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Strategies & Market Trends : The Residential Real Estate Crash Index
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To: Jim McMannis who wrote (28249)3/17/2005 12:58:57 AM
From: Elroy JetsonRead Replies (2) of 306849
 
We all know, or should, that real estate prices correlate to income.

In the short-run, real estate can run up faster or slower than income based on changes in interest rates and government tax subsidies.
This is simple economics based on "effective income".

Real estate can run up faster, or slower, than incomes:
_ when people direct more of their income to real estate purchase than they normally do;
_ when people who previously did not participate in the market begin to;
_ when the Federal Reserve instructs the banking system to abandon normal credit standards and lend to anyone breathing.
This is the bubble part.

None of these factors affect real estate prices in the long-term. Eventually interested buyers run out of income to apply toward real estate purchases and the excess price inflation above income growth has nowhere to go but down. This will occur long before the theoretical maximum because not everyone will apply every possible portion of their income to real estate investment, although more will than you might expect. Even Sir Isaac Newton finally invested and lost in the South Sea Bubble, even though he knew it was a bubble and advised everyone he knew not to invest.

So when does the end come? It depends on herd behaviour. What spooks the herd and sends them thundering in another direction? Hard to predict but you know it when you see it, and I doubt that is very far away.

In Los Angeles I think there is a possibility that we will look back and see that the real peak in prices occurred last April 2004 - in spite of the fact that "average sales prices" may seem to infer otherwise.

Some people will say what about demographics etc? These factors help determine income but not the relationship between available income and real estate prices. The relationship between income and real estate price is valid whether the market consists of 1,000 people with a lot of income or the same income divided between one million people.
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