WEBVTT 00:00:00.000 --> 00:00:03.040 Welcome back to the Deep Dive. I have to admit, 00:00:03.180 --> 00:00:06.360 the prep for today's session felt a little bit 00:00:06.360 --> 00:00:08.980 like doom scrolling. Oh, I know that feeling. 00:00:09.179 --> 00:00:11.240 You know that feeling when it's like 1130 at 00:00:11.240 --> 00:00:13.880 night, you should be asleep, but instead you're 00:00:13.880 --> 00:00:16.179 on Zillow just looking at houses you can't afford 00:00:16.179 --> 00:00:18.379 in cities you don't even live in. Oh, absolutely. 00:00:18.660 --> 00:00:22.140 It's the modern American pastime. It's real estate 00:00:22.140 --> 00:00:24.980 voyeurism. It is. It's almost a competitive sport 00:00:24.980 --> 00:00:27.800 at this point. Exactly. But for most of us, it's 00:00:27.800 --> 00:00:32.520 not just voyeurism. It's anxiety. We are tackling 00:00:32.520 --> 00:00:36.020 a topic today that I think occupies about, I 00:00:36.020 --> 00:00:38.119 don't know, 50 % of our collective brain space. 00:00:38.420 --> 00:00:40.780 At least. We are talking about the housing market. 00:00:40.899 --> 00:00:43.939 And specifically, we are taking a hard, unflinching 00:00:43.939 --> 00:00:46.299 look at the concept of the housing bubble. It 00:00:46.299 --> 00:00:48.979 is the specter haunting every homeowner and every 00:00:48.979 --> 00:00:52.179 hopeful buyer. It's, uh... The ghost at the banquet. 00:00:52.380 --> 00:00:55.079 It really is. Because housing isn't just shelter 00:00:55.079 --> 00:00:57.439 anymore. I mean, somewhere along the line, we 00:00:57.439 --> 00:00:59.740 developed this massive cultural narrative that 00:00:59.740 --> 00:01:02.039 housing is the safe investment. Right. The one 00:01:02.039 --> 00:01:03.780 thing that always goes up. It's the retirement 00:01:03.780 --> 00:01:06.959 plan. It's the legacy. For a huge chunk of the 00:01:06.959 --> 00:01:09.400 population, it is the single biggest financial 00:01:09.400 --> 00:01:12.030 asset they will ever own. Which puts a tremendous 00:01:12.030 --> 00:01:15.390 amount of psychological and financial pressure 00:01:15.390 --> 00:01:18.670 on that one asset. Totally. If your stock portfolio 00:01:18.670 --> 00:01:21.230 drops 10%, you're annoyed. Maybe you skip a vacation. 00:01:21.530 --> 00:01:24.650 But if your house value drops 10 % or worse, 00:01:24.849 --> 00:01:28.450 if you buy at the peak and it drops, you feel 00:01:28.450 --> 00:01:30.530 like your life is falling apart. You feel trapped. 00:01:30.989 --> 00:01:33.170 Precisely. And the terrifying question that keeps 00:01:33.170 --> 00:01:34.950 people up at night, whether they just bought 00:01:34.950 --> 00:01:37.689 a place or are desperately trying to, is this. 00:01:37.989 --> 00:01:40.890 Is the price I'm paying actually real? Is it 00:01:40.890 --> 00:01:43.530 tangible? Is this value tangible? Or is it just 00:01:43.530 --> 00:01:46.189 hot air that's about to pop? That is the multi 00:01:46.189 --> 00:01:48.250 -trillion dollar question. And frankly, it's 00:01:48.250 --> 00:01:50.569 a question that economists, sociologists and 00:01:50.569 --> 00:01:52.849 regular homebuyers have been wrestling with for, 00:01:52.950 --> 00:01:55.489 well, for centuries. It's not a new anxiety. 00:01:55.890 --> 00:01:57.909 So here is our mission for this deep dive. We're 00:01:57.909 --> 00:02:00.790 going to move beyond the scary headlines. We 00:02:00.790 --> 00:02:03.489 are ignoring the clickbait that says crash imminent 00:02:03.489 --> 00:02:08.129 every single Tuesday. We have a massive stack 00:02:08.129 --> 00:02:11.860 of research here. anchored by a really comprehensive 00:02:11.860 --> 00:02:15.020 breakdown from Wikipedia that aggregates work 00:02:15.020 --> 00:02:18.580 from Nobel laureates like Joseph Stiglitz, housing 00:02:18.580 --> 00:02:22.500 experts like Lind, Mayer, Schiller. And we're 00:02:22.500 --> 00:02:24.860 going to break down the mechanics of a bubble. 00:02:24.960 --> 00:02:26.560 We're going to look under the hood. We want to 00:02:26.560 --> 00:02:28.919 understand the engine, you know, not just the 00:02:28.919 --> 00:02:31.979 shiny paint job. We need to strip away the emotion 00:02:31.979 --> 00:02:34.280 and look at the gears turning underneath. We 00:02:34.280 --> 00:02:37.120 want to equip you, the listener. With the tools 00:02:37.120 --> 00:02:39.000 to spot the difference between a market that 00:02:39.000 --> 00:02:42.099 is just expensive. Because sometimes things are 00:02:42.099 --> 00:02:44.039 just expensive, right? Right. You pay a lot for 00:02:44.039 --> 00:02:45.879 a Ferrari because it's a Ferrari, not because 00:02:45.879 --> 00:02:48.560 it's in a bubble. Correct. High prices do not 00:02:48.560 --> 00:02:50.539 automatically equal a bubble. That is probably 00:02:50.539 --> 00:02:52.259 the most critical distinction we need to make 00:02:52.259 --> 00:02:54.039 right up front. So we're going to find that line. 00:02:54.199 --> 00:02:56.080 Yeah. And we are going to try to answer the big 00:02:56.080 --> 00:02:59.000 one. Can we actually predict when the pop is 00:02:59.000 --> 00:03:01.479 coming? That's a tall order. Economists are notoriously 00:03:01.479 --> 00:03:03.780 bad at predicting the future. Yeah. Wasn't there 00:03:03.780 --> 00:03:06.340 an old joke about that? There is. The old joke 00:03:06.340 --> 00:03:08.500 is that economists have predicted nine of the 00:03:08.500 --> 00:03:12.159 last five recessions. But the data we have today 00:03:12.159 --> 00:03:13.939 regarding housing is actually quite fascinating 00:03:13.939 --> 00:03:16.819 when you strip away the panic. OK, so here is 00:03:16.819 --> 00:03:19.639 the roadmap for our journey today. First, we 00:03:19.639 --> 00:03:21.699 are going to find what a bubble actually is. 00:03:22.060 --> 00:03:24.460 And I learned in the prep for this that it is. 00:03:24.889 --> 00:03:27.069 way more controversial than you might think. 00:03:27.129 --> 00:03:29.310 It is. There isn't just one definition. There's 00:03:29.310 --> 00:03:31.729 a bit of an academic brawl over it. A very polite, 00:03:31.870 --> 00:03:34.569 very nerdy brawl, but a brawl nonetheless. The 00:03:34.569 --> 00:03:37.560 best kind. Then we're going to get into the checklists. 00:03:37.819 --> 00:03:39.919 These are the tools researchers use, and they 00:03:39.919 --> 00:03:42.960 range from hard math to checking what people 00:03:42.960 --> 00:03:45.219 are talking about at dinner parties to spot the 00:03:45.219 --> 00:03:47.539 warning signs. From the quantitative to the qualitative. 00:03:47.900 --> 00:03:49.900 Exactly. And finally, we are going to take a 00:03:49.900 --> 00:03:51.860 tour of history. We have actual numbers from 00:03:51.860 --> 00:03:55.539 the past 40 or 50 years of OECD data to see just 00:03:55.539 --> 00:03:58.900 how high the highs go and how low the lows crash. 00:03:59.199 --> 00:04:01.560 And looking at that history is so vital. It reminds 00:04:01.560 --> 00:04:03.280 us that we aren't the first people to go through 00:04:03.280 --> 00:04:06.080 this, and we certainly won't be the last. The 00:04:06.080 --> 00:04:08.960 patterns repeat because, well, human nature repeats. 00:04:09.360 --> 00:04:11.139 So let's unpack this. Let's start at the very 00:04:11.139 --> 00:04:13.219 beginning. If I asked you to define a housing 00:04:13.219 --> 00:04:16.319 bubble stripped down the elevator pitch, what 00:04:16.319 --> 00:04:19.360 are we looking at? Okay. If you want the most 00:04:19.360 --> 00:04:22.500 basic fundamental concept, a housing bubble shares 00:04:22.500 --> 00:04:25.740 the same DNA as any asset bubble. It operates 00:04:25.740 --> 00:04:28.759 in two very distinct phases. Two phases. Phase 00:04:28.759 --> 00:04:31.740 one is the run -up. Prices increased dramatically. 00:04:31.980 --> 00:04:33.620 And I don't mean they just tick up with inflation 00:04:33.620 --> 00:04:36.120 or because the neighborhood got a new park. I 00:04:36.120 --> 00:04:39.100 mean, a surge driven by speculation, investing 00:04:39.100 --> 00:04:42.160 and frankly, frenzy. OK, so up goes the rocket. 00:04:42.199 --> 00:04:45.079 Exactly. And then phase two, the correction. 00:04:45.769 --> 00:04:48.649 Prices fall dramatically. The bubble bursts and 00:04:48.649 --> 00:04:50.810 housing, in theory, becomes affordable again. 00:04:50.990 --> 00:04:53.350 But here's the kicker. And this is why we care 00:04:53.350 --> 00:04:55.370 so much about housing specifically. What's that? 00:04:55.509 --> 00:04:58.089 Housing bubbles affect the real economy much, 00:04:58.129 --> 00:05:00.829 much more than other assets do. When you say 00:05:00.829 --> 00:05:02.850 real economy, you mean the grocery store, the 00:05:02.850 --> 00:05:05.550 car dealership, the jobs report, the stuff that 00:05:05.550 --> 00:05:08.550 affects my day to day life. Precisely. Compare 00:05:08.550 --> 00:05:12.180 it to the stock market. If a, say, a tech stock 00:05:12.180 --> 00:05:15.360 crashes, it hurts the people who own that stock. 00:05:15.560 --> 00:05:18.379 Maybe a few venture capitalists lose their shirts. 00:05:18.560 --> 00:05:21.720 Maybe some day traders have a bad month. But 00:05:21.720 --> 00:05:24.720 housing bubbles are credit fueled. They involve 00:05:24.720 --> 00:05:27.259 mortgages. They involve the entire banking system. 00:05:27.699 --> 00:05:30.160 And they involve a massive number of regular 00:05:30.160 --> 00:05:32.920 households. Right. If I buy a stock that crashes, 00:05:33.100 --> 00:05:35.500 I lose my initial investment, but I don't usually 00:05:35.500 --> 00:05:37.319 owe anyone more money unless I'm doing something 00:05:37.319 --> 00:05:39.740 fancy like trading on margin. Right. But with 00:05:39.740 --> 00:05:42.300 a house, I've signed a 30 -year contract to pay 00:05:42.300 --> 00:05:45.319 back a specific amount of money. Regardless of 00:05:45.319 --> 00:05:47.620 what the house is worth tomorrow. Exactly. If 00:05:47.620 --> 00:05:49.819 your house value crashes, you might go underwater 00:05:49.819 --> 00:05:51.860 owing more than the house is actually worth. 00:05:52.060 --> 00:05:54.379 And even if you don't sell, you stop spending 00:05:54.379 --> 00:05:57.160 money. You feel poorer. You feel poorer. You 00:05:57.160 --> 00:05:59.259 stop renovating the kitchen. You stop going out 00:05:59.259 --> 00:06:02.040 to eat. You delay buying that new car. That's 00:06:02.040 --> 00:06:04.079 something called the wealth effect. And it is 00:06:04.079 --> 00:06:06.420 so much larger for housing than for other financial 00:06:06.420 --> 00:06:08.720 assets. Why is that? Because for most people, 00:06:08.899 --> 00:06:11.000 the house is their wealth. So when your house 00:06:11.000 --> 00:06:13.600 feels worth less, you feel poorer and the whole 00:06:13.600 --> 00:06:16.500 economy can grind to a halt because of it. It's 00:06:16.500 --> 00:06:18.339 like the house is the battery of the consumer 00:06:18.339 --> 00:06:21.279 economy. And when the bubble bursts, the battery 00:06:21.279 --> 00:06:24.439 just dies. That is a very, very apt metaphor. 00:06:24.680 --> 00:06:26.680 OK, so that's the general vibe. We know it's 00:06:26.680 --> 00:06:29.060 big. We know it hurts. But let's get into the 00:06:29.060 --> 00:06:30.899 nitty gritty of the definition, because you mentioned 00:06:30.899 --> 00:06:33.300 there is a debate here. There is. We have two 00:06:33.300 --> 00:06:34.980 heavyweights in the source material regarding 00:06:34.980 --> 00:06:37.740 the definition of a bubble. Joseph Stiglitz and 00:06:37.740 --> 00:06:41.240 H. Lind. Yes. And this is essentially the battle 00:06:41.240 --> 00:06:43.720 between the why and the what. It's a philosophical 00:06:43.720 --> 00:06:46.639 divergence on how we should even view economic 00:06:46.639 --> 00:06:49.639 events. The why versus the what. Let's start 00:06:49.639 --> 00:06:51.579 with Stiglitz. He's a Nobel Prize winner, wrote 00:06:51.579 --> 00:06:54.019 about this way back in 1990. What was his take 00:06:54.019 --> 00:06:56.459 on it? So Joseph Stiglitz takes a very psychological 00:06:56.459 --> 00:07:01.079 and fundamental view. For him, a bubble is defined 00:07:01.079 --> 00:07:04.160 by the intent of the buyer. The intent. OK. He 00:07:04.160 --> 00:07:06.240 argues that a bubble exists if the price is high 00:07:06.240 --> 00:07:08.519 today only because investors believe it will 00:07:08.519 --> 00:07:10.660 be selling for even higher tomorrow. So it's 00:07:10.660 --> 00:07:13.019 purely speculative. The asset itself doesn't 00:07:13.019 --> 00:07:15.199 even matter. It could be a house. It could be 00:07:15.199 --> 00:07:17.709 a fidget spinner. It could be a tulip bulb. Exactly. 00:07:17.970 --> 00:07:21.230 He says you have a bubble when fundamental factors 00:07:21.230 --> 00:07:24.209 do not justify the price. The only justification 00:07:24.209 --> 00:07:28.449 is the belief in the future price rise. He's 00:07:28.449 --> 00:07:31.629 looking for that disconnect between sort of the 00:07:31.629 --> 00:07:34.009 utility of the thing and the price of the thing. 00:07:34.329 --> 00:07:36.730 It's like buying a ticket to a concert, not because 00:07:36.730 --> 00:07:38.490 you want to see the band, but because you think 00:07:38.490 --> 00:07:40.370 a scalper will pay you double for it next week. 00:07:40.889 --> 00:07:43.589 That is a perfect analogy. You don't care about 00:07:43.589 --> 00:07:46.569 the utility of the ticket. You only care about 00:07:46.569 --> 00:07:49.750 the resale value. If the music or the shelter, 00:07:49.850 --> 00:07:51.949 in the case of a house, doesn't justify the price 00:07:51.949 --> 00:07:55.430 tag, Stiglitz says that is a bubble. It implies 00:07:55.430 --> 00:07:58.290 that people are buying... Just to pass the hot 00:07:58.290 --> 00:08:00.269 potato to someone else down the line. The greater 00:08:00.269 --> 00:08:03.050 fool theory. Exactly. I buy it for $100 because 00:08:03.050 --> 00:08:05.149 I think a greater fool will buy it from me for 00:08:05.149 --> 00:08:07.670 $200. Okay, that makes a lot of intuitive sense. 00:08:07.889 --> 00:08:10.269 If I'm buying a shack for $1 million just because 00:08:10.269 --> 00:08:12.569 I think it'll be $2 million next year, that feels 00:08:12.569 --> 00:08:16.350 like a bubble. But then comes H. Lind in 2009, 00:08:16.870 --> 00:08:19.769 and he's essentially the anti -Stiglitz. He is. 00:08:19.870 --> 00:08:22.370 What's his problem with that definition? Lind's 00:08:22.370 --> 00:08:25.230 problem is practical. He looks at Stiglitz's 00:08:25.230 --> 00:08:28.079 definition and says, That's great philosophy, 00:08:28.259 --> 00:08:31.939 Joseph. But how on earth do we measure it? He 00:08:31.939 --> 00:08:34.759 argues that the concept of fundamentals is way 00:08:34.759 --> 00:08:38.080 too vague to be useful in the real world. I mean, 00:08:38.080 --> 00:08:40.879 who decides what the fundamental value of a house 00:08:40.879 --> 00:08:43.679 in San Francisco or London is? Right. Is it the 00:08:43.679 --> 00:08:46.460 sunshine? Is the job market? Is it the fact that 00:08:46.460 --> 00:08:49.039 there's a cool coffee shop on the corner? How 00:08:49.039 --> 00:08:50.799 do you put a number on that? You can't. It's 00:08:50.799 --> 00:08:53.700 subjective. It's messy. One person's overpriced 00:08:53.700 --> 00:08:56.000 shack is another person's green renovation project 00:08:56.000 --> 00:08:59.669 in a prime location. Lind argues that if we rely 00:08:59.669 --> 00:09:02.070 on fundamentals, we'll just never agree on when 00:09:02.070 --> 00:09:04.370 a bubble actually exists. We'll be arguing about 00:09:04.370 --> 00:09:06.190 it forever. So if you can't measure the fundamentals, 00:09:06.490 --> 00:09:08.230 you can't prove it's a bubble until after it 00:09:08.230 --> 00:09:11.230 pops. Exactly. Stiglitz's definition leaves you 00:09:11.230 --> 00:09:13.450 arguing about feelings and intentions. It's not 00:09:13.450 --> 00:09:16.889 empirical. So Lind proposes a definition based 00:09:16.889 --> 00:09:20.190 solely on price movement. Just the data. Just 00:09:20.190 --> 00:09:22.850 the data. He says, stop worrying about why the 00:09:22.850 --> 00:09:25.309 price is moving. Just look at the chart. His 00:09:25.309 --> 00:09:28.909 definition is simply a bubble is a dramatic increase 00:09:28.909 --> 00:09:31.889 in real prices over a period of months or years, 00:09:32.049 --> 00:09:35.070 followed by an immediate dramatic fall. He's 00:09:35.070 --> 00:09:36.750 saying, I don't care about your feelings or your 00:09:36.750 --> 00:09:39.289 psychology. Show me the geometry. That's a great 00:09:39.289 --> 00:09:42.070 way to put it. Don't worry about the cause. Verify 00:09:42.070 --> 00:09:44.470 the existence by the shape of the data. If it 00:09:44.470 --> 00:09:46.950 looks like a mountain, a steep climb up and a 00:09:46.950 --> 00:09:50.590 steep fall down, it was a bubble. It's a retrospective 00:09:50.590 --> 00:09:52.730 data driven definition. That seems a lot easier 00:09:52.730 --> 00:09:55.159 to measure. And speaking of measuring, the source 00:09:55.159 --> 00:09:56.980 material actually gives us some hard numbers 00:09:56.980 --> 00:09:59.480 from a couple of researchers, Aust and Rafelson 00:09:59.480 --> 00:10:02.840 in 2017. Yes. And I love this because it finally 00:10:02.840 --> 00:10:06.080 puts a number on the word dramatic. Yes. We aren't 00:10:06.080 --> 00:10:08.379 just using adjectives anymore. Yes. They tried 00:10:08.379 --> 00:10:11.039 to operationalize Lynn's definition. They created 00:10:11.039 --> 00:10:13.720 specific mathematical thresholds for what counts 00:10:13.720 --> 00:10:17.399 as a large bubble versus a small bubble. So it's 00:10:17.399 --> 00:10:20.539 a binary check. Is it or isn't it? Pretty much. 00:10:20.600 --> 00:10:22.879 It gives us a ruler to measure history with. 00:10:23.019 --> 00:10:26.269 Okay. Lay it on us. What is a large bubble in 00:10:26.269 --> 00:10:28.820 the eyes of an economist? To qualify as a large 00:10:28.820 --> 00:10:32.039 bubble, you need real prices. And that's inflation 00:10:32.039 --> 00:10:34.500 adjusted prices, mind you. So we aren't just 00:10:34.500 --> 00:10:37.320 looking at nominal dollars. Important detail. 00:10:37.440 --> 00:10:40.080 A very important detail. Real prices have to 00:10:40.080 --> 00:10:43.879 rise at least 50 % over a five year period. Or 00:10:43.879 --> 00:10:47.500 if it's a shorter, more intense boom, 35 % over 00:10:47.500 --> 00:10:50.139 a three year period. Let's pause on that. A 50 00:10:50.139 --> 00:10:53.440 % increase in five years after inflation. That 00:10:53.440 --> 00:10:56.179 is a massive jump. It is. If your house is worth 00:10:56.179 --> 00:11:00.659 $500 ,000. Five years later, it's $750 ,000 adjusted 00:11:00.659 --> 00:11:03.399 for inflation. That is wealth creation literally 00:11:03.399 --> 00:11:05.580 out of thin air. Correct. It's compounding at 00:11:05.580 --> 00:11:09.000 a rate that far, far outstrips wages or normal 00:11:09.000 --> 00:11:11.399 economic growth. It's an anomaly, but that's 00:11:11.399 --> 00:11:13.120 only half the definition. Right. It has to pop. 00:11:13.320 --> 00:11:16.500 It has to pop. So they define the fall as an 00:11:16.500 --> 00:11:20.460 immediate drop of at least 35%. Oof. That is 00:11:20.460 --> 00:11:22.559 painful. That wipes out almost all the gains. 00:11:22.799 --> 00:11:25.759 It does. It essentially resets the market, but 00:11:25.759 --> 00:11:27.840 it leaves a trail of bankruptcy and financial 00:11:27.840 --> 00:11:30.299 pain in its wake. And what about a small bubble? 00:11:30.440 --> 00:11:32.419 What are the thresholds for that? A small bubble 00:11:32.419 --> 00:11:35.340 is a rise of at least 35 percent over five years 00:11:35.340 --> 00:11:37.960 or 20 percent over three years. And that's followed 00:11:37.960 --> 00:11:41.279 by a fall of at least 20 percent. I really appreciate 00:11:41.279 --> 00:11:43.779 that they put numbers to this. It gives us that 00:11:43.779 --> 00:11:45.659 measuring stick so we aren't just using vibes. 00:11:46.120 --> 00:11:48.539 It allows us to look at history objectively and 00:11:48.539 --> 00:11:51.159 say, okay, 2008 in the U .S. was a large bubble, 00:11:51.240 --> 00:11:54.720 but maybe, you know, 1995 was just a blip. It 00:11:54.720 --> 00:11:57.460 does. But it also highlights the tricky problem 00:11:57.460 --> 00:11:59.259 with Lynn's definition, which you pointed out 00:11:59.259 --> 00:12:01.139 earlier. What's that? You only know for sure 00:12:01.139 --> 00:12:03.259 it was a bubble after it has crashed. Right. 00:12:03.320 --> 00:12:05.740 Until it crashes, it's just a dramatic rise. 00:12:06.200 --> 00:12:08.360 You're standing at the top of the mountain, but 00:12:08.360 --> 00:12:09.740 you don't know if you're about to fall off a 00:12:09.740 --> 00:12:12.179 cliff or just walk onto a plateau where prices 00:12:12.179 --> 00:12:15.940 stay. Exactly. And that brings us to the most 00:12:15.940 --> 00:12:18.779 critical part of our discussion today. How do 00:12:18.779 --> 00:12:21.480 we identify the bubble before the crash? We need 00:12:21.480 --> 00:12:23.820 to distinguish between something being just expensive 00:12:23.820 --> 00:12:28.059 or overpriced versus being in an actual bubble. 00:12:28.500 --> 00:12:30.860 This is a distinction that I think gets completely 00:12:30.860 --> 00:12:33.980 lost in the media frenzy. Every time prices go 00:12:33.980 --> 00:12:36.639 up, someone screams, bubble. It feels like crying 00:12:36.639 --> 00:12:39.559 wolf after a while. It does. But as our expert 00:12:39.559 --> 00:12:42.759 sources note. Overpricing is necessary for a 00:12:42.759 --> 00:12:45.360 bubble. You can't have a bubble without overpricing, 00:12:45.360 --> 00:12:47.620 but it is not sufficient. Not sufficient. You 00:12:47.620 --> 00:12:49.720 can have overpricing without a bubble. Explain 00:12:49.720 --> 00:12:51.960 that. How can something be overpriced but not 00:12:51.960 --> 00:12:54.639 be a bubble? That seems contradictory. Think 00:12:54.639 --> 00:12:57.059 of overpricing as a deviation from the equilibrium 00:12:57.059 --> 00:13:00.480 price. A fever is a good analogy here. A fever 00:13:00.480 --> 00:13:02.679 is a symptom. You can have a fever because you 00:13:02.679 --> 00:13:05.360 just ran a marathon in the heat. That's overpricing 00:13:05.360 --> 00:13:08.120 due to temporary supply and demand issues. Maybe 00:13:08.120 --> 00:13:10.240 a big factory opened in town and there aren't 00:13:10.240 --> 00:13:12.620 enough houses yet. So prices go up. Prices go 00:13:12.620 --> 00:13:14.580 up. That's a fever. But that's rational, right? 00:13:14.740 --> 00:13:17.940 High demand, low supply, price goes up. That's 00:13:17.940 --> 00:13:21.480 Econ 101. Exactly. That fever will break naturally 00:13:21.480 --> 00:13:24.980 as more houses are built. But a bubble. A bubble 00:13:24.980 --> 00:13:27.340 is a specific disease that causes the fever. 00:13:27.639 --> 00:13:30.320 It's when the price goes up, not because of the 00:13:30.320 --> 00:13:32.980 new factory, but because everyone believes prices 00:13:32.980 --> 00:13:36.070 always go up. So the fever becomes self -sustaining. 00:13:36.129 --> 00:13:38.649 The fever becomes self -sustaining. The disease 00:13:38.649 --> 00:13:42.110 is the expectation, not the underlying reality. 00:13:42.570 --> 00:13:45.210 That's a great way to put it. So to diagnose 00:13:45.210 --> 00:13:47.490 the disease, researchers first need to determine 00:13:47.490 --> 00:13:50.409 what the equilibrium price should be. How do 00:13:50.409 --> 00:13:52.090 they know what the body temperature is supposed 00:13:52.090 --> 00:13:54.289 to be in the first place? Well, Christopher Mayer, 00:13:54.389 --> 00:13:56.850 back in 2011, surveyed the research and found 00:13:56.850 --> 00:13:59.169 three main approaches to finding this equilibrium. 00:14:00.029 --> 00:14:02.769 These are the three litmus tests economists use 00:14:02.769 --> 00:14:05.210 to see if the patient is sick. Okay, let's walk 00:14:05.210 --> 00:14:07.070 through them. Method number one. The finance 00:14:07.070 --> 00:14:09.830 -based method. This treats a house exactly like 00:14:09.830 --> 00:14:12.649 a stock or a bond. How does that work? If you 00:14:12.649 --> 00:14:15.230 are valuing a company, a share of stock, you 00:14:15.230 --> 00:14:17.570 look at the discounted sum of its future dividends, 00:14:17.710 --> 00:14:19.549 right? Right. The cash it's going to pay you. 00:14:19.629 --> 00:14:22.470 But houses don't pay me dividends. I pay it. 00:14:22.590 --> 00:14:25.549 I pay for the roof, the boiler, the property 00:14:25.549 --> 00:14:28.269 taxes. Well, actually, in economic terms, it 00:14:28.269 --> 00:14:30.649 does pay you a dividend. The dividend is the 00:14:30.649 --> 00:14:32.830 rent you save by living there or the rent you 00:14:32.830 --> 00:14:35.289 could earn by leasing it out. Okay. Economists 00:14:35.289 --> 00:14:38.029 call this imputed rent. It's the value of the 00:14:38.029 --> 00:14:40.210 service the house provides you, which is shelter. 00:14:40.429 --> 00:14:44.029 So the price of the house... should theoretically 00:14:44.029 --> 00:14:46.570 equal the discounted value of all those future 00:14:46.570 --> 00:14:49.350 rent payments. Exactly. And this gives us a really 00:14:49.350 --> 00:14:52.509 powerful tool. The price to rent ratio. This 00:14:52.509 --> 00:14:55.210 is your P .E. ratio for housing. Price to earnings 00:14:55.210 --> 00:14:58.610 for a house. Precisely. If house prices skyrocket, 00:14:58.610 --> 00:15:01.289 doubling, tripling, but rents in the same area 00:15:01.289 --> 00:15:04.470 stay flat, the finance based method says, hey, 00:15:04.649 --> 00:15:07.289 this asset is getting overvalued relative to 00:15:07.289 --> 00:15:09.289 the cash flow it generates. Like a stock with 00:15:09.289 --> 00:15:11.710 a P .E. ratio of a thousand. It just doesn't 00:15:11.710 --> 00:15:13.990 make sense mathematically. At some point, you'd 00:15:13.990 --> 00:15:15.870 be better off renting the house next door and 00:15:15.870 --> 00:15:18.590 investing the difference. Precisely. If the price 00:15:18.590 --> 00:15:21.049 -to -rent ratio gets way out of whack, the market 00:15:21.049 --> 00:15:23.889 is signaling a disconnect from reality. If it 00:15:23.889 --> 00:15:26.629 costs $5 ,000 a month to own but only $2 ,000 00:15:26.629 --> 00:15:29.110 to rent the identical house next door, why would 00:15:29.110 --> 00:15:31.730 anyone buy? The only reason they'd buy is if 00:15:31.730 --> 00:15:33.210 they think the price is going to keep rocketing 00:15:33.210 --> 00:15:35.610 up so they can sell to that greater fool. Exactly. 00:15:35.789 --> 00:15:38.570 You found the bubble. It's speculation. Okay, 00:15:38.629 --> 00:15:41.269 that makes sense. What's method number two? The 00:15:41.269 --> 00:15:43.850 construction cost method. This one is really 00:15:43.850 --> 00:15:46.250 interesting because it relies on physical reality. 00:15:46.610 --> 00:15:50.350 The logic is simple. Why would a used house be 00:15:50.350 --> 00:15:53.250 worth drastically more than the cost to build 00:15:53.250 --> 00:15:55.690 a brand new one right next to it? Right. If a 00:15:55.690 --> 00:15:57.610 30 -year -old house on the market costs a million 00:15:57.610 --> 00:16:00.370 dollars, but I can buy a plot of land and build 00:16:00.370 --> 00:16:02.990 a replica for $500 ,000, the market is broken. 00:16:03.830 --> 00:16:06.330 Arbitrage should kick in. Exactly. Competition 00:16:06.330 --> 00:16:08.730 from new construction should, in a rational market, 00:16:08.970 --> 00:16:11.490 drive the price of existing homes down to the 00:16:11.490 --> 00:16:14.450 cost of construction. If used houses are too 00:16:14.450 --> 00:16:16.990 expensive, developers will just build new ones 00:16:16.990 --> 00:16:19.190 until the price drops. But there's a nuance here, 00:16:19.210 --> 00:16:21.289 isn't there? Something called the kinked supply 00:16:21.289 --> 00:16:24.490 curve. Yes. I'm glad you brought that up. It 00:16:24.490 --> 00:16:27.909 was described by Glazer and Yurko in 2005, and 00:16:27.909 --> 00:16:30.049 it explains why crashes happen the way they do. 00:16:30.149 --> 00:16:33.100 The kinked supply curve. It sounds like a bad 00:16:33.100 --> 00:16:35.399 dance move, but I have a feeling it's important. 00:16:35.740 --> 00:16:38.220 It's very important. The theory is that supply 00:16:38.220 --> 00:16:41.740 is highly elastic, meaning it's flexible when 00:16:41.740 --> 00:16:44.000 prices are high. If prices are above construction 00:16:44.000 --> 00:16:47.220 costs, builders rush in. It's relatively easy 00:16:47.220 --> 00:16:49.100 to build more houses. You see cranes everywhere. 00:16:49.379 --> 00:16:51.700 Put up the drywall, pour the concrete, expand 00:16:51.700 --> 00:16:54.519 the suburbs. Let's go. But, and this is the critical 00:16:54.519 --> 00:16:57.539 part, when prices fall below construction costs, 00:16:57.940 --> 00:17:02.399 supply is inelastic. It is stuck. Because houses 00:17:02.399 --> 00:17:04.519 are durable. They don't just disappear when the 00:17:04.519 --> 00:17:06.819 market goes down. Precisely. You can't unbuild 00:17:06.819 --> 00:17:09.539 a house to reduce supply. You can't just delete 00:17:09.539 --> 00:17:11.880 it from the server like a failed crypto coin. 00:17:12.240 --> 00:17:14.920 So in a down market, you have all this inventory 00:17:14.920 --> 00:17:17.599 that won't go away. So prices can shoot up, but 00:17:17.599 --> 00:17:19.960 they can't fall as easily. Well, what it implies 00:17:19.960 --> 00:17:22.480 is that on the way down, the recovery is incredibly 00:17:22.480 --> 00:17:25.880 slow because that excess supply hangs over the 00:17:25.880 --> 00:17:28.140 market like a dark cloud for years. That explains 00:17:28.140 --> 00:17:30.599 why the bust feels so heavy and just drags on 00:17:30.599 --> 00:17:32.259 and on. The houses are just sitting there waiting 00:17:32.259 --> 00:17:34.240 for buyers who don't exist. And builders stop 00:17:34.240 --> 00:17:36.099 building completely because it costs more to 00:17:36.099 --> 00:17:38.920 build than to buy. So the market freezes. That 00:17:38.920 --> 00:17:41.759 is the kink in the supply curve. OK, that's a 00:17:41.759 --> 00:17:44.900 powerful concept. And the third method. for finding 00:17:44.900 --> 00:17:47.960 that equilibrium price the affordability method 00:17:47.960 --> 00:17:50.779 this is the one most listeners probably use intuitively 00:17:50.779 --> 00:17:52.900 when they're looking at zillow at midnight you 00:17:52.900 --> 00:17:55.220 compare prices to income the price to income 00:17:55.220 --> 00:17:58.940 ratio right or price to wage the logic is undeniable 00:17:59.369 --> 00:18:01.690 Ultimately, housing must be paid for by wages. 00:18:01.910 --> 00:18:04.650 If prices get too high relative to what people 00:18:04.650 --> 00:18:07.490 earn, they simply cannot consume the same level 00:18:07.490 --> 00:18:09.930 of housing services. You hit a mathematical wall. 00:18:10.089 --> 00:18:12.470 You hit a mathematical wall where people literally 00:18:12.470 --> 00:18:15.269 cannot get a loan to pay the mortgage. So if 00:18:15.269 --> 00:18:18.130 the average person in a city makes $50 ,000 and 00:18:18.130 --> 00:18:20.930 the average house is $2 million, something has 00:18:20.930 --> 00:18:23.069 to break. It doesn't matter how much hype there 00:18:23.069 --> 00:18:26.359 is. The math just doesn't work. Exactly. That 00:18:26.359 --> 00:18:28.779 is a clear sign of deviation from equilibrium. 00:18:29.119 --> 00:18:31.319 When you need three generations of income to 00:18:31.319 --> 00:18:33.500 buy a one -bedroom apartment, you are very likely 00:18:33.500 --> 00:18:35.980 in a bubble. The fundamental utility of housing 00:18:35.980 --> 00:18:38.220 is clashing with the financialization of housing. 00:18:38.539 --> 00:18:41.099 Okay, so those are the mathematical ways to spot 00:18:41.099 --> 00:18:44.099 if prices are out of whack. But markets are made 00:18:44.099 --> 00:18:47.559 of people. And people are. Well, they're emotional. 00:18:47.700 --> 00:18:49.660 They're weird. They get FOMO. They get jealous. 00:18:49.799 --> 00:18:51.680 They make bad decisions because their brother 00:18:51.680 --> 00:18:53.569 -in -law did something. Which brings us to the 00:18:53.569 --> 00:18:56.210 entire behavioral side of things. It's arguably 00:18:56.210 --> 00:18:59.069 the more important part. Yes. Section three of 00:18:59.069 --> 00:19:02.630 our dive, the vibe check. We're looking at Robert 00:19:02.630 --> 00:19:06.390 Schiller's checklist from 2010. Schiller is famous 00:19:06.390 --> 00:19:10.250 for predicting the 2008 crash. He literally wrote 00:19:10.250 --> 00:19:13.369 the book Irrational Exuberance. He did. And he 00:19:13.369 --> 00:19:14.750 didn't just look at spreadsheets. He looked at 00:19:14.750 --> 00:19:16.569 people. He looked at the culture. He did. He 00:19:16.569 --> 00:19:19.309 identified the social contagion aspect of bubbles. 00:19:19.589 --> 00:19:22.369 He argues that a bubble is essentially a sociological 00:19:22.369 --> 00:19:25.690 phenomenon. It spreads like a virus. It's a narrative 00:19:25.690 --> 00:19:28.190 that takes hold of a society. So he has a checklist 00:19:28.190 --> 00:19:29.869 of seven signs. I want to walk through these 00:19:29.869 --> 00:19:31.470 and I want you to tell me why each one matters. 00:19:32.009 --> 00:19:34.910 Sign number one. Sharp increases in the price. 00:19:35.390 --> 00:19:38.009 This is the catalyst. The chart goes vertical. 00:19:38.269 --> 00:19:40.769 It creates the momentum that draws people in. 00:19:40.849 --> 00:19:42.789 You see the movement and it catches your eye. 00:19:42.930 --> 00:19:45.549 It's the initial spark that gets the fire going. 00:19:45.789 --> 00:19:48.549 OK, that makes sense. Sign number two. Great 00:19:48.549 --> 00:19:51.150 public excitement. This is when housing stops 00:19:51.150 --> 00:19:53.809 being a utility, a place to sleep and eat, and 00:19:53.809 --> 00:19:56.710 becomes the main topic of conversation. This 00:19:56.710 --> 00:20:00.170 is the cocktail party indicator. Right. When 00:20:00.170 --> 00:20:03.230 everyone, regardless of their job teachers, mechanics, 00:20:03.609 --> 00:20:05.349 doctors, people who have... never looked at a 00:20:05.349 --> 00:20:07.730 financial statement in their lives, is talking 00:20:07.730 --> 00:20:10.529 about real estate prices at a barbecue. Oh, I've 00:20:10.529 --> 00:20:12.809 been to those parties. Oh, did you see what the 00:20:12.809 --> 00:20:14.890 house down the street went for? Exactly. When 00:20:14.890 --> 00:20:17.609 the conversation shifts from how are the kids 00:20:17.609 --> 00:20:21.509 to what's your zestimate? Huh. Schiller says 00:20:21.509 --> 00:20:23.410 you should be watching out. Which leads right 00:20:23.410 --> 00:20:25.769 into number three on his list, an accompanying 00:20:25.769 --> 00:20:28.829 media frenzy. The news cycle feeds the beast. 00:20:29.089 --> 00:20:31.490 It creates a feedback loop. You see headlines 00:20:31.490 --> 00:20:34.450 about record prices every day. You see TV shows 00:20:34.450 --> 00:20:37.130 about house flipping proliferating. You see magazine 00:20:37.130 --> 00:20:39.170 covers about how to get rich in real estate. 00:20:39.250 --> 00:20:42.089 It normalizes it. It amplifies the signal and 00:20:42.089 --> 00:20:44.390 validates the obsession. It makes it feel like 00:20:44.390 --> 00:20:46.869 the whole world is participating. And you're 00:20:46.869 --> 00:20:49.390 missing out if you're not. Okay, number four 00:20:49.390 --> 00:20:52.210 is really interesting. Stories of people earning 00:20:52.210 --> 00:20:55.470 a lot of money causing envy. The envy factor 00:20:55.470 --> 00:20:58.539 is so powerful. Schiller specifically points 00:20:58.539 --> 00:21:02.400 this out. We are competitive creatures. When 00:21:02.400 --> 00:21:05.079 you see your neighbor, who you know isn't smarter 00:21:05.079 --> 00:21:07.819 or harder working than you, make $100 ,000 in 00:21:07.819 --> 00:21:09.460 a year just by sitting in their living room because 00:21:09.460 --> 00:21:11.440 their house appreciated. It drives you crazy. 00:21:11.640 --> 00:21:13.960 It triggers a psychological need to participate. 00:21:14.339 --> 00:21:16.619 You feel like a sucker for working a 9 -to -5 00:21:16.619 --> 00:21:18.700 job while they get rich doing nothing. You feel 00:21:18.700 --> 00:21:21.279 like you're losing by not playing the game. Precisely. 00:21:21.690 --> 00:21:23.730 It challenges your sense of fairness. And the 00:21:23.730 --> 00:21:25.710 only way to resolve that internal conflict is 00:21:25.710 --> 00:21:28.609 to jump in and get your slice of the pie. FOMO 00:21:28.609 --> 00:21:31.930 weaponized. Okay. Number five, growing interest 00:21:31.930 --> 00:21:34.210 in the asset class among the general public. 00:21:34.470 --> 00:21:36.470 This is when you see people who have no business 00:21:36.470 --> 00:21:39.069 being real estate investors becoming real estate 00:21:39.069 --> 00:21:42.809 investors. The classic dentist buying five condos 00:21:42.809 --> 00:21:45.650 in Miami scenario. When amateurs flood the market, 00:21:45.789 --> 00:21:48.549 it's usually a sign the top is near. Why is that? 00:21:49.069 --> 00:21:50.910 Because they are the greater fools we talked 00:21:50.910 --> 00:21:53.289 about. They're entering the market late, driven 00:21:53.289 --> 00:21:56.970 by the envy and the media hype, not by any sound 00:21:56.970 --> 00:22:00.069 financial analysis. Okay, number six is my favorite 00:22:00.069 --> 00:22:03.869 because it sounds so dangerous. New era. This 00:22:03.869 --> 00:22:06.109 is the most dangerous one of all. This is the 00:22:06.109 --> 00:22:09.029 intellectual justification for the madness. It's 00:22:09.029 --> 00:22:11.789 when people start inventing reasons why this 00:22:11.789 --> 00:22:14.029 time is different. The old rules don't apply 00:22:14.029 --> 00:22:16.809 anymore. Exactly. They'll say prices will never 00:22:16.809 --> 00:22:19.490 go down because land is scarce or because of 00:22:19.490 --> 00:22:21.910 the new tech economy or because demographics 00:22:21.910 --> 00:22:24.670 have changed forever. They invent a narrative 00:22:24.670 --> 00:22:27.549 to explain why price to rent ratios don't matter 00:22:27.549 --> 00:22:30.680 anymore. It's the denial of gravity. It's people 00:22:30.680 --> 00:22:32.799 convincing themselves that the laws of economics 00:22:32.799 --> 00:22:35.759 have been repealed just for them, just this once. 00:22:35.960 --> 00:22:38.180 It is the rationalization of the irrational. 00:22:38.660 --> 00:22:42.460 It soothes the anxiety of paying an insane price. 00:22:42.579 --> 00:22:45.099 You tell yourself, it's OK, I'm overpaying because 00:22:45.099 --> 00:22:48.079 we are in a new era. And finally, number seven 00:22:48.079 --> 00:22:51.779 on Schiller's list, a decline in lending standards. 00:22:52.099 --> 00:22:55.460 This is the fuel on the fire. When the banks 00:22:55.460 --> 00:22:57.920 start giving money to anyone with a pulse because 00:22:57.920 --> 00:23:00.400 they, too, believe the collateral, the house 00:23:00.400 --> 00:23:02.779 will never lose value. It becomes suspiciously 00:23:02.779 --> 00:23:05.460 easy to get a loan. Suspiciously easy. No income 00:23:05.460 --> 00:23:08.220 verification. No problem. No down payment. Sure. 00:23:08.380 --> 00:23:10.480 That's the financial system pouring gasoline 00:23:10.480 --> 00:23:13.400 on an already raging fire. So Schiller's List 00:23:13.400 --> 00:23:16.500 is basically a guide to spotting social hysteria. 00:23:16.559 --> 00:23:18.839 It is. It's about spotting when a market has 00:23:18.839 --> 00:23:21.099 detached from reality and is running on pure 00:23:21.099 --> 00:23:23.480 emotion and cheap credit. It's a qualitative 00:23:23.480 --> 00:23:25.839 assessment of the market's sanity. Now, for the 00:23:25.839 --> 00:23:27.519 listener who really wants to look under the hood, 00:23:27.599 --> 00:23:29.880 the one who isn't satisfied with just the vibe 00:23:29.880 --> 00:23:32.400 or the general map, we have another layer. Yes. 00:23:32.559 --> 00:23:34.920 This comes from Lind, the same guy who gave us 00:23:34.920 --> 00:23:37.579 the anti -stiglitz definition. He outlined some 00:23:37.579 --> 00:23:39.559 deep dive indicators that are much more technical. 00:23:39.839 --> 00:23:41.539 These are excellent because they cut through 00:23:41.539 --> 00:23:43.599 the noise. They break down into four specific 00:23:43.599 --> 00:23:46.259 groups of warning signs. If Schiller measures 00:23:46.259 --> 00:23:49.440 the emotion, Lind measures the structural fragility 00:23:49.440 --> 00:23:53.130 of the market. Let's hit group one. Interest 00:23:53.130 --> 00:23:55.289 payments and income. What are we looking for 00:23:55.289 --> 00:23:58.250 here? So we're looking at whether interest payments 00:23:58.250 --> 00:24:00.890 are eating up a larger and larger percentage 00:24:00.890 --> 00:24:04.109 of household income. But there is a crucial check 00:24:04.109 --> 00:24:07.089 here that I absolutely love. What's that? Lynn 00:24:07.089 --> 00:24:10.089 suggests asking this question. What payments 00:24:10.089 --> 00:24:12.430 be increasing if we applied historical interest 00:24:12.430 --> 00:24:15.549 rates to today's prices? Oh, that's smart. So 00:24:15.549 --> 00:24:19.170 it's the stress test. It spots if. Artificially 00:24:19.170 --> 00:24:21.250 low interest rates are masking the affordability 00:24:21.250 --> 00:24:24.009 problem. Exactly. Let's say interest rates today 00:24:24.009 --> 00:24:27.049 are 2%. So the monthly payment on an $800 ,000 00:24:27.049 --> 00:24:29.190 house looks affordable. You think, I can afford 00:24:29.190 --> 00:24:32.630 this. But historical rates are closer to, say, 00:24:32.849 --> 00:24:36.650 6%. If you apply that 6 % rate to the current 00:24:36.650 --> 00:24:39.089 home prices and the payment suddenly becomes 00:24:39.089 --> 00:24:41.809 impossible, you are in a danger zone. Because 00:24:41.809 --> 00:24:44.799 rates won't stay at 2 % forever. Right. It's 00:24:44.799 --> 00:24:47.440 a stress test for the entire market. If the market 00:24:47.440 --> 00:24:49.619 only functions at emergency low interest rates, 00:24:49.720 --> 00:24:52.559 it's not a healthy market. It's a bubble on life 00:24:52.559 --> 00:24:54.579 support waiting for the Fed to pull the plug. 00:24:54.700 --> 00:24:57.420 Okay, that's a great tool. Group two is buyer 00:24:57.420 --> 00:25:00.299 expectations and risk. This goes back to the 00:25:00.299 --> 00:25:03.700 psychology. Do buyers expect prices to rise forever? 00:25:04.180 --> 00:25:07.339 Do they view housing as risk -free over a short 00:25:07.339 --> 00:25:10.519 horizon, like three to five years? But Lind also 00:25:10.519 --> 00:25:13.460 looks for a specific behavior he calls impatience. 00:25:14.000 --> 00:25:16.200 Impatience, like people are rushing to close 00:25:16.200 --> 00:25:19.039 deals. Yes, but also financial impatience. Are 00:25:19.039 --> 00:25:21.200 people buying at a younger age than they usually 00:25:21.200 --> 00:25:23.460 do? Are they buying more house than they actually 00:25:23.460 --> 00:25:25.819 need, stretching their budgets to the absolute 00:25:25.819 --> 00:25:28.220 limit? Okay. And crucially, are they amortizing 00:25:28.220 --> 00:25:30.819 less? Meaning, are they paying off the principle 00:25:30.819 --> 00:25:32.660 of the loan or are they just paying the interest? 00:25:32.960 --> 00:25:35.599 Correct. If you see a rise in buyers switching 00:25:35.599 --> 00:25:38.220 to interest -only loans or 40 -year mortgages 00:25:38.220 --> 00:25:40.759 just to make the monthly payment fit. That is 00:25:40.759 --> 00:25:43.180 a massive red flag. Why is it such a red flag? 00:25:43.400 --> 00:25:45.319 It means they aren't buying the house to pay 00:25:45.319 --> 00:25:47.500 it off and own it free and clear someday. They 00:25:47.500 --> 00:25:50.440 are essentially renting money from the bank to 00:25:50.440 --> 00:25:53.299 hold the asset while it appreciates. They are 00:25:53.299 --> 00:25:56.619 betting entirely on capital gains, not on building 00:25:56.619 --> 00:25:59.420 equity through payments. That is risky business. 00:25:59.880 --> 00:26:02.339 You're betting the farm that the value goes up 00:26:02.339 --> 00:26:04.980 before that loan comes due or the rate adjusts. 00:26:05.019 --> 00:26:08.160 It's the definition of speculation. OK, group 00:26:08.160 --> 00:26:11.579 three is bank behavior. This one is counterintuitive. 00:26:12.079 --> 00:26:14.440 Normally, when prices are high, you'd think banks 00:26:14.440 --> 00:26:17.519 would be more cautious, right? The asset is expensive, 00:26:17.680 --> 00:26:20.730 so it's risky. If a stock shoots up, a margin 00:26:20.730 --> 00:26:22.809 lender might get nervous and ask for more collateral. 00:26:23.109 --> 00:26:24.849 Right. You'd think they'd tighten up lending 00:26:24.849 --> 00:26:27.049 standards to protect themselves from a potential 00:26:27.049 --> 00:26:29.690 fall. But in a bubble, you see the exact opposite. 00:26:30.109 --> 00:26:33.089 Banks increase their loan -to -value, or LTV, 00:26:33.309 --> 00:26:36.650 ratios. They get more liberal as prices rise. 00:26:36.930 --> 00:26:38.569 They're willing to lend you more money against 00:26:38.569 --> 00:26:41.730 the same asset. Yes. They are chasing market 00:26:41.730 --> 00:26:43.930 share. They have the same FOMO as the buyers. 00:26:44.519 --> 00:26:47.480 If you see banks competing to give the most reckless 00:26:47.480 --> 00:26:50.220 loans during a boom, that is a classic, classic 00:26:50.220 --> 00:26:52.700 bubble sign. They're abandoning their own risk 00:26:52.700 --> 00:26:55.819 models. And group four is simple. Speculation. 00:26:55.880 --> 00:26:58.680 Simply put. Are buyers planning to sell quickly? 00:26:58.799 --> 00:27:02.059 The fix and flip mentality. Housing is naturally 00:27:02.059 --> 00:27:04.819 a long term asset. It has high transaction costs, 00:27:05.160 --> 00:27:07.839 realtor fees, taxes, closing costs. It's not 00:27:07.839 --> 00:27:10.440 meant to be day traded. Not at all. If a large 00:27:10.440 --> 00:27:12.240 share of the market is treating it like they're 00:27:12.240 --> 00:27:14.799 day trading stocks, the stability is gone. The 00:27:14.799 --> 00:27:17.440 market becomes a casino. The source also mentions 00:27:17.440 --> 00:27:19.359 a few other statistical indicators that I think 00:27:19.359 --> 00:27:22.700 are worth rapid firing through. First one. Vacancy 00:27:22.700 --> 00:27:25.480 rates. High prices plus high vacancy rates equals 00:27:25.480 --> 00:27:27.619 danger. This was the story in parts of Spain 00:27:27.619 --> 00:27:30.700 and more recently China. If prices are going 00:27:30.700 --> 00:27:32.640 up but nobody's actually living in the houses, 00:27:32.700 --> 00:27:35.420 it means supply exceeds real organic demand. 00:27:35.700 --> 00:27:38.339 You have purely speculative ghost towns. Next 00:27:38.339 --> 00:27:41.980 one. Demography. Is there actually a net inflow 00:27:41.980 --> 00:27:44.869 of people to the area? If a city's population 00:27:44.869 --> 00:27:47.170 is shrinking but its housing prices are doubling, 00:27:47.410 --> 00:27:49.910 the math doesn't work. Who is going to live in 00:27:49.910 --> 00:27:51.769 all these expensive homes? It seems like there 00:27:51.769 --> 00:27:53.569 are so many flashing red lights if you just know 00:27:53.569 --> 00:27:55.650 where to look. There are. The problem is when 00:27:55.650 --> 00:27:57.769 the party is going and the punch bowl is full, 00:27:57.970 --> 00:27:59.970 no one wants to look at the warning lights. We 00:27:59.970 --> 00:28:02.309 are all too busy dancing. Well, let's look at 00:28:02.309 --> 00:28:04.269 what happens when the music stops and the lights 00:28:04.269 --> 00:28:08.289 go out. We're moving into Section 5, historical 00:28:08.289 --> 00:28:12.329 case studies. Yes. The source material has this 00:28:12.329 --> 00:28:15.710 incredible table from Alston Raffingsolson covering 00:28:15.710 --> 00:28:20.049 OECD countries from 1970 to 2015. This is where 00:28:20.049 --> 00:28:22.170 the rubber meets the road. We can talk theory 00:28:22.170 --> 00:28:24.589 all day, but these are the actual scars on the 00:28:24.589 --> 00:28:26.569 economy. These are the large and small bubbles 00:28:26.569 --> 00:28:29.190 we defined earlier playing out in the real world. 00:28:29.329 --> 00:28:31.970 Let's talk about the big ones, the large bubbles. 00:28:32.349 --> 00:28:34.950 The champion, the undisputed heavyweight of the 00:28:34.950 --> 00:28:37.670 data set seems to be Ireland, peaking in 2007. 00:28:38.430 --> 00:28:41.869 Oh, Ireland is the textbook example of a massive 00:28:41.869 --> 00:28:45.369 boom and a truly devastating bust. It was the 00:28:45.369 --> 00:28:48.529 Celtic tiger economy. And just look at the numbers. 00:28:48.710 --> 00:28:53.789 The rise lasted 56 quarters. 56 quarters. That's 00:28:53.789 --> 00:28:57.250 14 years. 14 years of straight winning. An entire 00:28:57.250 --> 00:28:59.529 generation grew up thinking real estate only 00:28:59.529 --> 00:29:01.769 goes up. And how much did prices go up in that 00:29:01.769 --> 00:29:08.660 time? They... Increased by a staggering 235 .6%. 00:29:08.660 --> 00:29:13.480 Wait, say that again? 235%. That is insane. That's 00:29:13.480 --> 00:29:14.880 just, I can't even wrap my head around that. 00:29:15.000 --> 00:29:17.920 It is. Imagine buying a house for 100 ,000 euros 00:29:17.920 --> 00:29:21.019 and watching it go to 335 ,000 without doing 00:29:21.019 --> 00:29:23.099 a single thing. You feel like a genius. You feel 00:29:23.099 --> 00:29:26.420 invincible. But then, the fall. How bad was it? 00:29:26.519 --> 00:29:29.579 Prices collapsed by 53 .6%. They lost more than 00:29:29.579 --> 00:29:32.359 half their value. Yes. And you have to consider 00:29:32.359 --> 00:29:35.319 the leverage. If you bought near the top with 00:29:35.319 --> 00:29:37.859 10 % down payment and the value of your asset 00:29:37.859 --> 00:29:41.000 drops 50%, you are completely wiped out. You 00:29:41.000 --> 00:29:43.180 owe the bank vastly more than the house is worth. 00:29:43.259 --> 00:29:46.579 That's national insolvency. It was. It bankrupted 00:29:46.579 --> 00:29:48.900 the Irish banking system and required a massive 00:29:48.900 --> 00:29:51.539 international bailout. That is wealth destruction 00:29:51.539 --> 00:29:55.019 on a scale that just ruins a generation. What 00:29:55.019 --> 00:29:56.940 about Finland? I see they had a peak back in 00:29:56.940 --> 00:29:59.680 1989. Finland is interesting because it was almost 00:29:59.680 --> 00:30:03.480 perfectly symmetrical. Prices rose about 68 % 00:30:03.480 --> 00:30:07.019 over 15 quarters and then fell about 50 % over 00:30:07.019 --> 00:30:09.700 the next 26 quarters. It was a classic mountain 00:30:09.700 --> 00:30:12.940 shape, a quick up and a slightly slower, but 00:30:12.940 --> 00:30:15.880 just as brutal, down. It shows that what goes 00:30:15.880 --> 00:30:17.740 up doesn't just come down. Sometimes it comes 00:30:17.740 --> 00:30:20.019 down just as hard. And the Netherlands in the 00:30:20.019 --> 00:30:23.819 late 70s. A huge rise, almost 139 % increase. 00:30:24.670 --> 00:30:27.450 and then a 52 % fall. You start to see a pattern 00:30:27.450 --> 00:30:29.990 here. When these large bubbles pop, they tend 00:30:29.990 --> 00:30:32.670 to cut prices roughly in half. It's a reversion 00:30:32.670 --> 00:30:34.690 to the mean, but it's a violent one. We have 00:30:34.690 --> 00:30:37.769 to talk about the USA, the 2006 peak, the great 00:30:37.769 --> 00:30:40.890 financial crisis. Of course. The rise was 92 00:30:40.890 --> 00:30:44.690 .9 % over roughly a decade, from the mid -90s 00:30:44.690 --> 00:30:48.630 to 2006, and the fall was 39 .6%. You know, compared 00:30:48.630 --> 00:30:51.950 to Ireland's 53 % drop, the U .S. drop of around 00:30:51.950 --> 00:30:55.660 40 % sounds... Well, I won't say better, but 00:30:55.660 --> 00:30:58.200 less catastrophic on paper. Percentage wise, 00:30:58.319 --> 00:31:01.839 yes. But context is everything. Because the U 00:31:01.839 --> 00:31:04.319 .S. economy is the engine of the world and because 00:31:04.319 --> 00:31:07.079 that housing debt was packaged into these incredibly 00:31:07.079 --> 00:31:10.559 complex financial instruments, mortgage backed 00:31:10.559 --> 00:31:13.019 securities. The things from the big short. The 00:31:13.019 --> 00:31:14.819 very same. Yeah. And they were sold globally. 00:31:14.980 --> 00:31:17.700 So that 40 percent drop in U .S. housing prices 00:31:17.700 --> 00:31:20.119 triggered a global financial crisis that we're 00:31:20.119 --> 00:31:22.480 still feeling the effects of today. It shows 00:31:22.480 --> 00:31:24.920 that even a smaller crash in percentage terms 00:31:24.920 --> 00:31:27.819 can be systemic if the debt is toxic enough. 00:31:28.039 --> 00:31:29.880 Now let's look at the small bubbles category 00:31:29.880 --> 00:31:33.019 and specifically Japan. Japan is fascinating. 00:31:33.259 --> 00:31:35.079 Everyone talks about the Japanese asset bubble 00:31:35.079 --> 00:31:38.339 of the late 80s, and it was massive. But in terms 00:31:38.339 --> 00:31:40.640 of housing -specific data in this study, the 00:31:40.640 --> 00:31:43.880 rise was about 80 % into the 1990 peak. That 00:31:43.880 --> 00:31:46.759 qualifies as a bubble. But the fall is what stands 00:31:46.759 --> 00:31:49.960 out to me in the data, the duration. Yes. Look 00:31:49.960 --> 00:31:52.079 at the duration of the fall. It lasted 74 quarters. 00:31:52.180 --> 00:31:55.660 74 quarters. That's almost 19 years. 19 years 00:31:55.660 --> 00:31:59.150 of sliding prices. The aggregate drop was around 00:31:59.150 --> 00:32:02.690 50%, similar to what Finland experienced. But 00:32:02.690 --> 00:32:05.089 instead of a sudden crash over a few years, it 00:32:05.089 --> 00:32:08.349 was a slow, grinding bleed that lasted for two 00:32:08.349 --> 00:32:11.710 decades. That sounds almost worse. A sudden crash 00:32:11.710 --> 00:32:15.250 is painful. but a generational stagnation. It 00:32:15.250 --> 00:32:18.150 changes the psychology of a nation. If house 00:32:18.150 --> 00:32:21.349 prices fall for 20 consecutive years, nobody 00:32:21.349 --> 00:32:24.009 views housing as an investment anymore. It becomes 00:32:24.009 --> 00:32:26.829 a liability. It changes how people save, how 00:32:26.829 --> 00:32:29.670 they retire, how they view wealth for their entire 00:32:29.670 --> 00:32:31.569 lives. And then you have a country like Denmark. 00:32:32.190 --> 00:32:35.849 peaking in 2006. A massive rise there, 180%, 00:32:35.849 --> 00:32:39.069 but the fall was only about 28, 29%. So it didn't 00:32:39.069 --> 00:32:41.529 really correct. It didn't. Prices stayed elevated 00:32:41.529 --> 00:32:43.710 relative to where they started. That's an important 00:32:43.710 --> 00:32:46.529 nuance. Not every bubble bursts all the way back 00:32:46.529 --> 00:32:48.509 to zero. Sometimes it just corrects and then 00:32:48.509 --> 00:32:51.609 stabilizes at a new higher plateau. So buying 00:32:51.609 --> 00:32:53.470 in a bubble isn't guaranteed ruin, but it's a 00:32:53.470 --> 00:32:55.849 massive, massive gamble. One thing that was pointed 00:32:55.849 --> 00:32:58.430 out in the notes is the duration analysis. Yes. 00:32:59.420 --> 00:33:01.960 Generally speaking, the rise phase lasts longer 00:33:01.960 --> 00:33:04.859 than the fall phase. For the USA, the rise was 00:33:04.859 --> 00:33:08.630 38 quarters. The fall was 23. Bubbles take time 00:33:08.630 --> 00:33:11.130 to inflate. It takes years to build that confidence 00:33:11.130 --> 00:33:13.670 and supply that easy credit. But fear is fast. 00:33:13.910 --> 00:33:16.910 But fear, fear strikes quickly. When the sentiment 00:33:16.910 --> 00:33:19.930 turns, the elevator cable snaps. Escalator up, 00:33:19.970 --> 00:33:23.170 elevator down. In many cases, yes. Though as 00:33:23.170 --> 00:33:25.789 Japan shows us, the elevator can sometimes get 00:33:25.789 --> 00:33:28.990 stuck between floors and just slowly, painfully 00:33:28.990 --> 00:33:31.990 slide down for two decades. This brings us to 00:33:31.990 --> 00:33:34.690 section six. We need to put all of this in a 00:33:34.690 --> 00:33:36.809 broader perspective. Because when you're in a 00:33:36.809 --> 00:33:39.390 bubble, it feels unique. You think, we've invented 00:33:39.390 --> 00:33:41.369 a new economy, the internet changed everything. 00:33:41.849 --> 00:33:44.490 But history says otherwise. Bubbles are not new. 00:33:44.589 --> 00:33:46.829 They are not a modern invention. The Wikipedia 00:33:46.829 --> 00:33:49.509 source lists them going back centuries. This 00:33:49.509 --> 00:33:51.750 is a recurring feature of human economics. We 00:33:51.750 --> 00:33:53.849 love to get excited about things and bid them 00:33:53.849 --> 00:33:56.509 up to insane prices. I was surprised to see the 00:33:56.509 --> 00:33:59.569 1810s Alabama real estate bubble on the list. 00:34:00.009 --> 00:34:04.319 Slaps, yes. Alabama fever, they called it. It 00:34:04.319 --> 00:34:06.579 shows that as long as there has been land to 00:34:06.579 --> 00:34:09.119 speculate on, Americans have been speculating. 00:34:09.280 --> 00:34:11.579 What drove that one? It was driven by high cotton 00:34:11.579 --> 00:34:14.179 prices after the War of 1812. Everyone thought 00:34:14.179 --> 00:34:16.519 cotton would stay high forever, so the price 00:34:16.519 --> 00:34:19.059 of land you could grow cotton on skyrocketed. 00:34:19.059 --> 00:34:21.739 Then the price of cotton crashed in a panic and 00:34:21.739 --> 00:34:24.179 the land market collapsed. Same story, different 00:34:24.179 --> 00:34:27.460 century. And the 1830s Chicago bubble? That was 00:34:27.460 --> 00:34:29.780 driven by urbanization. Everyone was betting 00:34:29.780 --> 00:34:32.460 on the future of the city. as a major hub. People 00:34:32.460 --> 00:34:34.679 were buying lots in Chicago without ever having 00:34:34.679 --> 00:34:37.679 seen them, just based on a map. The 1920s Florida 00:34:37.679 --> 00:34:40.619 land boom. Oh, that's the classic. Selling swampland 00:34:40.619 --> 00:34:42.900 in Florida to people in New York who had never 00:34:42.900 --> 00:34:45.360 seen it, that was pure mania. Promoters were 00:34:45.360 --> 00:34:47.960 literally hiring buses to drive people down from 00:34:47.960 --> 00:34:49.940 the north to these lavish parties to sell them 00:34:49.940 --> 00:34:52.639 land. And then we see a shift in the 1990s and 00:34:52.639 --> 00:34:55.719 2000s to these global bubbles. It mentions the 00:34:55.719 --> 00:34:59.230 Baltic states, China, Romania, Poland. It went 00:34:59.230 --> 00:35:02.250 from being a localized phenomenon like Florida 00:35:02.250 --> 00:35:06.630 or Chicago to a globalized credit -fueled contagion. 00:35:06.929 --> 00:35:10.090 As finance became global, bubbles became global. 00:35:10.250 --> 00:35:12.389 The same cheap money could flow from New York 00:35:12.389 --> 00:35:15.090 to Dublin to Madrid in an instant. I want to 00:35:15.090 --> 00:35:17.409 touch on the comparison to non -housing bubbles, 00:35:17.570 --> 00:35:20.429 just for context. We've all heard of tulip mania 00:35:20.429 --> 00:35:23.210 in the 1630s or the dot -com bubble in the late 00:35:23.210 --> 00:35:27.269 90s. How is a housing bubble different? The key 00:35:27.269 --> 00:35:29.719 difference is utility. You cannot live inside 00:35:29.719 --> 00:35:32.400 a tulip bulb. True. You can't shelter your family 00:35:32.400 --> 00:35:35.300 in a website or a share of pets .com. Housing 00:35:35.300 --> 00:35:38.119 has immense undeniable utility. You need it to 00:35:38.119 --> 00:35:40.420 survive. Okay. And this makes housing bubbles 00:35:40.420 --> 00:35:43.460 stickier. People fight to keep their homes. They 00:35:43.460 --> 00:35:45.179 don't just sell them at a loss the way they dump 00:35:45.179 --> 00:35:47.860 a crashing stock. This is why that kink supply 00:35:47.860 --> 00:35:50.519 curve we talked about matters so much. The asset 00:35:50.519 --> 00:35:53.320 is essential and it's durable. That makes the 00:35:53.320 --> 00:35:55.760 pain of the crash much more visceral and long 00:35:55.760 --> 00:35:58.329 lasting for society. It's not just losing. points 00:35:58.329 --> 00:36:00.369 on a screen in your brokerage account it's losing 00:36:00.369 --> 00:36:03.050 your roof it rips entire communities apart exactly 00:36:03.050 --> 00:36:05.030 it has a human cost that's just on a different 00:36:05.030 --> 00:36:07.630 scale so we've covered the definitions the math 00:36:07.630 --> 00:36:10.710 the vibes and the history let's bring this all 00:36:10.710 --> 00:36:13.050 together into the outro and synthesize this for 00:36:13.050 --> 00:36:15.030 the listener let's do it if we have to summarize 00:36:15.030 --> 00:36:17.989 what we've learned a bubble is a specific economic 00:36:17.989 --> 00:36:21.230 event It's when prices decouple from the fundamentals, 00:36:21.469 --> 00:36:24.630 things like rents and incomes. And it is fueled 00:36:24.630 --> 00:36:27.590 by a toxic cocktail of cheap credit and human 00:36:27.590 --> 00:36:31.329 psychology. And the aha moment for me throughout 00:36:31.329 --> 00:36:34.510 all this research is always the new era theory. 00:36:34.789 --> 00:36:37.750 The single most dangerous indicator is the belief 00:36:37.750 --> 00:36:40.210 that the rules have changed. When you hear people 00:36:40.210 --> 00:36:43.889 saying prices only go up, that is the siren song 00:36:43.889 --> 00:36:46.369 of the bubble. It is. Gravity always wins in 00:36:46.369 --> 00:36:49.380 the end. So for the listener. The learner. What 00:36:49.380 --> 00:36:51.059 is the practical application here? You're thinking 00:36:51.059 --> 00:36:53.019 of buying a house or you own one and you're nervous. 00:36:53.219 --> 00:36:55.260 What should you do with this information? The 00:36:55.260 --> 00:36:57.800 main takeaway is don't just look at the price 00:36:57.800 --> 00:37:00.460 tag. Look at the context. Look at rents. That's 00:37:00.460 --> 00:37:02.980 the finance method. Is it significantly cheaper 00:37:02.980 --> 00:37:05.800 to rent the same house? If yes, be careful. That 00:37:05.800 --> 00:37:08.739 gap matters. And historically, it tends to close. 00:37:08.920 --> 00:37:10.719 And look at construction. Is there a massive 00:37:10.719 --> 00:37:13.559 supply of new homes coming online? Are there 00:37:13.559 --> 00:37:16.519 cranes everywhere in your city? Remember the 00:37:16.519 --> 00:37:20.599 supply curve. If supply floods the market, prices 00:37:20.599 --> 00:37:23.599 will soften. Look at your neighbors. Yes. Use 00:37:23.599 --> 00:37:25.920 Schiller's checklist. Are they buying out of 00:37:25.920 --> 00:37:29.039 envy? Is the dinner party chatter at a fever 00:37:29.039 --> 00:37:31.960 pitch? Are people panic buying houses they haven't 00:37:31.960 --> 00:37:34.219 even seen? And look at the bank. This might be 00:37:34.219 --> 00:37:36.840 the most important one. If the bank is offering 00:37:36.840 --> 00:37:39.679 you money too easily, be suspicious. If they 00:37:39.679 --> 00:37:42.780 are letting you borrow 100 % of the value or 00:37:42.780 --> 00:37:45.340 offering interest -only terms because they know 00:37:45.340 --> 00:37:48.369 you can't afford the real payment. Run. Don't 00:37:48.369 --> 00:37:50.929 walk. Run. They are setting you up to fail. It's 00:37:50.929 --> 00:37:53.010 about being a critical thinker in a market that 00:37:53.010 --> 00:37:55.989 can sometimes feel like it's full of sheep. Don't 00:37:55.989 --> 00:37:58.530 let the FOMO drive the bus. Precisely. Knowledge 00:37:58.530 --> 00:38:00.849 is your best defense against the hysteria. Do 00:38:00.849 --> 00:38:03.690 the math. Check the vibe. I want to leave everyone 00:38:03.690 --> 00:38:05.630 with a final provocative thought, something that 00:38:05.630 --> 00:38:08.090 jumped out at me from the source list. In the 00:38:08.090 --> 00:38:10.570 section on modern bubbles, it mentions cryptocurrency 00:38:10.570 --> 00:38:13.389 bubbles and AI bubbles. Yes, the information 00:38:13.389 --> 00:38:16.940 age section. If bubbles are driven by human psychology, 00:38:17.179 --> 00:38:19.760 this innate belief that we can get rich quick 00:38:19.760 --> 00:38:22.420 and that this time is different, have we actually 00:38:22.420 --> 00:38:24.480 learned anything from the housing crashes of 00:38:24.480 --> 00:38:27.920 the past? Or is the wealth effect, that feeling 00:38:27.920 --> 00:38:30.300 of getting rich for free, just too addictive 00:38:30.300 --> 00:38:33.199 to quit? Are we just moving the bubble from houses 00:38:33.199 --> 00:38:36.519 to coins to algorithms? That is the multi -trillion 00:38:36.519 --> 00:38:38.699 dollar question, isn't it? The asset changes, 00:38:38.840 --> 00:38:41.519 but human nature, that seems to stay exactly 00:38:41.519 --> 00:38:44.280 the same. We love the write -up far too much 00:38:44.280 --> 00:38:47.099 to worry about the inevitable fall. On that cheery 00:38:47.099 --> 00:38:48.840 note, thank you for diving deep with us. Go check 00:38:48.840 --> 00:38:50.960 your price to rent ratios, everyone. We'll catch 00:38:50.960 --> 00:38:52.159 you on the next one. Stay grounded.