Evidence Investing

I think its fair to assume that most people would agree that we are not out of the woods yet, but I get the feeling that people are getting ansy... to buy at these 'cheap, cheap prices.'  Just how much lower can housing/real estate prices go??  Well, to look at that question, I would like to show a really excellent bit of research done by Ironman at his top-quality blog (PoliticalCalculations). 

We can look at housing prices related to the past to try to get a handle on this, but the problem is that there are so many factors (inflation, jobs, supply/demand, etc, etc) that it makes it a really tough multi-varient problem to figure out a housing price predictor that works half way decent...

In his post (A Better Method for Detecting Housing Bubbles), he says: 

"But what would be a better method for determining whether house prices might be in a bubble? Is there a way to detect a bubble forming in its earliest stages?

We think we've developed a better method, which is in part based upon our observations of age and income driven spending. What we found is that personal spending for housing was a very strong function of personal income.

That observation gives us an alternative way to determine how much Americans of a given income spend on housing and given the strong correlation between income and housing expenditures, we can substitute personal income in place of the measure of rent used by the federal government. We can then plot non-inflation-adjusted house prices against that personal income, which would give us insight into not just whether house prices have decoupled from the economic fundamentals supporting them, but when as well.

We did just that with median house prices and median household income in the United States since 1967.  What we find from our chart is that the U.S. housing bubble clearly began in 2000, with a distinct deviation away from the two otherwise linear trends that we observe in the data."

Look at the graph below showing a chart of this analysis for US home prices (CLICK TO ENLARGE):

And here for a similar chart using UK data:

And here it is for Australian data:

And here it is for Canadian data....BUT only up until 2006:

Now before you go on, be sure you clicked on each one to see them in their full glory...

Isn't it amazing how clear those trend lines are???  You dont see that very often in financal or economic data...

First, lets focus on the US chart:  the main thing to see is that we are still about $15,000 above the long term trend line.  Or about 7.5% above.  While it could be said that people may be used to paying more of their income for housing...I would say that that argument really doesnt hold water: if anything people living through this real estate debacle are going to be less willing to risk their money on real estate.  Now that people have seen and felt how far prices can fall, its my opinion they will be more concervative in the future.    Also, I am interested on the effects of our high unemployment on median income (obvious, isn't it?) and how this may allow for even more declines in pricing.

England shows nearly the same pattern as the US, having started the bubble at the same time. They also seem to be on a similar tragectory.   It'll be interesting to watch.

Australia: they appear to have managed this much better.  They have a much smaller bubble and, more importantly, appear to be back on track.  Good for them!.

Canada:  Incomplete data.  The way its drawn there shows a possible change in trend (due to changes in tax policy, etc, etc?) or perhaps just the upswing in the bubble phenom.   Bottom line is that we cant say yet for Canada...until we get data for 2007  through to the present.

So, what does all this mean:  In my opinion, we here in the US are still in a housing price buble with at least 7% to 10% decreases yet to come...but we may be getting close!