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  Posted on: Thursday, July 17, 2008
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It's All About Housing
Rally between Concern Phase and Fear & Capitulation Stage
ISI Group - Existing Home Prices Relative to Median Income 
Median New Home Prices vs. Median Disposable Income - Ned Davis Research 
Home Price Appreciation vs. Rent - Ned Davis Research 

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Our regular viewers know that we have been somewhat obsessed with the ramifications of the real estate bubble bursting (see our special report, "Potential Catalyst-Real Estate," September 2003 on left side of our home page).  Now even Fed Chairman Bernanke has caught on to the dangers of the bursting of the bubble.  He stated in both Tuesday's and Wednesday's testimony before Congress, "the housing market is the central element of the financial crisis.  Anything we and Congress can do to strengthen the housing market, or strengthen the mortgage financing market, will be helpful.  We can do this by restoring confidence in the Government Sponsored Enterprises (GSEs)."  We are happy to have Mr. Bernanke on board, but are not too happy about begging Congress to slow down the process by trying to get bills passed that would postpone the inevitable decline and make the eventual decline even worse. We have to let the free market work its way through the housing crises.


Barron's came out with a cover story this week about home prices entitled "Home Prices are About to Bottom".  The analysis made little sense to us.  It showed the historical fact that whenever the housing sales drop from over 2 million units to under 1 million, the housing market activity rebounded within a quarter and caught experts by surprise.  We believe the drop from over 2 million homes sold to fewer than 1 million is completely irrelevant.  In fact, if the home sales do pick up, it will only add to the excess inventory and make the problem worse. 


Chip Case, the co-author of the Case-Shiller home index, said, "in many areas, particularly outside the overbuilt markets of Arizona, Florida and Nevada and the huge bubble market of California, home prices may well stabilize" and begin to recover before the end of this year. This statement came directly from the Barron's article.  Notice Case was not quoted saying "and begin to recover before the end of this year".  That had to be Barron's opinionated addition to what Case said about the prices stabilizing.  The other point the Barron's article made was to "cherry pick" various areas of the country where the price to income rose during the bubble and have now declined to become more affordable.  If you look at the attached charts of home values relative to median income nationwide, you will see the market has to go down much further in order to reach the norm.  The last point they made was to show that inventories of existing homes declined to 4.49 million in May, which was down from April (4.55).  What Barron's didn't point out was that the inventories of existing homes was never more than 4 million until 2007 and fluctuated around 4.5 million all through 2007 and 2008.  We could say that the inventory is up from 3.9 million in December of 2007 to 4.49 million presently, or up from 4 million in February of 2008.


Obviously, we don't agree with the analysis or the conclusion that Barron's reached calling for home prices to bottom.  If Barron's is correct and we are wrong we suspect that we will also be wrong on calling for a much lower stock market over the next year or so.  By the way, Barron's happens to be one of our favorite financial magazines (we never miss reading it) and just 3 weeks ago the cover story was "Luxury Homes 15% Off" where they stated "Bargain hunters, beware.  A further 10% slide is likely."  We think a 10% decline is optimistic and actually think another 25%-30% is more likely.  Please take a look at the attached charts to back up our case for a much more severe decline.  However, all you really have to do is take a look at every stock that's value is based upon either real estate or mortgages and look at their drastic declines (all banks, GSEs, and investment banks that have a large stake in real estate or mortgages).  Don't believe this latest rally in them (we always get rallies in bear markets).  The S&P homebuilder's index is down about 30% year to date and down 60% from one year ago. Also, every bank and investment bank with a large stake in real estate is down severely from one year ago.   


Another clear indicator that the real estate decline is not over is that the decline in prices is accelerating and, along with stock market declines, is wiping out more individual wealth each week.  So far homeowner's wealth is down about $3 trillion, while the stock market has wiped out another $2 trillion.  Also, the National Association or Realtors (NAR) reported yesterday that home builder sentiment hit a record low of 16 (down from 24 in July of 2007).  David Seider, the economist of NAR stated, "given the systematic deterioration of job markets, rising energy costs, and sinking home values aggravated by the rising tide of foreclosures, many prospective buyers have simply returned to the sidelines".  Remember, this is coming from an organization that always puts the most optimistic slant on all news coming out of the real estate industry.  It is our very strong opinion that the depression in the residential real estate market will spread to the commercial side.


We don't have much room to discuss the sub title on the change from the second stage of the bear market "concern" possibly moving to the third stage "fear and capitulation", but we will touch on it.  As we have indicated in past comments, we usually get a rally in the market between the three stages and explained the rally that moved us from the "denial stage" to the "concern stage" ("Three Stages of Bear Market", June 26).  The rally that took place yesterday, and seems to be following through today, could be the rally that catapults the market into the very scary and nasty third stage "fear and capitulation".  We will keep you posted.

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