Thread: How low can it go?

Interesting and IMO pretty scary read on the fundamentals of the housing market in areas that have experienced high appreciation.

That is an interesting article. Like stocks, it stands to reason that there should be a way to calculate the inherent value of a house. This guy ties the inherent value of a house to rental rates which are tied to wages. He is saying that home prices have increased at a rate much greater than rents so that it is now much cheaper to rent than to own and this will tend to pull home prices back down to where they should be.

His premise is similar to what I learned in a course I took many years ago that taught how to calculate the true value of a stock. Very simply, you take the total assets of a company (real property, equipment, inventory, accounts receivable, etc.), deduct total liabilities and divide by the total number of shares. That will give you what the company's stock is inherently worth. (It is more complicated than that, obviously.) If the stock is trading for less than that figure it is undervalued and may be a good buy. If the stock is trading for more than that figure it is overvalued and may be expected to drop in price to reach its "true" value.

The problem with calculating a stock's "true" value is that many people are willing to pay more than a stock is really worth. In order to make a profit they, in turn, must find others willing to pay an inflated price for the stock. The same thing happens in real estate. People always have and always will be willing to pay more than something is really worth - as long as they feel they will be able to sell to someone else willing to pay an inflated price. But markets tend to have a way of correcting themselves every now and then to get prices back in line with reality. That's what we are experiencing with real estate today.

Originally Posted by Bruce Breedlove

That is an interesting article. Like stocks, it stands to reason that there should be a way to calculate the inherent value of a house. This guy ties the inherent value of a house to rental rates which are tied to wages. He is saying that home prices have increased at a rate much greater than rents so that it is now much cheaper to rent than to own and this will tend to pull home prices back down to where they should be.

His premise is similar to what I learned in a course I took many years ago that taught how to calculate the true value of a stock. Very simply, you take the total assets of a company (real property, equipment, inventory, accounts receivable, etc.), deduct total liabilities and divide by the total number of shares. That will give you what the company's stock is inherently worth. (It is more complicated than that, obviously.) If the stock is trading for less than that figure it is undervalued and may be a good buy. If the stock is trading for more than that figure it is overvalued and may be expected to drop in price to reach its "true" value.

The problem with calculating a stock's "true" value is that many people are willing to pay more than a stock is really worth. In order to make a profit they, in turn, must find others willing to pay an inflated price for the stock. The same thing happens in real estate. People always have and always will be willing to pay more than something is really worth - as long as they feel they will be able to sell to someone else willing to pay an inflated price. But markets tend to have a way of correcting themselves every now and then to get prices back in line with reality. That's what we are experiencing with real estate today.

The 'Bigger Fool' theory... it doesn't really matter if you pay too much... As long as somebody will come behind you and pay more than you did. This is pretty much the basis that our country is running on. Kind of scary really.

Matt,

I call it 'The Greater Fool Theory'. Same thing. I refer to it often.

The more fools there are to up the ante the large and more certain the correction to come. It happened in the stock market in '29.

Did you notice the dates of those posts and what the last post said?

To me, those posts seemed about a year late, at least as South Florida goes. Down there, prices started tanking right when our house went on the market ... Feb. - Mar. of 2006. In 4-6 months the prices had dropped (as regards to our house) about $70,000 before we got a buyer. We were dropping our price to beat the fall, trying to get a buyer before the bottom fall out. My understanding from what I've read is that the market is down over 30% since we sold (and that 30% was back in June, I imagine it is down even more now). That means the buyer of our house has a $350k house worth about $250k now. Ouch! I would not want to be that far under the mortgage. I imagine that those buyers (first time home buyer) is in a sub-prime loan, and refinancing will be real difficult when the time rolls around for their loan interest and payment to ratchet up.

Those posts started a year later in the Irvine, CA market. I guess the CA market (at least at Irvine) held longer than in South Florida.

Interesting series of blog posts if you want to understand the mechanics of mortgage fraud at the retail level:

Real Estate Blog - Mortgage Fraud: Everything You Need to Know (Well, Almost Everything)