Transcription
Zillow just came out with a report saying that 53% of the homes listed on their website have declined in value over the last year. So, we have to ask the question, is the housing bubble starting to pop? And my answer would be yes. I'm going to reveal why I come to that conclusion in three simple fast steps.
Step number one, let's go over some key metrics here. And the keyest metric. Is that proper English? The biggest key that we're going to go over here right in step number one, the price to income ratio. This tells us that we are absolutely in a bubble. Regardless of whether or not you think prices will come down in the future or go up. And actually, before we get to this chart, let me give you a little prediction. I think that over the next two or three years we'll probably see homes come down by 30% maybe even more when you adjust for inflation. So in real terms.
So getting back to the chart we go from 1998 all the way to today's date. On the left we go from 0% up to 300%. So this is based on the Case-Shiller data. Now, this does not include new home sales or prices, which by the way, are coming down even faster than existing home sales and prices. So, this blue line represents incomes, the average income or household income in the United States. Okay, got it? Now, this red line represents home prices, existing home prices. And you'll notice back here in 2006, nobody would argue that we were not in a housing bubble. Okay? Look at the delta between the blue line and the red line. Now, what I want you to notice is that exact same spread starting in let's just say '21, '22 from the blue line and the red line. Notice how this arrow is bigger than this arrow. So if we were in a housing bubble using this metric, which I think is key, back in 2006, then we were definitely in a huge massive big fat ugly bubble right here in 2022.
Now incomes have gone up since then. Prices have started to moderate, flatten out, but more recently, like Zillow is saying, we're seeing home prices come down, and in some markets come down by double digits. Now, in a moment, I'm going to reveal even more data that backs up my conclusion that I think home prices will come down by 30% plus over the next few years, adjusted for inflation. But before we get to that point, I want to explain this a little further by going back to 2012. And editor, help me out. Let's go back before 1998. And you'll see there's a very strong correlation. They're almost tied at the hip. This blue line and the red line. In other words, incomes and home prices. And when we got to the absolute bottom in roughly August of 2012 of the last home price decline, where do you think this red line bottomed out? No surprise, right on incomes.
So moving forward, the probabilities would suggest that these lines will come closer together. So you've got two ways of doing that. Number one, you could see incomes go up. Number two, prices could come down. And based on everything else that we talk about on this channel, I think the highest probable outcome, and again, there are no certainties, only probabilities, but I think the odds favor prices coming down a lot faster than incomes go up. And it would not surprise me if we fast forward three or four years and we get right back down to this point where the red line sits right on top of the blue line. And that would represent this type of price decline. Oh, but wait, there is more. It's not just home prices that are coming down. Based on a recent report from CNBC that just came out today, by the way, we're seeing rents decline substantially as well. So, if you're a potential home buyer and you've got the option of paying rent or buying a home and rents are going down, then it makes renting more attractive. You have fewer buyers. And this is just another one of these metrics that present a headwind for the real estate market and would lead us to the conclusion that yes, in fact, the bubble has popped. But there are several other metrics such as foreclosures that we're going to get into right now.
Step number two. Now, let's dive right into it. Here's an article from CNBC. New foreclosures jump 20% in October. A sign of more distress in the housing market. Now, I know a lot of you right about now are saying, "Well, George, this isn't too big of a deal because foreclosures are still historically low." And that's very, very true. I'm going to get into that in just a moment. But it's all about the trend. So, yes, foreclosures may be historically low until they're not. It's just like credit spreads in corporate credit. You could say, "Well, my gosh, they're very, very tight leading up to 2008 until they're not." And I also want to remind everyone that home prices didn't start to come down in 2008 during the GFC. They started to come down in 2006, two years before the stuff hit the fan.
But let's get into this article. Key talking points. Foreclosure starts, which are the initial phase of the process, rose 6% for the month and were 20% higher than the year before. Completed foreclosures in the final phase were up 32% year-over-year. Florida, South Carolina, Illinois led the nation in state foreclosure filings. Now, let's go over some specific data comparing this to the Great Recession. So, they say at the peak of the GFC, more than 4% of mortgages were in foreclosure. This is according to Rick Shara, CEO of CJ Patrick and Co. real estate marketing intelligence firm. Okay. Today, less than 0.5% are in foreclosure. It's about the trend. Well below the historic average of between 1 and 1.5%. In addition, 4% of mortgages are delinquent at the peak of the financial crisis, almost 12%.
So, what I would like to do is go back, or if I was interviewing Rick, I would say, "Okay, Rick, tell me what the foreclosure rate was in 2006, in 2007." Because what you're doing is you're comparing apples to oranges here. You're taking the absolute worst, the peak of the GFC, and comparing it to today. Well, let's take the year before the GFC and compare it today. I think that would be a much better or more accurate representation of where we might be in two or three years. He says, "So, no foreclosure tsunami to worry about right now." That said, there are a few areas of concern. Delinquencies in FHA are over 11% and account for 52% of all serious delinquent loans. We're likely to see more FHA loans in foreclosure in 2026.
Now, I also want to remind everyone, editor, if you want to go back to that chart of prices going down, just more recently, these prices have been going down. Again, according to Zillow, I've got the report right here. 53% of US homes lost value in the last year, the most since 2012. And that was with foreclosures at 0.5% when historically, according to Rick, they're between 1 and 1.5%. So the point here is even with foreclosures being at historically low levels, even though the trend's going in the wrong direction, we're still seeing price declines in 53% of the homes listed on Zillow. And according to them, that's the worst since 2012. So, what happens if we go from a 0.5% foreclosure rate just up to normal at 1.5%? Well, what's that going to likely do to home prices? I don't know definitively, but it'll definitely be a headwind.
Now, let's get back to the article. Rick also noted that states where home prices have been falling while insurance premiums have been soaring, Florida, Texas in particular, are seeing an uptick in defaults. And I've been pointing it out on this channel for the last two years when all the housing bulls that said that housing prices would never go down. In fact, prices would go up forever would always point to the fact that, hey, no one's going to sell their house because they're locked into this extremely low fixed rate 30-year mortgage. So, we're never ever ever going to have more supply come online and therefore prices are just going to go to the sky. And I would always say, well, a mortgage isn't the only cost of home ownership. You've got insurance. You've got property taxes. You've got maintenance costs. So, if those costs are going up to the point where you can't afford the house, it's the exact same as the interest rate going up on your mortgage. You can't flip the bill and you've got to sell the house, which means more supply coming online. Exactly what we're starting to see right now. I'd like to remind everyone that the cost of home ownership or even renting isn't the only expense you have.
Let's get right back to the CNBC article. Consumer debt is at an all-time high and delinquencies, subprime auto, ring a bell, are rising in other types of consumer credit and the job market appears to be weak. Appears to be weakening. Yeah, that's putting it mildly. We're getting negative non-farm payrolls in terrible numbers from ADP. So you look at a declining labor market on top of everything that we're seeing, the foreclosures starting to trend higher, and even though they're historically low, prices coming down significantly, 53% of the homes coming down in value over the last year over Zillow. And it doesn't take a rocket scientist to figure out that over the next three years, there's a higher probability that home prices go down.
Oh, but wait, there is more. In the spirit of the holidays, we just had Thanksgiving. Let's go over to Lennar's website. They're a new home builder. What we've been talking about here is really focusing on existing homes, but let's check out what's happening in the new home market, which by the way, remember, if the new home prices are coming down, those are going to be competing those new homes with existing homes. So, whether the sellers like it or not, pretty soon they're going to have to go in the same direction. But let's go over to Lennar's website. This completely blew me away. When I saw it, you can see they actually had a Black Friday sale. And I actually went and looked at the offer. And for some homes, they're letting you buy them with $1 down. $1 down. Now, I'm sure there's some sort of gimmick, but look, if the housing market was rock solid and prices were going to go up forever, I don't think Lennar would be having a Black Friday sale like you'd see at Target on some t-shirts or some Hanes underwear or something like that.
But now, let's go to the listings on their website. And we've been talking about Texas a lot. Houston is really the poster child for this. So, if we just look or scroll through some of their listings, we see down $35,000 price cut, $56,000 price cut, $39,000 price cut, $43,000, $55,000, $12,000, $25,000. I mean, I could just keep going on and on and on and on here, but the main point is new home sellers are really starting to slash prices. And this is obviously going to impact existing home prices because if you're a buyer, you've got the option, do I want to buy this existing home at $400,000 or do I want to buy a brand new home that's the exact same square footage that's right across the street for $300,000? No brainer. Prices come down.
So, I know a lot of you right about now are saying to yourself, "Okay, George, I get what you're saying. I completely agree with you." But the question for me, if I'm a homeowner, is, should I sell now? And if I'm a renter or a potential buyer, is now a good time to buy? What metrics would you use to determine whether or not to buy a house right now? Or when a good time would be to buy or sell? We're going to go over that right now.
Step number three. So now let's answer the really important question. Should you buy? Should you sell? Or maybe when should you buy and when should you sell? Well, I can't give anyone personal investing advice. What I can do is tell you what I have done in the past. And I have made a lot of money in real estate as most of you know. So, it's not that I'm just a perma-bear in real estate. In fact, in 2012, this was me. I was just like Jim Cramer. Buy, buy, buy, buy, buy. Oh, for those of you who know my backstory, I actually retired at the ripe old age of 38 in 2012. And I didn't want to delegate the responsibility of my finances to a financial planner. So, I wanted to take the bull by the horn, so to speak. So, I looked around and I said, "Well, what's cheap? What's expensive?" So, I ended up turning to real estate. I'm like, "This is fantastic. I want to go in and I want to go all in head first." So, that's exactly what I did. So, I started to sell my properties that I accumulated in 2010, 2013, in 2018. I didn't sell them all at once. I started to gradually sell them. And I sold the last one right here in 2022.
So, when should you sell if you've been thinking about it? Well, all I can tell you is that I sold my last home in 2022. And you'll notice I didn't buy anymore. So, I think the best time to sell is probably yesterday. Now, when should you buy? Well, let's go right back to the rationale that I used to buy back in 2012 that served me extremely, extremely well. So, we talked about the price to income ratio earlier. This is definitely something I would focus on. So, if you're a potential buyer, and you can also do this within your own region or within your own city. So you may see that nationwide there's a big gap, but in your city it's getting pretty darn close. So I would pay much more attention to what it was doing at the local level. So the main takeaway there is if you do see these lines coming together, it looks a lot like this in your local area, then that could be a good time to buy.
But that wasn't the only metric I used in my analysis and in my decision-making process. The next one, build cost. Cost of construction. So, when I was buying back here, I bought most of the properties in Kansas City, Missouri. The cost of construction was, let's just say, roughly $120 per square foot. Well, I could go in and buy things at $50 a square foot. I mean, it's absolutely insane. So the only way there can be more supply come online in terms of just more housing units, not just people wanting to sell, is of course if the home prices go above the build cost. So this is always a great buffer to look at.
And then lastly here would be the RV ratio. So what is this? This is just the rent-to-value ratio. Got to give a big hat tip to my buddy Jason Hartman who first kind of turned me on to this idea. And this is just basically if you have a house that you pay $100,000 for, but no leverage. Just assume the price of the home is $100,000. I want to get $1,000 a month for rent. So if you're getting $1,500 a month, well, that's fantastic. That's even better. But if you can only get $500 a month for rent, I might pump the brakes on that one. And I know a lot of you right now are saying, "Well, George, I'm an owner-occupant. I'm not an investor." But it's the exact same concept for an owner-occupant. Even if I didn't intend to rent out the house, I would still be looking at this metric, this input to determine whether or not I actually want to purchase. Because if the RV ratio is extremely high, let's say 1 to 1.5% or even better, that in and of itself tells you that relative to rents, the price of that house is pretty darn low. So, if you see these two lines merge in your local area, if you can buy for under the cost of construction, and even better, if that house that you're looking at, you could rent for 1% per month gross relative to the purchase price, then that's when I would definitely consider pulling the trigger.
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