Why The Downside Is Limited

by Osman Parvez

A few comments have suggested that my recent downside estimate for the Boulder market was too shallow. If you're sitting on the sidelines looking for our local (or broader regional) market to collapse like the former bubbles, you'll probably be disappointed. Here's why.

Enter the wayback machine and look at my post from two years ago comparing the Denver market with bubble markets. After showing you how these markets compare and overlaying trends, I wrote:
Thus, more support for the notion there's no housing bubble in Boulder or Denver. Even so, we will still be impacted from the deflation impacting other real estate markets. For buyers/investors, this could actually be a good thing. Just like the stock market, short term fluctuations in prices are largely psychological and not based on the most important determinant of price - fundamental intrinsic value. In the next few months, there may be very good opportunities ahead for the value investor or home buyer with a reasonable holding period.
I was right about the region seeing less impact, but I partially wrong about the timing. Boulder's market continued to see relative strength. While Denver saw more of the cooling, in Boulder, we're only now starting to feel a lull in sales volume and prices.

The fundamentals of the downside calculation have also changed. Instead of psychology, we're now looking at tighter lending standards shrinking the pool of buyers (rightfully so) and unpredictable regional effects of a national economic recession. To point, this morning Frontier Airlines filed for bankruptcy protection.

Remember, in a normal (i.e., non speculative, non bubble) market jobs are the #1 driver for real estate values. In the last year (perhaps longer), Colorado has been lower than average unemployment by about 1%. We're also much more diversified than during previous recessions and are continuing to attract employers (i.e. ConocoPhillips). Add this to the fact that we didn't see a massive speculative bubble and you have the basis for my conclusion, the downside scenario is relatively limited, that is to say much shorter and less deep than former bubble markets.

Don't take my word for it. Here's Calculated Risk with a recent post on Denver:
...all areas aren't the same; price action can be different neighborhood by neighborhood.

And Denver did not see much house appreciation compared to many other cities, so prices will probably not fall as far either
And here's a chart from CR showing Denver versus LA using the Case-Shiller Real Price Index

And while we're linking away, be sure to check out the US News article on Denver. Take a look at the very cool map showing appreciation rates by neighborhood. It's quite the mosaic of ups and downs. Why did some appreciate while others decline in value?
In Denver specifically, what we're seeing is there are some neighborhoods that are very valuable—old historic neighborhoods. Their values have historically held up just because there is a limited supply. They are located very centrally, and they are in fairly affluent areas.

image credits: Calculated Risk, Integrated Asset Services

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  1. Oh, rose colored glasses, where are thou?

    I thought predicting the future wasn't your bag. Cheerleading is your bag, obviously. It is in your best interest to keep sellers (your clients) from panicking and lowering their prices (less commission for you!), as others are sure to follow. First one down pulls in the rest. Can't wait for April and May statistics...

    If those not inconvenienced by the recession can float the entire Boulder market I agree with your analysis. Should the real economy show signs of influence in the Boulder bubble there is no telling what may happen. We shall see Osman...

  2. I'm not sure what your definition of cheerleading is but I'll gladly skip the game.

    My post is a response for those who are hoping prices drop massively (like what is happening in the former bubbles).

  3. There has not been a single prediction of "it's different here" that hasn't ultimately proven deeply embarrassing. There's nothing different here.

  4. I've got one thing to say.
    2005 City of Boulder median income $78,300 x 3 =$234,900

    This is what median home price should be. You can slice it dice it, use a macro view or a micro view, you can look at unemployment, land shortages, or pick any of your favorite metrics, but that is not going to change what people can afford. Maybe you can dispute the median income figure, but other than that, good luck.

    Bottom line: housing has held to this trend for over 100 years, and that's because, that's what people can afford! Now whether we inflate or deflate to get back to that trend certainly makes for a great debate.

    This country is in unprecidented debt, (both the citizens and the government).Our foreign benefactors who lend us $2 billion a day to maintain our ridiculous consumption aren't seeing the benefit that they used to. Soon the day will come when we will have to sustain ourselves with out their loans, and in IMO is coming sooner than later, and if you think the FED can save the day, again your mistaken. The longer we play games with financial insolvency and unsustainability the worse this recession is going to hurt.

    I'm not saying this is the end of the world, but America and Americans need to face the music and take their medicine. All the expert economists that I read all generally agree that we are in the early innings of the most serious housing crisis since the great depression, and I agree whole heartedly. We have YEARS to go, not months, and unless we deal with it, it will turn into decades of pain just like Japan.

    Osman, I believe you are in a unique position. You have by far the best blog and analysis of the Boulder market. You have the power to better guide your uninformed associates and sellers as to where we are heading. I know you know the truth, and you should steer them in the right direction, instead of protecting their fragile ego's and beliefs.

    Most of the people who post to your site are like me, sitting on a pile of cash, and willing to jump in when prices are right. Until that happens, I'll continue to short stocks, protect my investments, live a sustainable lifestyle, and of course read your blog!

    I think you would be even more successful in recruiting new clients from your blog, if you came around a little. Being from San Diego, I know a local Realtor who runs a top notch blog. Check it out and see how he can be real, and still run a very successful business. bubbleinfo.com

    Best Regards,

  5. Good comments guys. I'm about to run into a meeting (involving the consumption of beer, it is Friday afterall), so I'll be brief.

    I fully agree that people should only buy what they can afford. We are on the same page. However... 3x income ignores interest rates and tax benefits. In some cases, today's rates are half the inflation driven rates of the late 70's. Does the cost of capital impact asset prices? Of course ie does.

    And that's only the beginning of the argument. For the generations that follow the boomers, owning real estate might prove to be an effective hedge against excessive future taxation of income, a likely outcome to finance aging boomers and a generation of deficit spending.

    Remember, this post is not about me denying that boulder real estate will suffer from an economic downturn. I'm simply saying that for you potential buyers on the sidelines waiting for a real estate crash in boulder, especially if you've been sitting on cash, the wait could be long and fruitless.

  6. I doubt waiting will be fruitless--and it almost certainly won't hurt anyone. I'm not sure how anyone rational could look at the current picture (as well-described by posters above) and think there was a greater likelihood of prices rising than falling over the next, say two years. Everyone can figure their own odds, but, for the sake of discussion, let's be generous and say there's a 10 percent chance prices will rise. Let's be generous again and say there's a 50 percent chance they'll stay flat. That leaves us a 40 percent chance they'll fall (leaving aside the question of degree, which I suppose is your weasel-out on this one: "I said 'fall like the bubble markets, not fall period.") So, there's a 90 percent chance I either lose nothing pricewise by waiting or actually gain. If you've bought a house in the last year or two, reverse that math and see how hosed you are if you need to sell. That's why people are staying out of the market. ANd that's why you, Osman, advise people to buy for the long term, yadda yadda.

    On another note, this fiction that "there was no speculative bubble in Boulder," gets really grating, for a lot reasons, but primarily because of its willful disingenuousness. Sure throw all the low end condo crap in with everything else in every neighborhood and you can cook the numbers to cover up what we all well know has definitely happened at the higher end in certain desirable areas. I've seen specific houses, absent renovation, pick up hundreds of thousands of dollars, translating into double digit percentage gains over relatively short time periods. Obvious spec fix-and-flips are all over the MLS right now--and seem to be languishing. It all depends on what you're looking for and where you look. That realtor who runs the paid article in the daily camera every week argues, as do you Osman, that "there was no bubble here," then, in like the next paragraph, is boasting that pricewise "$2 million is the new $1 million." Hilarious. Which is it pal?

    In any event to claim flatly that "there was no speculative bubble in Boulder" is just silly. Bottom line is that the broad statistics provide a handy rug under which to sweep some inconvenient realties here in the local market.

    Like others who have posted, I'm sitting on a pile of cash, and buying when--and only when--I get a deal that makes some kind of remote fiscal sense. Right now I rent a house many of your colleagues would attempt to list at, say $1.2 million, for less than the interest I'd pay on the mortgage to buy it--even factoring in the tax deduction. That's the reality of the Boulder market. And that does not bode well for prices.

    I do enjoy your blog, by the way, even though you seem deliberately obtuse sometimes. Stay away from the rah-rah, it's not so bad, Boulder's different posts. They're not credible and I don't get a strong sense that even you really believe them.

  7. Semper Augustus4/12/2008 12:37:00 AM

    My crystal ball is cloudy... But the recent hiring freeze at my employer (a state college in a neighboring Denver suburb), combined with the inability to issue new bonds for ill-advised capital projects, bodes poorly for local employment.

    CU is currently running with the assumption that peoples' attitudes about debt (both for financing new degrees and purchasing new bonds), and the availability of debt, will never change. They're probably in for a surprise.

  8. Some of you need a reality check. I suggest you spend some time reading up on the former bubble markets before you jump to the conclusion that Boulder had a bubble.

    First, let's review the history of recent price increases. Homes did appreciate strongly in Boulder after 2001, but our appreciation was a far cry from what occurred in bubble markets. Look at the Case-Shiller chart for LA vs Denver in my blog post for an example.

    Now look at renovations and custom homes. There are a number custom builders in Boulder, most of whom are general contractors building for clients. Those with better financing and a willingness to take risk might build on a speculative basis. How many spec projects? I haven't pulled up the building permits but from my perspective, the % of spec homes on the market vs. owner listed homes is not exceptionally high.

    Contrast Boulder to the bubble markets. In the bubbles, you'll see a tremendous volume of speculative building and flipping of contracts. Exceptionally high transaction volume is a hallmark of a bubble. In places like coastal Florida, people were quitting their day jobs after they put a dozen condos under contract (often committing mortgage fraud). Their strategy was to flip the contract well before the project was even constructed. To date, I don't know of a single person who was flipping contracts in Boulder. Maybe you'll find a few one-off examples, but you won't find the real estate mania that engulfed the bubble markets. I haven't heard of anyone who quit their job to flip condo contracts in Boulder. Do you?

    And as for you folks sitting on a pile of cash, I'm sorry to hear that. The short term risk free rate is going to zero. Money markets and the like are yielding really lousy returns. You might want to look into safe havens for your liquidity such as inflation indexed securities. Clearly our government's approach to dealing with the real estate bubble is to further devalue the dollar and despite the rhetoric, stoke inflation intentionally. Considering the alternative, a Japan style long term recession, perhaps they're right. In my opinion, the probability of strong inflation is very high.

    By the way, my advice to our buying clients is to (a) buy for the long term, (b) be patient while you search, and (c) be prepared to negotiate. Sometimes that means walking away from a home. In the last week, I've advised two of our new clients to consider renting for awhile because you're right, there is no reason to rush.

    In my opinion, this summer could turn up some very good bargains for buyers. Will those bargains be even better next year? Maybe. Or maybe not. It's notoriously difficult to call the end of a cycle. The so called professional economists get it wrong nearly 80% of the time. At this point, Boulder's market is cooling but it is not a falling knife (like the former bubble markets). I don't think there's a huge risk to purchasing property in Boulder right now, if you're buying smart. And if you think I'm being disingenuous, think again. Consider the fact that my money is where my mouth is. We closed on our current home last August.

  9. This comment has been removed by a blog administrator.

  10. Hey Osman when I reviewed my last comment it had my wifes name as the poster. If you could please remove that, as it had financial info. on it I would appreciate it.

    Regards, BuytheFarm

  11. All the more reason to cheer against falling prices...can you say negative equity?


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