Friday, August 31, 2007

Tipping Point? and the Long View for Discussion this Long Weekend


The above chart represents the price of a Greater Vancouver Single Family Home adjusted for quality and inflation from 1975 to present. The chart clearly shows periods of wild price appreciation and periods of price declines. The average is indicated by the black trend line representing a rough 'fundamental' value for homes in the market. If values were to retreat to the black line either through price declines or high inflation it would bring the price of a benchmark home down nearly 25%. In past price declines, the benchmark has lost value bringing it far below the trend line.

The question for the weekend is:

In recognition that bubbles are inflated and deflated with psychology, have we reached the sociological tipping point in Vancouver surrounding our lurid affair with real estate values? Have we now recognized the error of our ways and are now contemplating confession? Will we look up to realize we have been staring in the mirror while the world falls apart around us? Are we ready to atone for our bubble misdeeds? The hard work in paying off that 40 year, 100% financed Whalley condo looks pretty unappealing at this point.

Case in point, I heard the 'business analyst' Michael Levy on CKNW radio this morning say that we will have a real estate correction in Canada. Previous to this reference I have not heard, aside from Victor Adair, any of the local business talking heads mention this as a possibility.

More abnormally, I also heard the sportscaster Neil McRae reference a 'so-called bubble in real estate' when discussing BC Lion's Lui Pasaglia decision to leave sports and help in his family's development company, which is developing some properties in Port Coquitlam. The station obviously has some vested interests as nearly every commercial aired on CKNW is for real estate or mortgage products.

I'll be glad when we can hear other commercials again!

23 comments:

freako said...

The average is indicated by the black trend line representing a rough 'fundamental' value for homes in the market.

Great chart. Here is something to chew on: If real rents are flat to down, why are real prices climbing, and why do we assume that the real trend line will continue at a similar pace?

freako said...

What I really really would like to see is a chart of price/rent multiple versus price. I suspect (but don't know for sure) that it very clearly show that high P/E precedes price declines. The same for price/income.

Aleks said...

I don't think the psychological swing with precede the tipping point. I fully expect the less informed to still be spouting the same "RE always goes up, buy now or be priced out forever" mantras even after we have a quarter or two of price declines.

Not to mention the unreliability of using the median selling price as a measure. But in the absence of a Shiller index for BC, it's all we have.

Warren said...

freako:
Great chart. Here is something to chew on: If real rents are flat to down, why are real prices climbing, and why do we assume that the real trend line will continue at a similar pace?

Lets add real wages to that. Have they doubled since the beginning of that chart. If they haven't, what exactly is causing the real price rise? If the difference is something like 20%, maybe that's the true impact of the "out of land, rich foreigners" argument.

craigpbbrett said...

"Lets add real wages to that. Have they doubled since the beginning of that chart. If they haven't, what exactly is causing the real price rise?"

Which industry in that time has grown from near zero dollars of economic output to the province's second-largest, at an estimated $4 billion to $6 billion of tax-free annual output?

jesse said...

"If they haven't, what exactly is causing the real price rise? "

Densification is part of the answer. Many months ago m- produced analysis showing Van West SFH appreciating at 1.5X inflation but Richmond SFH only tracking at 1.0X inflation over the past 25 years. Why the difference between the two?

Something interesting to ponder is what could cause real rents to start rising, and whether this could support higher house prices.

patriotz said...

Which industry in that time...

Deus ex machina again. So why haven't rents gone up too? Demand is demand.

Prices are out of what with rents, period. It's price/earnings that matter, not the source of capital or income.

freako said...

Densification is part of the answer.

Yes that is exactly the answer. But next question: Why do we assume densification to continue at a similar pace as in the past?

Not to mention the unreliability of using the median selling price as a measure. But in the absence of a Shiller index for BC, it's all we have.

Actually, REGV numbers are benchmarked, which adjusts for quality much like Case-Shiller.

talus said...

[i]Lets add real wages to that. Have they doubled since the beginning of that chart. If they haven't, what exactly is causing the real price rise? If the difference is something like 20%, maybe that's the true impact of the "out of land, rich foreigners" argument.[/i]

As the sole earner in our family I'm more concerned about the impact of the seemingly new standard of double incomes.

Could that be a causal factor?

freako said...


As the sole earner in our family I'm more concerned about the impact of the seemingly new standard of double incomes.


Double incomes were standard long before this boom.

Kaydee said...

"Double incomes were standard long before this boom."
Definitely about 25 years at least!

Clarke said...

I would suspect that median family incomes in B.C. over the last five years (after adjusting for inflation) have probably grown marginally, if at all. I also suspect lots of buyers are mortgaged up to the gills.....

beta said...

the less informed to still be spouting the same "RE always goes up, buy now or be priced out forever" mantras even after we have a quarter or two of price declines

Exactly. Popular sentiment is a lagging indicator at best.

HADENOUGH said...

Clarke,

You got that straight. My husband was talking to our banker in TO the other day and she has never seen mortgges this high before; She was talking about young couples, baby boomers, retirees taking out 2nd mortgages for the vacation property and trophy house, Bay Street people that are on huge salaries taking out massive mortgages.

She said she found the fact that the Baby Boomers close to retirement were taking out mortgages. What is that all about. That is a time you should be thinking of downsizing.

Another thing she said that was interesting ... before all this craziness happened - most people tried to pay off their mortgage. What she is seeing is that people are getting close to paying it off then they move up or buy more real estate and take out even a bigger mortgage.

She has been in banking 30 years and has never seen it like this before. Even when everything crashed in TO in the early 90s.

I had someone the other day who is the sole wage earner and has 3 young kids say to me his pension is riding on his 1.5 million dollar property. He is not saving anything for retirement - he can't - just hoping that this property will keep going up and up. He is about 50 now. People did not think like this 15 years ago or even 10.

craigpbbrett said...

"Demand is demand."

Patriotz, the question was why the increased demand if wages haen't doubled. If the above was your answer, uhm, thanks.

patriotz said...

As Freako noted, the point is that there isn't any increased demand (relative to supply). If there were, real rents would have gone up, instead of down.

This is an asset bubble. Prices just don't make sense, period.

You're welcome.

patriotz said...

Another thing she said that was interesting ... before all this craziness happened - most people tried to pay off their mortgage. What she is seeing is that people are getting close to paying it off then they move up or buy more real estate and take out even a bigger mortgage.

The US media, as covered by HBB, are now full of stories like this and the other examples you have given.

People are betting the ranch on, er, the ranch.

But you will get nothing but happy talk from the media here. That is, until the abandoned construction sites make this line too hard to sell, and the audience develops an appetite for horror stories.

HADENOUGH said...

Patriots,

I remember in the 70s mortgage burning parties. I was just a little kid but I thought it was pretty cool. When someone paid off their mortgage they would have a party and burn the mortgage papers. It was a big event. I think even Archie Bunker did it.

craigpbbrett said...

No one denied there was a bubble. But bubbles don't exist in a vacuum. There are causes even if the causes are not sustainable.

It's my view that in Vancouver the sheer size of the underground economy, it's relatively recent arrival and the fact that much if not most of its output is concentrated on the purchase of housing, has been a primary trigger for our bubble.

patriotz said...

There are causes even if the causes are not sustainable.

There is one and only one cause of bubbles - people willing to pay more for an asset than the present discounted value of its income.

Now of course there are many reasons why people might be willing to do that, and they are discussed ad nauseum on this board and in coffee rooms.

But that is irrelevant really, for there is one and only one outcome of bubbles - return to fundamental valuation.

I really don't give a hoot why anyone else is willing to pay more for a house than it's worth. I'm not.

patriotz said...

And one more point I should have made earlier.

Everyone knows that the demand curve slopes down. Now why is that? It's because there are always some people willing to pay more than the market price for something. The lower the price gets, the more people are willing to buy. This means that the market price is always determined by the least willing and able buyer, who we call the marginal buyer.

Now can you see how bogus the Hong Kong/drug money/Saudi arguments are for high RE prices? It doesn't matter if 10, 20, even 50% of purchases are from deep-pocket buyers. It's the guy who is scraping together every nickel to buy that POS who is driving the market price.

That's the theoretical argument. For experimental evidence, just look at the media reports from south of the border. Markets are falling exactly because the marginal buyers have run out. As they always do in bubbles. Always.

craigpbbrett said...

"There is one and only one cause of bubbles - people willing to pay more for an asset than the present discounted value of its income."

That is only if the value of income is defined as rent. With grow-ops, it's not.

"There is one and only one outcome of bubbles - return to fundamental valuation. I really don't give a hoot why anyone else is willing to pay more for a house than it's worth."

Again, what is the fundamental valuation and its worth in a market with tens of thousands of lucrative grow-ops? It's almost certainly not the valuation we have today, but it's also certainly not one based on the official household income of $60,000.

Now, let's touch upon what you said here:

"It doesn't matter if 10, 20, even 50% of purchases are from deep-pocket buyers. It's the guy who is scraping together every nickel to buy that POS who is driving the market price. ... Markets are falling exactly because the marginal buyers have run out. As they always do in bubbles. Always."

It's true RE prices are determined at the margins, at the small percentile of stock that actually changes hands. But where you see people scraping together nickels in the US, is that a correct description of buyers at the margins here?

From my personal experience and from what data I can glean from the press, police etc, there are strong indications that Vancouver different. Not different enough to sustain this bubble, but perhaps different enough to explain our sharper run-up and delayed correction.

patriotz said...

Again, what is the fundamental valuation and its worth in a market with tens of thousands of lucrative grow-ops?

The grow-ops are irrelevant. The valuation for the marginal buyer is based on the income to the marginal buyer, which is the market rent.

there are strong indications that Vancouver (is) different

"South Florida is working off of a totally new economic model than any of us have ever experienced in the past." The realtor also predicted that "a limited supply of land coupled with demand from baby boomers and foreigners would prolong the boom indefinitely."