Book: The coming crash in the housing market, John R. Talbott

Luca Bolognese - Jul 2004

My wife and I are planning to move somewhere where you can walk to shops and restaurants. We were thinking about selling or renting our current suburbia home. So, as usual, I picked up a bunch of books from the local library. This is one of them. Amazon reviews are here.

My opinion on the book

The author did a good job of providing numeric evidence of the possibility of a real estate bubble. What I didn’t like is that he didn’t provide a logical framework to evaluate residential real estate. I was expecting some sort of DCF model that uses rent as the free cash ﬂow. Instead he cites Median house/Median Income and some other contingent evidence to prove his point. It is like a book on stock evaluation that just uses historical P/E as a measure. He also fail to present similar situations that resulted in a crisis. Quite disappointing in that regard

How it relates to my choice of sell or rent

I created my own excel spreadsheet to look at the two different scenarios (if you are interested I can share). It looks like renting is the loosing one. We gain more by selling and investing the equity in a conservative way. The book made me take a hard look at our local real estate market: the ratio Median House/Median Income is about 4.3 (above 3 is bad). Rents are low and house prices have been growing like crazy. This makes me think to buy a small condo, or even to rent for a while. We haven’t really decided yet.

Book summary

1. House prices are high while everything else is low: rents, economy, stocks Yes, there are bigger houses now and rates are low (but won’t stay low forever)

2. Mortgage takes more and more of the average salary, foreclosures and personal bankruptcies are at record high. People is more and more leveraged

3. The house market is far away from an ideal market. A bunch of lenders really make the prices. Bubble can easily create in inefﬁcient markets

4. People think houses can just go up: same mindset as the internet bubble

5. House prices have been growing like crazy. The fast growers of the past are the fastest growers now: it is like momentum in stocks

6. Many of the previous crashes were based on leverage and some kind of Ponzi scheme

7. It will start if rates goes up (people can afford less), if they go down (the economy will be very weak), banks become less aggressive in lending, congress reduces tax beneﬁts

8. Under a worst case scenario Fannie Mae and Freddie Mac ($3 trillion of very leveraged and derivative invested money) stumble and then it may be a worldwide depression as banks credibility goes down

9. What you can do: decrease your exposure to real estate (rent, downsize or move to cheaper area), be less leveraged, hedge your real estate exposure by not buying real estate cyclical stocks

Comments

Korby Parnell

2004-07-28T09:10:00Z

Unless you require a water view, downtown Redmond sounds like it might be a good ﬁt for you. The downtown area (which includes lower Education hill) is very walkable, has a great mix of services and relatively affordable single-family homes, condominiums, townhouses (ie, Rivertrail), and nicer apartments. Enjoy the hunt!

Luca Bolognese

2004-07-28T09:18:00Z

We thought about it (Seattle is to commute heavy). I personally prefer Kirkland. We have been in Redmond after six and there is nonone in the streets. Kirkland on the other end is full of life to the wee hours (plus the lake is nice to walk by). Harder to ﬁnd value though.