When Buffett may finally be right about housing

By Michael Tarsala

It could be three years or more until Warren Buffett is finally right on housing, based on a set of Goldman Sachs assumptions.

If you haven’t heard, Buffett in his annual Berkshire letter this week said he was “dead wrong” in thinking that the U.S. housing market would rebound by now. That assumption hurt his firm’s income. Berkshire’s five businesses tied to housing activity had pre-tax profits last year of $513 million, down from $1.8 billion in 2006.

But Buffett said on CNBC early this week that he would buy up millions of U.S. homes now if that were possible.

Here is his argument:

1) The U.S. had been adding more units than households before 2008.

2) That is now reversed, and there are more households being added than units

3) The numbers will match each other over time (a mean regression)

But again, when will all this happen?

Goldman Sachs makes the following assumptions that may help set a timeline, as reported by FT Alphaville:

– Net housing additions going forward should be 300,000 a year

– 800,000 households will formed this year

– 1.1 million new households will form in 2013, and each of the next 5 years

– Excess housing inventory is 2.5 mln units

That math works out to the inventory being cleared in mid-2015.

Keep in mind, a common belief is that the market (the stock market, at least) is always looking ahead 6 to 12 months. Should the housing market do the same (I am not making a call here, mind you) then what Goldman may be saying is that home prices could be set to rise another 2 1/2 to 3 years from now, which is still a long way off.

Image: g[wiz]

 

  • Daniel

    The math on the number of household vs. number units is interesting but leaves out an important factor in the equation. Who is going to buy the houses? Assuming that the new household has at least one person who is employed in job that provides adequate income, how many of typical new households will have the 20% down in savings it will require to buy a house? New middle class households with college graduates that have the potential to be able to afford a new home are usually saddled with large student loans that would prevent them from qualifying for a loan. 
    Even with today’s falling home prices and historically low interest rate, its appears that most of the homes are being purchased buy investors who have the cash. The average cost range of used homes where I live is $54-$75/sq. foot. The cost to build the same house is $94-$150 and that doesn’t include the property. 

    I wouldn’t counting on this mess turning around by 2015.

    • Joby

      I think “turnaround” is the wrong terminology to describe this housing recovery. I believe what we are actually looking for is a “return to normal”. A “return to normal” overall housing market fundamentals is absolutely possible by 2015.

      That assumption that a buyer needs 20% for a down payment is faulty. FHA financing which allows for as little as 3.5% for a down payment makes up over 25% of the new loan originations right now and there are many loan programs allowing 5% to 10% for down payments as well. 

      The people that will be buying these homes through these FHA financing programs are the Generation Y population wave which is estimated to be just as large or larger than the baby boomer generation. The first wave of the Generation Y population has begun to graduate from college and in the next few years (2015) creating their own households and buying homes. Can you say DEMAND? On top of this there are the millions of people who just went through a short sale or foreclosure, but who would still love to own the same home they lost at today’s prices. Many of those people are already eligible to purchase a home again through traditional financing options and have become hoemowners again, so expect a certain amount of the people going through a short sale or foreclosure to be buying homes again (2015). Can you say MORE DEMAND?

      Also, we have a large part of our aging housing supply that will need to be replaced. So, it’s not like the new construction is just adding additional supply to the housing market, but replacing a housing supply in some areas that is now unlivable or undesirable.

      We should also expect that the economy overall will be somewhat better by 2015 and that means more people working and once those people get back in the workforce the idea of homeownership is still alive and well in most Americans, so can you say EVEN MORE DEMAND?

      So, I don’t ever expect to see a housing market boom like we did, a “return to normal” in the housing market in the next few years is realistic and that would be a great thing.

      • Fredricwilliams

        I think your views are based on an optimistic bias rather than any analysis. A return to normal? Based on what? People are graduating from college? When was that not the case? People graduated from college during every year of the downturn. People who lost their homes rushing to buy new ones and qualifying for loans? Really?

        As for demand, a few years ago one writer pointed to the retirement of the baby boomers as a cause for a historical decline in the economy. It would seem reasonable to assume that many of the retirees will opt for smaller and cheaper housing or retirement communities or condos — and will want to sell their homes if they can. That argues for added supply.

        Your guess that the economy will be better in 2015 seems a bit wild. Even the experts have trouble guessing about next year. This year we have an election, so government does all it can to push the economy — so we might expect 2013 and 2015 (non-election years) to be weaker.

        I don’t predict the future, but the current trend does suggest a leveling off after years of decline. The Federal Reserves active effort to push inflation (including very low interest rates) might make housing attractive again — and probably has helped prevent a worse decline. But inflation pushes bubbles, and if the commodities and/or stock market advances prove to be bubbles, we may see another stage in the decline.

  • Bryanrothschild

    Just because this guy has been widely successful doesn’t mean he can read the market place any better than economist. I work in the housing industry and sales are up although the price of homes remain flat. Not a recovery rather an anomoly.

    • Sully

      If there is one factor(of many) that I don’t truly understand is the home ownership rate. Is it returning to historic rates(62%-63%) or are people truly going to return to home ownership rates of 2006(69%)? Being able to pick up and follow the work to me is like cash in the bank. The average length of time a home is owned is another and lets not forget property taxes rates in quite a few places are still a train wreck in motion. I believe historical trends are changing and the bust will not soon be forgotten. If I am correct those trends may be smaller houses,smaller lots,lower maintenance, but also greater attention to detail,and a rebirth of the high density,walkable,liveable cities. I really do see quite a few  large malls with empty lots and that’s here in Colorado.

    • Rick

      Warren Buffet is an economist. If one wants to measure the value of any given approach, the only real way to measure is by outcomes and results. Buffet has as good a track record as can be found just about anywhere, so his word is more valuable than those who prognosticate without any real accountability.

      • Fredricwilliams

        Warren Buffett is not an economist. Earning a degree in economics 61 years ago does not make you an economist — and there is little evidence that economists have any real expertise in predicting the future.

        Buffett is an investor. And while he is certainly extremely good at investing in long-term stocks, he is not necessarily good at other things — and he has had some major failures when he ventured outside his area of expertise.

    • One Frugal Mom

      So the housing market is still there, and somehow the prices are flat, not decreasing (on the whole.) I had to rent a house this time last year, and it was extremely difficult to find a 4 bedroom home for rent at a reasonable price. The rental we chose was $1850/month for a 4 bdr, and we beat out 7 other applicants due solely to good credit. Six months later we bought a 5 bdr with 1.5x the sq footage in a better school district for $1400/month mortgage. I paid 3.5% down; Fannie Mae owned the house….it was a BoA foreclosure. We were able to sub-lease the previous house within 1 month. 

      My conclusion is that now is a great time to buy low, rent while waiting out the market, and sell high(er) later. BTW, this all happened int he DFW mid-cities area.

  • Paulea2004

    MR. BUFFET, UNLIKE MANY IN THE INVESTMENT WORLD CAN ADMIT WHEN HE IS WRONG! YOU WILL NOT FIND THAT ON WALL STREET. BTW, HE CAN BY OUR HOUSE ANYTIME HE LIKES!  

  • aziz magoma

    The “elephant in the room” is still the backlog of foreclosures waiting to enter the market. If/when banks dump this robo-signing inventory on the marketplace, it’ll only add to depressed prices.
    As an investor, this signals more stagnation but opportunities abound.

  • Nebolin607

    Have any of you seen the price of building materials lately?  Drywall has tripled in price compared to what it was in 2008.  Plywood, lumber, etc. pretty much the same.  So of course houses have to be much smaller – and construction crews are mostly using cheap illegal immigrants from Mexico to cut labor costs.  And still they can only do so much to reduce the overall price.  So how many will sell their houses for a loss?  With the skyrocketing prices of gas and other items due to our idiots running the fed I don’t see a recovery in the housing market or even a return to the “norm” until much later – like 2018. I do however see a large increase in apartment buildings occuring as people team up and live together (like Eurpoe and the rest of the world).  Sad but I think true – we will never see housing stats like 2006 again – in fact I see a steady decline to be lower than 60 percent housing single units.  And prices of existing homes will have to drop another 20-30 percent in most areas – so the banks will take a hit and we’ll see more of them closing, etc.  We are in decline and it will continue with the clowns running this country and our media too stupid to stand up to them.  Our media needs to stop pushing the Dems plans – I don’t want them supporting repubs either – I just want them to acctually report facts instead of helping the current admin cover stuff up like they have done for 3-4 years.

    • Hazmat77

      Construction costs can be contained if builders used more Open Plan designs … fewer walls …. and who says Drywall is the only way to construct walls?

      • http://pulse.yahoo.com/_BYKCHSTKQADSTK5IWQ4DEMSIQI Lazy J

        I am a builder and drywall is still the cheapest way to cover a wall

  • Fredricwilliams

    The comments here are generally excellent. One important factor that should be considered — beyond the fact that predicting the future is something very few people do successfully — is the psychology of home buyers and sellers. For decades it was believed that buying a house was a great investment, not something to be consumed. So people had no problem buying a house when the transaction cost might be 10-20% to buy and sell. Government made sure that inflation would be steady, so the debt would be paid back in cheaper dollars, incomes would seem to be rising, and prices would also seem to rise.

    If the Federal Reserve succeeds in its current efforts at inflation, which seems to be pushing prices up in the stock market and in commodities, then it might be wise to borrow money to own a home — which is what investors are betting on when they buy houses. But most people will be fearful of home ownership. Everyone, I would guess, knows someone who lost their shirt on a house. So the psychology may have shifted.

    And we should remember that with real estate taxes, you can’t own a home — you are renting the property from the government.

  • Marc

    I believe there is a hidden money bubble that will destroy the housing recovery.  You can’t print money like we are now and not have it blow up inflation.  The banks are using the new printed money to balance thier sheets so it is essentially hidden.  That money will hit the market at the same time the housing recovery starts it’s upswing.

  • Anonymous

    Just bid out first new home since 2009. Material prices are reasonable. Lot prices are at 1998    levels, but the appraised value barely comes in at the cost of material and land. The people who do the actual labor like to be paid too. Lack of work has forced pay cuts just to survive. I do not hire law breaking foreigners with fake ID’s.  Homes are energy intensive with massive amounts of energy used to produce lumber, siding, light fixtures, appliances, shingles, etc, not to mention the fuel needed to transport every ounce of material. 300,000 net housing additions puts us below 1960′s numbers when we had 100 million fewer people in the US. 75% of the people I know in the construction business are broke, bankrupt, lost everything gone and now even the strongest companies are starting to fail. Considering President Obama’s and Energy Sec. Chu’s desire to increase energy costs to European levels my prediction is the economy and the housing market will start to improve two years after someone not named Obama is President, either 2015 or 2019.

  • http://www.facebook.com/people/John-Arbaugh/100000082277083 John Arbaugh

    So that’s what Goldman Sachs says?

    I wouldn’t trust Goldman Sachs on ANYTHING!  Not even to walk my Dog…  Too afraid I’d end up with Goldman Retriever Puppies….   And those bite the owner…

  • Camille82

    Phoenix, AZ lead the decline, and is leading the rebounding. Since Jan 1st we have seen an increase in values of 9.6%, and our inventory cannot keep up with demand. The record high affordability rates right now are pushing many buyers who were on the shelf off it. I think a full turn around will happen for the rest of country in about 12 months.

  • Anonymous

    Yours is the most realistic assessment.  When that money does hit the market we will see another major dive in both residential and commercial real estate values with millions of mortgages deep underwater.

  • http://www.facebook.com/michael.bloemer.18 Michael Bloemer

    Just in time for Obama to take credit in his bid for a third term