Who Wants A Depreciating Asset?

A: The topic of this post really does go against mainstream media, bullish brokers, and naive buyers who are always late to the party. Putting fundamentals aside for a moment and taking a peak at what our future may bring, you can't help but notice the warning signs to the broader economy. And to be blunt, I don't care how strong the currency trade is here for our market, if the US were to go into a recession (whether it be soft or outright nasty) the real estate market in Manhattan will quickly change! The Case-Shiller Index released this morning showed a broad based decline across all metro areas measured. While not shocking, we must note that as the housing market continues to decline, wall street and the securities derived from loans on these homes will cause more problems and we will move one notch closer to a recession. As far as investing is concerned, nobody wants to own a depreciating asset!

Where to begin, how about the media! I was late in reading this NY Times article titled, "New York Condos Lure Deal-Seeking Europeans" but was immediately fed up when I got to this statement added in by the author:

"While natives remain wary about real estate and worry about bonuses and the economic climate, foreign tourists are keeping brokers busy with their eagerness to buy up Manhattan apartments, which many see as investments."

What happens if the dollar rebounds? Are brokers and journalists going to switch their argument from "well, Manhattan is supported by a weak dollar and foreign demand" to "well, a strong US dollar is a sign of a strong US economy and with that comes strength in real estate"? Put me down for this quickchange in broker babble to occur at some point in the future. All BS'ing aside, I like to discuss investment strategies, real data, real macro trends, and how that all may affect asset classes. And I'll tell you one thing, NO ONE WANTS TO OWN A DEPRECIATING ASSET!!

On to the data. According to the Case-Shiller Home Price Index released this morning:

For a visual on this, please see the chart:

Housing downturn cycles tend to take a while to play out. First comes the drop in buyer demand, which leads to low sales volume and inventory building, which leads to weak data reports magnified by mainstream media, which encourages more drops in buyer demand, which causes prices to fall, which hits the investors holding securitized mortgage bonds, which infects the financial sector, which leads to higher lending rates, fewer loan options & tougher underwriting rules limiting who can even get a loan, which restricts buyer pool further, and on and on and on! Those in-the-know of macro trends tend to get cautious ahead of the curve, never timing it perfectly, but also not exposed to the pain & loss that hits home for many naive buyers and blind speculators who think the game will go on forever; (hmmm, go back to the above mention of the NY Times article and foreigners buying now even while "natives remain wary about real estate and worry about bonuses and the economic climate").

While the Case-Shiller Index is rear-view mirror and doesn't apply to the Manhattan real estate marketplace (read my post here why), it still is a dataset relied upon by the financial markets to monitor the national housing market. While not a leading indicator, it does paint a grim picture on housing and if the national market continues to tumble in 2008, then the pain will extend to wall street, the credit markets, and the financial sector and put us that much closer to a recession. No one wants a depreciating asset; not a homeowner, not the banks, not the investors holding mortgage backed securities, not the fed, and certainly not a prospective buyer about to put their money to work. This last part is not as cut and dry though as everyone needs a place to call home.

If a recession were to hit the US economy, than stocks will price that in ahead of time and continue to drop until the cloudy picture clears up. Corporations will get defensive and cut jobs, pay, and spending. The combination of a negative wealth effect and lack of security for one's job will certainly have an impact on buyer sentiment here in Manhattan. Sales volume will quickly slow, inventory will quickly build, and sellers will be faced with something that they had the luxury of not dealing with even as the national housing market crumbled; fierce seller competition. When speculators, foreign buyers, and distressed sellers join the normal every day sellers that just needs to unload a home at the same time, you will know the lagging slowdown finally hit Manhattan. We are a market so closely tied to wall street, and almost everyone on wall street knows there is danger in the air. Recessions do occur, downturns do occur, and housing is a market just like every other; it can go up & it can go down. Manhattan is no different; it is just much better positioned & protected. Think of Manhattan as the General Electric of the housing market, and to keep up with the analogy, I would call markets like Miami, Phoenix, & Las Vegas the ETOYS of housing.

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