Transcript The Galveston Housing Bubble

The Galveston
Housing Bubble
Prepared for
the Galveston Planning Commision
08 January 2008
By David Stanowski
TheFinancialHelpCenter.com
The basic questions:
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Why are there such divergent opinions
about the Galveston real estate market?
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How can developers have such grand
plans for new projects, when others see
problems with new developments?
The differences of opinion:
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Developers are forecasting that current conditions
are going to continue into the future with little
change.
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Market historians are forecasting that current
conditions are going to change dramatically.
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The no-change scenario is always more
acceptable, and easier to envision.
Idealized graph of several market cycles
Many developers see this future
Developer’s general economic and
demographic arguments
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The U.S. economy is doing well.
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There are a lot of affluent people in nearby cities that have
the money and desire to own a second home on The Island.
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Millions of Baby Boomers are retiring; they have a lot of
money; and many want to live on the beach.
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Building vacation homes is good for the Galveston economy.
Market historians see this future
They recall the 1980’s in Galveston
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Large-scale development planned on East Beach.
Including a Golf course surrounding the Lagoon.
J.R. McConnell over reached.
Market historian’s general economic
and demographic arguments
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Source: MeasuringWorth.com
Median HH Income adjusted with CPI
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Source: CensusBureau.gov
Source: MeasuringWorth.com
Median HH Income adjusted with gold
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Source: CensusBureau.gov
Source: Barchart.com
Job growth during the four major post
WWII business cycles has declined
Beginning Date
April 1960
July 1981
July 1990
March 2001
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Source: Economic Policy Institute
Overall Job Growth
18.3%
13.2%
10.4%
4.3%
Many people have responded to these
conditions by becoming speculators
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Americans are spending every dollar they make.
Borrowing more to supplement their lifestyle.
Speculating to try to “get ahead”.
Now borrowing money (leverage) for speculation.
A great deal of this leveraged speculation, since
2002, has ended up in the real estate market.
Exotic mortgages and resets
Leverage has ramped up everywhere
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Residential & commercial real estate, hedge funds, private equity, M&A.
$400 Trillion of off-exchange derivatives that must be unwound.
$600 Trillion of on-exchange derivatives.
In comparison, the U.S. GDP is about $13 Trillion.
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Source: The Bank for International Settlements
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Savings rate has turned negative
Households: liabilities exceed cash
Homebuilders are very pessimistic
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Source: National Association of Home Builders
Philadelphia Housing Sector Index:
Investors are bearish on homebuilders
Has home building been good for the
Galveston economy?
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2005 Median Household Income:
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Galveston $30,500
Texas $42,139
U.S. $46,242
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Galveston economy
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The population peaked about 1980
The number of jobs peaked in 1995
Per Capita Retail Sales are 36% below
those for the State of Texas
Summary of the two positions:
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The real estate cycle has been repealed; it’s
onward and upward from here.
Many people WANT TO own a beach house or
condo.
The cycle is at or near a top; prices and sales
should be heading lower.
Few people can afford a second home; or get the
financing.
What is a bubble?
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When prices move far beyond established
levels of value, a market is in a bubble or
mania.
Bubbles are rare.
Few people are aware of past bubbles.
Even fewer can see a bubble while they are
in one.
This is a forecast; not a report on
current conditions
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If post-bubble conditions in Galveston were
more developed, it would already be pretty
obvious to many people.
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Since many types of data are not available,
just for the City, much of this forecast is
forced to use national data.
The housing bubble is world wide
Price versus value studies: U.S. market
Shiller’s Inflation-adjusted housing
prices: 1890-2006

A return to typical post-WWII levels of 100-120
would require a price drop of 40-50%!
Total housing value - GDP
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It would take a general price decline of around 36% to erase the
current $7.4 Trillion in over valuation!

Source: Federal Reserve Flow of Funds B.100
Source: Federal Reserve Flow of Funds F.6
Price/Rent Ratio
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If rents remain relatively constant, prices need to fall 37%
to bring the P/R ratio back to the average level.
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Source: Census Bureau
Home Price/Income
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Prices need to fall 42% to bring this ratio back to its established level.
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Source: Census Bureau
Source: Census Bureau
Cost to buy versus rent
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Difficult to get reliable data for Galveston.
A recent study for Los Angeles County
showed that a person buying a house today
will not break even with a renter for 17
years!
Click here for details.
Price versus value studies; conclusions
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The average residential property needs to undergo a price
correction of 35-50%, to be fairly valued again.
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Properties in the hottest areas (CA, AZ, NV, FL, and the
Northeast) are at risk of even larger corrections.
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Price corrections after the peak in real estate bubbles are
always slow in coming, because many sellers react by
holding out for unrealistic prices, for long periods of time, or
simply withdraw properties for sale, hoping for a better
market in the future.
San Diego: December 18, 2007
National post-bubble fallout
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What are the indicators that show the
bubble has topped in many areas?
Foreclosures
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Foreclosures have more than doubled over the past 12 months. There
were 1.2 million foreclosure fillings in 2006, up 42% from 2005. August
2007 saw 243,947 foreclosures, up 115% from August 2006; on a pace to
see more than 2 million foreclosures in 2007.
Source: RealtyTrac
Vacant Housing Units
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In 3Q 2007, there were 17,900,000 vacant housing units, but only
2,070,000 were for sale. 15,830,000 are not YET on the market!
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Source: Census Bureau
Leverage - mortgages
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Source: Federal Reserve Flow of Funds L.217
Source: Federal Reserve Flow of Funds B.100
Leverage – equity extraction
Median existing-home prices
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Source: NAR Press Releases
Existing homes for sale
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Source: NAR Press Releases
Existing homes – months supply
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Data going back to 1999 shows that inventory usually held between
4 and 5 months of supply, until the recent surge.
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Source: NAR Press Releases
Median new-home prices
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Source: Census Bureau
New homes for sale
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Source: Census Bureau
New homes – months supply
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Data going back to 1999 shows that inventory usually held between
4 and 5 months of supply, until the recent surge.
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Source: Census Bureau
Housing units completed
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Building did not drop into last cycle bottom!
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Source: Census Bureau
Texas real estate
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Does lower price growth remove Texas from the national bubble?
Housing prices have not fully recovered from the 1980's oil boom and bust.
Houston prices are similar but slightly weaker than for the whole state.
Texas housing prices – page 1
Location
% Change in Housing Prices
1990 to 2005
Galveston
197.25%
Austin
129.94%
U.S.
124.99%
San Antonio 82.97%
Houston
75.89%
Texas
73.93%
Dallas
65.11%
El Paso
59.38%
Texas housing prices - page 2
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Sources:
Texas A&M Data for Galveston
OFHEO Data for MSA's
OFHEO Data for States
OFHEO Data for U.S.
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Galveston housing prices are trading on
completely different fundamentals, than the
rest of the state; namely the market for
vacation homes.
The Galveston real estate market
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The most fundamental evidence to "prove"
that there is a residential real estate
bubble, in Galveston, is the existence of a
world-wide housing bubble!
If there is a housing bubble from London to
Madrid to Dublin to Peking to Los Angeles
to Phoenix to Las Vegas to Miami; how can
there NOT be a housing bubble in
Galveston?
Skyscraper indicator hypothesis
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This was developed by Edward Dewey in the
1940’s.
It correlates human optimism to the number and
height of high-rise buildings under construction.
Extreme optimism is reached at major economic
peaks, so severe economic downturns usually
follow; not just declines in real estate prices.
Skyscraper indicator results
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The Empire State Building was
conceived in 1929, and by the time it
was finished, in 1931, there was almost
no demand for its office space.
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That is why it wasn't profitable until
1950!
Galveston projects in the 1920’s
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11-story United States National Bank
Building was built in 1925.
10-story Jean Lafitte Hotel was completed
in 1927.
12-story Buccaneer Hotel was built in 1929.
DJIA topped in 1929 (386.10) and dropped
90% by 1932 (40.56); the Depression of the
1930’s followed.
Galveston projects in the 1970’s
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The 23-story American National Life
Building was completed in 1972.
DJIA topped in 1973 (1067.20) and
dropped 47% by 1974 (570.01) beginning a
10-year-long deep recession.
The Value Line Index suffered even greater
losses.
Galveston projects in the 2000’s
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Not one, but two 27-story towers, in the
Palisade Palms complex are nearing
completion on East Beach; now the tallest
buildings on The Island!
Marquette made "one of the largest land
deals in Galveston history" to build a
massive master-planned community.
Current projects as indicators
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Both of these projects stand as a testament to the
unbridled enthusiasm and optimism that
influenced thinking, on The Island, during the last
days of the international-residential-real-estate
bubble.
Based on historical precedence, and the
significance of these projects, as symbols; it could
be many years before Palisade Palms is fully
occupied, and the Marquette project may never
be built as planned.
Galveston: price versus value studies
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Most of the data used to analyze the
national real estate bubble, are not
available for Galveston separately.
The ratio of the Median Housing Price to
the Median Household Income, for the City
of Galveston was 5.32 in 2005, versus
5.20, on a national basis.
Galveston versus bubble areas
The growth in the Price/Income ratio, in
Galveston, was compared to the U.S., and
four other cities that are widely accepted
as some of the worst extremes within the
national housing bubble.
 OFHEO price data was used for all the
locations studied, except Galveston, since
it is not available for towns of this size.
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% change in Price/Income ratio
Location
% Change in
Median Housing Price/
Median Income
1990 to 2005
Miami
136.89%
Phoenix
118.56%
Galveston
102.96%
Los Angeles
80.38%
Las Vegas
68.54%
U.S.
45.97%
Houston
25.20%
Texas
11.51%
Sources:
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Texas A&M Data for Galveston
OFHEO Data for MSA's
OFHEO Data for States
OFHEO Data for U.S.
1990 Median Incomes
2000 Median Incomes
How have these four bubble markets
fared since their tops?
Miami
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The Miami Median Listing Price is down $85,000 or 20%.
Source: Housing Tracker
Phoenix
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The Phoenix Median Listing Price is down $80,000 or 22%.
Source: Housing Tracker
Los Angeles
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The Los Angeles Median Listing Price is down $100,000 or 15%.
Source: Housing Tracker
Las Vegas
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The Las Vegas Median Listing Price is down $50,000 or 15%.
Source: Housing Tracker
Galveston homes sales per month
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Source: Texas A&M
Galveston homes for sale
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Source: Texas A&M
Galveston months of inventory
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Source: Texas A&M
Galveston average home prices
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Source: Texas A&M
Galveston: potential bubble fallout
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Falling prices.
Falling property tax collections.
Delinquent property taxes.
Finished and unfinished vacant housing
units.
These conditions could lower property
values, and tax collections even further, as
people flee for the Mainland!
Galveston: problems with vacant units
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Eyesores and hazards.
No property tax collected.
Require expenditures by the City.
Gutted by scavengers.
Shelters for vagrants.
Shooting galleries for drug addicts.
Centers of prostitution.
Headquarters for drug dealers.
Vacant housing problems in other
locations
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In the Cleveland area, some local
governments have been forced to spend
millions of dollars to install alarm systems,
and to do maintenance and yard work, to
minimize the negative impact of vacant
houses on their community! Phoenix and
Atlanta are experiencing similar problems.
Sources: Cleveland Phoenix Atlanta
Cleveland metro area
Cleveland metro area
Cleveland metro area
Cleveland metro area
Cleveland metro area
Cleveland metro area
This is the Sound of a Bubble Bursting
Lee County Florida
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The real estate frenzy that once filled public
coffers with property taxes has over the last two
years given way to a devastating bust.
The city recently hired a landscaping company to
cut overgrown lawns surrounding hundreds of
abandoned homes.
A tidal wave of foreclosures is turning some
neighborhoods into veritable ghost towns.
Break-ins are skyrocketing, yet law enforcement
is resigned to making do with existing staff.
This is the Sound of a Bubble Bursting
Lee County Florida
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Half-built condos sit isolated in a patch of dirt, cut off from the road.
Throughout Lee County, a sense of desperation has seized the
market as speculators try to unload property or lure renters.
With more than one-fourth of all homes vacant, residential
burglaries throughout the county have surged by more than onethird.
“People that might not normally resort to crime see no other option,”
says Mike Scott, the county sheriff. “People have to have money to
feed their families.”
Darkened homes exert a magnetic pull. “When you have a house
that’s vacant, that’s out in the middle of nowhere, that’s a place
where vagrants, transients, dopers break a back window and come
in,” the sheriff adds.
This is the Sound of a Bubble Bursting
Lee County Florida
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Source: NY Times
Final thoughts
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I am conflicted!
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Since I believe in the wisdom and fairness of the free
markets, normally I would argue that few restrictions should
be placed on local home builders and developers! Let them
build everything that they want to build, and let the market
decide who is right, and who is wrong, in their forecasts. That
is what I do every day in other markets, and I have to be
prepared to live with the outcome. If and when the bubble
bursts, the market will simply perform its function of creative
destruction to bankrupt those who have overbuilt.
Final thoughts
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However, as a resident I am very apprehensive about living
through the process of creative destruction all around me.
This is a process that could easily take a decade or more,
and it’s something that I would rather avoid, if I could.
Unfortunately, there is probably very little I can do to stop it!
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The Planning Commision has the very difficult job of
attempting to foresee the future, and then deciding on the
best policies for the City. Unfortunately, this forecast could
make that job even more difficult, but I hope that you will give
it some consideration.
The End
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Resources:
The Galveston Housing Bubble
The Big Picture: the impact of the housing
bubble on Galveston
TheFinancialHelpCenter.com