Interview with Dr. Housing Bubble: “You shouldn’t take on a mortgage that is 3 times your annual household income.”

Today we bring you an interview with Dr. Housing Bubble, whose blog promises to take a critical look at the policies that have created one of the largest asset bubbles ever known to mankind and whose mission is to provide a candid account of what is going on in today’s housing market. Below, Dr. Housing Bubble expounds upon the housing bust and the potential for recovery.

Mortgage Calculator: I’d like to begin by asking you about your background. What made you decide to join the ranks of housing watchers? How would you summarize your approach to the (current) housing market, and how has your background informed this approach? 

I’ve been actively following the real estate market for over a decade.  As an owner of investment property, I also have an idea of the changes that have gone on in the real estate industry through personal experience.  The blog started during the exponential growth of the housing bubble and at the time, there were only a handful of so-called “housing bubble blogs” and the rest were championing and justifying the sky high home prices.  My current approach to housing is how I approach all investment properties; look at value and local data based on jobs and incomes.  Home prices should have a connection to the local economy.  This hasn’t changed in the nearly half decade that the blog has been following the housing market.   

Mortgage Calculator: It seems both the housing bubble and its bursting have been characterized by important regional disparities, so it’s not really meaningful to make generalizations on a national basis. Do you think that the recovery, whenever it cements itself, will also adhere to this pattern? Do you think that based on your familiarity with Southern California, any meaningful extrapolations can be made? 

You have to look at local area economies and household incomes.  Some areas seem to have more sensible metrics but many big metro areas like Southern California are still largely in housing bubbles even after steep price corrections.  It is no accident that the states with the deepest recessions (i.e., California, Florida, Nevada, etc) also had the biggest housing bubbles.  Will housing recoveries follow a pattern?  That is doubtful.  Some states will have tougher times solidifying an economy strong enough to support growing home prices.  The choice for many areas is to grow incomes to justify current prices or dropping home prices to meet the new financial reality.             

Mortgage Calculator: You have suggested that housing prices will continue to fall. Is this based on the forecasting tools available on your website, other experts, or your own intuition? 

There is no data on a national housing bubble because we have never been in a national housing bubble, until now.  We’ve had regional bubbles like Florida in the 1920s or California in the late 1980s but nothing to the level we now have.  For most of the history on housing, the gold standard was the 30 year fixed mortgage.  That seemed to work well.  Housing appeared to be stable when households took on a mortgage no more than 3 times their annual household income.  But in the last decade, the amount of toxic mortgages broke out of this metric and led us down into the housing bubble.  We are now reverting back to that price point but it will be long and painful.  No need for intuition here, anyone with an understanding of math can understand that someone making $50,000 cannot afford a $500,000 home.  This goes for someone making $150,000 thinking they can afford a $1 million mortgage.    

Mortgage Calculator: On a related note, you wrote recently that “falling home prices will be good for the economy.” One of the cornerstones of your argument is that the faster home prices reach equilibrium, the faster the economy can normalize/recover. Can you elaborate?  

Of course.  So much money is dedicated to servicing debt which only goes to the bottom line of banks.  If mortgage debt is reduced, new households will have more disposable income to spend on goods in the real economy.  Right now we are in this pretend game where banks don’t want to realize the changes from the bubble popping.  That is why after 3 years of trying to keep home prices propped up the economy is still in a deep mess.   

Mortgage Calculator: What do you think it will take for people to accept the notion that home prices don’t appreciate much faster than the rate of inflation, over a long-term period of time? 

I think we already got that event.  It took an epic housing bubble with massive debt that brought the world to its knees.  Too bad it had to be such a mega event for people to realize this.  Home prices should track household incomes.   

Mortgage Calculator: Can you explain why “Notice of defaults are declining while actual foreclosures are increasing?” Is this connected to the so-called “shadow inventory” of properties, and what are the implications for the housing market? 

Yes.  It is up to banks to file notice of defaults (NODs) and they are lagging when it comes to this game.  With mark to market frozen, they feel it is better to hold off troubled inventory instead of bringing more properties to market.  By doing this, they keep prices artificially high at a time when Americans can only afford cheaper homes.  This is all artificial and the fact that banks can suspend accounting regulations is incredible.  The shadow inventory is enormous but the quicker we can clear the market out the better it will be for the economy.  Right now too much time is being distracted by banks to keep home prices propped up when we should be focusing on creating good paying middle class jobs.  Ironically having a healthy economy will support home prices as an after effect.    

Mortgage Calculator: You have reported that a disproportionate number of foreclosures are in FHA loans. In light of this, don’t you find it ironic that the FHA now originates an ever-increasing share of new mortgages? Do you think that FHA loans represent a good choice for borrowers?  

FHA has taken a large part of the mortgage market now that toxic loans have no demand on Wall Street.  It is stunning that people can get an FHA insured loan with only 3.5 percent down.  FHA insured loans were never intended to be a big part of the market.  They now account for roughly 40 percent of all originated loans.  Given the weak economy, it should be no surprise that FHA insured loan defaults are growing exponentially.    

 Mortgage Calculator: How would you reconcile government and seller incentives and low interest rates with the possibility that home prices could fall further, when advising someone thinking about buying their first home? Would you advise them to buy, wait for a while, or wait forever? 

In certain high priced areas there is no reason to buy right now.  We already have seen that a government cannot put a price floor on home prices.  The economy is weak and people can only afford a certain amount of home.  Trying to keep prices artificially high with tax breaks, lower mortgage rates, and freezing mark to market only shifts wealth to the banks and the housing sector at the expense of everyone else.  I am a firm believer that you shouldn’t take on a mortgage that is 3 times your annual household income.  This applies for most households in the U.S.  Now if you are making $5 million a year then maybe that rule doesn’t apply to you and you can buy whatever you like but then again, how many folks are in that bracket?