6/16/13: Rising Housing and a Weak Economy

Unless you’ve been under a rock for the last several months, you’ve probably noticed that lots of folks are excited about the housing recovery.  After all, prices and sales volume are up in a lot of markets.  Even home builder confidence has moved into positive territory for the first time in a very long time.

It’s all good, right?  Maybe.  That’s what we discuss in this uplifting episode of The Real Estate Guys™ radio show!

In the house and behind the microphones:

  • Your rising host, Robert Helms
  • The weak co-host, Russell Gray
  • The Godfather of Real Estate, Bob Helms

An old business mentor of ours once said, “It’s never as bad as it seems and it’s never as good as it seems.  Just keep going.”

His point is that it’s very tempting to analyze something right into paralysis.  That’s why we’re not huge fans of trying to time the market.  When fear and greed are blended with market volatility and data overload, it’s really hard to make good decisions where success is based primarily on being on the right end of a market move.

With that said, we also believe that macro-awareness is essential to long term prosperity.  Sometimes forces bigger than your deal or local market can tumble all but the most carefully constructed portfolios.

Right now the U.S. housing market is saying “all systems go!”.  But the economic data doesn’t seem to support it.  So is this housing recovery the real deal?  Or are we looking at a housing head fake?

And why is this all so confusing?

Now THAT is a great question.  So let’s visit it quickly…or maybe not so quickly. 😉

We (not The Real Estate Guys™, but the “powers that be”) measure the U.S. economy in dollars.  Duh.  But it’s an important point because the value of the dollar keeps changing – and primarily to the down side.  This means it takes more dollars to purchase the same value.  A gallon of gas today is $4, but 5 years ago it was $2… for the same gallon of gas.

So, if you measure your economy in dollars and five years ago you cranked out 1,000 gallons of gas a month (yes, we know that’s a dinky economy, but this is just an illustration) at $2 per gallon, your economy is a $2,000 a month economy.

Now if the value of the dollar falls so it now takes $4 to buy that same gallon of gas (does that happen?), and you’re still producing the same 1,000 gallons a month, your economy is now $4,000 a month.  You’ve DOUBLED your economic output!  WOW!  Prosperity!

BUT (and it’s so big, it could be a bubble)…how productive are you in terms of gallons of gas?  You haven’t grown at all.  You’re still producing the same 1,000 gallons a month you were in the $2,000 a month economy.

Now let’s say you reduce gasoline output by 200 gallons, so you’re only producing 800 gallons at $4 a gallon.  That would be $3,200 a month, right?  So your economy “grew” from $2,000 a month to $3,200 a month.  But your gasoline production FELL by 20%.

So…did your economy grow or not?

If you think a bunch of pieces of green paper with dead presidents’ pictures on them make you rich, then maybe you could say your economy grew.  But in terms of producing utility (the benefit of the stuff that money can buy), your economy shrunk by a lot.

Think about it.  Forget about the price.  Would you rather have 1,000 gallons of gas or 800 gallons?  Which is more?  I bet if we sat a bunch of elementary school kids down at a table and asked them, “Which is better: less or more?”, they would choose more.  (Wait…didn’t somebody do that?)

It’s not complicated.  More is better.  Except when your uncertain about how to measure “more”.  More dollars or more product?

This is the problem when the unit of measurement becomes unstable.  In the case of the U.S. economy (and housing prices) the unit of measure is dollars.  And because the unit of measure is easily manipulated (just watch how the markets respond to whatever Ben Bernanke says or doesn’t say), so then are the statistics that measure the “success” of the recovery.

Whew.  Does all this make sense?

Stick with us.  After all, you’ve made it this far. And “good job” by the way.

So when it comes to the U.S. housing market, is home ownership rising or declining?  And if home owners aren’t buying these houses, who is?

When measuring the U.S. economy, are we creating more jobs or less?  Are incomes rising or declining?  And if incomes are “rising”, are they rising faster than living expenses?  That is, are people becoming richer so they can afford to save and buy a home?  Or are they earning “more”, but spending more than that, thereby making savings harder to accumulate (down payments) and mortgage payments less affordable?

What about interest rates?  Are they rising or declining?  Obviously, rising rates (even though the current rates are awesome, it’s all compared to where they’ve been) make housing LESS affordable.

Wow.  That’s a lot to think about.

But don’t get paralyzed.  Just be aware.  Then discuss these things with other informed and active real estate investors.  It helps keep you sharp. That’s why we like talking to you each week.  And we REALLY like it when the producer let’s us out of our cage, so we can visit you in person at a field trip, seminar or our annual Summit at Sea™.

Here’s our take:

This isn’t a home buyer or economy driven housing recovery.  The U.S. economy is not creating enough jobs to offset the number of new workers entering the market, much less enough to back fill all the jobs lost in the Great Recession.  And the jobs that are being created are not high paying, but mostly lower paying service jobs.

Interest rates have nowhere to go but up from here.  So while they may stay low for a long time, they aren’t falling dramatically so as to make housing way more affordable to home buyers.

Meanwhile, in its attempts to keep interest rates down and “stimulate” the economy, the Fed’s QE program causes life to become more expensive where it matters most to working people: at the gas pump and in the grocery store.  No wonder they don’t include food and energy in the CPI (Consumer Price Index – used to measure the official rate of inflation)!

So is this all doom and gloom?

No!  It’s actually good for investors, which is why hedge funds and individual investors are pouring into real estate and creating demand that’s driving up prices.

But as home builders see demand and prices increase, they will go back into construction mode and add to the supply.  In markets where supply can be increased, this extra inventory could put downward pressure on prices.  If it gets real bad (like last time), the Fed will probably crank up the QE to prop it up…again.

So what to do?

Be careful when investing purely for capital gains.  We love equity and it still happens (yes, we feel a little vindicated).  But it’s all about staying power.

As we said in Equity Happens, “cash flow controls mortgages and mortgages control property” while you’re waiting for the inevitable inflation drives up the price (as measured in dollars whose value is falling).  That is, long term real estate is a great hedge against inflation.

It’s like gold with benefits.  You get cash flow (assuming your wise enough to buy a property that pays for itself, and you lock in these amazingly low interest rates for the long term).  You get tax benefits that actually enhance your cash flow.  You get amortization (the pay down of your loan using the tenant’s rent), which is profit to you. And you get long term appreciation.

Pick markets where prices are low and cash flows are strong.  While high priced markets might lose renters and homeowners if the economy stays weak and net purchasing power declines, lower priced markets might actually see an increase demand as people migrate their to improve their financial position.

If you can do that in a market where it’s hard for home builders to increase supply, then you can be somewhat insulated from speculative building.

Do we think real estate will be worth more (in dollars) 10 or 20 years from now?  Probably.

Will we ever see interest rates this low again?  Maybe, but probably not. And they really can only go up from here, so even is about the best you could hope for.  In other words, OPM (Other People’s Money) is on SALE right now.  And it’s a great tool to short the dollar (but that would be the topic of another lengthy blog).

And speaking of lengthy blogs…thanks for sticking with us this far.  Even tough there’s more to say, we’ll wrap it up now so you can listen to the show.  And stay tuned to The Real Estate Guys™ as we watch this market evolve.

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