. People have a ballpark intuition for this risk and they subconsciously factor that in when answering that question.

  30. Randy

    Laki,

    I was looking at a luxury apt in Hoboken a few days ago. Price is $490,000 and I know it will rent for about $3,000 right away as I know other owners/renters in the building. After expenses the cap rate on this apt is a solid 5% if an all cash deal. So the valuation of the apt makes sense to me. And as long as the cap rate stays at 5% I can not imagine the apt losing too much value. So how exactly can you say this is a bubble when the rate of return merits the price? Unless rents are also at a bubble due to high housing costs (but how do you calculate that?)

    the only argument of the apt losing significant money in value is if interest rates significantly increase – is that right?. But if that’s the case, buying with a low rate mortgage should cover me – right?

  31. laki

    Randy, you’re right to look at it as an “all cash” deal when computing yield. This is the way to do it. Factoring in a mortgage clouds the analysis because what if the availability of a mortgage at the current rate is part of the debt bubble? (which it is). You don’t want your judgment to be impaired by this external bubble.

    If you have an expectation of 5% future “profit” after all “revenues” and expenses are factored in then this doesn’t sound like a bad deal to me (but make sure to factor in EVERYTHING on the expense side: taxes, wear-and-tear depreciation, utilities included in rent, maintenance fees, etc etc.). If you’re confident in this 5% number, then the valuation looks good, and you should ignore my notion that you’re looking at a bubble. If you looked into things in great detail, you should always trust your own judgment over that of others.

    I would just point out some food for thought: New York City and the surrounding area is HEAVILY propped up by the debt bubble (the financial sector is the biggest beneficiary of inflated salaries via the debt bubble, and New York is the financial center of the world). So you have to be somewhat careful when formulating your expectation on the future “profits” on your real estate investment. Are $3K rents per month sustainable if the debt bubble starts deflating? There is no easy answer here, and no matter how you slice it you’re engaged in a subjective forecasting game where you could be right and i could be wrong, or vice versa.

    But I’ll tell you one thing for sure, Hoboken sure does look a lot better than Manhattan. In Manhattan, even if you make all kinds of favorable “profit” assumptions about the future, the yield calculation you did tells you not to buy. By a long shot.

  32. laki

    But i go back to my question: All factors considered, would you be a buyer of this place even if it came with the following contract attached to it: “if you ever sell the place, you will have to do so for at most $490,000 (but inflation adjusted) and not a dime more”. If the answer is YES, then my framework + your subjective inputs to it are telling you that you’re not looking at an overpriced asset. If the answer is NO – then the proper conclusion is that you’re most likely looking at an overpriced asset.

  33. Lori

    Thanks for the great discussion, people

    I wonder about a few things:

    – What is so different in the Manhattan analysis?

    – How old are you, Laki? I only ask with regard to your experiential learning.

    – I’ve wanted to live in Manhattan since 1975 and owned real estate in Manhattan since 1983 and have either lived in it or rented it out. In that time frame, I have never seen rents decrease in desirable parts of the city. (In my case, the Village). Once, in ’08, landlords has to eat the realtor fee, or they couldn’t raise rents as was usually done from year to year. But never a decrease. We all know past performance is no guarantee of future outcome but – I’ve seen several cycles of financial crisis since the Carter days. Why should things in the City be much different this time around?

    – Stocks have an ‘alpha’ and a ‘beta’. (see http://en.wikipedia.org/wiki/Beta_(finance))
    Doesn’t real estate, or entire neighborhoods of real estate? How much of the increase in Hoboken prices was market related? If it was, how do you even define the “market”? All of the US? New Jersey/New York metro area? Manhattan & periphery? Just Hoboken?
    Isn’t it possible that some of the price increase in Hoboken over the early ’00s was due to instrinsic changes for the better in the neighborhood making living here more desirable thus increasing overall demand?

    Just throwing some thoughts out there.

    Also – stay tuned for Sunday’s New York Times real estate section. The column called “The Hunt” is about me and my buyers in Hoboken. http://www.nytimes.com/2011/11/27/realestate/the-hunt-three-bedrooms-in-hoboken.html

  34. laki

    1) I’m in the low 30s. My educational background is math, computer science and quantitative finance. I do independent research and I trade for living. I spend 99% of my time researching and formulating hypotheses on investing and economy. And I spend 1% of my time actually investing. And I’ve been doing that for years now.

    2) There haven’t been any debt cycles since Carter days! The debt to GPD ratio has CONSTANTLY been growing at a very fast clip throughout 1970s until today. The only exception is 07/09 when Debt to GDP had a very very minor dip, but that reversed at the end of 09. So all your observations about what happens in the market place are in the environment of increasing debt to GDP ratio. The period after great depression up until WW2 was a period of decreasing debt to GDP. Rents went down then (as did everything else). You should be able to find many other examples in other countries in the world throughout the history and see what happens to rents when debt levels in the system start going down.

    3) Aha, Real Estate beta. What I’m about to say is not exactly right, but to make it right i would have to type 20 pages of rigorous arguments and I don’t feel like doing so. So don’t nitpick on it just take note of the spirit of the argument for whatever it is worth. So here it is:

    Over the long run, real estate beta should roughly be 0. The same way the beta for a stock (not adjusted for dividends) should also be 0 under a hypothetical assumption that the company distributes all its earnings as dividends and never re-invests in its business. Look at the plot of the market P/E ratio over 200 years, apply some critical thinking to what i wrote, and you’ll realize it is true. The reason a stock has beta is that the company will invest in its own growth and won’t distribute all the profits it would’ve had otherwise. Why is this hypothetical 0 beta stock example analogous to housing? Because once you buy a house, you’re constantly extracting all the profits out of it. Any benefits that a house generates are being immediately consumed. Nothing is being re-invested to generate this beta.

    If this sounds like mumbo-jumbo to you, i would suggest you look at the inflation adjusted value of real estate over hundreds of years for the entire world throughout debt cycles. Part of this would be based on real data, and part would be based on anecdotal interpolation. You will find that inflation adjusted beta for the world is roughly 0 matching this intuitive explanation i gave you. Real estate will only start having true beta once the world population grows to a point where there is a shortage of land or actual resources used to build houses. We’re nowhere near there.

  35. laki

    My argument on “0 Beta” is for the entire world of real estate. Off course, one neighborhood can do better than others and hence demand higher prices. This is obvious and I’m not denying it. But for every neighborhood that has a positive mini-beta, there will be a neighborhood with a negative mini-beta. When you add all those mini-betas over a real long time period, you’ll get the big-beta of 0.

  36. Lori Turoff

    Hoboken – the Positive Mini Beta!

    I’m going to make bumper stickers for us.

    A few final points before I go out.

    1. Laki – I hope you take time to enjoy life. You are clearly very accomplished and must work very hard.

    2. The debt argument may be key. I have blamed the banking system for our current mess for a long time. Too little regulation, too much greed. Look where it got us.

    3. From my MBA days, I understand beta differently. I mean it in the sense that how much of what’s happening to the stock price is driven by movements in the overall market rather than specific to the underlying financial strength or weakness of the specific company. But please, no 20 page papers required or requested. Maybe there is more to it than my admittedly very basic knowledge. I studied finance but don’t spend my days immersed in it as you do. I’ll take your word.

    4. Enjoy the rest of the weekend! I’m outta here.

  37. Randy

    Lori, I think you are right about assigning a Beta value to real-estate. For example you can buy an apt on Hudson Street in Hoboken or somewhere on Jackson Street. I would think Jackson Street would have a higher beta – higher risk but higher reward while a Hudson Street apt would have less risk but probably has a lower cap rate based on market prices.

    I have not looked at any apt on Jackson Street so this is me guessing…but I would assume that while an apt on Hudson Street may have a current day cap rate of 3.5-4% (assuming an all cash deal), an apt on Jackson Street would probably give a higher cap rate as investors probably consider it a more risky place to buy. However, for that same reason, if real-estate sales being to plummet again, the Hudson Street apt should retain most of its value while the Jackson Street apt would take a steeper loss. To me, this would mean there would be a higher beta assignment to the Jackson Street apt. Laki, is this incorrect?

  38. laki

    When I say beta – I actually mean expectation of profit due to the beta move of the market. I use the term loosely. So in my lingo “housing market has 0 beta” is equivalent to “inflation adjusted real estate prices do not go up”.

  39. laki

    Randy in a classical sense you’re right… higher risk means higher yield which means higher beta. This you will find in an economic textbook. However, that is not necessarily right if you’re in a bubble. Econ 101, and finance 101 books assume there are no bubbles, even though most of us spent all our lives in a series of bubbles likes of which the world has never seen before (on such scale). Look at sovereign debts of US and Japan today, and look at sovereign debts of Greece, Italy, etc. just 2 years ago. You would’ve thought those are some of the safest lowest yielding investments ever (in fact US debt has negative yields today as the nominal rate of return is lower than inflation) But is this because these investments have low risk or because they are/were in a bubble? Look at the yields on apartments in Manhattan. They’re very close to 0%. Is that so because they are safe and will preserve value, or because there is a bubble?

  40. Jeremy

    Laki – appreciate the time you took to present your thoughts. Great reading and certainly a lot of food for thought.

    As a homeowner, what are some hedging options a retail investor can do if the scenario you describe plays out?
    In your opinion, is there any merit to hedging one’s home?

  41. laki

    Jeremy,

    In my opinion there is a huge merit in hedging your home if it represents the majority of your wealth (which it does for most people). Unfortunately, there is no direct way to do so today. A little firm called Radar Logic is trying to introduce a product:

    http://ir.cboe.com/releasedetail.cfm?ReleaseID=614579

    In essence these would be futures traded on CBOE where you can place bets on the future value of an index. The index is roughly constructed so that it tracks the median price per square foot of all transactions that occur. They already have indices that track national values and 20 or so local indices that track various regions (for example they have both New York MSA, and Manhattan as separate indices). But for starters the futures would only trade on the national index. Going forward, they plan to introduce trading on regional indices too if the national one gets traction with investors.

    So assuming all goes well and this product catches on, at some future date you will be able to hedge the “beta” risk of your house by shorting a future contract that tracks the index in your region. So say you owned a house in Manhattan that is worth $2M, theoretically speaking you could short $2M worth of future contracts on the Manhattan index, and assuming the value of your home tracks this manhattan index perfectly, you would be oblivious to the overall moves in the market (other than the fact that it might produce liquidity mismatch for you if your home price went up and you had to post more liquid collateral against your short future position). So your Profit/Loss on your house + future contract would be 0 no matter what.

    But this doesn’t exist now. Lets hope it becomes available soon.

    In absence of this, the only good way to be hedged properly (without trying to be too smart, which can backfire easily) is not to own a house, or at least not have the majority of your wealth tied to the value of your house.

  42. Jeremy

    Interesting stuff, you would think there would be more demand for some kind of product given how large the market is.

    Buying puts on something like IYF, wouldnt exactly translate I guess?

    Is there anything else that sort of correlates with housing that could ease some of the pain if prices retreat? If the expectation in the first part of your scneario is that all asset will break down at some point, would getting long a long duration US gov’t bond etf or fund make some sense?

    Just to be clear, not asking for advice, but very much interested in your thoughts. And yes, I bought my first home, here in Hoboken, in Oct of 2009.

    Thanks,

    Jeremy

  43. laki

    Buying puts on IYF would constitute “trying to be too smart” in my book. As does trying to find something that correlates and putting on a trade hoping the correlation persists. I’m not saying it’s a bad idea to do so at all, but please be aware that you’re doing more than just hedging in that case. So be careful, cause doing stuff like that could result in you losing money on your house, and losing money on your “hedges” at the same time. These risks should not be taken lightly if you’re gambling with your entire net worth or something close to that.

    Taking these risks into account, the following things should correlate inversely to home prices over the long run (in no particular order)

    1) Short banks
    2) Short insurance companies
    3) Short commercial real estate REITs
    4) Short other highly indebted companies
    5) Short industrial commodities
    6) Long US Government bonds (10 to 30 year)

    All can be expressed through options (buying calls and puts on various ETFs). But again, you should only do this if you can withstand losses on both sides of your trade at the same time.

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