Friday, March 14, 2008

First rule of the Market: when the offer is higher than the demand prices go down

"The reality is that people who bought houses with little or no money down are not really owners in the financial sense even though they appear on the deed; they are renters with an option to buy. When prices went up, almost everyone exercised that option, at least in part, although many preserved their renter status by diligently withdrawing every dollar of equity in a refinancing or a home equity loan.

Now that prices are down, people both don’t want to and can’t afford to exercise their options to buy. If you had an option to buy a stock at 80 and it was trading at seventy, you obviously wouldn’t want to exercise the option. Surprise Wall Street, Main Street doesn’t want to buy a $400,000 house for $600,000 when prices are falling and the market is glutted. Mr. and Ms. Main Street don’t want to do that even if they live in the house. Maybe – if they can – they’ll keep paying the rent; maybe they’ll go somewhere cheaper. offers people help in escaping an underwater mortgage with minimal damage to their credit and other assets (they say, I don’t know anything about them first hand). It’s good that buyers have some leverage in dealing with the banks whether this outfit is helpful or not." Tom Evslin

When two parties commit, one on giving money and the other on taking it and repaying in a certain amount of time, it should be a pair commitment in the sense that while the Lender cannot take back house and loan in the case of an upgrade of the property, so the other shouldn't be able to just walk away.
That would be possible if the contract didn't admit in the case of insolvency that the Lender should get back the property instead of the money.
The whole business was OK as long as the property value was going up.
They were both safe, because in any case the asset would have been a bigger value than the money.
But it occurred what lenders were not prepared for, because it never happened.
Usually with a devaluated currency the price of houses goes up.
In a normal market situation.
But if you inflate the market offering a higher number of properties than the request, as with any other item, the price goes down.
That is why in every economy the competition is good because keeps the prices down.
In this case the first need is to end this game.
And the only way is lowering the offer.
Which will happen naturally the moment the builders will realize that the price of the house they are going to build will be lower than the cost.
For that we will have to wait some time, in certain areas.
Prices are more likely to go up in big cities or in good locations, because there is no alternative (in central NY you do not find anymore land to build).
So, what we can forecast is that this business will NATURALLY end, when, we do not know.
The question is: is it worth to kill the game or just let the prices war find its natural end?
The answer very much depends on which side you are (borrower or lender).
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