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Berkshire Hathaway
Housing: How Bad is it, Really?

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By PhoolishPhilip
February 23, 2009

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I've assembled some facts from the 1993 and 2007 American Housing Surveys by the census. Have a look and see what they imply about the current housing crisis unfolding before our eyes. The bottom line is that we may be at the beginning of a process of wiping out $6 trillion dollars worth of capital in our economy, with 75% of that loss being absorbed by the owners of mortgage debt. No wonder no one will touch the MBS market, even with the encouragement of the Fed.

Housing Analysis

  • Total housing supply increased by 19.6% from 1993-2007.
  • Owner occupancy rate increased from 64.66% to 68.34% from 1993-2007.
  • Median purchase price of a home in 1993 was $45,293.
  • Median household income in 1993 was $31,241.
  • Ratio of price to income in 1993 was 1.45.
  • Median purchase price of a home in 2007 was $100,359.
  • Median household income in 2007 was $50,233.
  • Ratio of price to income in 2007 was 2.00.
  • Median value in 1993 was $86,529.
  • Ratio of value to owner occupied income in 1993 was 2.3
  • Median value in 2007 was $191,471.
  • Ratio of value to owner occupied income in 2007 was 3.2
  • In 1993 39.3% of owner-occupied housing was owned free and clear.
  • In 2007 32.9% of owner-occupied housing was owned free and clear.
  • Owner-occupied housing was worth ~$14.5 Trillion in 2007 versus ~$5.3 Trillion in 1993.
  • The median outstanding principal on mortgages in 1993 was $48,537.
  • The ratio of outstanding principal to median value in 1993 was 56.1%.
  • The median outstanding principal on mortgages in 2007 was $100,904.
  • The ratio of outstanding principal to median value in 2007 was 52.7%.
  • Total outstanding principal in 2007 was ~ $7.6 trillion.
  • Assuming prices have fallen by 16% since Dec 2007 as suggested by Case-Shiller, then the current median value of housing in Jan 2009 is ~$160,000.
  • Using this estimate, the current ratio of outstanding principal to median owner-occupied value in 2009 is 63%.
  • Using this estimate, total owner-occupied housing market value at a median of $160,000 is $12.1 trillion.
  • If housing values regress toward the ratio of value to owner occupied income we saw in 1993, which was 2.3, then current median values could fall to ~$115,000.
  • Using this estimate, total owner-occupied housing market value at a median of $115,000 would be $8.7 trillion
  • Using this estimate, the current ratio of outstanding principal to median value in 2009 would be 87.7%.
  • If owner-occupied housing values revert to a median value of $115,000 that would mean nearly $6 trillion in housing valuation would be wiped out.

If the value of the owner-occupied housing market falls by 40%, as I have modeled above, and if the equity losses are evenly distributed between homeowner equity and creditor owned debt, then we can expect about $4.5 trillion in losses to owners of MBS and mortgages. One can see why the Federal government is reluctant to let the market work out the mortgage crisis on its own. The potentially permanent impairment of capital would be a devastating blow to the financial system. They must move to support prices in the housing market, and the only way they can do that is to halt foreclosures. Not even the Fed can fill a $4.5 trillion dollar whole in the banking system. Looking at it from this perspective, one begins to understand why Paulson so quickly abandoned TARP and embarked on a piecemeal process of providing capital support to the banks. Even the greatest advocates of free market principals are afraid to let the market work its justice upon the economy.

PhoolishPhilip