Saturday, June 14, 2008

Past Price Declines in the Vancouver Real Estate Market

In the past 30 years the Vancouver area has witnessed 4 major periods of real estate price appreciation and 3 subsequent periods of price declines. We are awaiting the 4th subsequent period of price declines which seems to be starting now.

For the historical perspective:

In nominal dollars:

From 1975 to 1981 real estate prices in Vancouver rose 240% and subsequently declined 35% over 18 months.

From 1982 to 1990 real estate prices in Vancouver rose 115% and subsequently declined 11% over 12 months.

From 1991 to 1995 real estate prices in Vancouver rose 44% and subsequently declined 14% over 6 years.

From 2001 to 2008 real estate prices in Vancouver rose 116% and subsequently declined ??? TBD ???.

In real inflation adjusted dollars:

From 1979 to 1981 real estate price in Vancouver rose 120% and subsequently declined 51% over 5 years.

From 1985 to 1990 real estate price in Vancouver rose 70% and subsequently declined 15% over 9 months.

From 1991 to 1994 real estate price in Vancouver rose 35% and subsequently declined 23% over 5 years.

From 2001 to 2008 real estate prices in Vancouver rose 87% and subsequently declined ??? TBD ???.

In Summation

All I can really say about the past price movements in the Vancouver market is that after every price runup there has been a price decline. Well duh!! Personally I would rather focus on the following criteria, which is the ratio of rent payments to mortgage payments.


As I have mentioned before, my formula for determining a purchase price for a property that I'd like is this:

{Fair Price} = [1/{Five Year Fixed Mortgage Rate}] * [{Annual Rent} - {Property Taxes + Maintenance}]

For example:A townhouse rents for $1500 per month has maintenance of $150 per month and property taxes of $150 per month. The five year fixed mortgage rate is approximately 5.9% right now.

{Fair Price} = [1/0.059] * [{1500 * 12} - {150 * 12 + 150 * 12}]
{Fair Price} = [17] * [18000 - 3600]
{Fair Price} = $244,800

Where I am looking to purchase this means that I am looking for a price decline of approximately 30%. Rents could increase as well but I see this as being unlikely since I haven't heard of too many people getting huge raises recently to be able to afford sizeable rent increases.

49 comments:

tulip-Mania2 said...

Mohican, thanks for the history tour.

Have you thought how much greater the price drops would have been had it not been for declining interest rates since the early 80’s?

All the busts seem to have some things in common: affordability erodes, at first prices are sticky, and inventory swells, and eventually prices drop, and along the way slower economic growth slow inflation.

Interest rates are used to stimulate the general economy and the housing market by proxy, but I don’t see the maneuvering room on the interest rate front that has been the case in the last couple of decades.

The fear in the last decade has been deflation; the fear now is inflation or possibly stagflation.

I can’t see the unfolding scenarios as real estate friendly.
Looks like an outright major crash that will be in the text books for ever.

TICK TOCK, TICK TOCK

VancouverGuy said...

Important to note that when looking at those percentages you need a smaller decline to match the increase.

1*2.2 = 2.2 * .49 = 1.078

1*1.7 = 1.7 * .85 = 1.445

1*1.35 = 1.35 * .77 = 1.0395

Only one of the booms generated real, sustained price increases, with the remainder generating minor price increases.

Will this boom generate sustained real price increases, or not? My thoughts are that there will be a slight increase in real prices relative to pre-boom. Why? Wages have stagnated in real terms (or declined), but incomes have increased, which essentially means that people are earning a greater proportion of their income from investment. That just means that there should be greater income disparity between classes, which means price increases in more affluent areas have a better probability of sticking at least somewhat.

Just my thoughts.

VancouverGuy said...

By the way, using the mortgage rate as the cap rate is somewhat interesting. What would this indicate in terms of equivalent equity returns?

With 75% down, it would mean that you essentially just got the growth rate in rents on your 75%. If you assume this is 2.5% (A premium to targeted inflation), you would have something less than a 7.5% premium on your equity return relative to your debt return (assuming no refinancings and no amortization). In actuality, you would earn a 10.7% return in this case if you held for ~60 years (long enough to make the terminal value irrelevant). Personally, I think that is a bit low for an equity return (not an equity cap rate, but an actual long-term return). I actually think owning property over the long-term can be somewhat risky... but, equity return targets are a personal choice.

exvancouverite said...

Mohican,

Thank you for the eye candy.

jesse said...

mo, it's good to get the data out there. VHB did this I remember and it's great when debating someone on past declines I can now point them here.

vancouverguy: "By the way, using the mortgage rate as the cap rate is somewhat interesting."

Typical cap rates are above the prime mortgage rate. I think they have to be.

Octagonian said...

Conducted a little experiment, over the weekend.

Contacted, and spoke with at length, TWELVE realtors in West Vancouver. With all the sincerity I could muster, asked them if their vendors could be motivated to reduce their asking prices by between 10 and 25%. In all but ONE case, the answer was, to varying degrees, an enthusiastic YES. And several also volunteered that they had ALREADY reduced the asking price.

We are WELL in to a buyers' market now particularly in West Van.

Fish reports that inventory in West Van is over a YEAR now, not even counting the different types of private sales. My guess is if buyers grab a clue, the market in West Van could be knocked over with a feather.

Octagonian said...

Correction:

sorry -- my math was off on one property...a $1.7 asking, the realtor was ready to take $1.4 to the vendor... over TWENTY percent off (not 25). Point being, a lot of would be sellers are coming dramatically back to their senses this summer. I won't be surprised to see 25%+ reductions by fall.

mohican said...

tulip-mania2 - in a stable to rising interest rate environment the recovery in the housing market will be extremely long. Obviously, the more that rates rise, the more unattractive it becomes to take out a mortgage and logically prices would fall to compensate.

octagonian - I have heard the same stories from many real estate shoppers and agents out there recently. The price cuts being discussed aren't typically in the range you mention but certainly 5-10% off recent comps is a plausible offer nowadays in many areas.

Anybody looking today must ask themselves whether or not it might be best to wait until the fall/winter for more desparate sellers. I know I'm keeping my eye on a couple places to see how desparate they get and I might even throw an extreme lowball offer in just to stir up the nest and perhaps get lucky.

JMK said...

{Fair Price} = [1/{Five Year Fixed Mortgage Rate}] * [{Annual Rent} - {Property Taxes + Maintenance}]

I'm confused. Doesn't this formula assume your monthly payout doesn't increase with time? Rent goes up with inflation, in which case, I'd use:

{Fair Price} = [1/{Five Year Fixed Mortgage Rate - Inflation Rate}] * [{Annual Rent} - {Property Taxes + Maintenance}]

Which will give you a pretty different "fair price".

mohican said...

"I'm confused. Doesn't this formula assume your monthly payout doesn't increase with time? Rent goes up with inflation, in which case, . . "

That cuts both ways JMK - the mortgage rate, maintenance and taxes may also rise just as rents may also rise.

I thought about adding extra layers of complexity to the formula to account for the possibility of rising rents, taxes, maintenance, rates, etc but decided to keep it simple instead. All of those are unknowns and my best guess is likely to be off the mark so I prefer to keep it simple and based on what I know.

If I could be assured of my mortgage rate for the entire amortization period of my mortgage I may opt for a formula like you've suggested but alas this is not available in Canada. We only have ARMs (adjustable rate mortgages) here.

In fact, I may use a 10 year term / 10 year amortization mortgage next time I purchase to remove some of the risks out of the transaction.

patriotz said...

We are WELL in to a buyers' market now particularly in West Van.

Give me a break. It's a buyer's market when the market bottoms, not just after it's topped. Would you say San Diego was a buyer's market in 2006? Not a great time to buy, to put it mildly.

Market bottoms are signaled by rent equivalence. See you there.

Panda said...

"I might even throw an extreme lowball offer in just to stir up the nest and perhaps get lucky"

Hi Mohican, would you use your {fair price} formula for a lowball, or is lowballing a more refined art than that?

Just curious on how one goes about setting a lowball bid. Oh ya, anybody else, please feel free to chime in too :-)

Octagonian said...

patriotz:

while a market bottom = a buyers' market, a buyers' market does not = a market bottom.

buyers' markets bring ABOUT market bottoms. And when you have over a year of inventory in an area, buyers' possess the power. It IS a buyers' market; stay tuned for the bottom, maybe 18 months out.

JMK said...

All of those are unknowns and my best guess is likely to be off the mark so I prefer to keep it simple and based on what I know.

As patriotz will tell you, the present value of an asset is the sum of its returns paid out in perpetuity (i.e. rents on your property) is A/d, where A is the net rent and d is the discount rate (i.e. the after-tax return you could get for the same capital investment). However, if the annuity increases at a rate 1+g, then the present value is A/(d-g). If you value the property that way, the effect of inflation is very important. i.e. for your net $1200/month rent, I'd value the asset at $360000 to $480000 for a 2% and 3% inflation respectively.

Your valuation makes it seem that you expect to break even today. If you want to value the property on whether you can make it break even today more power to you. But I think most people would be willing to value the return from housing more dearly than that and will buy far before you will. The main advantage to owning is that it becomes cheaper with inflation.

mohican said...

"I think most people would be willing to value the return from housing more dearly than that and will buy far before you will. The main advantage to owning is that it becomes cheaper with inflation."

Two things:

1) You are basically saying that you are willing to take all the risks of being a landlord / owner for a puny 4% return. I'm sorry but I'm just not up for it. I can find less risky investments that pay much better income, that are more liquid, have less transaction costs, and also keep up with inflation in the same manner as real estate. BTW - I can find hundreds of properties that meet your qualifications in the Vancouver area.

2) The only return that a property offers from an investment perspective is a) net rental income and b) land appreciation. Both are significant but do not underestimate the depreciation of the structure. Additionally, if you own a miniscule piece of land (think condo here) at an inflated price, where is the opportunity for investment returns other than the income which is far less than what less risky investments offer.

patriotz said...

And when you have over a year of inventory in an area, buyers' possess the power. It IS a buyers' market; stay tuned for the bottom, maybe 18 months out.

Buyers always possess the pricing power. A property will sell only for what the most willing buyer will pay.

Your definition of a "buyers' market" seems to be de facto one in which the price is or will be falling. As I have said, that hardly indicates that it's a good time to buy.

My definition of a buyers' market is one in which the buyer is getting more out of the transaction than the seller - in other words the market price is below fundamental value.

freako said...

.The main advantage to owning is that it becomes cheaper with inflation.

Any rational lender would "price" expected inflation into long term rates.

patriotz said...

Provided inflation is priced into interest rates, it does not affect the PDV and therefore does not affect the total cost of ownership, as Freako said.

But inflation (priced in at time of purchase) does result in declining real monthly payments. In other words it skews ownership costs towards the point of purchase. This may be an advantage for some people. It also favours people with large down payments.

Also home ownership protects the owner from unanticipated inflation. The higher the inflation rate, the less confidence economic players have that the rate will not rise in the future. This is why inflation, which is a monetary phenomenon, has real negative impacts.

But the flip side of this is that purchasers who buy expecting continued inflation will be hurt by unexpected disinflation. Like in 1981.

JMK said...

You are basically saying that you are willing to take all the risks of being a landlord / owner for a puny 4% return.

4% after inflation and taxes (if you are an owner) is puny? Before inflation I'd put that at 9 or 10%, which is about what the stock market does.

However, if you think you can do better you can put your better return rate into the above formula and come up with what you thing the fair value is. You are basically claiming you can get 6% after inflation and taxes, which sounds a tad optimistic to me.

BTW - I can find hundreds of properties that meet your qualifications in the Vancouver area.

Which is possibly why there are still some crazy people buying them.

depreciation of the structure

You should include that in your calculation if you don't think your $150/month will cover it. Of course you should also include any expected capital appreciation (i.e. increasing land value beyond inflation because of densification).

Any rational lender would "price" expected inflation into long term rates.

Which is why there is a spread of a few percent between the two. Banks seem to manage fine with returns 2 or 3% above the inflation rate. Are they being irrational? Of course they insist on renegotiating regularly...

patriotz said...

Before inflation I'd put that at 9 or 10%, which is about what the stock market does.

Historically housing has gotten about 7% yield and 2% appreciation post-WWII for a nominal total return of 9% before the current bubble. You can expect a lot less going forward if you buy now.

The S&P500 has had a nominal total return of 16% post-WWII, and note that includes flat returns since 2000.

link

JMK said...

The S&P500 has had a nominal total return of 16% post-WWII,

An annualized total return of 16%? You must have made a mistake. Nominal has been about 8.5% since 1945. Even the article you link says 9%.

Where do you get 16%? You didn't just take the average of all the returns did you? If so, that is wildly inaccurate.

Drachen said...

As I've said before I don't think the 85-90 and 91-94 bumps were "major" features on the graph, IMO they are sub-features of other bubbles.

The 85-90 bump is the "dead cat bounce" of the '81 bubble and the 91-94 bump is the cautious money leaving the market as PE ratios became unsustainable.

jesse said...

"I'm confused. Doesn't this formula assume your monthly payout doesn't increase with time? Rent goes up with inflation..."

You should really go through the math yourself to convince yourself why mohican uses this formula. It is a "net asset value" calculation and can be derived. It is often used by real estate income trusts when they make property investments so I think it's not fair to say the formula is incorrect or flawed but do your own research.

If you don't want to do the math the easiest thing to do is to produce a spreadsheet that explicitly determines the net present value of discounted cash flows. The discount rate to use is the "cap rate" -- mohican has chosen the long term mortgage rate as his cap rate. Any cap rate less than the treasury rate is relying on future above-inflation capital gains. Since real estate has higher risks than a treasury bond it needs to be discounted further. A typical cap rate is around 7-8%, usually some level above the mortgage rate.

"The main advantage to owning is that it becomes cheaper with inflation."

This is an advantage but it's the total spend that's the important number. As previously mentioned, since lenders need to make money they will charge a lending rate that produces returns for them above inflation, the result being the net present value of a series of expected debt repayments is higher than the present value of the debt.

While the real value of payments decreases over time you are still paying more (net present value) than if you paid in cash.

JMK said...

produce a spreadsheet that explicitly determines the net present value of discounted cash flows.

I understand the formulas - and none of them are "wrong", they just are used for different things.

Capitalization rate is just net rent divided by cost of the asset. You are saying the cap rate should be 8% before you would buy (Mohican says 6%). If the value of your property goes up with inflation and the rent charged goes up with inflation, you will continue to garner an after-inflation 8% return for the foreseeable future. That seems pretty generous and I would guess others will invest before that point because they don't attach such a harsh risk premium to property values and rents in Vancouver. Certainly homeowners will tend to get in earlier because their returns are not taxed.

That's not to say the cap rate isn't historically low. Just that holding out for 8% or even 6% for a residential property seems optimistic to me.

jesse said...

"Just that holding out for 8% or even 6% for a residential property seems optimistic to me."

You are right on certain properties such as a detached house where densification is a real possibility. For example a teardown house in Kits will have an extremely low yield but the owner can sell to a developer and make profit that way.

A condo, however, cannot substantially increase land utilisation. Part of the normal 3-4% cap rate spread to treasury is to take depreciation (building and rent) into account as well as the inherent risks associated with ownership such as damage, repairs, missed rent etc. For condos in a reasonable neighborhood I think a 7-8% cap rate is reasonable and why IMO current cap rates are way out of whack. Factoring in rent increases (which will be less than inflation as the building ages) is abstracted in the cap rate.

Not so long ago, around 1999-2000, many Vancouver condo cap rates were in the 7-8% range. Even concrete ones.

jesse said...

"Certainly homeowners will tend to get in earlier because their returns are not taxed."

This was true in 1997, 2000, and now in 2008. I don't see how this justifies a paradigm shift in asset valuations.

patriotz said...

Nominal has been about 8.5% since 1945. Even the article you link says 9%.

That's starting in 1871. Post-WWII return has been more. Your 8.5% post-1945 does not include dividends.

Look at the chart in my link. Nominal total return index has risen from 10,000 in 1945 to 10,000,000 today. A 1,000-fold rise over 63 years is 11.5% annual compounded.

My initial figure was a mistake, I had read an extra zero off the chart.

Housing did not do as well 1871-WWII either.

oh please said...

FV average house price down 1.1% YOY? That's what the BCREA says. But why does the next page, which lists MLS data, show the average price as up 3.9% YOY? Anybody know?

And sales to actives for the Okanagan, wow - the OK valley is toast.

JMK said...

That's starting in 1871. Post-WWII return has been more. Your 8.5% post-1945 does not include dividends.

You're correct. You can get all the numbers here. Its 7.3% w/o dividends, 11.17 with. After inflation it is 7.12% w/ dividends (inflation was 4% on average).

So, after tax and inflation we are looking at 5% depending on your tax bracket. So I'd accept 8% as a reasonable cap rate for an investor (though I'd argue housing is less volatile than stocks). But as a homeowner, I'd still accept 5% as being rational.

David said...

Good posts JMK. I agree that the Net Present Value calculation needs to include inflation. For that reason, one should subtract 2% from the 5 year interest rate in the formula. This obviously makes a big difference in the total price calculated.

The second problem with using NPV for a personal home is that it values ownership at zero. All things being equal, I would rather own my own home than rent, as would most rationale people.

I haven't read any studies trying to capture this value, but I don't think 10 to 20% would be unreasonable.

patriotz said...

So I'd accept 8% as a reasonable cap rate for an investor (though I'd argue housing is less volatile than stocks). But as a homeowner, I'd still accept 5% as being rational.

If investors want 8%, that's what will set the market price. Investors are the marginal buyers - and sellers. This will be made abundantly clear in the next year or two.

patriotz said...

The second problem with using NPV for a personal home is that it values ownership at zero.

Investors value ownership at zero.

That's the fallacy of the "ownership premium" argument - it ignores investors, who are the marginal buyers and sellers and therefore set the market price.

jesse said...

"I agree that the Net Present Value calculation needs to include inflation."

It inherently does. Or at least the NPV calculations used by large property investment firms do because they, like us, know that rents increase with inflation. You can do searches online to see what these large firms use for cap rates when they make investments.

jesse said...

"Investors value ownership at zero."

If there is always an "ownership premium" this means landlords must continually accept subpar returns.

JMK said...

You can do searches online to see what these large firms use for cap rates when they make investments.

My cursory search when you started talking about cap rates didn't turn much up. What are the residential cap rates in Vancouver? It was my understanding that very few large firms still invest in residential in western canada because the tax structure makes it hard for it to be profitable to be an institutional landlord.

It seems relatively straightforward to me that the risk involved in industrial properties is significantly higher than residential, thats why I'm specifying residential cap rates. Its probably harder to find a renter for your specialized factory or even a storefront in a mall than it is to find a renter for your apartment.

The reason cap rates are localized is the risk of not finding tenants and falling land values is different in different places. I imagine cap rates in Detroit are significantly higher than in Palo Alto for all types of properties. I imagine they have been low over the long term in Vancouver compared to say Montreal.

jesse said...

jmk, check out this post from CalculatedRisk. The claim is between 6-8% as an "attractive" cap rate for Oceanside CA.

VancouverGuy said...

"The discount rate to use is the "cap rate" -- mohican has chosen the long term mortgage rate as his cap rate. Any cap rate less than the treasury rate is relying on future above-inflation capital gains. Since real estate has higher risks than a treasury bond it needs to be discounted further. A typical cap rate is around 7-8%, usually some level above the mortgage rate."

1. Cap rates are not discount rates. Cap rates are project yields (like cash yield prior to financing). A project yield does not equal the project discount rate unless cashflows are flat.

2. Cap rates less than the treasury rate are not necessarily relying on future above-inflation capital gains. They are not even necessarily relying on future above-inflation rental increases. In a situation with a fixed amount of debt and cost of debt, all inflation growth will go to equity returns, thereby providing a return to equity greater than the cap rate.

3. Just because real estate has greater risk than a treasury bond does not necessarily mean it requires a higher cap rate, although I would generally agree with you. Fundamentally, however, the anticipation of significant increases in rent would allow you to have a cap rate lower than a treasury bond: cap rates are not returns, as there is potential for cashflow growth, whereas a treasury bond has flat cashflows (downside only).

"This is an advantage but it's the total spend that's the important number. As previously mentioned, since lenders need to make money they will charge a lending rate that produces returns for them above inflation, the result being the net present value of a series of expected debt repayments is higher than the present value of the debt.

While the real value of payments decreases over time you are still paying more (net present value) than if you paid in cash."

4. The total spend is not the important number. By putting all cash down on the table you are foregoing the return you could have earned alternatively on that cash. Without leverage, equity returns for real estate should be very small if you are actually holding long-term and not speculating: you are better off investing your funds elsewhere without leverage. On that basis, you are actually paying more in NPV terms than if you used leverage. (Cost of equity is greater than cost of debt, and therefore future debt payments at a debt interest rate is cheaper from an equity perspective than paying upfront)

5. The NPV of a series of debt repayments, at the cost of debt, is the principal amount of the debt. Generally, the correct discount rate on the future payments for a piece of debt at the time of issuance is the rate it was issued at.

6. Banks do not make money by lending above the inflation rate. They make money by lending above their cost of financing, which is a premium above the cost of financing for the Government (as a result of greater credit risk). Banks will try to match their fixed-rate liabilities with fixed-rate assets and their floating-rate liabilities with floating-rate assets, thereby immunizing them from changes in inflation (if they hold the debt long-term), and then they will immunize themselves against changes in rates by holding equivalent duration assets (theoretically). Inflation is a determinant of the risk-free rate; profit is determined by the spread over funding costs.

jesse said...

"Cap rates are not discount rates. Cap rates are project yields (like cash yield prior to financing)."

The two are often confused, even in literature deriving mohican's formula.

"Without leverage, equity returns for real estate should be very small if you are actually holding long-term and not speculating"

Are you saying that, on average over time, financing is a requirement to produce reasonable risk-adjusted returns?

vancouverguy, thanks for the long and interesting comment.

jesse said...

"Banks do not make money by lending above the inflation rate. They make money by lending above their cost of financing"

For clarification I said that banks lend out money that has the result of producing a net return greater than inflation, not that they necessarily lend out money above the inflation rate.

patriotz said...

If there is always an "ownership premium" this means landlords must continually accept subpar returns

Landlords don't have to accept subpar returns, they can just exit the market, which is exactly why there can be no "ownership premium" in the long run.

freako said...

That's the fallacy of the "ownership premium" argument - it ignores investors, who are the marginal buyers and sellers and therefore set the market price.

Do you know how many times I have been through that dance with the usual suspects (Blaze Spinnaker, Chipman, Geezer and so on). Probably a dozen by now.

No ownership premium can exist for any length of time because the 30+% of market actors that are (presumably) objective investors would set prices at the margin.

This mechanism keeps the market efficient over time, but in the short run things can get out of whack. It turns out that in the aggregate RE investors are somewhat irrational (they don't value opportunity cost). They don't buy when the numbers don't work, but the also don't sell, mispricings can exist for some time.

freako said...

Landlords don't have to accept subpar returns, they can just exit the market, which is exactly why there can be no "ownership premium" in the long run.

As I just stated, they ought to exit the market, but for the most part they just refuse to enter, so any "ownership premium" will be removed indirectly by attrition, not directly by selling.

patriotz said...

Positive cash flow investors can ignore opportunity cost.

But negative cash flow specuvestors are experiencing an out of pocket cash drain, and when prices start falling, they start bailing pronto.

So will more than a few of the zero down owner-occupiers.

And there are more than enough of them in Vancouver to bring down the market very quickly. Way more than in 1981.

freako said...

Positive cash flow investors can ignore opportunity cost.
.


Perhaps they can, but they shouldn't. When valuing an asset, one should crunch the numbers on todays prices, not your invidicual acquisition cost. But most don't. Hence, investor re-balancing of the market occurs mostly through lack of buying. Unlike stocks, where value buyers DO bail when the feel they realize full value.

patriotz said...

Better yet, bears can sell stocks short, which makes stock market adjustments even faster.

But the upside of the inertia of the housing market is that it takes years for a market bottom to turn around, so you don't have to worry about missing a buying opportunity.

JMK said...

This mechanism keeps the market efficient over time, but in the short run things can get out of whack. It turns out that in the aggregate RE investors are somewhat irrational (they don't value opportunity cost).

And I'd argue that there are very rational tax reasons for there to be a couple of percent spread between investor's and homeowner's cap rates (if thats how people are happiest thinking about the returns). On an upswing, homeowners keep buying past the point where investors bail. On the downswing the cap rate has to increase to such a point that investors will buy again.

Your point that investors won't buy in and out is well taken. No doubt some of this irrationality is because there is huge inertia in place because the transaction costs are so large. Do you give up a year of returns to sell or do you hold on for another 10 years?

patriotz said...

And I'd argue that there are very rational tax reasons for there to be a couple of percent spread between investor's and homeowner's cap rates (if thats how people are happiest thinking about the returns)

It is not possible for an owner and investor to have different cap rates on identical properties, any more than different shareholders can have different P/E for the same stock.

The buyer who accepts the lowest P/E makes the market price for everyone.

JMK said...

Sorry if I wasn't clear - I meant the cap rate each buyer would consider attractive. Obviously the cap rate itself is just net revenue divided by cost and has nothing to do with who owns the property.

freako said...

The buyer who accepts the lowest P/E makes the market price for everyone.

Yup. The tax and various intangibles do explain why the ownership ratio is around 70% instead of say 30%.

Better yet, bears can sell stocks short, which makes stock market adjustments even faster.

Yup again. I grossly underestimated the time it would take for market correction. Here is a list of some reasons why RE can go FUBAR for so long:

1. Most properties are lived in by their owners, and are out of circulation for all practical purposes (unlike stocks).
2. Many RE investors are oblivious to opportunity cost.
3. Many RE "experts" have little understanding of basic valuation. They have coasted on basic generalizations, (building equity, tenants pay your mortage, strong economy, blah blah).
4. Furthermore, even if the RE "experts" happen to be bearish, they have little incentive to share this sentiment because their livelihood is generally tied to the health of the real estate market.
5. Many people in the financial world understand the situation, but have little financial incentive go public with it.
6. The capacity for CMHC to back incredibly questionable mortgages is endless.