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Thursday, May 04, 2006 | In a recent article on the endless housing bubble debate, our own Will Carless quoted California Association of Realtors economist Robert Kleinhenz’s criticism of the UCLA Anderson Forecast: “…in 2002, 2003, 2004 and 2005, they said ‘housing bubble, housing bubble, housing bubble, housing bubble.’ So they got it wrong four years in a row.”
The remainder of Kleinhenz’s talk appeared to detail all the various reasons to be optimistic about the future of San Diego housing, including but not limited to a resurrection of the doomed phrase “Goldilocks economy.”
And thus did Will hand me a nice lead-in to this week’s housing market misconception.
Kleinhenz’s reference to past Anderson Forecast analyses reminds me very much of a typical reaction I have observed when talk turns to San Diego real estate. “They’ve been talking about a housing bubble for years,” says the listener with a dismissive wave of the hand. And thus, like magic, are fears of a home price decline put to rest.
As pervasive as it seems to be, this attitude makes little sense. For one thing, it’s not exactly clear how what “they” said in the past is pertinent to what’s actually going on now. This is, or at least should be, a question of facts and evidence, not of who said what and when they said it.
But more importantly, people who employ this reasoning are misunderstanding what one actually means when one claims that there is a bubble in the housing market.
To say that there is a speculative bubble in a given asset class is to say that prices of that asset have been driven to unreasonable heights based on exaggerated expectations of further price gains. It is also to say that when those lofty expectations finally fade, prices will revert to more reasonable levels. But what happens between now and then is anyone’s guess.
If further price increases take place after a bubble is identified, it doesn’t mean that there wasn’t a bubble in the first place. It simply means that, as overpriced as the asset may have been in the past, it’s even more overpriced now.
Allow me to illustrate this idea with a real-life example. The NASDAQ composite index, which represents the prices of stocks trading on the technology-heavy NASDAQ exchange, closed out January 1999 at $2,505.89. Many observers, noting a certain speculative fervor along with the fact that the index price had increased seven-fold in a period of just eight years, declared that there was a bubble in technology stocks.
But by March of 2000, less than 14 months later, the NASDAQ had more than doubled to $5,132.52. The bears were mocked for not understanding the “New Economy,” and the fact that their dire predictions hadn’t come to pass was cited as proof of their analytical ineptitude.
But were the pundits who declared a bubble in early 1999 wrong? Absolutely not.
The fact is that NASDAQ stocks were in a bubble in January of 1999. That the bubble was even bigger in 2000 doesn’t mean that there wasn’t a bubble in 1999. After the tech-stock mania finally ended, the NASDAQ fell as low as 1,108.49 – 56 percent below the point at which those doom-and-gloomers declared a bubble in January of 1999. Even now, seven years later, the NASDAQ index is still slightly below its January 1999 price.
(As an aside, I believe that early 2000 was the last time I heard anyone use the phrase “Goldilocks economy” until last week).
I am not by any means saying that San Diego housing will follow the same path as the ill-fated NASDAQ index. I am aware that housing markets and stock markets are very different animals. But I’m also aware that the same animals – humans – drive both markets. And when it comes to asset price bubbles, the same dynamic is at work.
Those who have asserted the existence of a San Diego housing bubble in the past few years may end up being wrong. But they may also end up being right. There’s simply no way to be sure until this whole thing plays out.
In the meantime, before dismissing the claims of seemingly premature housing bears, remember the Economist magazine’s two rules of asset bubbles: that they always last longer than anyone expects; and that they always eventually burst.
Rich Toscano is an independent real estate analyst residing in Hillcrest and working in La Jolla. He writes extensively about San Diego housing at Piggington’s Econo-Almanac.