Opening the bottom window

I am no more able to tell you precisely when the housing market will bottom than I was able to tell you when it would top. But, I have strong faith that at some point prices will begin to rise again.

I fully expect to see the regular CMHC/Bank/Etc. local RE pumpers telling us that a price recovery is right around the corner. We will hear this every single month of the drop. But let's ignore their self-interested and delusional chatter.

As I said above, pinpointing the exact date of turnaround is not a productive exercise because I have no clue what will be the state of interest rates, employment, incomes, and other fundamental factors that will be important. For example, imagine that speculative excess has been squeezed out of the market by the end of 2010, but at that point interest rates start to rise as the US/Canada pull out of the recession. That would push the RE market down even further, most likely. But maybe we'll be ZIRPing for a decade like Japan. I don't know and I don't care to guess.

What I'm really interested in is trying to figure out some cues for when the 'window to a bottom' might open. Three things come to mind.

1. End of the Olympics.

I think that it is not possible for speculative excess to be squeezed from the market until those who are expecting the Olympic fairy to revive our local RE market finally see that this is simply fantasy. For the last few dead-enders, it won't clearly be fantasy until after the Games have left town. (And even then, I'm sure the pumpers will be telling us that it's a long-run thing and that we shouldn't have expected an immediate boost. Ha!)

So, no bottom until at least March 2010. I like this metric because it is a definitive date we can work with. But I think March 2010 is too soon for a bottom to form, so let's think of other measures.

2. Tightening of credit availability.

Credit will become much tighter. Anecdotally, we have heard that it is harder to get mortgages than it was a year ago. However, I expect things to become much tighter. See this post from CR, for example. Rates are low, but few qualify. We'll see higher required downpayments, more secure employment and income, and no more phantom suite income. Until credit availability tightens up, there will simply be too much fantasy buying with OPM. The window to the bottom will open when people actually have to start buying with their own money again.

The disadvantage of this metric is that I can't think of how to quantify it. So, it is hard to use this a rule to call the bottom window open. Conceptually useful, but practically difficult to implement as a decision rule.

3. Under construction falls below 10K.
   

My favourite measure that I'll be watching is 'under construction.' See Mohican's most recent post on starts/completions/under construction here. We have blown through historic highs for this measure; almost double previous highs. This has two important implications.

On the demand side, this has meant a lot of employment and income for the construction and related trades. If under construction drops, so will employment and income. Fewer renters for condos, and fewer buyers.

On the supply side, this huge amount of units under construction makes for a very large overhang of supply. With this huge overhang comes price competition among sellers. With 20 or 30 sellers competing for each buyer, prices will fall quickly--and can even undershoot fundamentals until the supply overhang is worked off. (Undershoot fundamentals? That would be cool to see . . . but I think it possible.) Also on the supply side, some of the laid off construction workers will go BK or into foreclosure, making the oversupply problem worse.

So, putting the demand together with supply, I predict that the coming big drop in units under construction will have a very negative effect on prices. It is only when this tsunami of supply and massive demand shrinkage finishes that we can begin to talk about the bottom window opening.

OK, so at what level will 'under construction' bottom? Don't know. In the US, CR tells us that starts are at the lowest since 1959. I'm just going to do a WAG based on Mohican's chart. I am fairly confident that we'll go back below 10K, as we always have after each boom. On the balance of probabilities, I think we'll see us go down to 5K. But I don't want to set up a decision rule that has a 50-50 chance of missing the bottom. So, I'll choose 10K under construction as my 'it's time to start talking about a bottom' indicator.

Questions for the readers:

A. What is your preferred indicator that the bottom window is open? Let's confine answers to things that are quantifiable, rather than anecdotal indicators.

B. What do you think of the 'under construction<10K' indicator?