The Real Estate Bubble Part 2 — The Present
The 21st century began modestly enough. But in the early 2000s things began to change. The real estate market had settled to a degree of normalcy from the early 1990s wherein a loan for real estate was based on the buyer’s ability to pay and, as homebuyers achieved a higher degree of economic stability and income they were able to step up in a modest fashion to a newer or new house. Real estate appreciation was modest and generally was not a factor in the buying decision.
But within the first few years of this new decade a new phenomenon began. Californians and indeed, Americans, among many others in the world at this time were accustomed to “owning” things far in advance of when they could be afforded. With the advent of credit there was no need to wait to purchase a desired item. In the preceding 50 years people no longer “owned” much of anything. There were loans for cars, loans for furniture, loans to pay other loans and then, easy credit to obtain credit cards. Credit cards began to be used to pay for everyday living expenses such as food and auto expenses, and many people who previously could not qualify for a credit card were nonetheless given credit cards. Credit became a means for living, and financial institutions were poised for record profits. All at the expense of the consumer who was paying outrageous interest rates on this credit card debt, frequently approaching 25% or more. Trouble was on the horizon.
Also early in the decade, creative home loans with extreme deviation from the norm were introduced to the market. Low money down and no money down, stated income, adjustable rate, teaser rate, 125% value, piggyback; the list of loans goes on and on. It seemed that every conceivable trick that could be used to qualify a buyer or a property to complete the sale was considered and then utilized. Each time a new door was opened to a previously unqualified buyer there was a house that could be sold and every house that was sold created money for the seller to buy yet a more expensive house. Additionally, there was always money to buy more “stuff” and pay down credit cards.
But we must talk here about credit cards. As stated above in the years approaching this present-day situation consumers changed their buying habits relative to credit cards. Debit cards were introduced to even those who couldn’t afford the easy-credit credit cards. Credit cards were used more and more for living expenses. Bankruptcy laws were changed so that credit card debt could not be dismissed in a bankruptcy filing which opened up even more clients for the eager and greedy financial institutions. During the early 2000s it became commonplace in many households to expand their buying practices with the increased availability of home-equity loans which granted credit lines based upon expected appreciation of home values. Another cycle began wherein a homeowner exposed to easy credit bought “stuff” (boats, motorcycles, cars, furniture, etc.), charged up some living expenses, paid minimum payments for a year or two, and then refinanced their house to pull out enough equity (usually the maximum they could get which was usually more than they should have had) to pay off their credit card debt and even have a little money to upgrade their house and buy more “stuff”. And then a year or two later they could sell their home, repeat the cycle and buy a new home with very little down payment and an incredibly low interest rate, which would qualify them for an even higher priced home than they could normally afford. This was terrific news for the economy and for all businesses from furniture stores to real estate agents, from swimming pool contractors to loan companies, and almost everybody in between.
New housing tracts sprang up everywhere. There was a mad rush to build houses and with every new housing tract came a shopping center, then office buildings and big-box department stores and shopping malls. More small businesses were needed to service the households and they sprang up everywhere. Retail, industrial and commercial space was being built at a tremendous pace. In a short period of time there was a tremendous explosion of personal wealth and net worth, based largely on homeownership and the equity therein. However, this increase was not really in cash and cash equivalents but in assets of property, both real and personal. In effect, the average homeowner owned lots of toys and “stuff” and had lots of credit card debt which continued to accumulate. But the worries were few as all that was needed was a simple home loan refinance wherein all these debts could once again be paid to be charged up another day.
Continuing on, the many California families now lived in houses far more expensive than they could afford, drove new cars, had new furniture and other “stuff” and were living the good life, at least by all outward appearances. But in fact they lived hand to mouth and had loans on most of their assets. And many of the loans had “teaser rates” that started out with low interest (the interest used to qualify them for their overpriced home) and was due to increase in one or two years. Others had high interest 2nd TD loans or loans with adjustable rates that would also increase in the future. Further still, most had incredibly high credit card debt at incredibly high interest rates.
It should be noted that during these years of incredible economic growth and real estate appreciation there began to be questions from individuals as to the reality behind the growth. Personal incomes could not support the loans necessary to purchase a median priced home in California. In fact, without the continuation of the expected appreciation and the funny loans the growth was impossible. Debates began over whether these economic circumstances were reality or just a bubble that was getting bigger and bigger. The talking heads, most of which were making incredible profits (realtors, loan companies, investment firms, banks and other financial institutions) insisted that the cycle would continue indefinitely. They denied the existence of a bubble and refused to even acknowledge the possibility. Their adversaries however, told a different story but were largely ignored.
In 2004-2005 this debate became more pronounced as different areas of California began to experience a stagnation and even depreciation in real estate values. Also around this time foreclosure news became more pronounced. But data continued to be released which showed moderate increases in values and unit sales which bolstered the claims of the talking heads, claims that there were no problems. Finally, in 2006 there was a general acceptance that the market was flat. But ridiculous smoke and mirror loans continued to be touted and the talking heads were happy to wait this out the few months they told everyone the flat market would continue. But they assured everyone that things would continue as before soon.
2006 brought continued bad news as housing inventory increased and sales decreased. New home sales all but stopped. Builders offered free swimming pools and other tremendous incentives such as landscaping packages and furnishings to try to move inventory. New home tracts were opened to outside real estate agent salespeople who could earn commissions by selling within the new home tract. In short, the new home market all but crashed around this time. And along with it, many commercial projects that were early in their existence.
Also in 2005-2006 the sale of existing single-family residences experienced a severe slow down. Decreasing home prices and slower home sales began to have an affect on the market. People weren’t buying the newer houses; they weren’t able to sell their older houses. Foreclosure filings were increasing and there was increased talk about the effect of the adjustable rate mortgages increasing from their “teaser rates” in the near future. The public began to understand there really were problems. And yet the talking heads continued the spin to convince everyone that this was simply a sideways market or at the worst, we were at the end of problem times and the good times would begin again soon.
2007 ushered in some harsh realities. People began to walk away from contracts to purchase new homes and condominiums. New home sales vanished. Existing home sales were few and far between and many realtors were not even accepting new listings. Real estate related enterprises were beginning to shut down offices and foreclosure activity was in record territory. The public was convinced there was a problem and the talking heads were getting harder to find, although many continued to defend the industry and its practices. The talk changed from whether there was a bubble to how big the bubble was and if it could pop.
Subprime mortgage news became the topic and lending practices in general began to be scrutinized. While loans for real estate purchase were still available it became increasingly more difficult to find money for all but the most credit worthy buyers. This further debilitated the crippled real state market. Now there was a discussion as to whether there was actually an economic basis to all this equity activity in the real state market or whether this was simply a house of cards that would soon come apart. Again there was extensive arguing from both sides.
