"Why A Real Estate Appraiser Prefers The Stock Market To Real Estate," by Fred Carach

The twin crashes of the stock market and real estate that began in 2007 have devastated the American people as nothing has since the Great Depression. The American people today are far,far poorer than they were prior to these twin crashes. But something very strange has occurred. The stock market bottomed out in March of 2009 and since then has blasted upward in a powerful bull market rally while real estate the favorite investment of the American people and where most of their wealth resides has twisted ever so slowly in the wind.

It is time to ask a most important question. What accounts for this strange divergence? Before we go any further I need to state that in this article I use the narrow, popular definition of real estate. I refer only to condos,townhouses and single family homes. This article ignores apartment buildings and commercial real estate. Those interested in my considerably different views on commercial real estate are invited to read my article on commercial real estate and REITs titled, "How The Small Investor Can Afford To Buy Commercial Real Estate," on my blog.

It is important to point out that until the recent crash real estate had enjoyed one of the greatest sustained booms of all time. You have to go back  to the S&L crisis of the late 80s to find the last time that real estate was not in boom conditions. That crisis ended in 1991 and from 1991 until 2007 real estate did nothing but go up. Everyone was riding a wave that they couldn't lose on. You had to be truly stupid or unlucky to lose money in real estate during this fantastic 16 year period.
For reasons that I have never been able to understand people have enormous difficulty in understanding that in residential real estate it is impossible for real estate to rise faster than people's income for any sustained period of time because people will not be able to qualify for the mortgage.

And this is exactly what happened as the boom progressed. All sorts of strange mortgages were being created to fudge the issue that people could not possibly qualify for the homes that they wanted to buy. Mortgages with weird names such as ARMs, Alt A, negative amortizing mortgages and of course the famous liar loans dotted the landscape.

In 2007 the yawning gap between what people could honestly afford to pay and ever rising real estate prices could no longer be papered over and the whole rotten edifice collapsed. In that year the median priced home sold for $230,000 and the median income household could afford to buy a home in the $150,000-$175,000 price range using honest standards. Incidentally, that is exactly what the median priced home is selling for today. For the first time in many years the median income American family can afford to buy the median priced home.

Why then do I an insider with 30 years in the appraisal industry and a licensed realtor prefer the stock  market to real estate? It is indeed fortunate that real estate is selling for the first time in many years at a price range that is affordable to the American people but the $64,000 question is what will make real estate values rise. The answer I am afraid is that in the next five years there is almost nothing that I can see that will cause a sustained increase in real estate values on the national level.

It is amazing to me that people can not figure out why real estate values are dead in the water and refuse to rise. Contrary to popular belief real estate doesn't increase in value because they are not making any more of it or some other idiotic popular delusion. Real estate increases in value for only one reason and that reason is because buyers engage in bidding contests to purchase properties. In the absence of bidding contests real estate prices cannot and will not rise.

By now it should be obvious to the reader what the problem is. The problem is that the American people have been financially devastated by the twin crashes of the stock market and the real estate market. They are no longer players. They are too broke to engage in bidding contests.

Until the crash there were millions of active real estate players throughout the country who had a net worth of say at least $1 or $2 million on paper if not in reality that they could borrow against. Huge numbers of these players no longer exist. They are done, through, finished, foreclosed upon and have
declared bankruptcy. These now vanished players were the heart of the real estate market and they will not be coming back anytime soon. Indeed many of them will never come back. Their credit ratings have been destroyed and no bank will lend them money. This is a fatal combination in the world of real estate.

The stock market sails serenely on for the best of reasons. You don't need a credit rating of 620 or better to buy stocks and you don't need a bank loan to buy stocks. Stocks are a cash market. In this sea of darkness there is one light. The remarkable rise in real estate of the "cash buyer." For the cash buyer with a 7-10 year time horizon real estate is a market that has real potential.           

Forty Years a Speculator

Fred Carach

Oakland Park, FL 33309

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" Kiss Real Estate Goodby - A Real Estate Appraiser’s Viewpoint" by Fred Carach

Today we are told that the real estate crisis is in the 8th or 9th inning. I don’t think so.
The 3rd inning is more like it. I have a rather a unique insight on the problem. For thirty years I was a State Certified General Appraiser. That means I was licensed by the state of Florida to appraise everything from a chicken coop to office towers. I guess you could say I was there at the creation.
Those who champion a quick recovery are quick to trot out trite statements. The one I find the most amusing is the one that proudly proclaims, “that you can’t lose money in real estate”. The other one is that, “they aren’t making any more land and therefore it is a sure thing”. The quick recovery exponents foresee a V-bottom recovery. In other words after hitting bottom the market will immediately bounce strongly upward like a rubber ball that has fallen from a great height. I think an L-shaped bottom is far more probable. I think that after we hit bottom we will bounce along the bottom of the L for possibly five years. Beyond that point my crystal ball becomes very dark. What everyone appears to be missing is that in every type of investment transaction except for real estate there are only two decision makers. The buyer and the seller and if they agree the transaction takes place. In real estate however for a transaction to take place four players have to agree. And this is what everyone is missing.
It is not surprising that everyone is missing this important fact because for fifteen years the other two parties did nothing more than to rubber stamp the deals that the buyer and seller had agreed to. The other two parties to the transaction are of course the lender and that weird creature that no one knows anything about the real estate appraiser. The function of the lender is obvious. The function of the real estate appraiser is not so obvious. In theory the function of the appraiser is to estimate the market value of the property, so that the lender can recover his investment if the buyer defaults on his mortgage. And in olden days when lenders, that is the banks warehoused their mortgages this is actually how it worked. That world came to an end when mortgages were converted into securities and then sold all over the world. The lenders simply pooled these mortgages into financial instruments called MBS (mortgage backed securities) and sold them to increasingly clueless parties all over the world.
It is amazing how disinterested lenders became in honest estimates of market value once they knew they could dump these mortgages on the unsuspecting and the clueless. The appraiser now had a new function. His new function was to rubber stamp the decision of the buyer and the seller. And woe to the appraiser who did not rubber stamp the deal. I spent my last fifteen years as an appraiser having mortgage brokers point a gun to my head.
Now let’s see how things worked before the crisis. Lucky seller has found a fool who will pay $30,000 more than the property is worth. The appraiser tells the lender that the sale price is $30,000 too high. The lender couldn’t care less because he knows that his mortgage will he believes be lost in the 5,000 other mortgages that are being pooled and sold to some clueless bank in Europe. No one will ever be the wiser. He casually informs the appraiser that if he ever wants another appraisal assignment from him he will rubber stamp the deal. The deal is rubber stamped.
What is even more important however is that this new sale is now regarded as a “comp” or comparable sale by appraisers working in the neighborhood. This new higher sale now bleeds through the neighborhood and results in higher prices for all comparable properties in the neighborhood. This powerful engine for increasing real estate prices was at work throughout the great real estate boom.
Contrast that happy state of affairs for the seller to what happens today to lucky seller who has found a buyer willing to pay $30,000 more for his property than market value.
Our lender is now drowning in foreclosures. The last thing he can tolerate is to foreclose on another over priced property. He will inform the lucky seller that under no circumstances will he underwrite a mortgage for one dime more than the appraised value. Under the new world order the appraiser has also found a reason to develop a backbone he now knows that almost all appraisals are now being reviewed by an independent appraiser. There is nothing that will make an appraiser more cautious than the realization that his appraisal is being reviewed by another appraiser. Outside of the industry very few people have any idea of just how difficult it will be to raise real estate values as long as these conditions exist.
But it gets worse. It gets far worse. For real estate prices to advance it is first necessary for non homeowners to be able to purchase starter homes. For the first time in decades these young, first time purchasers are being told that they have to have a down payment. The horror of it! These pampered darlings have never saved a dime in their lives and they are now being told that they have to come up with a down payment of 10% or more. When you tell them this they look at you as if you have lost your mind. In reality what this means is that a large chunk of people who would have qualified to purchase real estate before the real estate crisis are now frozen out of the market.
Then there is the FICO score crisis. During my career the magic number was 620. Anyone who had a credit score of 620 or above could qualify for a loan. Today for the first time that score has been raised to the 660 or 680 range. There is nothing that will tell you how terrified lenders are today than this statistic. For most of the last twenty or thirty years lenders were beating the bushes looking for borrowers and constantly lowering their standards to get them. Today they are kicking them away. And this is happening at a time when the credit scores of the American people are in a death spiral from an avalanche of foreclosures and bankruptcies. Perhaps another 10%-15% of potential buyers are now frozen out of the market who would have qualified prior to the real estate crisis.
The ugliest reality of course is that the median income American family cannot afford to purchase the median priced American home. Most Americans today could not afford to purchase the home that they live in. At the peak of the boom the median priced home sold for about $230,000. The median American family can afford to pay up to $175,000 for a home using tried and true mortgage parameters. Since booms and busts almost always overshoot I suspect that the slow, relentless, decline in housing prices that we are experiencing will not end until the median priced home is selling for somewhat below $175,000. As this is being written the median price American home has fallen to about $195,000 not too far from the $175,000 requirement. I think we could reach $175,000 sometime in 2009.
That brings us to the last point. What was the device that enabled buyers to bull the price of homes to an unsustainable median price of $230,000? It was of course the phony-baloney mortgage. More popularly known as the ARM or the adjustable rate mortgage, which existed in several varieties but in all its varieties its sole function was to enable home buyers to buy homes that they were otherwise unable to afford and thus bull up real estate values. These ARMS are now an endangered species as lenders have discovered to their considerable horror that lending money to home buyers who cannot possibly afford to pay off the mortgage is a suicidal business practice.


When you analyze the unique set of circumstances that enabled the real estate bubble to occur it is hard to see how we can have sustained price increases as long as terrified lenders and real estate appraisers refuse to cooperate and return to their old and now discredited practices. Sellers can rant and rave all they want to. They are not going to get their price, at least not in the next five years. Let me repeat myself, sustained price increases in real estate are very, very difficult to achieve without the willful cooperation of the appraiser and the lender. As I have stated what makes real estate unique among all investment categories is that what buyers and sellers want is irrelevant without the concurrence of the lender and the appraiser.


Fred Carach is the author of the recent book “Forty Years A Speculator." His blog is located at fortyyearsaspeculator.blogspot.com.