is real estate safe yet? (fear is the root of malignant optimism)

English: The National Housing Center, headquar...

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(written Dec. 24, 2009)

“Is real estate safe yet? Okay, well, how about… now?”

No. Not even close. My forecast remains as it has for over 7 years, that by the time real estate prices stabilize, the real estate market will be so discounted- as in so ignored- that very few people will be even able to buy into it.  That is a great time to buy in to a market- when there is so little volume in it already that there is a huge potential for buyers to surge into that market soon. It may even be a “cash only” market then… with virtually no third-party financing.

A blindly optimistic reply: “I hope you’re wrong. I really don’t want you to be right! That would be very bad for my retirement, well, at least unless I change my current investments….”

I agree. Keep hoping if you want, but if you keep investing how you have been investing, you can expect more of the same kind of surprises that you have experienced in the last few years, just much worse.

< Neurotic hope, such as closing one’s eyes while driving, is what I call malignant optimism. The root of such a behavior is fear. The behavior can also be called denial or even extreme “commitment bias,” but I recently learned the term “malignant optimism,” so, the point of that optimism is that it is like a cancerous growth that spreads and to the detriment of the practitioners/”hosts.” >


Here is a chronology of how I know what I know about the real estate market decline. This is a summary as of today, December 24, 2009.

So the first thing I learned about with the real estate decline was a correlation that I did not understand at the time. I just witnessed the correlation and recognized the correlation as predictive, upon first seeing it reported by Jim Shepherd who had an incredibly accurate forecasting record (see www.jasmts.com – even if you ignore the last 7 years of 100% accuracy, he still had 20 full years of 100% accuracy when I first saw his material in 2002). That correlation was the inverted yield curve of US Treasury bonds, which had previously been predictive of real estate declines.

English: United States Department of the Treas...

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What those yields (interest rates) indicated, briefly, is that the people who lend money to the US Treasury (i.e. buy bonds from the US Treasury) were gaining confidence in the US Treasury relative to banks. I do not recall understanding that at the time, but it is rather simple, I now know. In other words, the people with lots of money were basically losing confidence in the ability of banks to cover their debts.

This was already evident in 2002 (and the bond market surge began in 1999), though, as of 2002, I personally do not recall having any idea why people would be increasingly confident in the US Treasury relative to banks. I did know that the US stock market was in trouble, though, as well as a certain amount of why (basically, that confidence was unsustainably high, and thus prices as well). But I did not know how over-confident people were in particular- just that there would be SOME amount of cyclic decrease in confidence eventually. By then, a stock index of the 500 biggest US companies, the S & P 500, had already fallen most of the 46% decline from early 2000 to October 2002.

Afternoon -- NAHB Building 1201 15th Street NW...

Afternoon — NAHB Building 1201 15th Street NW Washington DC August 2011 (Photo credit: Ron Cogswell)

As time went on, I learned more. I learned a lot about the relevance of demand (AKA confidence AKA sentiment AKA enthusiasm) in lending markets (and stocks). I learned about the “prospective buyer’s traffic” data collected by the National Association of Home Builders. I also learned how to forecast the US stock market, and it is largely from forecasts of the US stock market that I forecast the movement of the US credit market on which the US real estate market so depends. As US stocks go up or down, the confidence of (prospective) borrowers goes up or down, and US real estate prices are greatly effected by the confidence of borrowers (with increasing confidence of borrowers being more or less equivalent to currency inflation, or in the case of a sudden decline in the confidence of borrowers, currency deflation).

In simple terms, when people do not qualify for much credit, the lending market contracts. That is bad for many markets, but especially for real estate prices.

I learned about the retiring of the baby boom and the natural effect that would have on many markets (falling prices). I also forecast the rise in fuel prices (my forecasts of that were first published in 2004) and the resulting effects on the US economy and US stock market, as well as global trade (contraction AKA lower demand AKA lower volume AKA lower prices).

In 2008, I found some of the research of Prof. Elizabeth Warren of Harvard University. She studied demographic and financial trends of the US middle class.

I think of her work as something of an extension of the prior work of Robert Shiller of Yale University. Her compiled data is a great introduction to why the expansion of the US middle class ended years ago, and the very short version is too much debt (i.e. relative to the amount of earnings/savings). I got similar data from Jim Shepherd in 2002, but her presentation is more comprehensive while his is very concise. I summarize several of her key points within this recent blog: https://jrfibonacci.wordpress.com/opportunitys-last-knock/ . This other blog links directly to her video on youtube, titled “the coming collapse of the middle class” https://jrfibonacci.wordpress.com/from-nice-to-bold/

Here is an article of Jim Shepherd from early 2007: http://groups.yahoo.com/group/redpill_info/message/275  Near the bottom is a chart that has a green line. That is the NAHB index of prospective buyer’s traffic (for US real estate). An interesting feature of that
is that the peak in buyer’s traffic was in 2000, even though prices kept on going up.

The reason the real estate market expanded anyway so much from 2002-2007 (a piece of data not shown in any chart I can easily find) is that the Federal Reserve dropped the prime rate way down in about 2003, making interest rates “artificially” low. There were many other political manipulations, including outside of the US, but the Fed’s intervention was a clearly unsustainable ballooning of the real estate lending market.

In other words, the Fed was lending to banks at “unjustifiably” low rates. This allowed banks to do unprecdented things like 0% down financing on real estate. The banks had more credit to lend than they could get people to borrow, so they even gave cash back at close to entice borrowers (naive borrowers?).

Those super-low down payments (nothing down or even negative down payments) kept the surge into real estate going temporarily, but it was a sucker’s market. Anyone who thought that the banks would be able to indefinitely continue offering 0% down loans at several percentage points below the US Treasury market’s interest rate was, in a word, wrong.

To “cover their rears,” banks did a lot of ARMS (adjustable rate mortgages), which means that they knew that the artificially low rates were in fact artificially low. However, those artificially low rates on ARMs were low enough to suck more borrowing out of the super-speculative middle class gamblers. Gamblers is exactly what they are, by the way. They just placed their bets without even researching the odds or the incredible possible cost of taking on debts hundreds of thousands of dollar beyond the “justifiable market prices” of the real estate they were financing. As usual, the odds favor the casino.

So, in July of 2007, I published the following article. In it, I noted that prices in Phoenix Arizona real estate were already down 15% and that they had much further to go, repeating much of the content in this summary here: http://www.gold-eagle.com/editorials_05/hunn072107pv.html . I began that piece with this introduction: “Some people are curious how I identified the top-performing US stock sector of the decade, still early in a gain of over 1000%, as well as how I forecast the emerging decline in real estate, long before it started, among many other accurate forecasts. Here is how… and it was easy.”

Another analyst whose work influenced my own forecasts greatly is Robert Prechter, Jr., who published At the Crest of the Tidal Wave in 1999 (which was a year before the US NASDAQ stock index began it’s 76% decline in less than 3 years, in accord with his forecasts). In 2002, he also published Conquer the Crash: You Can Survive and Prosper in a Deflationary Depression.”

So, along with the internal links in this article, here is enough for you to get a decent introduction to how I knew that the US real estate market was heading for a decline (And why it is still VERY early in that decline- as indicated by the same indicators used to predict the decline so far). I have articles detailing how the retiring of the baby boom fits in to this as well as numerous on certain details.

One of my favorites is this one, http://www.gold-eagle.com/editorials_08/fibonacci030309.html , which features an analogy of how, on a multi-line freeway, traffic in one lane can suddenly come to a halt even when traffic is moving steadily in the adjacent lane. By the way, though, when the NASDAQ collapsed starting 2002, it was just a matter of time before some of the other lanes would start to slow down, perhaps to a screeching halt: US new home market in 2005, US stocks and overall US real Estate market in 2007, and most commodities in 2008 (oil prices fell over 75% in just 8 months, which was even faster than I had predicted).

I will close with one of my favorite quotes, still relevant. I published this exactly 6 years (to the day) prior to the above article:
“We can profit from the collapse of the credit bubble and the subsequent stock market divestment [decline]. However, real estate has not yet joined in a decline of prices fed by selling (and foreclosing). Unless you have a very specific reason to believe that real estate will outperform all other investments for several years, you may deem this prime time to liquidate investment property (for use in more lucrative markets) [emphasis added].”
(See http://www.gold-eagle.com/editorials_03/hunn030303.html )

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One Response to “is real estate safe yet? (fear is the root of malignant optimism)”

  1. Robert Prechter: Signs of an Impending Credit Implosion - London Ontario Alternative News for Local Business, World News, Sports & Entertainment Plus FREE CLASSIFIEDS Says:

    […] is real estate safe yet? (fear is the root of malignant optimism) (jrfibonacci.wordpress.com) Tagged with: Barack Obama • Business • Dow Jones Industrial Average • Gerald Celente • Harry Dent • Robert Prechter • United States • United States Treasury security  /* […]

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