Real Estate Bubble News, 2007 Edition

It’s almost time for the new year, and although I have several blog entries I’d like to write, I think it’s time to take a look back at the real estate industry, which I have been tracking as a hobby for 2 1/2 years now.

First of all, most of my predicted bubble headlines for 2007 are still making news. I don’t wish to change any of them, and I’m sticking with those predictions for now. A few more recent stories that jibe well with my predictions (and we’ll see more in 2007!)

• Looks like Fannie Mae may take down KPMG with it, as this Titanic grasps at (sues) everything in its path before finally sinking. KPMG out of business? Maybe, maybe not…too close to call at this point. If I had to guess, I’d say the lawsuit will be thrown out and/or KPMG will emerge “victorious” — but battered.
• Florida’s still shaping up to be a disaster. Despite a quiet 2006 hurricane season, Florida’s houses are dropping in value at an astonishing rate, and wind insurance is playing a huge factor in that decline. From the linked article: “Insurance companies dramatically raised premiums after Hurricane Katrina. Depending on where they live and their policies, Florida homeowners may pay as much as 10 times more for flood and wind insurance than last year; premiums can exceed $30,000 per year on mansions.” Woof.
• Naples, FL seems to be “ground zero” for home price declines, taking the one of the largest YOY (year-over-year) price declines for a major market. From the article: “Median sales prices for homes dropped by 13 percent from $479,800 in November 2006 to $415,200 last month.” I’d hate to be someone who bought in 2005. Foreclosure, anyone?
• Ah, yes, and speaking of foreclosures, that’s going to be a popular news item in 2007. Watch what’s happening in Denver now for a preview of what California will be like in 2007 and 2008. Bloomberg says “About 20 percent of sub-prime mortgages granted in the last two years will end in foreclosure as owners struggle to make payments and home prices stagnate.” A reminder that more than 60% of the loans granted in California in the last few years were “payment option” or “adjustable rate” mortgages — exactly the kind of loans that were offered most often to sub-prime borrowers. By 2010, 1 out of every 15 borrowers in California could lose their home to foreclosure. That means, if you live in California, you’ll likely know someone who was foreclosed. The really unfortunate part is that most of these borrowers have no equity in their homes, so there’s no good reason for them to try to hold onto their house. They’ll just give up the keys and walk away…and the “investors” who bought piles of subprime loans on Wall Street will take the hit.
• Speaking of mortgage lenders…how are they doing these days? Well, if the last month is any indication, most of the subprime mortgage lenders will eventually either be sold at cut-rate prices or simply close their doors. OwnIt Mortgage Solutions became one of the first lenders to go out of business last month. That company provided thousands of loans to subprime borrowers in California. There will be more…many more.

I’m now going to go out on a limb and make a few bolder predictions not just encompassing 2007, but the rest of this decade. The oft-mentioned retirement of the Baby Boomers is almost upon us. By 2010, most of them will retire. Or will they?

You see, a lot of those Baby Boomers put all their wealth into dubious investments like overpriced real estate. I’ll use my landlord as an example, but there are millions more like him. In 2004, my landlord had a brilliant idea to buy a bunch of overpriced properties in the Bay Area and rent them out as his retirement strategy. Unfortunately for him, the fundamentals didn’t really make sense, and he’s been losing money on most of them. The rental prices he gets are break-even with his mortgage payments, but by the time he factors in repairs and property taxes ($6250/year on the place I’m living in!) he’s underwater by a significant margin. I assume he expects to sell for a profit (“real estate only goes up!”) to fund his retirement. He’d have to do that in the next 12 months, though, to make much of a profit (if any) and it looks to me like he’s planning to sit on them for a while longer.

Baby Boomers who bought into real estate (or, increasingly, even the stock market, which is fairly overvalued right now as well, though I don’t expect it to crash in 2007) to fund their retirement will be mostly out of luck when they decide to cash out in 2007-2011. That means that the much-vaunted “worker shortage” due to baby boomers retiring will most likely be nonexistent. Remember all those scary charts that projected a massive worker shortage by 2010? I don’t think you’ll see that as the case, with baby boomers going back to work (or not retiring in the first place) because they need so much money in order to survive. Unfortunately for them, most of the Boomers are very consumerist, meaning a “simple” lifestyle is not an option, and thus they will work well into their 70’s in order to continue to feed their lifestyles.

Speaking of “simple” lifestyles, as the economy tanks over the next few years (first real estate, then industries directly related to it like mortgage brokers and construction, then industries feeding the home industry like Home Depot and Lowe’s, then furniture stores, then service industries like plumbling, then businesses who sell to those businesses…creating a dramatic ripple effect through the economy), the “simple”/”frugal” lifestyle will start to come back into vogue. This is the time to take advantage of that trend and start a website, blog, or whatever else you want devoted to some niche of that lifestyle.

If you’re not the entrepreneurial type, I recommend holding off on major purchases and focusing on paying down debt as quickly as possible. Be long in cash and commodities and short in bonds/CDs (no reason to go long in bonds with the inverted yield curve.) Cash will be king once the stock market grinds to a halt (probably in late 2008-early 2009 or perhaps later…hard to forecast at this point.) Even now, there is not much to be made in mutual funds/stocks unless you trade (and trade well/do your research) instead of hold.

I’m also predicting that something major will happen to Lowe’s or one of the smaller home improvement chains. I believe a buyout/merger is imminent in that industry.

That’s a rap for 2006, and some guidelines on how to make money in the coming years. I’ll post more ideas as I have them (and I do have them!) Expect more blog posts from me in the New Year as I integrate blogging into my daily routine. Enjoy the rest of 2006!