I made the case in August of 2004 for a housing bubble in my newsletter, and mentioned signs of this bubble bursting in a 2005 essay on this website. I warned borrowers to sell homes they couldn't afford, and to stop speculating in real estate. Many other authors at Financial Sense echoed this theme.
I took my own advice even though my house was paid for and the prices in my neighborhood weren't frothy. I was concerned about the growing number of foreclosures in my area, so I decided to sell my home in the fall of
2005. I am now renting half of a beautiful duplex in a fashionable area for a fraction of the monthly cost of owning it.
Unfortunately, many people thought that real estate could only go up, especially in desirable areas of Florida such as Naples and Miami. They took out risky adjustable rate mortgages (ARMs) and dabbled in 'flipping' condos. They lied about their income, and many banks and appraisers winked and went along with the scam. Others were pressured into loans they didn't understand and quickly became insolvent.
In October, I visited South Florida to get a closer look at the housing crash in progress. I visited my grandmother and her brother who share a condominium in a well-manicured development. They complain that the condo fees have risen steeply and are now $600 per month. They have also had emergency assessments such as the clean-up fees from Hurricane Wilma in 2005. The condo managers have told them that insurance has skyrocketed in the past two years which necessitated the sharp increase. I suspect the management company is also trying to recover losses from owners who can't afford the fees. Many of their neighbors have put their
condos up for sale but there have been few offers. Also, many vacant units are owned by speculators and non-residents who may not be aware of or concerned about maintenance costs.
Their sister has been trying to sell her condominium in nearby Marco Island for over a year. She lives in New York and is weary of the process. She had one offer last fall which she rejected after she was advised it was too low. She wishes she had accepted it since the current bids are much lower. Her 25 year old condo has to compete with brand new units, both from desperate flippers and cash-strapped builders flooding the market.
Naples is different from many areas suffering a deluge of unsold homes like Las Vegas or Boston. It has a much older, richer, and smaller population. The market attracts many second home buyers, with over 36% of the units vacant compared to a national average of 14.48%. The cost of living in Naples is 150% more expensive than the national average and job prospects are mediocre, so it's not going to get an influx of bargain seekers from other cities in the U.S.
While the Multiple Listing Service indicates that prices are down 35% from the top in Naples, that statistic may not tell the whole story. Sellers often make valuable concessions such as a discount on closing costs, prepaid maintenance fees, or memberships to the community golf course. Owners desperate to get out of unaffordable mortgages may slash prices to half of the bubble price. Buyers in new developments have seen their investment depreciate, joining the estimated 15% of Americans who are underwater on their mortgages according to zillow.com.
The real estate market is particularly dire in Naples. Prices in Naples peaked in the third quarter of 2005, earlier than many cities. In October, the glut of unsold houses topped a 31 month supply. Waves of realtors are reportedly fleeing the profession, as sales are approximately half of the 2002 pace.
One of the few bright spots of hope for sellers are the foreign buyers. Realtors are advertising to Europeans, especially English speaking British citizens who have seen their currency appreciate 29% in the past 5 years. Canadians are also desirable as they have seen a 56% improvement in buying power over the same time period, and many are seeking a warmer climate.
The Euro also makes Florida look cheap to Europeans. Businesses such as motels and restaurants are competing for foreign business. The sign at my hotel touted the staff's fluency in four languages. I observed about a third of the guests speaking German by the pool.
Miami is just the other side of the Florida peninsula from Naples across Alligator Alley, but it's quite a different city. Miami is much larger -- over 10 times the size and growing at over 1% per year this decade. While Naples is mostly full of white retirees, Miami is much younger (average age 40) and more ethnically diverse with a large black and Latino population.
The Miami area is a study in contrasts. Much of it is covered with gritty strip malls with bilingual signs, crisscrossed by tollways and peppered with large tourist attractions like the Orange Bowl. It's also a large international port with huge cranes lifting containers off giant freighters and cruise ships disgorging passengers. The affluent Miami residents live near the water, on semi-private islands or the trendy areas of Miami Beach. Then a couple blocks away from the seaside boutique hotels you see homeless men sleeping. When the median household income in this area is $33,985, who is going to fill the $2 million condos still in development?
As late as February there were over 100 major projects, mostly downtown condominiums, under construction or planning to break ground near Biscayne Bay. Speculators rushed in from as far as Latin America and Europe to snatch up real estate before it was built. One transportation consultant compared the frenzy to Asia, stating that "you have a wave of development underway here in Miami that is unprecedented, bigger than anything, bigger than Hong Kong in the boom years of development".
You can see many of these partially completed projects as you drive down I-195 towards the coast. I wonder if they will ever be finished. In Bangkok they had a real estate boom in the 1990s. It ended abruptly ten years ago when their currency, the Thai baht collapsed. The real estate pyramid scheme ended, and today there are many half finished 'ghost' skyscrapers in downtown. No one has finished them or bothered even to tear them down for scrap.
The real estate market in sunny Florida is cooling rapidly. Banks have started to rein in credit and refuse mortgages on properties they consider high risk. High profile developers like Juan Puig have filed for bankruptcy. Real estate websites now advise how to pull off a short sale or "closing in reverse." To avoid foreclosure, some homeowners have convinced their banks to sell the houses for less than the note amount and write off the difference. Another option advertised for sellers in distress is deed-in-lieu of foreclosure, where homeowners transfer the title back to the bank before they are evicted in hopes the bank will agree to forgive the additional debt. However, sellers may still be liable for the tax on the "passive income" of their forgiven debt.
Cash strapped homeowners have failed to pay their taxes in record numbers this year, up 41% from last year. About 65% of those were from investors who owned 2 or more units. Many speculators intended to flip their properties before the bill was due but were unable. In Florida, if the taxes aren't paid for two years the property can be seized.
The average seller may not be able to find a buyer. The Miami median house price of $378,000 is 73% above the American average. In October, the New York Times reported that sales of homes and condos worth under $1 million plunged 37.2% year-over-year. Homeowners attempting to sell now are competing with almost 80,000 other units according to ziprealty.com, an online real estate broker.
Certain optimists believe the worst is already over. However, a severe crash is not unprecedented in Florida history. The first Miami property bubble occurred in the 1920s when easy credit plus market hysteria induced many to speculate. The bubble burst in 1925 after prices reached the stratosphere, and the pool of buyers evaporated. Investopedia.com notes that if you bought a luxury home in Miami in 1926, you would have to wait nearly 80 years to make your money back -- not counting inflation!
The bottom line is that it's not a good time to buy a house. A traditional rule of thumb is that you should pay 100 times the monthly rent to purchase. In my neighborhood, home prices are still about twice this metric. The waves of foreclosures haven't stopped crashing on the market, and most young buyers are still priced out of the market. Too many speculators are still holding on, waiting for the bottom.
I would get out of any house you can't afford as soon as possible. It's going to get worse before it improves. Rent until everyone you know hates the thought of real estate. If you like your area, you don't plan to move for 10 years or more and can afford the payments, you can just wait it out. In the meantime, I would not spend money on any unnecessary renovations.
Copyright © 2006 Jennifer Barry
