Trying to guess what a market is going to do can be dicey at best, but there are times where a bubble is pretty obvious. We were very accurate at predicting the last bubble. As a matter of fact, we actually underestimated it. Recently, the movie “The Big Short” was on. Normally, I don’t watch TV, but I seem to always stop and watch a few minutes of that when I see it on. The movie made it seem like no one saw the last crash coming. That’s not true. Many of us did. As a matter of fact, most of the other fund managers out there were in lock step. I wasn’t alone. Here are some of the main things to look for.
DEMOGRAPHICS: I remember in 2005 watching from my office window all of the construction cranes putting up condos that would be priced well above $500,000 and many above $1 million. My big question was “Who is going to buy all of these new housing units?” New housing units in the area were well outpacing the number of new jobs and new migration to the area. In other words, we were building more houses than we had families to move into them. Real estate Is not like “The Field of Dreams.” If you build it, they don’t always come. In addition to that, the new jobs that were being created were not paying incomes that would support the purchase of the price-points of the new homes. The law of supply and demand eventually takes over and you get a bubble.
REAL ESTATE PRICES AND RENTS VS INCOMES: I touched on it earlier, but the when you see the increase in housing (and rental) prices outpace the growth in incomes over a longer period of time, it’s time to worry. The same supply and demand principals start to kick in and eventually the housing costs are more than people are able and/or willing to pay. You then can get a bubble.
When you see housing and economic numbers reported, remember two things. Journalists are not economists and they tend to have a weak grasp of what is really happening. Second, the data that is being reported is old. We started a real estate sales arm of our company and it has been a blessing in that it acts as a canary in the coal mine. We see the traffic of customers wanting to buy and the sellers wanting to sell long before the numbers are reported. There might be a 3 to 6-month lag in reporting, so seeing that activity can help you shift your focus when you need to act.
It’s sometimes very difficult to have a crystal ball, but staying objective and watching indicators such as the ones I have listed above will truly help.