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发帖数: 8131 | 1 A great article in this past weekend’s Washington Post highlighted many of
the major issues affecting the US housing market and most of those issues
point to lower house prices. In particular, the self-reinforcing psychology
of price deflation has already set in. And that means prices will continue
to fall.
While the government is doing its best to prop up the housing sector and
maintain credit growth, most common metrics suggest house prices are still
elevated. This artificial prop buys banks time by preventing banks from
taking losses and depleting capital while the yield curve is still steep.
Yet, investors are coming to the realization that short-term rates will stay
near zero percent for a very "extended period" indeed. Perpetual zero (PZ)
is having the perverse effect of flattening the yield curve and reducing the
carry trade that is benefitting banks. If banks are unable to restore
adequate capital to deal with the loan losses that removing the government
prop would induce, the next recession will be very painful.
The Psychology of Deflation in Japan
I first talked about the behavioural psychology of deflation in 2008 when
writing about Japan’s housing bust. The post "A cautionary tale: story from
1994 Japan" relied on Michael Nystrom’s 2006 tale about a Japanese man
buying a house amid the mid-1990s Japanese house price deflation to bring
the psychology to life. Michael wrote:
In spite of the booming economy, my uncle, like many Americans today,
was shut out of the housing market. Prices always seemed too high, but a
pullback never materialized, so he waited until the right time to buy. While
he waited, prices spiraled up and away until at last they were hopelessly
out of reach. By the time I arrived in 1990, his family was living in a
government-owned, rent controlled flat that was, by any standards, small:
Two rooms that were each about 12 feet square, a small kitchen and a tiny
bath to serve three adults (including his mother) and his two kids…
My uncle thought that he would never ever be able to afford a house in
Japan, and that he would live out his dying days in that little rented flat.
In his experience, housing prices went only in one direction: up. But by
1992, two years after the Nikkei peaked, something strange began to happen
– housing prices started drifting down…
By 1994, housing prices continued to drift lower until some units
started to become, with considerable stretching and creative financing,
affordable. So that year, by taking out a two generation, 60-year mortgage
— with his 16-year old son on the hook for the remaining years that he
might not be able to pay — my uncle bought his first home. The family had
to scrimp, and both he and my aunt had to work more hours, but they were
finally, proud homeowners. And it was a nice house – larger than their old
house (but not much), in a nicer neighborhood, and on a higher floor with a
view of the treetops. I even helped them move in. It was a happy day. I don
’t recall the exact price he paid, but I remember thinking that it sure was
a lot! Somewhere north of half a million dollars. Those were the kinds of
details were lost on me at that age.
I left Japan in 1994, and didn’t return again for a visit until late
1998. In the intervening 4 years, housing prices had continued to fall, and
fall, and fall to the point where my uncle’s house was worth only half of
what he had paid for it four years earlier: A couple hundred thousand, up in
smoke, just as Japan’s economy was mired in a 13-year slump. But he stuck
with his loan, hoping the value will come back. And one day, it just might.
So he makes his payments each month faithfully, and when he can no longer
make them, his son will take over and pay off the remaining balance. And
sometime, in the remaining 48 years on the mortgage, the house may once
again be worth more than what is owed on it.
The Psychology of Deflation Hits America
What happened? The psychology of deflation happened. But rather than go into
some diatribe of how this works, I will use excerpts of the Washington Post
article, titled "In struggling housing market, buyers and sellers are out
of sync," to paint the picture. While reading this, remember that the DC
area has been relatively buoyant economically during this crisis compared to
other American cities due to federal government largesse. I have
highlighted the parts that pertain to deflation psychology:
Jack Donnelly put off selling his Capitol Hill rowhouse for three years
until he thought he saw glimmers of life in the housing market this past
spring. At $950,000, he said, the red brick Victorian is a "solid deal."
Jackie Wright sees it differently. The row house is one of many homes
competing for her attention in uncertain economic times. She’s been looking
to buy a home in the District since April but is in no rush to commit,
partly because she thinks mortgage interest rates – and prices – could
sink even lower.
As with many prospective sellers, Donnelly’s hopes for his rowhouse
were forged in the past, before the housing bust, when homeowners assumed
that real estate prices would inexorably rise. They expected to reap vast
windfalls when their houses sold. But Wright’s eyes are turned to the
future. She’s anxious about whether the coming months will bring more
gloomy economic news and reluctant to gamble on a major purchase, especially
if a flagging market might actually mean better deals ahead.
Notice the disconnect between Donnelly and Wright’s psychology. That’s the
interesting thing about this story. The house was bought for $645,000 in
2004. Renovations of $150,000 (including labor) put the all-in cost at about
$850,000 to $900,000. So, why is Donnelly trying to sell the house for
nearly a million dollars? In behavioral economics, this is called anchoring.
Donnelly’s price point is anchored to the $1 million he expected to
receive during the halcyon days of the housing bubble. See Michael
Mauboussin on investor psychology for more on this.
Back in 2004, when Donnelly and his new bride, Roxanne, bought the home,
they’d paid $645,000. It was a fixer-upper in a transitional neighborhood.
And the finances had been a stretch. But with a child on the way, they had
been ecstatic to find a place they could afford.
They converted the space from apartments into a single-family home and
installed central air conditioning. The renovations totaled more than $150,
000, not including labor costs, Donnelly said. Three years later, after the
tremendous run-up in US housing prices, he decided he wanted to sell it for
$1 million.
By then, however, the housing market had begun to sour, and he figured
the home couldn’t fetch what he thought it was worth.
"I decided to do the conservative thing, collect rent on this place and
wait a couple of years for the housing market to improve," Donnelly said.
See, Donnelly bought another house and moved in there. He should have sold
his old house. But he was anchored to the prices of a few years back and so
decided to rent it out – which isn’t the conservative thing in the least.
The thing is house prices are lower today – even in DC. And this presents a
classic negotiating problem. H. Raiifa’s "The art and science of
negotiation" sets out a framework based on three sets of data (as quoted by
Max Bazerman’s "Judgement in Managerial Decision Making"):
1.
Each party’s alternative to a negotiated agreement (BATNA – Best
alternative to a negotiated agreement)
2.
Each party’s set of interests
3.
The relative importance of each party’s interests
In a period of falling house prices, a home buyer’s BATNA is to simply wait
. She can rent or stay in her present home. Here’s how the Post puts the
conflict.
Hart, the real estate agent, insisted that Donnelly’s house is properly
priced. She said five other comparable homes within short walking distance
are for sale at similar prices – $900,000 to $974,000. She said others have
sold within that range recently.
Donnelly has his doubts.
"Frankly, I don’t know what number makes sense anymore," he said. "It’
s not a normal market. . . . Some houses are gone, and some in the same
price range are not going. I can’t gauge what’s real and what’s not."
He acknowledged that he’d been thinking of reducing his asking price,
lowering his goal for a second time.
In fact, by Saturday he’d dropped the price to $895,000.
And while that may narrow the expectations gap with prospective buyers,
it might not be enough. If he fails to attract a buyer soon, Donnelly said,
he would take the house off the market, possibly refinance it at lower rates
and keep on renting it out.
That would be one more sale that never took place.
Lower Home Sales Presage Lower Prices
This last sentence is the crux of the article.
In any negotiation, the two parties have a "reservation point" beyond which
they will refuse to negotiate and will simply walk away and accept their
BATNA. The art of negotiating is finding a price higher than the seller’s
reservation price that is also lower than the buyer’s. In a market panic,
sellers reduce price quickly because markets are more transparent, the
assets transacted assets are fungible, transaction costs are low and volume
is high. All of this means a bottom comes more quickly because a seller’s
reservation price becomes unanchored very quickly as market prices fall.
In a housing market sell-off, markets are more byzantine, properties are
unique, transaction costs are high, and sales are infrequent. This means
that, in assessing one’s set of interests and their relative importance,
many sellers decide not to transact because their reservation prices are
still anchored in bubble psychology.
So the first thing to give way in a housing bust is volume. Lower
transaction volume is prelude to lower prices. If volume is falling, you can
be sure it has done so because sellers have not lowered their reservation
prices and are waiting for prices to rise again. But, of course, if the
psychology of deflation has set in for buyers, prices cannot rise. And that
means prices and sales volumes drift lower as forced sellers dominate the
marketplace.
Moreover, the psychology of price deflation is also the reason markets tend
to overshoot to the downside. Buyers are saying, "wow, those prices sure
have come down. Maybe they will come down even more. I think I will hold off
on buying and see." This type of psychology is self-reinforcing and almost
always takes markets below fair value when value players snap up bargains
and change the psychology. In my view, the government can slow but simply
will not be able to overcome this dynamic. That means a slow and inexorable
decline for house prices.
And since housing usually leads recoveries, that spells a weak recovery and
perpetual "extended period" language from the Fed. Eventually, the US yield
curve will flatten as it did in Japan if PZ takes hold. PZ is toxic for
banks because when the next recession hits, the central bank cannot lower
rates to induce a steep yield curve and bail them out. Therefore, loan
losses will have to be taken without the benefit of the carry trade and that
spells bankruptcy for the weakest. This is what happened in Japan and what
is likely to happen in the US. |
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