Sunday, May 15, 2016

Housing: Part 148 - The implications of the Price/Rent relationship

I am surprised at how regular the relationship between price and price/rent is, even nationally.  Here is a scatterplot of Price/Rent ratios, arranged by price (on a natural log scale).  Even at the national level, the r-squared of the regression is 0.77.

For each doubling in price, Price/Rent rises by 3.4x.  That means that at very low price levels, most of the increase in price is a positive feedback effect.  A $60,000 home sells at a Price/Rent, typically, of 5.8x.  A $120,000 home sells at a Price/Rent of 9.1x.


That means that the $60,000 house rents for $10,345 (annually) and the $120,000 house rents for $13,187.  That means that a 24% increase in rent leads to a doubling of home prices at the low end of the scale.  This is a log-linear relationship, so the effect declines as prices rise, until it appears that Price/Rent ratios do eventually level off within each MSA at prices above about $500,000.

This is why the Closed Access cities were the one group of cities where low priced homes increased at a faster rate than high priced homes - because rising rents and rising expected rents were the key reason why home prices rose in those cities.  Rising rents move homes up the line in this relationship, so they have a strong effect on low priced homes.

Long term real interest rates, on the other hand, serving as a foundation for Rent/Price levels (the inverse of Price/Rent), tend to cause the entire curve to rise.  In effect, what we might call the "home equity spread" - the difference between the implied yield on home ownership and the yield on risk free inflation adjusted bonds - is much higher on low priced homes than it is on high priced homes, so they are less sensitive to changes in the risk free rate.

This is why changes in homeownership were fairly uniform across cities during the boom.  The factor that causes households to own instead of renting is the value of control that comes with ownership.  We can think of a control premium as a discount to the required rate of return one needs on a capital investment.  The difference between these Price/Rent rates is a combination of expected rent inflation, the ability to claim tax benefits, and the effect of credit constraints on demand.  When interest rates decline, households with a higher control premium are more likely to become owners.

If the implied return on homes in a neighborhood is 8%, then the difference between a household with a 0% control premium and one with a 2% control premium is 1/4 of the return. But, if risk free rates decline so that the implied return is 6%, then the difference between those households amounts to 1/3 of the return.  As required returns decline, the relative incentive into ownership for households who are in a position to value control increases.

I would have expected credit constraints to be significant, too, but the fact that (1) homeownership rose in the late 1970s when real risk free rates were low but mortgage payments were difficult because of inflation and (2) marginal new homeownership was focused on the higher income levels during the 2000s when lower credit constraints should have expanded low income ownership, suggest that the control premium is the dominant factor here, not credit constraints.

Now, we can look at a house like this, in Phoenix, currently estimated to be worth $135,000, with an estimated rent of $1,150/month and an estimated mortgage payment of about $600/month.  This is a house with a Price/Rent ratio of nearly 10x.  This isn't even a particularly low-priced house, either.  At current rates, if the household living in this home is renting, they would nearly cut their monthly cash payments in half by buying the house.

If they made no down payment and doubled the interest rate from the conventional 3.4% to a rate of 6.8%, their monthly payment would be about $1,200.  In other words, if control held any value for them, they could get control while greatly lowering their monthly cash outflows - more than a free lunch.  Or, worst case scenario, if they had no savings and a poor credit record, they could get a subprime loan and get the control premium for free.  Sure, they would need to be prepared for maintenance expenses, etc.  On the other hand, they have now frozen their monthly expense at $1,200 while they will pocket the growing value of the home, whereas their rental expenses would have crept up with inflation each year.

Or, here's an $82,000 house in Atlanta, also with an estimated rent of $1,150/month and an estimated mortgage payment of about $425.

You know what would be really helpful for households in these homes that would find value in ownership?  A mortgage!  Even an expensive one!  Even one that you, in your 15x Price/Rent $350,000 two-story would consider outlandish!*

Policy by attribution error is what we have been engaging in.  We conflated two Americas.  The America where Closed Access policies create rising rents that force out low income households and drive up costs, where home prices were far out of the ranges of the rest of the country; and the America where low-priced homes were selling for the single-digit Price/Rent level.

Here is a comparison of foreclosure rates in two parts of the San Francisco consolidated metropolitan area: San Francisco County, where the median home price topped out at $787,000 in 2005 and San Joaquin County, where prices topped out at $415,000 in 2005.  San Francisco County prices are rising because the poor are being forced out and high income households are moving in, because they are a Closed Access city.  San Joaquin County is sort of the first stop for households that are trying to find a compromise between cost and location because of San Francisco's policies.

I have included Orange County and Riverside County also.  Los Angeles has the same pattern.  We got our panties in a wad because of prices in Orange County and San Francisco from aspirational households buying access to high incomes in a Closed Access, fixed pie regime.  So, we "fixed" it by bankrupting the families that were trying to escape it in Stockton and Riverside.

By the way, the median price of a house in San Joaquin today?  $260,000, about 38% below the 2005 peak.  And San Francisco?  $1.1 million, about 40% above the peak.  Please, oh please, political activists in San Francisco, tell me of your deep felt concerns for the working class and the poor.  Please, oh please, tell us how the bankers did this to us.  Please, oh please, preach to us about the evils of deregulation in housing.

The reason that the country is flocking to populists is because the one possible solution to this mess is a solution that is not available to a society mired in prejudice about the financial sector.

The family that would value owning that $82,000 home in Atlanta can't get a mortgage for it, because we are protecting them from hobgoblins.  Every day dozens of cynical op-eds come out somewhere in this country, reporting that some new low-down payment mortgage plan is being marketed, snarking something like, "Oh, yeah.  Nothing could go wrong with that plan." or "Here we go again."  Think about those no-doc loans that did this to us.  For the family that would like to own that $82,000 house in Atlanta, but can't because they can't get a mortgage, you know what factor would be completely unimportant to a reasonable mortgage broker?  Their ability to pay.  Because they would be lowering their monthly expenses.

Think of how we had to impose this bust on ourselves because somebody polled home buyers in San Francisco, and some of them thought home prices would keep rising by 5% or 10% or more each year.  That's unrealistic!  They needed to learn a lesson!  And the bankers were enabling this!

Well, you know what?  Those San Francisco folks were basically right.  And, you know who else thought home prices (and rents!) in San Francisco, or Orange County, were going to keep going up and up and up?  Those families that moved to Stockton and Riverside.  They were right, too.  So, with nothing else to do, and with great sadness and financial distress, they picked up, said goodbye to their friends and neighbors, and moved off to try to salvage a reasonable lifestyle.  Some of them thought they might be able to make a go of it in Riverside or Stockton.  Some thought Phoenix or Las Vegas.  Others, if they could, moved off to farther reaches.  Drive until you qualify is what the cynics that write those op-eds call it.  Except by 2005, you might have had to drive a thousand miles or two.

The thing they were wrong about.  The thing they didn't count on, along with all those households who were buying little $130,000 bungalows in Dallas and Topeka, was that our moral certitude would settle for nothing less than their financial ruin.

One of the oddities of human nature is that we can become so errant as a group that admitting our error would mean that we and those we respect would lose face.  As my research continues to lead me to these conclusions, I am beginning to worry if that is the tipping point that is the main danger facing us.  We have basically fallen back into North, Wallis, and Weingast's Limited Access order.  After creating the understanding of what that means, even they professed a loss of ideas about how a society moves from a Limited to Open Access order of civility and abundance.  Because limited access policies beget limited access reactions.


* I think this attribution error even infects those who work in finance.  People who were working with private MBSs report incredulously that their underwriters were asking for no-doc loans.  It was madness, they report.  And we imagine unscrupulous mortgage originators duping people into irresponsible transactions.  And, it's easy enough to find many anecdotes to support this idea.  Anecdotes by the thousands.  Anecdotes that are frequently true!**  But, I wonder, if we were able to remove the cynicism from our vision.  Is it that hard to imagine that mortgage broker looking at a middle class family looking to buy a starter home selling for something around 10x Price/Rent, which was not unheard of in many cities even in 2005?  And, failing to qualify for a conventional mortgage, the broker suggests a no-doc mortgage.  "You'll have to settle for a higher interest rate until you can refinance, but since you're not really increasing your monthly expenses, I don't see your income as a problem here.  And, if you can refinance in a couple of years, your expenses will really go down, plus you'll be building equity."

That's how mortgage brokers I have talked to think.  Could it be possible that our country is full of people like us?  People trying to do a decent job?  People who have a knack for one skill or another, who like to use that skill to help other people, and make a bit of income along the way?

The hobgoblins have pushed those people out of our imaginations even while they populate our neighborhoods.  As long as they are there we will be dividing ourselves and harming ourselves.

** Home prices topped out by around the end of 2005.  By that time, the Fed had already nearly finished pushing interest rates up.  By the end of 2006, the mortgage origination industry was already in crisis.  Check the dates on all the exposes of fraud and exotic CDO securities that supposedly were the cause of the bubble.  They all happened in 2005, 2006, 2007.  By then, our "solutions" were already at work.  Those things happened after the bust had begun.  This is like the fraudulent S&Ps of the 1980s.  This was really desperation that was the result of things which had already come to pass.  Our mistaken interpretation of the decade leading up to that as a type of fraud leads us to comingle all of these activities in our heads.  But, it was our error that led to both the bust and the desperation.

If you need further evidence that it was our error, scour the nation's op-eds today to see how many people are demanding that we loosen our grips on mortgage originations so that the family who might buy that home in Atlanta can become owners while cutting their monthly expenses in half, and compare that to how many people are calling the next housing bubble.  We are not being reasonable.  If you're not too far gone, reach up, grab the pinnacle of that tipping point, pull yourself over here with me.  We can fix this.

60 comments:

  1. I have a post on chopper drops over at Historinhas. I think there is an interesting idea that the Fed chooses to cool off the economy by throttling real estate.

    It may not be so much that the Fed "chooses" to do this, but that commercial banks primarily lend on real estate and the Fedis trying to constrain bank lending when cooling off the economy.

    Ergo, real estate get steamrollered when the Fed tightens to cool off the whole economy.

    Increasing or decreasing chopper drops would work much better.

    ReplyDelete
    Replies
    1. I think you're right about that. Housing is famously a forward indicator. Maybe it is a forward indicator of contractionary monetary policy. I believe at the same time that housing starts decline, rent inflation tends to rise going into recessions, which would corroborate your hunch.

      Delete
  2. Purely, out of curiousity, what's up with that line of outlier zipcodes sitting around 2 Price/Rent all along the bottom at every price level?

    ReplyDelete
    Replies
    1. Great question. I believe those tend to be on Long Island. I think property taxes might have something to do with it, but I'm not completely sure. In general, I'm sort of making the old error here of looking for my keys under the streetlamp. I don't talk about New York much, partly because the data seems a lot messier there, which I think may be due to the fact that they have been developing these closed access policies for so long that the entire area is a hodgepodge of discontinuous targeted policies. But it would take more local knowledge to figure it out.

      Delete
  3. The no doc loans that caused trouble were the teaser rate, no doc loans. They were very popular.

    ReplyDelete
  4. Obama are so enamored with their posh Washington, DC rental home, they've plunked down a whopping $8.1 million to purchase it. We Buy Houses

    ReplyDelete
  5. Positive site, where did u come up with the information on this posting? I'm pleased I discovered it though, ill be checking back soon to find out what additional posts you include.
    Conference 

    ReplyDelete
  6. So my dear relationship problems are actually one of the features of relationship. Though you are free to pray not to have these problems at all but my candid advice is that you should create a room for it in your heart.Relationship Advice

    ReplyDelete
  7. At the point when a join can't get over a contention, at that point possibly it isn't intended to be.
    poly dating sites

    ReplyDelete
  8. Definitely agree with the first tip because you have to make sure your home is ready before you list it in the market. Improvements are really important and staging as well will help in getting the best possible price when selling your home. After the improvements, it is also good to get a professional photographer to take photos of your home that will highlight the areas of your home and help to attract potential buyers. Awesome blog by the way and thanks for sharing.we buy houses florida

    ReplyDelete
  9. Hi, just passing by to see something very interesting and gladly I've found it here. Thank you for your wonderful article it really helped me a lot. You can also visit my site if you have time.minecraft movie

    ReplyDelete
  10. Hi,Your blog have very good information regarding the real estate, I also have some worth information regarding Property Valuation Services, I think this info will be very helpful for you.read at folkfests

    ReplyDelete
  11. Love how wonderfully every word is written with proper balance.
    the free chat

    ReplyDelete
  12. Joining 3somedatingonline.com only take a few moments. best unicorn dating site

    ReplyDelete
  13. Would you like to tackle your relationship issues? At that point look at who are your best buddies and how they have impacted your life. threesome sites

    ReplyDelete
  14. What an interesting premise, and a fascinating way to go about telling a story! I like the innovation, and it sounds as though the memoir part and the fiction part blend together effectively. Glad you enjoyed it, Hayley.private health insurance for my family

    ReplyDelete
  15. I'm really loving the template/theme of this website. It's simple, yet effective. A lot of times it's challenging to get that "perfect balance" between user friendliness and appearance. I must say that you've done a superb job with this. Also, the blog loads very fast for me on Internet explorer.millionare dating

    ReplyDelete
  16. Hi, just passing by to see something very interesting and gladly I've found it here. Thank you for your wonderful article it really helped me a lot. You can also visit my site if you have time.Lifestyles Sports

    ReplyDelete
  17. Its like you read my mind! You seem to know so much about this,like you wrote the book in it or something. I think that you could do with some pics to drive the message home a bit, but other than that, this is great blog.Elixir software development company

    ReplyDelete
  18. I have come across and believe me I have been searching out for this similar kind of post for past a week and hardly came across this. Thank you very much and will look for more postings from you.printing in burnaby

    ReplyDelete
  19. I just couldn’t leave your website prior to suggesting that I reallly enjoyed the standard information a person supply on your visitors?Is gonna be again frequently in order to check up.Actualité

    ReplyDelete
  20. I think, it is a calamity for the educator in the event that he/she doesn't hold the control in the classroom and don't deals with the class well. The educator's work in the class is to deal with each matter of the understudies and keep up the harmony in class.All Shop Biz Store

    ReplyDelete
  21. Whatsapp Gold version is also one of top notch APKs for android and iphone

    ReplyDelete
  22. I think this is an informative post and it is very useful and knowledgeable. therefore, I would like to thank you for the efforts you have made in writing this article.Leather Jackets

    ReplyDelete
  23. 20% Early booking discounts have started for luxury yacht charter Turkey.
    click here

    ReplyDelete
  24. Thanks for the detailed article on this topic. I would like to see more such awesome articles from you.

    ReplyDelete
  25. Thanks for sharing this valuable piece of information. Keep sharing more such awesome articles in the future. Goodbye!

    ReplyDelete
  26. This was an excellent article. Thank you for sharing it.

    Cut2D Pro

    ReplyDelete

  27. I hope this post is beneficial for viewers. Many thanks for the shared this informative and interesting post with us.
    ytd-downloader

    ReplyDelete
  28. Thank you for giving this rent/price relationship, this gets better with the help of the graph view.

    ReplyDelete
  29. Most of the people who have used this software around the world love works of art. This software was released 29 years ago. It is the most powerful, innovative and creative feature that professionals need. Powerful design software built for photographers and artists. This Pc Games Download crack Download crack Website my website Link Blog this link this website My website My linkis essentially designed for graphic designers. Adobe Photoshop CC is photo editing software designed for professionals and artist-designers. This software has a creative cloud service and creative tools to enhance your images. About this software, we provide information on the fact that it has many cutting-edge features and also get into learning applications with the learning panel.

    ReplyDelete
  30. Hello, Dear Thanks for sharing such great content with the US it’s really amazing content so please keep sharing. I also have something for you so please check out
    Parallel torrent

    ReplyDelete
  31. I appreciate you sharing this blog post. Really looking forward to read more. Great.
    Love Tips for Couples

    ReplyDelete
  32. Thanks for sharing great information.For more details visit: Best Paintball Barrels

    ReplyDelete
  33. Your Site is amazing. I like to visit your site again!

    ReplyDelete
  34. I thought I would leave my first comment. I don’t know what to say except that I have enjoyed reading. Nice blog, I will keep visiting this blog very often. Transfers in Israel

    ReplyDelete
  35. This application appeals to me greatly. It's incredibly simple to use. There's no need to pay extra for these features in another app. This is something I'd like to share with my friends.
    https://softhound.net/passfab-android-unlocke

    ReplyDelete
  36. https://windowsactivators.org/wondershare-video-converter-ultimate-crack/
    Free Download

    ReplyDelete
  37. Wow, incredible blog format! How lengthy have you been blogging for? you make running a blog glance easy. The full glance of your site is fantastic, as smartly the content material!..hi was just seeing if you minded a comment. i like your website and the thme you picked is super. I will be back 먹튀검증

    ReplyDelete
  38. I read this paragraph fully about the comparison of latest and previous technologies,..it’s awesome article..Quality posts is the important to be a focus for the users to pay a quick visit the site, that’s what this web page is providing. 먹튀검증사이트

    ReplyDelete
  39. Wow, incredible blog format! How lengthy have you been blogging for? you make running a blog glance easy. The full glance of your site is fantastic, as smartly the content material!..hi was just seeing if you minded a comment. i like your website and the thme you picked is super. I will be back 메이저공원

    ReplyDelete
  40. Hello I am so delighted I located your blog, I really located you by mistake, while I was watching on google for something else, Anyways I am here now and could just like to say thank for a tremendous post and a all round entertaining website. Please do keep up the great work. 가족방

    ReplyDelete
  41. I would like to thank you for the efforts you have made in writing this article. I am hoping the same best work from you in the future as well. Thanks..I will right away take hold of your rss feed as I can’t to find your email subscription link or e-newsletter service. Do you have any? Kindly permit me know so that I may subscribe. Thanks. 메이저토토

    ReplyDelete
  42. I read this article. I think You put a great deal of push to make this article. I value your work. I just idea it might be a plan to post incase any other person was having issues inquiring about yet I am somewhat uncertain in the event that I am permitted to put names and addresses on here. The site is affectionately adjusted and spared as much as date. So it ought to be, a debt of gratitude is in order for offering this to us. 파워볼놀이터

    ReplyDelete
  43. I want to to thank you for this great read!! I definitely loved every bit of it. I've got you saved as a favorite to check out new things youI’ve been surfing online more than 2 hours today, yet I never found any interesting article like yours. It is pretty worth enough for me. Personally, if all website owners and bloggers made good content as you did, the internet will be a lot more useful than ever before. 먹튀검증업체

    ReplyDelete
  44. Pretty good post. I just stumbled upon your blog and wanted to say that I have really enjoyed reading your blog posts. Any way I'll be subscribing to your feed and I hope you post again soon. Big thanks for the useful info.  This is the perfect post. It helped me a lot. If you have time, I hope you come to my site and share your opinions. Have a nice day. For this site, you will see our record, make sure to experience this information. 슬롯머신사이트

    ReplyDelete
  45. Thanks for an interesting blog. What else may I get that sort of info written in such a perfect approach? I have an undertaking that I am just now operating on, and I have been on the lookout for such info..Thank you for very usefull information..This is truly a great read for me. I have bookmarked it and I am looking forward to reading new articles. Keep up the good work!. 안전놀이터

    ReplyDelete
  46. AnyRail Serial NumberAnyRail Crack is amazing presentation creation software. With its help, you can create an interesting microclimate. You have an efficient stock of material to get the job done. GTA 5 PC Download

    ReplyDelete
  47. If you want to use a face swap app without any watermarks, Reface Pro MOD APK is your best option. Most of the apps put a watermark on your photos but with this app, there is no such thing.

    ReplyDelete
  48. How to use InstaSave to download Instagram photos and videos? · First of all, visit your Instagram app on your device or open it on browser.Instagram Reels to MP4 Converter

    ReplyDelete
  49. Amiibo Action Replay Powersaves are designed to make solo action possible PowerSaves Crack Self-assessment experiments, complete experiments on a wide range of data and information. Omnisphere Serial number except for the material that requires less effort. Sibelius License Key The reason for this is that the effect of the material in the plastic field is much less than that of the final plastic component Cleanser for African American Skin except for the material that requires less effort. 144hz Monitor Under 150

    ReplyDelete
  50. Efficient Diary Pro Download allows the user to keep track of the login information on their computer. It is a portable analog of this application. dbpoweramp free download do not need to install this software. spyhunter full download means that you can easily copy program files to your hard drive or even to portable storage devices like USB flash drives. Quicken Free Key you select the last option, the program can be run on any computer with access to it.

    ReplyDelete

  51. I am very happy to read this article. Thanks for giving us Amazing info. Fantastic post.
    Thanks For Sharing such an informative article, Im taking your feed also, Thanks.character creator 3 free download

    ReplyDelete