Tue 18 May, 2010 04:57 pm
The speculators affect the real estate market greatly. Another set of players are the ‘How to become a millionaire’ hotel seminar promoters who lure people in with free seminars on tidbits of real estate financing but offer for $500 - $1,500 for the enriched courses. Basically they advise people how to speculate on the real estate market. Either these promoters are creatures of the developers in the housing industry or the financial sector for this industry. The freelance promoters make money on the courses they sell but they could also get a small commission if house sales go up. If they are part of the housing industry then the courses are extras as they make their money on commissions on the house sales.
As can be seen commission sales can be good for a business but not necessarily for the buyer as the salesman may withhold damning information such as a used car or toxic asset certificate. There should be a law prohibiting 100% commission sales i.e. the salesman income is completely based on his commission. He will be desperate to withhold damning information in order to make a living. Many of the Wall Street abuses arose from 100% commission sales of Wall Street products. There should be a law to have commission salesmen disclose damning information i.e. risks involved in a financial certificate and history of damages to the car and the repairs done. Businesses should be required by law to supply this information or their license withdrawn. Of course, the solution is to have used cars certified as well as the financial products. But if these businesses depend on commissions as well then the certificate is of no value as was the case of the mortgage based certificates. These certifying businesses should be charged with a crime or their licenses withdrawn. Businesses that try to influence the certification should also be charged with a crime.
The promoters advise speculators-to-be to put little or next to nothing down to minimize their losses. They buy a residential unit comprising a condominium, apartment or a house, basically any residential unit. Buy during construction and just before completion advertise the unit for sale or for rent. Use the mortgage interest payment as a tax deduction. With a rising market the speculator makes a tidy profit.
Let us get into the numbers:
Down payment (cash): $5,000
Principal (residential unit price): $355,000
Period: 10 years
Interest rate: 5%
If the buyer changes his/her mind s/he loses the $5,000.
For the speculator to minimize losses get the maximum time period such as 10, 15 or 20 years or more. The monthly payments are reduced.
$(355,000-5,000) = $350,000 x 1.05 = $367,500
Monthly payment = $367,500/(10 x 12) = $3,062.50 for 10 years
Monthly payment = $367,500/(20 x 12) = $1,531.25 for 20 years
The project takes a year to complete so total outlay would be $5,000.
In a rising housing market housing prices could rise 10% in a year so the unit on completion after a year would have a market value of $390,500 a difference of $(390,500-355,000) = $35,000. Other speculators or those seeing the need for new lodging would now be in the market. Fear of a rising market would encourage the buyers to get the sale and not wait for the higher price. He would take over the mortgage from the original speculator and pay him/her $35,000. The speculator made $30,000 and if he included the $5,000 outlay for the down payment then s/he pocketed $35,000. Not bad for signing some papers. If s/he bought several units then s/he made that many times more money: N times $35,000.
The real estate promoters have always claimed that real estate prices only appreciate and never depreciate so speculators have no fear of a downturn. Every year they go around the cities lecturing on this kind of activity so every year more and more speculators enter the arena. The number of speculators could be in the thousands and even movie stars could be involved with high priced mansions.
The debt to liquidity ratio: 355,000/5,000 = 71:1 far above the ‘net capital ratio’ for banks.
The debt load for 10,000 speculators: $355,000 x 10,000 = $3,550,000,000 or $3.55 billion and cash or down payment of $5,000 x 10,000 = $50,000,000 or $50 million.
The speculators spur on the housing market. But in a sinking or saturated housing market they can precipitate a crash. If no one buys the finished house one speculator walks away and he loses $5,000 but if 10,000 speculators walk away they collectively lose $50 million. But what happens to the mortgage lender. For each speculator the lender (the bank or hedge fund) has $350,000 property on their hands and for 10,000 speculators who walked away the banks or hedge funds collectively hold $(350,000 x 10,000) = $3,500,000,000 or $3.5 billion. With mostly NINJA homebuyers they can’t sell 10,000 homes as the banks seek to foreclose these properties. The housing market begins to crash. The NINJA homebuyers also begin to walk away as the economy worsen and lose their jobs that are tied to the housing industry. The spiraling job losses and affect the banks and hedge funds. The hedge funds just go bankrupt but the banks tied to the economy create an alarming situation as they go bankrupt.
With a population of 300,000,000 and only 0.5% in the market for new houses that would mean there would be 1,500,000 buyers. $(1,500,000 x 355,000) = $532,500,000,000 or $532.5 billion or $0.5325 trillion was pumped into the economy. If the housing market cannot construct 1.5 million houses there would be increases in house prices as buyers rush to get their homes before they can afford the new prices. The speculators give a false demand as their activities create a false demand and induce panic buying. A growing population helps buoy the market and demand outstrips supply. Every year the number of speculators increase spurred on by the profits made by earlier speculators. But land is limited so construction moves upward and outward i.e. taller buildings are built and more suburbs are created.
The Clinton years, saw a period of great prosperity with government surpluses. With GWB the Gulf War cost maybe $500 billion as he unilaterally went after Saddam Hussein with mainly British and Australian allies. Each month cost $3 to 4 billion and the war carried on for seven years or more. The US military is probably the most expensive in the world as each Abram tank costs more than $1 million, an Apache helicopter ~ $20 million, a stealth bomber ~$500 million, a blackbird ~$2 billion, each cruise missile ~$1 million.
As a result of the Gulf War many nations chose Japanese or European products over American especially private corporations and citizens. Who wants to buy from an American bully? Republicans represent the rich and deliberately create a class system by nullifying the progressive tax system with tax cuts for the rich. So government revenues fall. Republicans want a business climate with no regulations so Wall Street criminals have a field day with shareholders’ money and social security is put into the stock market where Wall Street sharks operate. The upper class composed of CEOs in order to make more money outsource jobs. The national debt is rising and the annual deficit gets worse as American workers are downsized and must buy cheaper imported goods to make ends meet. A vicious cycle has been created. More Americans lose their jobs and more imported goods are bought by Americans. Defense spending does not create enough jobs. The economy is a mess. A program to pump up the economy is attempted so the housing industry is spurred on by promoting home ownership. As there are many who want homes but cannot afford them leniency is practiced with little or no down payment and the period of payment stretched to 40 years. This is just perfect for speculators. The Bush Administration encourages home ownership regardless of the risks with NINJA homebuyers.
The demographics show an alarming picture. The baby boomers are aging and dying off. There aren’t enough young people to replace them as the baby boomers create a bulge in the nation as it passed thru the serpentine python like national economic body. This means that population could shrink and could no longer support the housing market expansion. High fuel costs for heating and travel also hurt homeowners in suburban areas brought on by speculative activities in the crude oil and natural gas commodities market. The pent up desire for new homes is still there but loss of jobs from outsourcing and down sizing changed the status of homebuyers to that of NINJA. With government leniency more NINJA buyers came into being and Wall Street sharks wanted part of the largesse. Whether the Bush Administration encouraged Wall Street to provide the loans or mortgages cannot be determined. With the government turning a blind eye to NINJA homebuyers, it may have been a tacit signal for them to pass the risky mortgages. Since GWB was their guy they did it to facilitate the transactions and certified those mortgages. However, they knew there was a risk so they took steps to protect themselves. Besides, it was the Whitehouse’s baby so let them handle it if it blows apart. The Wall Street smart ones decided to insulate themselves so they bundled them out to hedge funds.
The economy was helped by the Fed setting low interest rates that encouraged corporations and individuals to start risky projects and banks to make equally risky loans. There were corporate takeovers and mergers. All these activities created a huge demand for loans and a mountain of debt in the private sector. All the takeovers and mergers were financed by debt i.e. loans from banks. All the financing hinged on mortgage payments from mortgage holders who had lost their jobs or were downsized. When the mortgages defaulted i.e. mortgage payments ceased, the capital base of the loans disappeared. The 10,000 speculators who walked away also got the banks holding $3.5 billion of real estate that are losing their value as the market crashes and stand to lose that capital base or money. Corporate takeovers and mergers were stopped banks that failed to meet capital requirements went bankrupt and Wall Street was in trouble. As to what initially caused crash it is hard to determine whether it was the mortgages defaulting first or the speculators walking away from a stalled housing market. The interesting question is why the Republicans are hindering the passing of regulations. Probably they are trying to protect the Wall Street sharks from squealing as they cooperated with GWB in this scheme to pump up the economy with the Homeownership Program. The Bush Administration proposed a sweetheart deal in bailout programs for banks in trouble and then the general elections were held. The rest is history.