18 February, 2006


Commodities are NOT in a Bubble!

We have seen stock, bond, and real estate bubbles driven by the oversupply of money and debt worldwide. Nearly every asset class either was or is in bubble territory. That is why it is extremely important to identify what asset classes are not in bubble territory.

The commodity story is all about a changing world. India, China, Russia, and South America are experiencing amazing growth. This growth is fueled by the global liquidity situation and should continue as governments have adopted the strategy of spending their way out of recessions and nearly any crisis.

China is predicting that they will build 30 cities the size of Toronto Canada in the next 10 years. This is going to take a huge amount of steel, cement, asphalt (oil), and nearly every other commodity you could think of. Also, those vast quantities of people moving from the rural lifestyle to the urban lifestyle (industrial revolution) will require food (grains especially). As the price of oil increases, the price of commodities that can produce oil substitutes will continue to rise (sugar cane and corn). This is a broad based commodities bull market based on supply and demand.

Commodities will move into bubble territory - that is the way of the markets and the demographics driving the markets. We still have a long way to go before we are in a full-on commodities mania. When you go to a cocktail party and people are talking about what commodities futures platform they prefer to trade on - you know a top is near. Until then: "Get right and sit tight" as the legendary Jesse Livermore used to say.

15 February, 2006


More Terrible News For Real Estate - POP!

Mortgage applications drop: http://today.reuters.com/investing/financeArticle.aspx?type=economicNews&storyID=2006-02-15T115903Z_01_NAT002005_RTRIDST_0_ECONOMY-MORTGAGES-URGENT.XML

Interest rates may need to go higher: http://www.nytimes.com/2006/02/15/business/15cnd-econ.html?_r=2&oref=slogin&oref=slogin

Home order cancellations up: http://www.signonsandiego.com/news/business/20060214-1355-kbhome.html

Add it up higher rates, lower demand, correlate to lower prices. It is simply supply/demand economics.

09 February, 2006


The Screwed Generation: 20 and 30 Somethings

Why is it so hard for an educated 20 or 30 something to get ahead today? It is easy to believe the hype that it is corporate America screwing over employees with outsourcing and layoffs. The simple fact is that these companies are doing EXACTLY what they should do. They are working to maximize their profits and that is the purpose of their businesses.

If you look closely at the root cause of higher prices you see one thing, too much liquidity in the financial system. The US prints nearly $50 Billion of new money every month. This money has to go somewhere. Some is loaned to banks (at a low rate) and the banks either:
  1. Loan it to customers for real estate purchases (hence the real estate bubble)
  2. Loan it for consumption (hence the debt bubble)
  3. Invest it in bonds (hence the bond bubble) A note on bonds: Who in their right mind would invest in a bond at these prices with a real return (when adjusted for inflation) is 1%?

This creates a situation for young people where high paying jobs are moving out of the country because business has to stay competitive, debt is at an all time high (student loans & credit cards), and nearly every investment is overvalued. There is a move among the younger generation to retrench and pay off debt (see: http://www.msnbc.msn.com/id/11238227/). There is a readjustment coming which will be painful for many people.

A consumer retrenchment in the face of debt, higher energy prices, and stagnating home values is going to severly curtail wall street profits causing the vehicle that most are ivested in (stock market) to lose a lot of value. This will push retirement for the baby boomer generation further out leaving fewer high paying jobs for the 20 and 30 somethings. Housing has already started rolling over (see: http://www.nytimes.com/2006/02/08/business/08stox.html?ex=1225774800&en=a766538afe178208&ei=5035&partner=MARKETWATCH; http://www.marketwatch.com/news/yhoo/story.asp?source=blq/yhoo&siteid=yhoo&dist=yhoo&guid=%7B9928881B%2DFEDD%2D4A6E%2D8C11%2D0012B3FA3981%7D) leaving cash out refinancing to pay off debt and buy consumer items increasingly more difficult.

What is a 20 to 30 something to do? In times of readjustment opportunity is highest as the old goes away and the new replaces it. In five years housing should be a screaming buy for investors, stocks and bonds very well could be too. If a young person can reduce or eliminate debt and save, the future possibilities are endless when this economic cycle shakes out and the next begins.

06 February, 2006


Real Estate Bubble: Foreclosures Up, Prices Will Fall

When more houses are being foreclosed, there is more supply added to the market as the banks need to get those houses off of their books (banks: loan = asset; real estate owned = liability). Every quater of 2005 saw an increase in foreclosers, data here: http://www.realtytrac.com/news/press/pressRelease.asp?PressReleaseID=86

Foreclosers from ARMS are not expected to peak until the fall of 2007. This would lead one who follows trends to believe that we will see a continuing larger number of foreclosures in every quarter until the fall of 2007. If this is the case, there will be a massive supply of housing coming onto the market when there is already a very large supply. This does not make increases in home values likely going forward. Rising supply = lower prices. Lower prices = lower demand as speculators jump out of the market (creating yet more supply) and investors sit on the sidelines and wait for a bottom. In a falling price environment most potential homeowners will also wait out any price declines.

It is in the cards that we will see lower real estate values. By this rationale we should see peak supply in early 2008 and an increase in demad starting in late 2008 to early 2009. Astute investors will be getting their dry power ready.

03 February, 2006


Real Estate Bubble: Stagnation or Burst

There is a nice debate going on as to whether real estate prices will simply stagnate at current prices or if they will drop. I ran across this article which examines both views: http://www.financialsense.com/fsu/editorials/2006/0203.html

I rate this article an 8 for profiling a specific community in Virginia where prices are dropping as well as having the obligatory take on the "when your shoeshine boy is giving you stock tips" story. Great read and have a wonderful weekend.

29 January, 2006


How Far Can Real Estate Values Fall in a Bubble Burst?

Here is the million dollar question: if there is a bubble and it bursts, how far could house values fall? This is obviously something that would keep most home owners up all night worrying if prices did start to fall, so here is the answer.

In markets we use statistics to determine the potential price movements of asset classes. The specific rule for values is "reversion to the mean." This simply states that however far somethings moves above its mean, it can go below its mean prior returning to the mean. If you understood that gobbly gook (gobbly gook is a scientific term in my world) you are well ahead of me. I do however know how to use this in real world situations.

Vegas Baby!
CNN has published this article showing how far above the equilibrium (mean) prices are in certain cities. http://money.cnn.com/2006/01/23/real_estate/most_markets_more_overpriced/index.htm
I chose Vegas for the glamour of the whole thing (like this is glamorous). Currently Las Vegas has a median home valuation of $302,000 and an equilibrium value of $227,000. The current valuation is 33% higher than equilibrium. So if a real estate crash occurs in Las Vegas we have a potential downward targes of $152,090 (227,000 X .67). That would be a floor for the median price in the market. In reversion to the mean, prices do not have to drop by the same amount, but it gives guidance to the potential drop (nearly 50% of home value).

Here is what could drive a price drop of this magnitude. If prices start to soften a little and rates continue to squeeze homeowners you have a perfect storm.
  1. ARMS - If your payments are rising and your value is falling, why not turn the keys in to the bank and walk away? Effect: more supply in falling price environment leads to lower prices. Also - foreclosures are expected to peak in the fall of 2007 because of the the intial rate period for ARMS running out. This is bad news, people can't refinance into fixed rate right now because rates are too high.
  2. Investors and speculators. All of those houses (by some reports up to 50% of houses sold) bought by investors and speculators will come back onto the market. If there is no appreciation, there is no reason to own them and it is best not to hold something you have to pay for without seeing a return. Effect: yet more supply driving prices further down.
  3. ATM houses - People have taken too much equity out (usually as a second mortgage and also an ARM) and have no cushion to weather a drop in prices. We learned this in kindergarden - I think the story was about a grasshopper and an ant.

The good news - cheap cash flowing properties would be available to anyone who acted prudently. Banks would suffer big time - potentially setting up a major short selling opportunity (I prefer long term puts - like to be safe when I'm being risky). Without the ATM effect of housing, discretionary retailers (read: luxury goods) would crater leading to another excellent short selling opportunity (a note here: I read that 2005 was the best year for luxury good sales - no wonder how that happened).

Las Vegas NV

28 January, 2006


Simultaneous Bubbles in Everything

Here is an interesting concept: we have extremely high real estate values, the Dow keeps pushing 11,000, bonds are at historic highs, and commodities are gaining in value. Even though there is evidence saying that bonds and real estate could both lose a lot of value over the coming year - this point in history is unprecedented in how high asset values are across the board.

So here is the question - are we seeing a massive inflationary surge in everything simultaneously? It is something to ponder as no one could have forseen a rising Dow and rising commodities together. It is basically a conondrum of Greenspanian proportions (and those are large proportions when you consider the amount of money the FED has created under his leadership). The good news is this - inflation has been contained to asset classes and not consumer prices so the slow down in the economy has not materialized as most economists would predict. That too may be beginning to change, a 1.1% GDP was reported for the 4th quarter! That is a terrible number considering somwhere around 4% is where growth was supposed to be. It may just be that high commodity prices and worries over real estate values falling are starting to really take a toll on the consumer.

Perhaps we will see a repeat of the stagflation of the 70's. If bonds and real estate start losing value this is a distinct possiblity. If you are not in commodities at that point there could be a lot of pain for your portfolio.

27 January, 2006


Where is the Next Bubble?

One of the key components of the Bubblenomics concept is capatilism in its purest form - how do we all profit from this? As I see it - we look for consolidation and rising prices in out of favor asset classes. Before real estate took off it wasn't really an "investment" like a stock or a bond - a house was a place to live.

Consolidation is currently happening in commodities. Oil has already had a run-up that looks like it will continue. Gold has doubled. Silver has doubled. Copper is at all time highs. Steel is high. Sugar is high. That is a broad based commodities bull market - it started in 2000 so it has surpassed reached the coveted title of "secular bull market." It is the best kind at that - driven by supply/demand fundamentals.

Money goes wherever it can get a return. People sit on the sidelines holding cash (and there is a lot of it out there) waiting to see what is going to happen. When either their fear of missing out or their greed gets the best of them they put the dollars into play. We are seeing more and more investor demand for gold (check out the gold ETF symbol: GLD - they have accumulated nearly 300 tons of gold since NOV 04and only buy when new money comes in), oil, silver, and all of the other commodities.

I'm basically calling the next bubble here. I'm seeing it as an early stage 2 investment - there is a huge institutional presence coming into the market right now. When the brokerages are set - they will pitch it to the masses. All I have to do is keep buying and not get too greedy in the end. No Investment Advice - Do Your Own Due Diligence.

26 January, 2006


Why Do We Have a Real Estate Bubble?

Some think there is a bubble in real estate and some think that there is not. It all comes down to a matter of perspective. The most important thing to realize is that money is created by the Federal Reserve and that money has to go somewhere.

After being created it is loaned to banks at the Fed Funds Rate (the one Wall Street watches so closely) and then loaned out again to consumers, home buyers, etc. In a basic form, the more the FED creates and loans to banks the more available to consumers to purchase things that move the economy. The lower the rate the FED charges banks, the lower the rate the bank charges consumers allowing them to purchase more stuff cheaper. Being able to purchase more stuff cheaper leads to higher demand and therefore higher prices. On a lighter note you've just had a 3 hour economics class on central banking summed up for you in 3 sentences. It is obviously more involved than that, but that is the basis.

It is established that the more money available - the higher prices become (this is also the basic definition of inflation: Too much money chasing too few goods). From Sprott Asset Management: "For those keeping track, M3 money supply is up 50% since the beginning of the decade, and has doubled since the beginning of 1997. Alan Greenspan has been a money printing speed demon. Before 1997 it took fourteen years for the money supply to double. Since then it has taken only nine; and if the rate of the past month is any indication, it will double again in four years." It is any wonder that the FED will stop printing M3 statistics in March? Source: http://www.federalreserve.gov/releases/h6/discm3.htm

Money supply has been growing at an unbelievable rate - taking half the time to double. What does this mean? More booms like we saw in tech stocks and real estate and more busts like we saw in tech stock and are seeing in real estate. If you can keep your discipline, these boom bust cycles will make you wealthy. Discipline = buy when you see the trend + sell when you see the mania.

25 January, 2006


Anatomy of an Asset Bubble

It really doesn't matter what asset class you are observing (stocks, real estate, commodities) there have always been boom/bust cycles. These cycles have striking similarities regardless of the asset class. These similarities provide a game plan - or anatomy - of bubbles to help you develop a game plan to profit.

The anatomy of a bubble has 3 distinct stages; the first two being normal, reasonable steps in any asset class. The third is where people make and lose fortunes.
Stage 1 - Insider accumulation
This is where the big fish are securing positions. These are the Warren Buffetts and George Soros's of the world who can afford the best economists, research, and can actually move prices simply by buying. The insiders quietly scale into positions in an asset class with the intention of holding for years.
Stage 2 - Institutional investors
Once the mutual funds, hedge funds, and pension funds catch wind of where the elite investors are going and see price gains, they start securing positions in the asset class as well. As these institutional investors bring a lot of money and are competing for positions, price appreciation tends to accelerate and some of the more in tune individual investors start buying as well. Once the institutions are in they will start pitching the asset to clients and that is when we get to:
Stage 3 - Profit, Eurphoria, Mania, Crash
Once the average investor starts making money in an asset class - he tells people! Once enough people have heard about it and started making money it takes on a life of its own. First we see euphoria - where people can't believe their good fortune. Then we see mania controlled by the emotions of fear and greed. First by the fear of missing out of the next great profit opportunity. Second by the greed that humans are prone to when they start making money - they just want more. Finally, the buying falls off and everyone runs for the exits and the price crashes.

We saw this cycle in tech stock and now real estate is starting to look like it could do the same in some overvalued markets - and then spread to nearby markets through the ripple effect. How far real estate could ripple is anyone's guess, but if a crash starts it will be bad for a much larger portion of the country than some experts believe. Why? Because fear is the most powerful emotion when it come to investing.

The insiders and the institutions book their profits somewhere in stage 3 of every market and move on. The average joe is always left holding the bag. The point is: wouldn't you rather invest like the insiders instead of holding the bag?

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