Noah's 2010 Predictions

A: Lets keep it going. You can view my 2009 predictions, 2008 predictions, and 2007 predictions by clicking on the appropriate links. By no means should these predictions be taken in an advisory capacity; rather, they are my gut feelings on a few main topics based on information I have on hand at the time of the writings. I urge you to put yourself back into 'time & place' when the predictions were written. Since hindsight is 20/20, often I find many to believe the past was easily predictable once the set of events took place. This is the nature of human psychology. The clearest example I can find is the severity of the credit crisis if you put yourself back into late 2007 and early 2008 - today, almost everybody says 'oh yea, I saw that coming, it was easy to see' - but in reality back in those days the exact opposite was the case as the most bearish predictions on the severity of the credit crisis was met with much opposition and many bullish arguments against what eventually took place. In the end, its easy to look back and say something was easy to see. This is why I prefer to look ahead and talk about what didn't happen yet. I like to say, you can't see what's in front of you by glancing in the rear view mirror.

National Housing - The bulk of the adjustment is behind us. Many hard hit markets are seeing inventory levels fall as sales volume accelerates with what I dubbed The 4 Forces: more affordable prices, record low lending rates, extension/expansion of gov't homeowner tax credits, continued foreclosure pressure.

In general, existing home inventory is down about 12% or so from peak levels in mid-'08 and months of supply plummeted to about seven months; down from over eleven months in early 2008. The reason: artificial sales surge from government incentives and fed meddling with interest rates. This trend is not sustainable but the effects so far cannot be overlooked and have made for a weak foundation to support a bottom in housing argument.

I do not see the 4 forces acting together at the same for long, in fact one of the forces already is disappearing --> lending rates already risen to over 5% as of this writing from recent record lows.

Looking ahead, deals are still there to be made although buy vs rent enthusiasts will still have to anticipate further pressure on rents as unemployment finds its ultimate peak in the next year or so. Further pressure on rents may suggest still more pressure on house prices; especially in markets not as hard hit as Miami, Phoenix, and Los Angeles.

Shadow inventory continues to be a concern that will last for another year or two. I define shadow inventory for national housing as including Bulk REOs, pipeline foreclosures, and unlisted new development units.

The wearing off of government incentives and fed MBS purchases should both contribute to a decline in demand as we get into 2010; especially the 2nd half. Therefore, while the bottom may prove to be in during the course of 2009 in hard hit markets, its hard to argue for a 'V' recovery in prices. Rather, I would suggest a retest and muddling of the bottom range already hit in many markets as future buyers digest the removal of forces that contributed to a surge in sales volume during much of 2009. Sacrificing low rates and government incentives for a slightly lower price might be the buyer story as we get to this time next year!

All I know is, higher rates + higher taxes + removal of gov't incentives will be the three main pressures for buyers as they measure affordability in asking prices across national housing markets.

Manhattan Residential Markets - I cannot deny the resiliency of this marketplace when faced with severe adversity. But, I also cannot deny that the forces described above will have an effect on our market too at some point in 2010. We are where we are right now and both buyers and sellers should be happy? Sellers should be happy because fear trades only lasted a few months and the reflation process started and lasted longer than many expected. Buyers should be happy because deals could still be had when compared to peak levels and Armageddon was taken off the table. While buyers in hindsight might be kicking themselves for not pulling the trigger in early 2009, when it comes down to crunch time, few buyers have the nerve to follow through with a big purchase when so much uncertainty clouds the market.

Manhattan real estate took a hit in all price points, with the high end more affected due to the nature of this crisis. So where do we go from here?

Honestly, I think the solid sales volume pace maintains itself for at least another 3-5 months as we head into 2010. Where we get into trouble is when seller optimism starts to really outpace the improvement in buy side confidence; aka, the bids! Will sellers get too greedy? Well if traffic levels improve from where we left off before the holidays, I fear they may. But for the most part, good products that are priced right are trading and exceptional products in prime locations are seeing surprising bids due to a lack of quality inventory in higher price points. In short, higher end buyers are frustrated with the lack of realistic sellers trying to sell high quality products. This has caused a buildup of buyers that need homes in the $2-3M and above marketplace. I would not be surprised to see some 'best & finals' and quality products sell quickly as we get into the active season.

All the good products traded already or are pending closing. So get ready for a few bullish year-over-year reports as the reflation months from the Feb/March lows get caught over the next few quarters! The data I have shows fairly clearly that pent up demand from the freeze up period made their moves, and inventory adjusted downward with this surge in volume. As a result, active inventory is down about 29.6% in 6 months and the pace of listings being removed from the market declined - telling me sellers are generally happier with how the market is behaving. Therefore:

I see a good chance of a setup for an increase in demand for a lack of quality priced products for the first few months of 2009. My eyes will be on the shadow inventory and the number of new listings + listings coming back on market to see if that balances out the equation. While my belief is that wall street bonuses will be of the less cash and more deferred stock variety, I still think we have a period ahead where buyers will experience an increase in competition towards a supply that is limited in properly priced quality products.

I do not expect another fierce, fast move down in our markets like we saw after the failure of Lehman in late 2008. Rather, we could see a gradual slowdown of sales volume as we head into the 2nd half of 2010 as higher rates and higher taxes start to take a toll on how buyers value listings in the open market. Higher taxes are already having an effect, although a muted one as the reflation trade continues. When both rates and taxes reach a level worth media attention, we likely will already be in sustained downtrend of sales volume until prices adjust a bit to re-spark demand. Time will tell and this blog will be all over the data in real time to find exactly what is going on as it happens in 2010 and beyond!

The Fed - Two words: exit strategy! How will the fed manage to please the markets, maintain stimulus, yet slowly close the liquidity spigots that have been pouring for so long now. Main questions I recently addressed and continue to have are:

1) When will the fed stop buying MBS and agency debt/securities putting pressure on lending rates?

2) When will the fed raise the Fed Funds Rate from the zero interest rate policy we have now?

3) When will the fed do something to control excess reserves from flooding the economy via aggressive bank lending? What will they do?

4) When will all the liquidity facilities be closed?

Since we lack political will and the fed loves to give the markets what they want, I'm sure the party will last for much of 2010; as the hard decisions are left for others to make later on.

In the meantime, a dangerous US dollar carry trade will grow and investors will flock for anything with a yield. Pimco had a great read for his December Investment Outlook on Pimco.com earlier this month:

My how things have changed! With the global financial system apparently stabilized, returns “on” your money are back in vogue, and conservative investors who perhaps appropriately donned a Will Rogers mask nary a fortmonth ago are suddenly waking up to the opportunity cost of 0% cash versus appreciated assets at renewed double-digit annual rates. That 0% yield is not a joke. Almost all money market accounts – totaling over $4 trillion dollars, shown in Chart 1 – yield close to nothing, so close to nothing that I mistakenly did a double take when reviewing my monthly portfolio statement. “Yield on cash,” read the buried line on page 15 of the report, “.01%.”

Recently, approximately $20 billion a week has been exiting those payless, seemingly godless funds in search of a higher-yielding Nirvana. Moving out on the risk asset spectrum has worked wonders since March of this year, but it comes with the risk of principal loss – failing to receive the return of your money. When viewed from 30,000 feet, there is even a systemic risk that new asset bubbles are in the formative stages – perhaps because of the .01%. Gold at $1,130 an ounce, global equity markets up 60-70% from their 2009 lows, a cascading dollar now 15% lower against a basket of global currencies just 12 months ago, oil at 80 bucks, mortgage rates at 4% thanks to a $1 trillion dollar credit card from the Fed; the list goes on. The legitimate question of the day is, “Is a 0% funds rate creating the next financial bubble, and if so, will the Fed and other central banks raise rates proactively – even in the face of double-digit unemployment?”

Read the whole PIMCO article. I talked about this here on UrbanDigs back in mid November's "A Search For Yield", when I took a look at the plunge in Money Market Mutual Fund Assets of about $500bln - money that is looking for yield!

You may not be worried about it, but I am. I refuse to deny the possibility of unintended consequences of all the fed/treasury guarantees, zirp, liquidity facilities, and the massive debt monetization experiment. At some point something's gotta give as wall street only cares about maximizing profits from the gravy train ride while it lasts. How will the fed squeak their way out of this one! Everybody loves a party until the hangover hits and you get the spins.

My three biggest fears for 2010 may be: surprising sovereign defaults + failed bond auctions somewhere + the unintended consequence of a massive dollar carry trade unwind that comes with withdrawal of stimulus. Time will tell.

Stock Markets - As long as credit continues to be on fire from the actions of the fed, treasury, and government, stocks will continue to be a proxy for everything! This is a concept you must understand.

Right now, credit continues to be en fuego! And why shouldn't it be? Everything is guaranteed and everything the markets want, they get! Watch the dollar! If the devaluation of the dollar continues, which is what the fed and other CBs probably want right now, stocks will continue to rise as the currency depreciates. But if the carry trade unwind occurs, watch out.

By the way, did you notice the quiet move the US Treasury made to prop up the GSEs a few days ago - in essence, "removing the caps that limited the amount of available capital to the companies to $200 billion each". Holy moly folks! When will it end? Unlimited access to bailout funds through 2012 was "necessary for preserving the continued strength and stability of the mortgage market," the Treasury said. While people spent their holidays with their family, this headline likely will go mostly unnoticed - strategic timing or something else?

Again, why shouldn't stocks continue to rise? The reflation efforts continue with no regard for unintended consequences of future tough decisions. As long as this continues, stocks globally will see a path of least resistance to the upside. Like inertia affecting an object moving in space, this will continue until acted upon by some outside force! So, what will the force be? Who knows. China collapse? Sovereign defaults - recall the Dubai default that the markets shook off like a flea? Failed bond market auctions? A huge dollar rally and carry trade unwind? Take your pick. I gave up many months ago fighting what the powers that be are doing to prop up all assets and rescue the banking system, the economy and the housing markets.

While stocks look toppy to me and the contrarian trader in me is dying to put a ton of shorts on, I simply can't. I cant go against the massive printing of money. All this stimulus will have an effect. Its the end game I worry about.

For the sake of predictions, put me down for another 6-8% rally before something gives somewhere that changes the world as we known it for the past 6-8 months. I'll still keep my eyes on credit.

Jobs - The problem with the unemployment rate that the mass media uses to judge how good or bad the labor market is that it doesn't tell the whole story of what is really going on. If it did, you would notice a few unnerving things:

1) U6, a broader measure of unemployment, is around 17.2% - seeing a distressing surge in the gap between U3 & U6 to about 7 percentage points (norm is around 3-4 percentage points)
2) The massive growth of PART-TIME workers for economic reasons
3) The average Workweek is declining
4) The Participation Rate (Not in the Labor Force rose drastically to over 81 million) has declined significantly - meaning the labor pool is decreasing which gives a false signal that more people found work due to simple arithmetic

So, what will happen when businesses get more confident? Well first, they will probably increase the work week of full time workers. Next, they probably will re-hire those full time workers that were demoted to part-time workers - I guess tied to the prior statement. And finally, they will hire new workers - which is what we are looking for!

Therefore, I must question the strength of the foundation of any recovery built mostly on stimulus and reflation policies that will eventually wear off and reverse course. While we may get some distortions in the U3 unemployment rate until it finds its ultimate peak, the story out there in the real world is quite different than what many interpret it as from the headlines. The jobs market continues to be pressured and while the worst of the deterioration seems behind us, I just do not see a massive driver of new job growth outside of government & stimulus spending for another year or two.

The whole birth/death bullshit is another story worth noting as the BLS decided to go crazy with this phantom model during the entire course of this very severe recession.

Inflation - I will stick to my guns from the past few years that the first signs of any inflation that we see will come in the form of higher rates, higher taxes, higher health care costs, higher food costs, higher energy costs, higher raw commodity costs, etc.. All the stuff that squeezes consumers wallets and shrinks businesses profit margins.

I do not see wage inflation or much in the way of asset inflation the way most of us think about it. What I mean is, usually people buy housing as a hedge against inflation. Well, this is flawed if you consider where we just came from and where we are now. Noting the housing and credit boom and then bust, if rates and taxes rise yet wages do not how the heck can house prices see a sustained increase as a hedge against inflation? That is my argument. I'm sure you have yours.

I continue to see deflation as the current enemy our fed/govt is fighting as the economy deals with the aftereffects of a major contraction in credit and a severe bout of debt deflation. People like to forget where we came from and focus on the up move from the bottom to support an argument. For example, a $500K condo trades up to $1M at the peak of the market, and then craters to $400K at the bottom - then, it bounces back to $500K and people argue about the asset inflation from the $400K move to the $500K level. An amazingly narrow minded and flawed way of looking at things; rather you need to look at the big picture. Inflation? Not a concern right now as the fed desperately tries to recapitalize the banking system from the effects of deflation and inflate our way out of this mess. Yes, stocks are a proxy for this reflation environment right now but 'out of control' inflation is no where in sight.

What concerns me is how the fed will prevent the banks from aggressively lending the $1.1trln in excess reserves that is currently being hoarded by the banks, from entering the system. That is the root of the hyperinflationists argument; i.e. massive money printing to combat this severe destruction of wealth in the shadow banking system. If we absorbed $2trln of losses in the shadow banking system, then the fed has printed around $1.75trln so far - but that money is not being lent out or multiplied by our fractional reserve system. Instead, credit is contracting and consumers and businesses are not borrowing as they restructure, file for bankruptcy, write down losses, reorganize, and start over with much less leverage available to them. How is this inflationary?

DISCLAIMER - I'm not always right, I am no messiah, and I never ever claim to be! UrbanDigs.com, since the very beginning, has been a way for me to 'speak out' on how I feel about the macro economy and the Manhattan residential real estate marketplace. I tell it how I see it, and nothing more. My true background is with a momentum style of equity trading as I was a NASDAQ equities trader with Tradescape from 1998-2004 and have been following the markets since 1990. I learned a lot along the way and I feel I have a much deeper understanding now, than I did 10 years ago when I started trading professionally, but that does NOT mean you should make any investment decisions based on what I say here! Talk to your financial adviser for that. As for buying or selling real estate here in Manhattan, no one can time the market perfectly and you should always take into account your unique financial situation and needs. So, if you are thinking of buying now, consider your job security, liquid assets, salary, timeline to own, and whether you can afford a product that meets your needs rather than day trade housing and waiting for the perfect entry point! Real estate investment decisions are very personal and everyone's situation is unique. With that said, I welcome any comments regarding what I said above!!

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