Housing Crash Update

Nevermind the egg-heads and analysts. There is only one group you should listen to: homebuilders. Making and selling homes is their bread and butter and they are obligated by law to report on their sales potential today and tomorrow.

Homebuilders are lowering forecasts, cutting earnings, reporting inventory glut, and expressing a very negative opinion of the market potential (the lowest expectation in 11 years).
In classic two-face fashion, homebuilders are talking out of both sides of their mouths. While pooh-poohing a crash, they aren't putting money down. May Housing starts are down 3.8% Y/Y and permits are down again, 2.8% fewer permits since April. That's 8.5% fewer permits than May 2005 and 4 months in a row that builders are reducing plans to build.

Housing starts are up only because, imho, builders are rushing to finish and dump the houses. They know what is around the corner and they know that they need to finish and get out ASAP.

I think housing stocks have further to fall because analysts are only factoring in a slight drop in sales. I think that the impact goes beyond housing sales. Yes, I think that sales will drop worse than expected and margins will be squeezed more. Slower building will help margins in the short-term as raw materials prices soften (law of supply and demand), but the real big picture is the debt and house of cards financing.

Their books are awful
* TOL is carrying ~$2B in debt.
* PHM has $3.4B in debt
Neither has enough cash to pay the debt. But the inventory of housing turns into a liability during a downturn.
* TOL has $5B of inventory
* PHM has $9B of inventory
To pay the debt, these companies will move to dump homes. They are sophisticated, but they will dump in ways that will definitely show up in the finances.

Housing reports distort the picture because of the massaging of data, time delay, and methodology (NY Metro and Bay Area metro prices are ranked the same as Akron, Illinois). Prices are up in areas except major metro areas, where the signs of a housing recession are emerging. On a transactional basis, actual housing units sold is crashing: Phoenix -20%, Bay Area -20%, etc. Nobody is buying homes. This was the slowest May sales volume since 2001.

Housing Spin-meisters are out in full force. They want you to imagine an adjustment, a natural cooling off. This is no crash, they say. Meanwhile, to entice buyers, new homebuilders are throwing in tons of free perks like bathroom upgrades and kitchen upgrades. Anything except a lower price.

But prices are dropping. San Diego reports that May average prices dropped $15K since April (3% drop) and condo/townhome prices tumbled $70K (15%). These are the biggest drops since 1988.

And while the time houses stay on the market has doubled to almost 40 days, even that statistic is false because of rampant de-listing and re-listing. In Jan '05, The Bay Area had 500 homes de-listed. That number last month was 3,700. What happens when you list a house and can't sell it for months?

The media is not doing its job. They are relying on paid Real Estate industry analysts to hide the truth. No real reporting is going on, just repeating what the RE experts say (paid shills). This is bad and going to get worse because hopes and expectations are being falsely set. The rats are the first ones to leave a sinking ship, and homebuilders are heading for the exits.

So the paid RE voices are starting to get households mentally prepared for losing money. In the RealtyTimes:
"When it comes to pricing your house when you're ready to sell it, keep in mind you must sell in the market you're in today. It doesn't matter what your former neighbor got six months ago, or what properties are listed for now."
In other words: suck it up and don't be too greedy. As sellers continue to wait for buyers, panic will set in and prices will drop, accelerating further price drops. That $250K paper gain will be $200K, then $175K, then $150K. Finally sellers will accept reality and sell.

Preparing for the fallout:
1. Housing prices will crash 30%. They have to. In every housing slowdown, prices revert to the mean and in this case that's 30% (although experts would say it's closer to 50%). In the Bay Area that's over $250K of lost equity. According to the experts, today's $779,700 house in San Francisco, were it not overvalued, would cost $461,582.
2. Lawsuits will fly against appraisers and lenders as major corruption and shady practices are uncovered. Could that be why the California Association of Realtors® (CAR) has announced both the creation of a "Defense Litigation and Claims Repository" and also the association's endorsement of an error's and omissions insurance carrier and broker.
3. MLS is a monopoly that is obviously manipulated by agents. The fox guarding the henhouse. Another fallout will be the "shock" and "surprise" by Congress that RE information could be mishandled, in their eagerness to pin blame on the sudden housing crash. Watch for some mandates regarding MLS.
4. Meanwhile, what happens to all that land that homebuilders are walking away from?

5. Interest rate hikes stop. The problem is deflation: how far do you let it happen. Bernanke and the Fed are petrified of deflation. Japan is in year 16 of a deflationary asset death spiral. That fear is what prompted the Fed under Greenspan to drop rates so low. However, the Fed will continue its statistic stupidity and look only at natiowide price drops, not regional. Nationwide, a 20% drop in housing prices is probably acceptable. That really means 30%+ in major metro areas.

6. Stock market crash. Put trailing stops on all stocks. Something less than 15%.

7. Go short on lenders and home builders and companies like Home Depot. Go long on apartment management and owners.

Think housing prices won't collapse in California? This is cited as having 17 of the top 20 overvalued markets in the US. In Contra Costa and Alameda in 2004, there were 1,900 housing units for sale. Today there are 12,000.

It is transitioning to a buyer's market. As soon as we see strong signs of price drops, it will be blood in the water. Particularly fragile are the areas outside of SF and Silicon Valley: Stockton, Sacramento, Lodi. Nobody really wants to live in these areas. They moved because they were squeezed out of the market. As prices appreciated, speculators came as well. Once SF prices drop (down 0.3% this month btw), those areas will become ghost towns.

If you own a home as an investment, get out. It's that simple. I rent and am quietly amassing cash positions.