Crystal Ball Finance: Playing The Housing-market Bubble

By: Professor J

Chances are that in many of your recent conversations with friends and co-workers regarding real estate prices, the word "bubble" has been used. With the affordability of houses blown out of the stratosphere (especially in metropolitan markets), scores of people are trying to stockpile cash in order to prepare for the next housing crash.

While almost all Americans are convinced of the inevitable impending fall of housing prices, how do you know when to pull the trigger? What if you buy at a depressed price and the prices continue to fall? This article will present a few issues to consider when playing the housing bubble. An informed buyer is a good buyer.

The population of bubble-campers, those who are ready to pounce on the real-estate market once the bubble pricks, is steadily increasing. These people are cashing in on whatever real-estate they own (if they own any) and are renting, waiting for the day they can laugh at those who held onto their overpriced abodes. Waiting for the softening of the housing markets, they are accumulating cash and counting on the forecasts of housing market prices by Wall Street pundits to ring true.

With housing sales already slowing down, bubble-campers are already beginning to pat themselves on the back. Even builder Toll Brothers has announced officially that sales are expected to decline substantially this year. In the hottest real estate markets across the nation, foreclosures and delinquent payments have arisen dramatically.

This makes a housing crash inevitable right? Not necessarily. With professional investors and other bubble-campers on the sidelines, these newly available properties could see their prices supported. Professionals search for cash-flow opportunities and, since housing prices have already depressed this year, could find today's prices a good deal. Entry of professional investors is bad for bubble-campers; widespread purchase of property will act as a tourniquet to the continued downfall of housing prices. Bubble-campers who follow what professionals are doing and are sick of renting will also recognize this and could follow suit.

On the bubble-campers side, however, history has proven that inflated housing markets do usually come down to earth. Take Los Angeles for example. The last decade (1996-2006) has seen tremendous growth in the housing market. This has not always been so; an average house purchased in Los Angeles dropped, in nominal terms, 21% between 1990 and 1996. Factoring in inflation, the percentage decline was really a bit below 34%.

Another encouraging factor for bubble-campers is that current housing prices are not declining sharply due to sellers holding steady. Since sales volume has decreased dramatically and prices have decreased only slightly, many brokerages, forecasters and analysts believe that buyers are negotiating more but sellers are refusing to settle. This causes houses to stay on the market longer. Since this refusal to sell is unsustainable, we will likely see sellers begin revising their prices downward en masse.

Obviously, timing the market is almost impossible. Short-term market timing can cause bubble-campers to get burned by housing price fluctuations. If a buyer holds long-term, however, he will find that long-term prices smooth out any dramatic price shifts. Real estate pundits forecast housing prices to go down, but nobody really knows the real-estate price magic sauce; it is dependent on behavioral finance, behavioral psychology, and macroeconomic policy. The most anybody can do is to read as much as possible on the subject and hopefully when it comes time to pull the trigger and buy real-estate, they will be more informed and make a more knowledgeable and financially sound decision.

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