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Real estate ain’t rocket science.  It is a slave to the laws of supply and demand.  But both of those curve lines can get badly distorted.  Sadly, this is what has happened.  Developers have responded to the false demand that has been driven by “investors.” The Wall Street Journal notes:  “A survey by the Mortgage Bankers Association found that people who bought houses as investments — rather than as residents — and who played a big role in the housing boom now account for a good chunk of loan defaults.”  THIS is why we have restricted the number of investors allowed in our developments!  The writing was on the wall several years ago and the “exotic lending instruments” flourished.  Call us prudish, if you will, but we made sure our buyers could afford what they were contracting for.  Selfishly, we also didn’t like taking an enormous level of risk so that someone else could make a ton of money flipping our homes.

But the music of the carnival was too enticing, too sweet and a lot of people have been drawn in and will suffer…both buyers AND sellers.  Indicative of the craze was the story of the young family in California buying a $600,000 house on an annual salary of $93,000.  By conventional lending practices, minimum salary should have been around $150,000 and that would have been pushing it.  This same family couldn’t afford the downpayment, so they took out another loan to pay that!  Ah, meu deus, what has happened to personal responsibility?  And on the lender side, what has happened to plain old decency and the notion of telling someone “no?”

Well, where do we go from here?  Some financial experts have estimated that there’s another trillion dollars in bad debt out there.  Let me see if I can type that…$1,000,000,000,000.00  – “geez Mr. Wilson that’s a lot of zeroes!”  It is estimated that this will trickle through the system over the next 24-36 months.  My guess is the government will step in with additional mortgage insurance and potentially some bail out provisions that will transfer the burden of this excess onto the same backs that bear the responsibility for pension failure…the great broad shoulders of the tax paying American public.  As big as that number is, we will be fine, it will just take some time.

I hope lenders and developers tighten up their belts and make sure their underwriting is supported by real demand, not realtor and investor driven fairy tales…the night at the carnival has ended, morning is on the way.  Markets where the behaviour was particularly egregious like South Florida, Las Vegas and some Eastern seaboard towns will take a little longer to sort out the excess supply.  Most of the other markets around the country should be fine in a shorter period of time assuming their underlying demographics and economics are good, i.e. good job creation and healthy population growth.

Our big beefy economy will have learned another lesson and all shall be well.  Liquidity will return to normal levels, qualified borrowers will be able to get financing and realistic real estate ventures will get built.  Right now we just need to sober up a bit after a long, very happy party…hopefully the hangover won’t be too bad!