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Real Estate
Business Ethics
Real Estate and Consumption
• Increasing real estate prices has made
increasing consumption possible
Magnitude
• The Economist,
– the total value of residential property
in developed economies rose by more
than $30 trillion over the past five
years, to over $70 trillion
– an increase equivalent to 100% of
those countries' combined GDPs.
Magnitude
larger than
– the global stock market bubble in
the late 1990s (an increase over five
years of 80% of GDP) or
– America's stock market bubble in the
late 1920s (55% of GDP).
– In other words, it looks like the
biggest bubble in history.
Causes
• historically low interest rates have
encouraged home buyers to
borrow more money
• households have lost faith in
equities after stock markets
plunged
Bubble
• Michael Mandel at Business Week
– Residential investment is absorbing a staggering
5.8% of gross domestic product.
– That’s the highest level since the late 1940s and
early ‘50s, when an entire generation of returning
soldiers was setting up families and expanding
into newly built suburbs.
– This time, Americans are building second homes
and enlarging current ones at a record pace.
Bubble
• Measured by the increase in its share of
GDP, the housing boom so far is 40%
larger than tech
Current Situation
• Housing affordability nationwide has dropped to a
13-year low
• The household debt-service ratio has soared to a
record high.
• Over one-third of all homeowners devote more
than 30% of their incomes to monthly mortgage
payments.
• Twelve percent of homeowners devote over half
of their incomes.
Current Situation
• Sub-prime borrowers accounted for 28% of all
new mortgage lending in the past six months, vs.
5% five years ago.
• In the first half of 2005, two-thirds of homebuyers
financed more than 80% of their purchase.
• 17% of homeowners have a loan-to-value ratio
(LTV) of 95% or more, versus only 3% one
decade ago. (That means that 17% own less than
5% of their home's value free, and clear).
• About 42% of first-time buyers made NO downpayment on their home purchases in 2004.
Current Situation
• Nearly 20% of ALL American
home-owners would see their home
equity wiped out entirely by a mere 5%
decline in home prices.
ARMs
• ARMs are typically initially made at a lower rate
and then increase after a fixed period of time,
usually one, three, five, seven or 10 years.
• This fall the adjustable-rate mortgages (ARMs)
that millions of Americans took out during the
recent housing boom will be reset
• Many homeowners will see their monthly
mortgage payments shoot up by as much as 20%.
ARMs
• According to the Mortgage Bankers Association,
of all mortgages financed in 2005, 36% were
ARMs -- the highest ever.
• Between $400 billion and $500 billion in ARMs
are due to be reset by the end of 2006.
• Next year more than $1.5 trillion will be reset.
• Year-to-date, there has been a 39% increase in
foreclosures over last year.
Current Situation
• The Enrons of the bust phase will be the
firms now pedaling
– adjustable-rate,
– no-interest/nothing-down
– assorted other types of “sub-prime”
mortgages.
Current Situation
• At Countrywide Financial, the largest
mortgage lender in the U.S., the
principal value of negative amortization
loans rose almost 100 times, from a
value of $33 million at the end of 2004
to $2.9 billion on June 30.
Real Estate Bubbles= More Debt
• Twofold borrowing by household owners
is needed:
– FIRST, to boost housing prices
– SECOND, to withdraw equity
Real Estate Bubbles= More Debt
• they heavily entangle banks and the
whole financial system as lenders
– property bubbles have historically been the
regular main causes of major financial
crises
– Japan’s property deflation has continued
for 13 years now
Consequences
• Yale economist Robert Shiller predicts a
25% drop in residential property prices.
• The Economist hints at a worldwide
recession when the air goes out of the
real estate market.
Consequences
• Yale economist Robert Shiller predicts a
25% drop in residential property prices.
• The Economist hints at a worldwide
recession when the air goes out of the
real estate market.
Consequences
• Since the end of 2001, housing-related
industries have produced a whopping
43% of the nation's total net private
sector employment growth.
• Any slackening of real estate activity
would slow employment growth in the
industry.
• These ferocious excesses of the
housing bubble
– soaring prices
– shriveling home equity
– vanishing affordability
– idiotic lending practices
Policy-Fairness
• Should the large lenders be bailed out?
• Will the million of homeowners be bailed
out?