Real Homes of Genius: Today we Salute you East Los Angeles. There is Nothing Sticky About This Correction.

June 7, 2008

Housing corrections are sticky on the downside. Did you ever hear that statement being made during the last few years? Over and over like a fire alarm going off some form of this message was continually beat into the head of prospective real estate moguls. “Oh yeah. Housing prices never go down quickly because come on, it’s housing! Plus, we own the rights to the sun here in Southern California haven’t you heard?” I also loved the argument that given the overall homes in the United States, only a potential 2 percent of all homes are in foreclosure. That means 98 percent of homes are healthy! Let us all go out and purchase homes.

Incredibly these rallying cries worked because they played on the human psychological attraction to greed. Let us face it, Ponzi Schemes occur over and over because people want to believe in a great deal. Typically these schemes will promise to double your money in a few months and when you receive a check with your money doubled, many folks in these situations will plunk down a much larger sum of money. Doubling down chasing more quick gains. Little do they know (or care) that the money being paid to them is coming from new unsuspecting players. The game all ends when the scheme gets too big and the greed finally implodes the entire structure.

This housing market was a Ponzi Scheme. In many cases people wanted something for nothing. They fervently believed that a home in which all they did was signed a contract and paid diligently for one year was somehow now worth $50,000 more struck at the entitlement mentality behind the housing market. Keep in mind that this $50,000, which in many cases happened in countless Southern California cities for many years in a row, is more than the median income of an American family. The idea of ditching work and living in your home took on an entirely different meaning.

There is a false sense of assurance even when studying Ponzi Schemes that people involved in the scam “didn’t see it coming.” Of course they didn’t. People want to believe in the Money Easter Bunny. You know, that furry friend that gives you money for nothing. Most of these schemes suck in a few million dollars from many unsuspecting folks before collapsing. Yet this decade we somehow allowed this scheme to become a global beast with trillions of dollars put at risk. The get rich quick mentality went mainstream.

The housing market is not only “correcting” but now crashing. Back in March I threw out a few numbers to at least attempt to quantify the difference between a correction and a crash:

“Now you would think that with every poll telling us the economy is the number one issue, many folks would be tuning into things that would help us understand this. Yet it seems many are relying on the media once again to tell them how to think and how to operate their lives. And let me be clear here on what a “crash” is in regards to housing. California as a state has already seen a year-over-year 21.9% median price decline in January of 2008. If we want to quantify this further, let us say the following:

10 percent decline: Correction

20 percent decline: Severe Correction

30 percent decline: Crash

40 percent decline: Severe Crash”

We are already in the crash phase. In fact, the Economist just noted that our national year over price decline is actually worse than the Great Depression:

“Unfortunately, new figures this week reveal that house prices have already fallen by more over the past 12 months than in any year during the Great Depression. The S&P/Case-Shiller national index fell by 14.1% in the year to the first quarter. Admittedly, other property indices show smaller drops, but most economists now favour this measure. The index goes back only 20 years, but Robert Shiller, an economist at Yale University and co-inventor of the index, has compiled a version that stretches back more than a century. This shows that the latest fall in nominal prices is already much bigger than the 10.5% drop in 1932, at the worst point of the Depression.”

And yet we have people still saying we won’t be in a recession? Bwahaha! What are they smoking?! Does anyone really think that California has hit bottom? And sometimes people forget that a 50 percent decline is similar to a 100 percent gain. Say what? This is how many housing pundits try to spin the data. But let us look at the numbers:

2002: Buy home for $200,000

2004: Sold home for $400,000 (a 100% gain)

2008: Sold home for $200,000 (a 50% correction)

You can easily see how playing with words and putting spin on anything can make a complete loss seem not so bad. Think the above example is extreme? Let us use a real world example to show this in action. Today we salute you East Los Angeles with our Real Homes of Genius Award.

Born in East L.A.

Many of you not from Southern California may be familiar with East Los Angeles via the academy award winning movie Born in East L.A. by the acclaimed director Cheech Marin from the formerly Cheech and Chong team. East L.A. participated in this housing bubble as if it were smoking some of the substances normally seen in the Cheech and Chong movies. As a matter of fact, the entire Southern California region was taking a puff from the housing Ponzi bong. This home, a 2 bedroom and 1 bath place sits on 1,088 square feet. It looks to be updated and is currently a short sale. We are told that this place is close to shopping which of course for any SoCal buyer is vitally important.

To have a bit of context on this place, let us look at the sales history:

Sale History

07/03/2006: $435,000

12/08/2005: $270,000

A nice 61 percent gain in 8 months! In how many places can you make $165,000 simply for buying and selling a home? Not many but SoCal was certainly sweeter than fudge on a hot sundae and gave money like hitting all 7s on a slot machine. At this rate, there is no need to work and all you will need to do is buy and sell a home once a year into perpetuity and you’ll be the next Trump! How is this home doing now?

Price Reduced: 03/04/08 — $389,900 to $349,000
Price Reduced: 04/08/08 — $349,000 to $289,000

Ouch. You mean real estate can go down as well? Try telling the buyer of this place that prices are sticky on the downside. A $100,000 price reduction in one month has nothing slow or methodical about it; this is rock bottom desperation prices to get the place to move. From its peak, it is now down by 33 percent which nearly eliminates that 61 percent gain. Of course, that is assuming it sells for the current price.

This is simply one example of the 125,000 homes currently for sale in the Southern California area. You’d have to smoke something out of a Cheech and Chong movie to think prices aren’t crashing in Southern California.

Today we salute you East Los Angeles with our Real Homes of Genius Award.

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