CYA, the New LTV
Home values continue to fall, caused chiefly by the swelling numbers of people who default on paying money they owe to a bank so that they can own a home. So which of the following two statements is true?
- Home prices are correcting.
- Or, house prices are in a deflationary spiral.
Has the question ever been one of strict economics, or is the debate a mix of economic theory and political leaning? An Adam Smith purist would say that a worker’s willingness, personal need, and capacity to pay to own his or her home will set house prices where they ought to be–often closely bonded with area rent trends and/or household income trends.
A behavioral economist might have an equally strong argument around the negative multiplier effect of home price deflation, which powerfully impacts how consumer spending, which is about 68% of GDP, works.
Clearly, the way that too many American homeowners treated their home’s deed and title as if together they represented a bonafide additional wage earner in the household was lunacy.
Also clear, is that unregulated financial productization set off a feedback loop of structured investment vehicles that programmatically trumped human judgment and accountability.
So it stands to reason that a once-bitten market is twice shy about resuming business with much of a normal set of rules of engagement. Everything must be hyper-vetted and de-toxified for any decision-maker to stick his or her neck out about financial exposure anywhere.
So we’ve gone from being a society that was practically telling people that owning a house was better than having a real job to being a one that is more or less saying that if someone wants to buy a house, we’re going to make it as difficult as possible for them to do that.
One of the new barriers to entry for buyers and especially sellers of new, used, and abused homes–appraisals. A) They’re going to have to pay more for an appraisal thanks to new rules that went into effect May 1. And B) Comps in every submarket are sending appraisals into algorithmic value destruction when they factor in distress and stagnation.
Who this helps other than investor flippers is a mystery.
We know appraisals were one of the phenomena that got sucked into the vortex of financial insanity. Like everything else, there were people who were doing appraisals irresponsibly because the way the system worked, it rewarded jacked-up prices and punished realistic, accurate ones. What’s more, prices had so de-coupled from their historical trends, that appraisers could mark prices up willy-nilly because the system rewarded that.
Now, the overshoot effect has taken firm hold as LTV has morphed into CYA.
- Here’s Big Builder editor Sarah Yaussi’s analysis of home builder reaction to the recent ramifications of the new appraisal code.
- Yaussi dives into the topic in her blog post today, getting at one of the key issues in the appraisal flap. “Comp-ing” real estate assets in this environment is ludicrous, and puts new-home offerings at a severe disadvantage in light of the premium value new construction offers the buyer.
- The Wall Street Journal followed Big Builder on the story with a consumer take on the same hot-button issue.
Home builders rework how they offer value
Home building’s leading business executives have a message for the public. The message is this: We’ll meet you there, where you can feel confident in a new-home purchase right now.
Several dozen of those executives met this week in Chicago for the annual Builder 100 conference. If any of them had spent time in the fetal position during any part of the last two-plus years, you would never have been able to tell. A resilient bunch, although one whose ranks are sorely diminished and still shrinking.
Click image for access to Builder Executive of the Year article.
For those who were at the conference, a shining, if symbolic, moment of resilience was Pulte chief executive officer Richard Dugas braving a public appearance as Builder’s Executive of the Year despite an angry crowd of labor union protestors clamoring on the street outside the conference venue. Protesters brought their signature oversized inflatable pig and stood it among them as they picketed the hotel on East Superior Street. Dugas stood tall and talked of the determination of his company’s people to weather the balance of the economic storm and emerge an even stronger firm.
For those who were unable to attend the conference, it should be noted the mood was realistic; the consensus was that traffic and sales are up; there’s lots more work to do; and bigger opportunities are beginning to reveal themselves.
For two solid days, they talked about their message to the public: “We’ll meet you a good part of the way there.” They talked about what they want–mostly good headlines–and what they’re going to do about it next, give new meaning to the word “value.”
Value has been the missing link in the real economy and the housing economy. Loan-to-value. Cost value. Time value. Never missing a beat, however, has been the value of people. People, home building’s thought and practice leaders refrained over and over, are where you get value. It’s the one and only way to get home builders’ house offerings a good part of the way there for the public to feel confident about buying right now.
Builder 100 executives talked over and over about people, about ones they’ve lost, and ones they have fought to keep. People are where smarter processes and better margins and more persuasive selling occur. People are positive cash flow versus the incessant erosion of hard assets like land and invested capital. People are the only difference between sheer price reductions and value.
Every home builder there was talking about offering value. It’s practically a euphemism for offering lower cost products to home buyers who are stuck in a Catch-22 credit environment. The industry’s most dramatic gesture to date–the Pulte acquisition of Centex–is strategically a play for value. Pulte’s acknowledging, in part, that it needs a value brand in its portfolio, not just for now, but especially now as a ramp to recovery.
Pulte’s not alone. We’re seeing practically every company, from KB Home, to Meritage, to D.R. Horton, to Jagoe Homes, put greater emphasis on value. This means killing frills, figuring out smarter ways to buy materials and manufactured goods to put in the homes, and building faster yet with higher quality to cut down both on trades time and warranty issues.
The third key part of the new value proposition home building executives were focused on at Builder 100 is green. Clearly though, green as a business issue versus green as an altruistic motivation. More and more home builders, most of the bigger enterprises and an increasing number of regional and local companies including Artistic Homes in Albuquerque, and Hearthstone Homes of Omaha, are building energy efficiency beyond code into their homes.
There are a couple of reasons for this right now, and they’re related business objectives. One is the struggle to find any possible point of difference from competitors in their marketplace, and the other is to strike potential home buyers with a money-saving and emotional reason to buy, and get them to regard the “total cost of homeownership”–mortgage payments plus payments for utilities and other regular maintenance costs–as a new-home benefit. We learn at the Builder 100, of course, that the mortgage finance sector has apparently never heard of or been regardful of the “total cost of homeownership.” So when a buyer can get approved for a $200,000 home, but pays through the nose for utilities and other costs, the bank is unaware. But the same lender would scarcely approve that same buyer for a $250,000 loan for a new home that would save more than $50,000 in utility and maintenance costs during the term of the loan.
People, value, and green. These are the issues we’ll continue to focus on in the months ahead. Cracking the code of value–which home builders have begun to do with their new entry-level and other segment offerings–is how home builders can be confident in their simple message to the public: We’ll meet you there.
Stress Jest–Can You Do the Zombie Bank?
HT The Big Picture blog.
Dr. Shiller’s Animal Spirits
Yale economist Robert Shiller will keynote the proceedings of the Builder 100 conference for home building’s leading executives next Wednesday, May 13, in Chicago.
In this past Sunday’s New York Times, Shiller accentuates the positive as he takes on the question of whether the current economic crisis has begun slowly to subside, or whether we’re due for even heavier weather.
In his Depression Scares are Hardly New essay, it’s as if Dr. Shiller is giving a patient news that he’s very sick and the prognosis could go either way, but there’s plenty of cases that don’t wind up going to hell in a handbasket.
Shiller, these days, is preoccupied by psychological factors that impact human behavior in the financial and other markets–”Animal Spirits,” he calls them. He’s surprised, in fact, that people at large seem to be less daunted by economic conditions than experts with specific technical insight into what is so woefully wrong with things right now.
He writes in the Times:
This time, the reasons to fret about a possible depression may seem less concrete. For most people, the worries that consume economists and accountants, about things like bank stress-test results or the “OIS-Libor spread,” are rather hard to comprehend.
As Franklin D. Roosevelt famously said during the Great Depression, “the only thing we have to fear is fear itself.” Let’s hope that is true, and that the relative complacency in the general population is good news for the economy.
In a sense, the term “complacency” may serve as a kind of methadone treatment for an economy that seems bent on fixing its balance sheet cold turkey, from the household to the global economic complex.
In “Animal Spirits,” a book Dr. Shiller has written with George A. Akerlof, we get a take on economics and an explanation of what is going on now, in down to earth terms that anybody can grasp.
Dr. Shiller introduces us to his theory and where it applies in this video from The McKinsey Quarterly, taped last month.
Staying Influence: It may be the next best alternative to staying power.
You still hear it plenty these days, even in these worst and most uncertain of times. It’s what a private home building company executive will tell you makes the biggest difference between his operation and public residential construction companies that may or may not find this or that market fit to build in.
“We’re here to stay.”
When he says it, it’s certainly about selling new-homes to people who want or need them, with a solid name in the community to back up the promise. It’s a way of expressing the belief that real estate–and home building–is local. If prospective home buyers view you as part of the community, and they know where you live, doesn’t it make sense that they’d put more trust in you with the biggest purchase decision they’ve got to make?
It may. But that’s only part of what they mean when they say, “We’re here to stay.”
It’s just as much a statement about buying land from a developer or a farmer. During the run-up of the early 2000s, land was a game of magic numbers, and developers and land sellers got to name their price on home building lots. Now, those public builders who were tripping over one another to outbid everybody on every piece of dirt that showed up in auction are now tripping over one another to exit markets that don’t pencil for them. For, developers and land sellers, “we’re here to stay” means they can and will work with you, even to the point of soft take downs, so that you’ll have access to lots and they’ll continue to have a willing buyer in the market.
It’s also about a local banking relationship that may go back generations. Yes, today so many of the community banks you used to deal with have been scarffed up by regional, national, and even global players. Now, after talk up the kazoo about partnerships for the first several years of the decade, many of those “partners” are among the disappeared. Your accounts have been turned over to special services “don’t call us, we’ll call you” departments whose business goal seems exclusively set on getting as much of the money they may have loaned you back in their tills immediately, while discussion of continuing to lend as they said they were going to is out of the question.
Clearly, a bank partner will mean something different to the average private home builder when this crisis has run its course. But “we’re here to stay” today means that capital in the community, in the submarket, in the marketplace, might set its sights on home builders whose word is their bond. Even before the global credit and liquidity reset values to assets, people locally know what locations are worth, and they’re going to pay for them. Being a “we’re here to stay” kind of builder is an opportunity for people and banks who still have money and want to put it to work investing in something they know.
“We’re here to stay” means that your subs, trades, and materials suppliers won’t get left in the lurch, like with the others who just pull up their stakes and exit the market.
“We’re here to stay” is also about hiring people with more attitude and, maybe, less aptitude. If you’re like most private home building companies, you’ve had to let go of no less than half, and more likely seven people in 10 who worked for you in 2006. It’s the same everywhere. Who you’ve got left has to not only be an “A” player for today’s market, but has to help you have the ideas to deal with even a worse times than now before they get better.
Ultimately, the truth in the claim “We’re here to stay” depends on being able to build a home in a desirable community, fast, well, and efficiently, things you can only do if you’re in a local people business. Per-square-foot direct costs mean more to being here this time next year than perhaps ever in the history of U.S. home building. That’s sole proof of a home builder’s staying power.
Banks to The Donald: Ha! Ha! Ha!
Kick start the banks into lending money again, and the real estate business would be just fine.
The Donald in all his loose canon glory speaks for about eight minutes on how real estate developers would be glad to get back in the game were it not for the banks, as well as about government financial and economic policy, and of course, about gaming.
Trump may not be the most edifying interview, but he’s a master spinner and always amusing.
Here he is on CNBC’s Sqawk Box, talking to one of the show’s hosts Joe Kernen.
Make Over Mondays
Know the feeling? A month ends, and you check it off. It’s another month you don’t have to stare down from the front end. We don’t imagine there’s a home builder out there who doesn’t relish the thought of seeing the tail lights of 2009.
So, what happens these Mondays, the day that not so long ago in people’s memory was the day you practically needed an armored car to pull up and take all the deposit money from the weekend past to the bank?
These months, Mondays should be about all the little things because the big things are beyond our control. This limbo we’ve all gotten to know so well, like a form of progressing malnutrition, is about the stubborn distance that lies between a bid and an “ask.” There are four money buckets: The money you’ve got; the money you’ve got coming in; the money you owe; and the money you need. The amount that one or more of those is out of balance is probably the extent to which you’re watching Bloomberg news in the mornings, as opposed to ESPN.
You can control the weeds in the flower beds of the sales models. You can control the number and the quality of the smile-and-dial phone calls you and your sales associates make to make your quotas. You can control the energy-level of affirmation for every sales success one of your team nets. You can control the follow through and care every one of your customers gets so that they’re your No. 1 branding strategy. You can keep dialing your bank or bankers, and let them know where you are with your business. You can keep showing up at the country club, because those local club deals are still one of the No. 1 ways capital will find its way back into real estate. You can go out into your market and find a land seller or developer who just might be willing to make you an offer you can’t refuse on a piece of dirt that would move even in today’s horrid environment.
You can buy up some REOs, taking them off the market, and using your subs and your staff, you can make them available for rent or rent-to-own. You can dial back your costs far enough to zero out all but the essentials and offer your services as fee builders.
These are some of what people mean when they talk about “all the tricks” in the book. It’s the book for down cycles. One of its rules is you mark off weeks and months as you survive them, and put those days behind you. You then start a new week or a new month like a baseball player who starts each game “0-for-the-game.”
Everyone’s at that same starting point, and while an 80-year stalemate between big and ask has got things gummed up from a macroeconomic standpoint, this is the first April of the rest of your life, and it’s time to get things rolling.
After all the trillions and all the programs and all the efforts to lure in the private sector, the only sure way to counter toxic assets is with assets that aren’t toxic. And one of the only ways to get to assets that aren’t toxic is to help house buyers get past their fear of risk. They need assurance that what they’re puchasing will be the property they’re committed to making their home.
Multifamily’s Grip Versus The Single Family Sector
We’re out in Phoenix this next couple of days, hosting a conference for multifamily housing finance executives.
Like almost everything these days, the housing crisis and broader, deeper economic crisis have polarized people into opposing sides of an economically, politically, and emotionally charged issue. One one side, there are those whose businesses’ interests focus mainly on multifamily for-rent units, and on the other, those who make a living doing single family for-sale housing.
It’s popular among multifamily executives to lay blame for society’s ills at the feet of home builders and residential developers of for-sale communities. Here’s a multifamily executive’s oft-chanted refrain these days, referring to the damage single family for-sale companies have wrought upon the universe.
- They overbuilt
- They overcharged
- They took our customers by seducing them with false come-ons and fraudulent financial processes and procedures into a homeownership dream those customers could not afford
- They ran their companies poorly, and sapped perfectly good lending institutions of their ability to sustain good healthy capital investments in multifamily deals and projects
- They are part of a conspiracy to expand homeownership in America, which devalues our competitive offerings in responsible housing
From October 1, 2008 on, the volume of the antagonism aimed at home builders by the multifamily industry sector’s leaders and trade association leadership has increased. Here’s how the National Multi Housing Council promotes its 2008 Annual Report:
2008 will long be remembered as the year that the easy credit days of the first half of the decade came to a crashing halt.
The looming credit crisis quickly expanded into a global financial crisis and eventually into one of the worst economic downturns in decades. It is also the year that policymakers and consumers had to admit—as NMHC had been warning for years—that, yes, there is such a thing as too much homeownership.
Last year, homeownership rates posted their sharpest decline in 20 years, falling from a peak of 69.1 percent in 2005 to 67.5 percent in 2008, a level last seen in 2001 and erasing all of the much-touted homeownership gains of the last administration’s “ownership society” initiative. Meanwhile the number of renter households jumped from 30.9 percent to 32.2 percent.
Multifamily companies’ access to capital, their own balance sheet exposure, their redoubled challenge to cope with rising vacancy rates and deteriorating rent power amid a rising tide of unemployment in America, all got swept into the viscious-circle vortex of soaring foreclosures, declining home values, stress on mortgage lenders, and in turn stress on commercial real estate lenders… all impacting earnings, hiring, spending, and sentiment.
Still, we feel that it’s a red-herring and a misstep for multifamily strategists to pin responsibility for the enormous dislocation in the economy on their brethren and sistren from the single family side of the housing equation.
Multifamily operators, owners, developers, and builders have a long list of opportunities, challenges, caveats, missteps, and smart tactics for survival into the next up-cycle in housing whenever that might occur over the next couple of years. No need to paint home builders as part of an evil conspiracy to siphon away renters with a panacea about homeownership for all.
Housing’s crisis is, at the bottom, a household-by-household balance sheet correction that added up to global proportions. You can see this clearly in analyses such as the one Calculated Risk has done about how people–the you and I kind of people–save and spend.
In his post, Personal Saving and Mortgage Equity Withdrawal, Calculated Risk maps out the grim difference between where savings could and should have been as opposed to where it was and is. If people are spending the phantasmagoric appreciation on their owned homes as if it is income, then we get a glimpse of how far we need to correct to pay that back. People can buy a lot of things with play money if it’s accepted currency, but when everyone realizes it’s play money after all, the false economic bouyancy comes to a sudden end.
The aggregate saving rate captures the behavior of both savers (who probably didn’t change their behavior) and “dissavers” (who borrowed heavily). The saving rate declined to zero, probably because the dissavers were using MEW as income.
Now that the Home ATM is closed, the saving rate is rising because of less borrowing – as dissavers are forced to live within their incomes.
This is the current challenge. People, especially if they fear lost income or the lost ability to generate income, save cash. Banks act on similar fears, and so they’re stuck in the limbo of our current unemployment trends.
Savers and “dissavers” alike are saving all at once.
That’s not anyone’s fault, and it’s human nature, and it’s ultimately the source of opportunity for people in housing if they can get past blaming one another for what’s wrong. Housing has an over capacity problem. Too many companies can build and operate and develop housing, and that’s what our wacky market will correct.
Meanwhile, we’re seeing good examples lately of how pricing can be a lever to move inventory and close the huge gap between the number of vacant household units there are and the demand for them. The “V” for value is still hidden somewhere in that gap.
Dimon in the Rough
Straight talk from one worth listening to.
Very telling speech on the failures and the “pro-cyclical” nature of many banking mechanisms. Given on March 11, 2009. Jamie Dimon, CEO of JP Morgan.
This is more about how and why we’re looking at a tax bill of trillions to deal with over the next stretch of years.
Hat tip: Wine Rex
The Redemption: Geithner Plan a Wall Street Hit
Neither a borrower nor a lender be;
For loan oft loses both itself and friend,
And borrowing dulls the edge of husbandry.
This above all: to thine own self be true,
And it must follow, as the night the day,
Thou canst not then be false to any man.
– William Shakespeare, English dramatist & poet (1564 – 1616)
–”Hamlet”, Act 1 scene 3
Click image for access to Geithner's Wall Street Journal Op-Ed piece today.
The pipeline of trillion-dollar federal policy programs today offers the latest one that has made U.S. Treasury Secretary Timothy Geithner the sudden darling of Wall Street. Odd that several weeks ago–two weeks into his new job description–many of those same Wall Street denizens declared Geithner worse than useless, and as recently as last week, there were over-unders on when he would be headed out Treasury’s revolving door in ignominy.
Back those few weeks, the appetite for a groundwork of principles that would support a plan was not there, but now that the plan has been filled-out and articulated, critics are shutting up long enough for Geithner to appear to know what he’s talking about when he refers to the global financial complex and the trouble that it’s in.
Now that Wall Street investors appear to have bought-in to the details, the credibility capital Geithner seems to have lost when he opened his mouth in amid the crawl of stock tickers in mid-February now is back within his grasp.
The question remains though. What does the program fix? Borrower? Lender? Anyone?
Economics Nobelist, Princeton professor and New York Times columnist, Paul Krugman spells out the administration’s and Geithner’s theory underlying the current plan to wrest toxic assets from the banking system, a theory he disagrees with.
But banks can also fail even if they haven’t been bad investors: if, for some reason, many of those they’ve borrowed from (e.g., but not only, depositors) demand their money back at once, the bank can be forced to sell assets at fire sale prices, so that assets that would have been worth more than liabilities in normal conditions end up not being enough to cover the bank’s debts. And this opens up the possibility of a self-fulfilling panic: people may demand their money back, not because they think the bank has made bad investments, but simply because they think other people will demand their money back.
Bank runs can be contagious; partly that’s for psychological reasons, partly because banks tend to invest in similar assets, so one bank’s fire sale depresses another bank’s net worth.
So now we have a bank crisis. Is it the result of fundamentally bad investment, or is it because of a self-fulfilling panic?
Clearly, the assumptions underneath the administration’s plan embrace the latter of the two causes. So the program and the process, and the articulation, and the defiance that accompanies the roll-out of the Public-Private Investment Program rely extensively on a conviction that restoring calm and confidence–even a measure of greed–will get a flow of funds going.
But the base of the problem remains. Bad loans occurred. Lenders and investors took bad risks around those loans. People bought homes they should not have bought–20%-plus of them were investor purchases for flipping purposes during the final two or three years of the run-up–and now the reset on the value or lack thereof of those loans and the investments on top of the loans, will be deferred as a complex delay-the-pain mechanism kicks into action, aggregating what was bad into a toxic pool for a later day, and setting refurbished bank balance sheets back into business like an afternoon at the dog-groomers.
The wager here is twofold. One is that investors, lured by the virtual elimination of risk, will find that this is the place for all that pent-up liquidity that had been awaiting “the floor” for asset pricing before it moved in for the strike. Two is that borrowers will exhibit a more steadfast commitment to the obligations of their loans.
In our need for instant gratification and immediate solutions, we may have a blast of “good news,” that can bouy spirits and keep stocks on an upward trajectory for the month.
But we can see in our closer look beneath the headlines on existing home sales, starts, permits, etc., that there’s a lot of work to do, and much of that work is going to be a good, old-fashioned work-out between buyer and seller based on what a property is worth today, and tomorrow, and the day after, to someone who wants to live in that property.
Borrowing and lending are part of real estate in North America. So Shakespeare’s admonition could never be taken literally. But a great dramatist and poet of today would probably figure out a way to add to the phrase somehow. “Neither a borrower nor a lender be (unless there’s sufficient skin-in-the-game for the borrower and unleveraged capital on the part of the lender).”