Bigger and Bigger and Bigger

The real estate bubble in the mid-Atlantic area seems to be expanding right before our eyes.

"I was shocked," began Elizabeth after a visit to our old neighborhood in Baltimore. "The place is still a slum but there is renovation going on all over the place. You remember that big building on the corner, which was kind of a flophouse for drunks and drug addicts. You know… where your friends lived? A developer from New York bought it. He’s gutting it completely. I walked over and talked to him just to see what he is doing. He’s really doing it right. They’re putting in nice one- and two-bedroom apartments… with everything. Very nice. But I asked how much he would rent them for. He told me they would go for $1,600 per month. I dared to ask, ‘do you really think you can get that much?’ His response was that he could always cut the rents if he needed to. But I don’t see how he’ll be able to cut them without going underwater on his investment."

The mysteries of real estate investing in the current hysteria deepen. Six months ago, the most you could hope to get, renting an apartment in Baltimore’s poor sections, was about $600 or $700 a month. This was not because poor people were too cheap to pay more; it was neither a reflection of want nor need, but of means. They could not afford more rent.

Now, developers expect poor people to pay more than twice as much rent for a much nicer apartment. Where will these new renters come from? Where will they get the money? We don’t have any idea.

But the math is no different in middle class suburbs. A few years ago, an average family might have bought an average house in Howard County for $250,000 or so. Now, prices look as though they’ve doubled, even though they are still the same people in the area, earning only fractionally more money than they did before.

"But this is one of the best employment markets in the country," a friend explained. "There’s a lot of high tech in the area… and a lot of government-related spending near Washington. The place is booming… "

"Real estate is so funny," a visitor remarked, over a drink yesterday. "We came to Baltimore in 1980. Then, nobody had any interest in property in the city. Everyone was moving out to the suburbs. You could buy anything you wanted for pennies. So, we bought our house right on the main street… well, you’ve seen it. It’s a mansion, one of the best places in the city. We paid practically nothing.

"Well, that attitude lasted for a long, long time. We kept expecting the city to be u2018discovered’ by people from Washington or New York. It never was. Property just kept getting cheaper. It was unbelievable. In fact, for 20 years prices went nowhere. Then, all of a sudden… it seems like it was only 6 months ago… everything started to go wild around here. They’re building million-dollar condos down at the harbor… and around here, none of these mansions are for sale anymore. You can still get nice places… but you’re going to pay a lot for them."

Even in the best markets in the country, prices do not always go up. A recent piece in the New York Times described a one-bedroom apartment on Riverside Drive in Manhattan. "Sold for $180,000 in 1985… ten years later, at the bottom of the region’s most recent real estate slump, it sold for $167,000."

But nearly everywhere we go, we hear the telltale comments that signal a bubble:

"You just can’t go wrong with real estate."

"Better buy now, because it will just be more expensive later on."

"Buy as much house as you can afford… you won’t regret it."

"I’d like to move to another area, but I can’t afford to. I’m making too much money on my house."

Is this a bubble, or what?

Sean Corrigan adds numbers to our anecdotes:

"Total Housing dollar turnover [new and existing sales x average prices] hit a record $2,035 billion annualized pace last month, up 28% year over year, and up by 55% in the past two, compared to 1994—02’s trend gain of 11.4% per year compounded (also rather too rapid, in truth), so it now stands at 3.7 times 1995’s low… "

"As a proportion of the wage fund (weekly salaries x NFP private payrolls) it has gone from 1989—97’s average of 16.2:1 to today’s 35.6:1 — a gain of 120%…

"As a proportion of non-government GDP, it has doubled from 1989-97’s 10.8% to a record estimate of 21.6% this quarter (assuming GDP does, this last quarter, what it did in the previous two)…

"Whereas, in 1989—96, it took 12,000 hourly salaries to buy the transaction-weighted average house — 6 yrs and 11 months at the then-average work week — it now takes 15,855 hours — 9 yrs and 5 months at today’s workweek (50 week working years assumed in both cases) — for an increase of 36% per home in the ratio…

"Deflated by the CPI (stop laughing at the back), turnover has risen 175% (+10.7% annualized) over the past decade. Prices/CPI have risen 41% from the 89—97 mean and have beaten CPI by 8.9% annualized since Q3 2001…

"Oh, I think we can call this a bubble, all right."

"How’s business?" we began a typical conversation with a relative.

"Great. It’s unbelievable, really. Our business depends on the economy. When people have money to spend, they buy boats. We don’t sell boats, but we give them a place to keep their boats — down at the marina. And they have weddings down there… and there’s the restaurant.

"Recently, we’ve had to build bigger and bigger boat slips, because people are buying these huge new boats. The little boats… we pull them out of the water, and store them on land. We have much better equipment for moving the boats around than we used to have… "

All around the Chesapeake Bay… on land and on the sea… the bubble expands.

Our friend Michel, writing from France, noticed a news item:

"In the Indian press, there was only one article about the Democratic National Convention: it seems there aren’t enough call girls in Boston to satisfy the delegates. It was necessary to bring in extras from Florida and California. The rates begin at $200 an hour… this was in a Reuters dispatch. Did it appear in the American press?"

We must have missed it.

Bill Bonner [send him mail] is the author, with Addison Wiggin, of Financial Reckoning Day: Surviving the Soft Depression of The 21st Century.