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| A Lack of Intelligence Put Us in This Mess |
| Written by Jonathan Smoke | |
| 05.23.2007 | |
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Discuss this article on the forums. (0 posts) I have an interesting argument that I’d like to share with our growing community of fellow housing geeks: the lack of intelligence and disciplined decision making contributed to the bubble conditions that took markets too high too quickly and have now left us in a mess. Here’s the rationale. Two things mixed together to create the perfect storm for the massive run up in housing in many markets from 2002-2005: investor speculation and innovation/lax credit standards in financing. These two trends worked together to cause prices to escalate as much more demand for existing and new housing rushed into hot markets than otherwise would have occurred.  The two trends were related. Without the accelerated pricing brought on by investor activity, the aggressiveness in credit standards would not have been so lax. Had creditors expected price declines, the risk models would not have been pushed to where they went. And had individual consumers better understood the risks of prices not continuing to bail them out of no money down and teaser interest rates, there would have been less reliance on subprime and near prime financing.So what was the catalyst that drove the investor activity? Simple capitalism enabled by a lack of quantitative analysis and intelligence on the part of builders and developers. Had there been adequate intelligence and analysis, pricing would have been more appropriately set on homes in the first place. Like the late 90’s experience with hot dot com IPOs, the people who benefited the most from the bubble were those who saw an arbitrage opportunity and bought and flipped homes. I have witnessed directly and have heard many stories of builders in hot markets whose “pricing strategy” entailed setting a price and then adjusting it by several thousand dollars every few sales until there wasn’t a line out the door. Eventually the prices got to an equilibrium level, but a whole new industry was born to take advantage of the pricing not being correct in the first place. As the housing day traders benefited from this arbitrage, they caused the momentum to gain, leading to even more price escalation as others clamored to double their money with little capital at risk. I would argue that with better intelligence there would have been less profit to tempt the massive influx of investors. Further, had lenders, creditors, underwriters, appraisers, and even builders had access to real intelligence on just how many purchases were being made by investors, maybe a few alarm bells would have sounded to give more credibility to those who rightfully believed we had another tulip frenzy underway. We can’t change history, but we can at least study history and improve our intelligence so that we don’t fall for that scenario as easily again. Am I full of hot air or is that just the heat from all of those bubbles bursting? What do you think? 
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