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Are You Acting Upon What You Believe The Economic Reality Will Be in The Next Few Years?

by Jeff Brown on July 15, 2014 · 8 comments

  
Are You Acting Upon What You Believe The Economic Reality Will Be in The Next Few Years?

Most of us, including me, have been caught by differing degrees of surprise by past economic transitions, both good and bad.

Allow me to recount the good, bad, and the ugly I’ve experienced, firsthand. I began learning about the brokerage side of real estate back in the summer of 1967. ‘Classes’ were conducted on the job — I was the company janitor for all six offices of Dad’s operation — and at the dinner table.

Licensed just a couple months past my 18th birthday, I was less than ignorant about the economy. In fact, that’s being epically kind, as I look back. You remember being 18 don’t ya? In our heads at that age we know everything while actually knowing so little we’re dangerous.

An example is how clueless I was about the economy on my first day as an agent. Two months after I started, the recession began. I was a full time college student then, carrying 15 units a semester. Did my best working very few hours during weekdays, and full days on weekends. Recession was a concept completely foreign to me.

For almost three full years the economy was ‘normal’ whatever that meant back then. The only thing I noticed, now an experienced man of 21, was that there was less agent turnover, and more business being done. Then for about a year and a half or so, a real recession hit, much more pronounced than ’69. 9% unemployment along with a 3%+ drop in the GDP. A lotta agents flew the coop. In February of 1974 I went full time as a house agent. It wasn’t ’til the Spring of ’75 that we officially emerged from my initial hands on experience with a serious recession. Boy, did things change after that. :)

The first Bubble that Wasn’t

The SoCal real estate market took off like the finale at a July 4th fireworks show.

From roughly the summer of ’75 through almost the end of ’79, home prices acted as if there was no known ceiling. In fact, I remember selling the last listing ever in my house ‘farm’ in the late spring of ’76. It sold for somewhere in the mid $30,000 range. I’ll never forget reading the local paper’s headline just five years later, screamin’ that the median price of a San Diego home had reached $100,000. The world as we knew it was surely over. More on that later.

We literally didn’t know how to act during that first incredible multiyear rise in values. We’d never heard of, much less seen multiple offers before. I personally heard of two fistfights in the driveways of listings between agents. Highly experienced agents/brokers began to voice the thinkin’ that this will fall back to the norm.

Though the bubble word was never invoked, it became accepted that the demand simply couldn’t be maintained, and that prices would eventually crash. We now know that in the long run, that school of thought couldn’t have possibly been more off the mark.

Bring in the Recession of the Early 80s

For the first time in my abbreviated experience, I had been told firsthand by mentors holding my highest regard, that this recession was inevitable.

Related: Is Your Real Estate Business Ready for Another Recession?

They’d acted on it well in advance themselves by way of exiting the market back in ’79. By the end of that year I’d been the owner/broker and principal partner in a real estate investment firm with Dad for just short of three years. Though he didn’t know when it’d start, he did tell me to prepare for some rough sledding, as the inflation and rising unemployment would eventually have their way.

And boy was he ever right about that. He’d told me this, I think, about Christmas time the year we opened the firm, 1977. Since nothin’ even remotely negative happened the following 18 months, I assumed he was the old man yellin’ at the kids to get off the lawn. :)

I think it was October of ’79 the piper was demanding payment — and in full. Interest rates had hit the highest I’d seen ‘em in the decade I’d been working. Double digit high. Inflation was headed towards a high of around 14%. Prime rate went racing past 20%. It became mind numbingly real for me when a buddy of mine on the house side told me that FHA rates had reach 16.5%!!

It was at that point I really began listening to Dad in earnest. Holy crap on a cracker.

At a family gathering a few years later, he said to expect a new round of price increases. No way was my response. You know, cuz I was so wise and experienced, what with my 10 whole years of experience full time, just eight of ‘em in investments. Dad offered a couple reasons driving his prediction.

First — The Fed’s policy of tough love was working. Combined with the huge infusion of capital resulting from the tax reforms of a couple years earlier, the economy was visibly responding in a measurably positive way. Falling interest rates had all of us doin’ the HappyDance.

Second — The population growth of SoCal, San Diego specifically, on a net/net basis was off the charts. Coming out of a horrible recession and the resultant lack of home starts for so many years, the massive increase in demand, he reasoned, would light a fire under real estate values.

Again, he hit it on the head, dead center. Beginning in late ’84 we began to see signs of a recovery. By ’85 it was reality. By ’86 we were back in the middle of holy crap on a cracker.

This fun ride lasted through ’90, give or take, at which time the S&L Crisis had gained a momentum of its own. Though visible in the mid 80s, it didn’t get to mushroom cloud status ’til around ’91 or so. From that point it was on in a major way.

Thing is, Dad and a few of his buddies/my mentors had told me point blank that a monster reckoning was in the cards, though they knew not when. They also predicted the slaughter of home buyers who’d taken properties ‘subject to’, a practice that’d become widely popular in the mid 70s and on into the ’81 recession. That’s a whole different discussion.

However, I will go on record here, today, saying that the next time lenders go after those who stealthily took over their loans at relatively low interest rates, it could make the first such massacre appear to be a dress rehearsal. Hope I’m dead wrong on that one.

The Takeaway

There are many who, after the fact have declared themselves to have known about various future market transitions, both good and bad. Few however, have I noticed to have actually acted on them in a big way with, you know, money. :)

Related: Predictions for the 2014 Housing Market?

Predicting the economic future, at least while tryin’ to be somewhat specific, is a very tough task. We can paint with a broad brush, but when it matters what we do BASED on those predictions, the Firestones tend to hit the asphalt, and the talkers tend to fade away.

Frankly, for reasons I’ll lay out next week, I think we have a decent chance of remaining on the current course ’til roughly the end of ’16. I also suspect that beginning around the holiday season next year, we’ll begin to see inventory begin shrinking.

‘Course that, and a 10 dollar bill will get us both some coffee and a cookie, right? ;) Many of us can agree on what we might think is the inevitable. The serious conversation revolves around the timing. Can we all belt out a Captain Obvious Duh?!

If I’m anywhere near accurate, ’17 could be the beginning of exciting times.

When do you think the peak of the current market cycle will be?

Be sure to leave your comments below!

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{ 8 comments… read them below or add one }

ilhan July 15, 2014 at 4:22 pm

WOW! what a great article. It is like you were speaking from wisdome and experience.
enjoyed reading.

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Joseph Thomas July 15, 2014 at 8:23 pm

Very informative. Thanks for putting it together.

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Joseph Thomas July 15, 2014 at 8:32 pm

Thanks for the great insight and history.

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Leonard @ The Wallet Doctor July 15, 2014 at 9:45 pm

I’m pretty hesitant to make big predictions on the market. Certainly we have to make some guesses about the nature of things, but assuming massive changes, either good or bad, will take place is hard. Even if you intellectually anticipate something like that occurring, placing your money on it is quite different.

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Eric July 16, 2014 at 5:39 am

For the foreseeable future, the stock market is the place to be. It doesn’t mean that RE is dead, just not as lively as it once was in terms of price appreciation.

A few reasons why.

The stock market moves most, with the least people on board. The retail investor has largely avoided the market since the crash. They are returning as it’s hard not to see a 30% gain from 2013 and wish you were there.

There is no place else to put money. Real Estate is getting priced out of the investor’s pocketbook, and prices will begin to stagnate as more housing inventory that was formally underwater comes above water and gets on the market. Less distressed sellers means less deals.

As interest rates and taxes rise, housing prices will fall. Housing prices are a function of a monthly payment; all these expenses take away from the payment.

Average household wages are going down, not up. These also impact housing prices.

Interest rates are low today, and will continue to be low. The Government cannot afford higher rates any more than the housing market.

Companies are having trouble meeting earnings numbers, yet they have a lot of cash. There are a lot of stock buybacks going on. These buybacks increase earnings per share and keep stock prices high. Many CEOS and corporate board members will increase their wealth with a buyback. They are also the ones making the buyback decisions.

Lower priced homes, and rentals, will be where most of the demand is. Much of the increasing demographics say it there will be more low wage earners, not decent union scale jobs. Of course, a simple piece of legislation could change that, like a $15+ per hour minimum wage, or requiring unionization.

If wages go up, or more lending happens (by relaxing standards or increasing loan terms), it will be great for price appreciation.

Of course, I could be wrong…

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GGG July 17, 2014 at 11:01 am

Interesting what you say Eric. In my personal experience the market is oversaturated with average Joe stock market investors and day traders. Mainly it seems due to economy of scale and comfort level. Real estate scares most people. It takes real amounts of money to have a significant stake in RE which most people don’t have. The everyday guy who wants to make a few bucks has an eTrade account or something and is jumping in and out of the market frequently with a couple thousand bucks. I walk around my office and half of the people are monitoring their stocks on their phones. Personally I wouldn’t touch the stock market right now unless you’ve been in for awhile and have sold off some or your position. It’s simply due to taking advantage of multiples. Buying in at DJ at 8000 is a good bet on the turnaround because a 50% increase can be had in a short time. Playing with stocks now with substantial amounts of your personal wealth is a dangerous game. Market is at record level highs, how much more can be gained and at what risk? It’s all about risk and reward and most of the reward has already been had. Where else to put the money then? Cash flowing real estate I think while holding ample supplies of cash. There are not always good times to buy into things and I think that is alright. Be patient, let your tenants pay down your mortgage, make some repairs/improvements, think about what you’d have done differently the last few years, hoard cash, and have faith in the RE cycle. I’m no expert but it makes sense to me.

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AP July 17, 2014 at 3:57 pm

Interesting read, thanks for sharing. Have to extrapolate all the info before I can post something knowledgeable but working on it!! :)

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Alan Mackenthun July 21, 2014 at 3:38 pm

Interesting perspective. I’m not that old, but old enough to have seen a few cycles. My wife and I first started seriously looking for investment RE in the early-mid 2000’s, but it just didn’t seem like anything would cash flow. It didn’t make any sense and we stayed put. When prices crashed we saw deals and took the plunge. It’s worked out well. Here in Minnesota, the market has largely recovered and it’s tough to find decent deals anymore. We’re pulling back and holding onto what we got, but still looking. The market’s not frothy yet, but if it keeps up the way it’s going it won’t take long. On the other hand, I’ve watched the stock market longer and more closely. I longer I do, the less I trust it. Movements are much more arbitrary and unpredictable. We’ve still got 401k’s etc in the market and the run up the last couple years has been good, but at some point, interest rates will tick up and it will go away faster than it came. Meanwhile, my rentals will keep generating cash month after month.

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