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fransgeraedts (99.57)

In answer to EScroogeJr bullish comments about the housing market



September 24, 2007 – Comments (5)

dear EScroogeJr,

what you call funny money other people call capital.

Yes indeed there is money left over in the economy when consumption goods are payed! Its used to finance capital goods! There is nothing funny about that! Its called capitalism for a reason.

(By the way there is also something fundamentally wrong with the way you define consumption..many of the services you somehow see as superfluous are of course real consumption too.)

What you correctly sense (but wrongly explain) is that for a long time now we have produced to much capital. There is more capital around then can be profitably invested. The result of that is that the prices of investmentopportunities rise. That is also called assetinflation.

Cheap credit is itself one of the effects of the overproduction of capital. Because of the leverage it makes possible, it also contributes as an extra cause to the assetinflation.

Under these conditions assetbubbles will form. We have had five until now (; housing; creditrisk; commodities; china) One of those has burst; two are in the proces of bursting; two are still growing.

The overproduction of capital has not yet stopped. That is something i think you sense correctly as well. But you seem to conclude from that, that as long as the overproduction of capital continues bubbles cannot burst...or that the bursting will always result in the reforming of the (same) bubble all over again.

That conclusion is wrong. Capital is mobile. And riskperception is what gives it direction.

Lets look at the tech/internet bubble. The nasdaq reached 5000 in 2000. It lost most of that and now slowly is recovering. It still has not reached 3000 again. And that does not tell the whole story. Many techfirms have simply gone bankrupt. Think the  the sector. Others are still looking at shareprices that are a mere fragment of their former highs.

Bubbles burst because "free"capital moves away if the riskperception changes..and usually it takes a very long time for it to return.

And then of course there is also capital destruction going on if a bubble bursts.

Now lets look at housing. The riskperception in housing has very definitely changed. It has become visible that to much houses have been build. It has also become visible that a large group of  existing homeowners cannot pay their mortgages. Capital has begun to move away. That began at the most mobile level. Housing related stocks began to lose value. Then the Reits followed, then the Mortgage bank stocks. Then the credit itself dried up. Homeowners are the group who's capital is the least mobile: they live in it. So they are the most reluctant to move their capital out. And that of course means that they will lose the most.

How will this play out? The bubble will burst in slow motion. The housing market will continue to be a buyers market. They will expect prices to come down even further..and will wait for it. Sellers will have to take losses. That will mean they cannot afford to pay as much for their next house...etc..etc.

Bubbles will form and burst. Then a new bubble will form ..but it will form elsewhere.

That only stops if the overproduction of capital stops. But that is something for another discussion.

Frans Geraedts

5 Comments – Post Your Own

#1) On September 24, 2007 at 8:26 AM, EScroogeJr (< 20) wrote:

Props for the thoughtful analysis. I don't object to calling funny money "capital". Where we part ways is in our expectations for capital mobility. Wait for my next post; I hope to convince you that there is a reason why of all bubbles, capital has a special partiality for the one in housing.


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#2) On September 24, 2007 at 12:57 PM, glenvar (61.61) wrote:

Great post and great explanation of the mobility factor.

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#3) On September 24, 2007 at 4:30 PM, floridabuilder2 (97.89) wrote:

agree.... capital is mobile.... from tech to oil to real estate to blah blah blah

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#4) On September 24, 2007 at 6:58 PM, QualityPicks (61.30) wrote:

Good points. This is becoming more and more clear every day. As the excesses of the housing boom are worked out, money will start going other more productive places.

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#5) On October 17, 2007 at 1:48 AM, FleaBagger (27.49) wrote:

I'm going to go out on a long, thin limb here. I think that the asset inflation (2 words, right?) that you refer to is not a problem with commodity stocks. The risk they face is a potential global recession, which would crush demand for commodities. It's possible, but I don't think it's as likely as most observers seem to think. I agree, however, that Chinese stocks, like tech, housing, and low-grade debt before it, is a bubble that could deflate at a moment's notice without being preceded by economic calamity.

Only time will tell if I am right or I am wrong, as Sir Paul so eloquently put it.

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