A guestimation of what house prices should be worth

Anonymous1987

The major issue with NAMA is the valuation of properties so I decided to do a back of the envelope type estimation on what level house prices should be at if we didn't experience the housing boom .

Examining housing price data from 1974 here, the prices of houses began to take off right around 1994 the same time as the Celtic Tiger economy emerged. So I thought the best way to determine what house prices should be today would be to apply the general price level to period 1994 to 2008 (Too simplistic or genius I'll let you decide). Average % change in CPI for the period 1994 to 2008 is approximately 3.22%. The average house price for a new house in 1994 was €72,732 and a second house was €65,331 so given the price level and compounding annually, today's new house should be €113,349 or €108,901 for a second-hand house. Q1 for 2009 shows house prices are currently €290,402 for a new house or €255,029 for a second hand house. This would suggest new houses are still 2.25 times overpriced and second hand homes are 2.73 times overpriced. This would mean write-downs of 55% for new houses or 63% for second hand houses :eek:. Am I way wide of the mark from my armchair economist position?

gerry87

My view is that houses should be priced based on rents with a few premiums thrown in here and there. They should provide a good yield, but not so much to allow the 'arbitrage' of borrowing to buy and hold for capital gains. Capital gains shouldn't come into the frame when valuing them.

Rent markets are more liquid than sales markets so they would allow more real-time valuing. Also rents are much lower sums of money, people tend to be more rational dealing with lower sums of money. Also fact that they pay rent out of todays money, not future money as with purchasing and people are a lot more conservative with todays money than with future money. eg my budget is 1 million, they want 1.1, ah sure it's not that much more, ah sure it's only 5 grand a year more... it's 100 grand more ya muppet!

Anonymous1987

I was thinking more along the lines of the prices at which houses will return to in the future rather than actually determining what they should be worth (title is probably misleading). The boom times seriously inflated the market and prior to the Celtic Tiger house prices followed a somewhat linear path steadily increasing in price. It would seem now the market is correcting itself. We could see prices fall dramatically by as much 50% in the future.

Interesting point though about basing prices on rents but wouldn't that introduce a large amount of volatility to the market? e.g. look at the stock market.

gerry87

Anonymous1987 wrote: »

I was thinking more along the lines of the prices at which houses will return to in the future rather than actually determining what they should be worth (title is probably misleading). The boom times seriously inflated the market and prior to the Celtic Tiger house prices followed a somewhat linear path steadily increasing in price. It would seem now the market is correcting itself. We could see prices fall dramatically by as much 50% in the future.

Interesting point though about basing prices on rents but wouldn't that introduce a large amount of volatility to the market? e.g. look at the stock market.

Rents don't realistically change on a minute to minute basis as in the stock market. In the stock market the quicker transactions are made the more volatility there is. There would be more volatility, but prices would rise and fall... not just rise. There's nothing wrong with added volatility in the market, it wouldn't give the impression of a sure thing.

To your question about nama specifically, there's nothing to stop them basing on rents at the moment, it would give some guess instead of an arbitrary 30% write down. I'm not sure how they are planning on doing it at the moment.

The only problem then would be when the rental market dries up, but that would in time be self correcting with the number of houses being built falling because rents/prices are falling until demand picks up again.

But bottom line, if nobody wants to buy it, and nobody wants to rent it... then it should be a 100% write down.

SkepticOne

Anonymous1987 wrote: »

Examining housing price data from 1974 here, the prices of houses began to take off right around 1994 the same time as the Celtic Tiger economy emerged. So I thought the best way to determine what house prices should be today would be to apply the general price level to period 1994 to 2008 (Too simplistic or genius I'll let you decide). Average % change in CPI for the period 1994 to 2008 is approximately 3.22%. The average house price for a new house in 1994 was €72,732 and a second house was €65,331 so given the price level and compounding annually, today's new house should be €113,349 or €108,901 for a second-hand house. Q1 for 2009 shows house prices are currently €290,402 for a new house or €255,029 for a second hand house. This would suggest new houses are still 2.25 times overpriced and second hand homes are 2.73 times overpriced. This would mean write-downs of 55% for new houses or 63% for second hand houses :eek:. Am I way wide of the mark from my armchair economist position?

I produced a graph based on that same data, adjusted for inflation and added in whatever other source I could find. I would broadly go along with the idea that the long term average price is somewhere between 90K and 120K in 2006 money. I put the time at which the bubble started to take off at around 1995-1996. We are about just over a third into the bursting. See attached graph.

Time Magazine

Lads are any of these analyses taking account for changing incomes, demographics and geographical density?

silverharp

Anonymous1987 wrote: »

I was thinking more along the lines of the prices at which houses will return to in the future rather than actually determining what they should be worth (title is probably misleading). The boom times seriously inflated the market and prior to the Celtic Tiger house prices followed a somewhat linear path steadily increasing in price. It would seem now the market is correcting itself. We could see prices fall dramatically by as much 50% in the future.

Interesting point though about basing prices on rents but wouldn't that introduce a large amount of volatility to the market? e.g. look at the stock market.

you could do worse then trace back borrowing multiples and real interest rates. we have come out of a time when borrowing multiples were excessive, real interest rates were negetive and personal taxation was moderate. Houses will be worth the amount banks are willing to lend and people are prepared to borrow. You would need to take a stab at future real interest rates bases on previous cycles.

Anonymous1987

The Economist wrote: »

Lads are any of these analyses taking account for changing incomes, demographics and geographical density?

No and they will probably make a large difference, pre-celtic tiger Ireland being a lot different than post-celtic tiger Ireland. I was just making a quick stab in the dark at the long term equilibrium position of the market. Even at that it could be possible that in the future properties in Ireland might become undervalued as is the case in Germany and Austria where the IMF estimates houses are 5% or more undervalued by the market. The IMF in 2007 estimated that properties were approximately 32% overvalued in Ireland. Anyone know the methodology they used?

IMF use a Hendry based error correction model.

I've cited the paper here a couple of times. I'll dig it out later

SkepticOne

Anonymous1987 wrote: »

The IMF in 2007 estimated that properties were approximately 32% overvalued in Ireland. Anyone know the methodology they used?

Wrong whatever it was.

Senna

The Economist wrote: »

Lads are any of these analyses taking account for changing incomes, demographics and geographical density?

or the shear amount of empty properties we have on the market. We can look at were prices would be if we didn't have a massive bubble, but that's using information from a time when we had an under supply of housing, at a guess, our current supply of empty houses could feed a sustained and stable market for 4-6 years.

Flamed Diving

Anonymous1987 wrote: »

The IMF in 2007 estimated that properties were approximately 32% overvalued in Ireland. Anyone know the methodology they used?

Find the paper and read the methodology.

Anonymous1987

Flamed Diving wrote: »

Find the paper and read the methodology.

I wouldn't be asking if I wasn't having trouble finding it. It doesn't matter anyway as I have since found it.

Taken from the World Economic Outlook October 2008

Real house price growth is modeled as a function of the following variables: growth in per capita disposable income, working-age population, credit and equity prices, and the level of shortterm and long-term interest rates. The dynamic effects of these variables are captured through the inclusion of lagged real house price growth and an affordability ratio (the lagged ratio of house prices to disposable incomes). This model is estimated for each country using quarterly data for the time period 1970 to 2007.

The increase in house prices not explained by these fundamental factors—referred to as the house price gap—is taken as an estimate of the potential for correction in house prices. Of course, the gap estimates could partly reflect omitted fundamental factors, such as changes in supply-side factors in the housing market*.

*The models estimated here focus on explaining short- to medium-run changes in house prices rather than the long-run level of house prices, which could differ considerably across countries, reflecting national supply constraints and long-term institutional factors, such as the extent of taxation of housing

The proposed discount for NAMA would seem to be based on this data (30% discount) however it clearly states that the model does not estimate the long term level of house prices

Anonymous1987

Anonymous1987 wrote: »

I wouldn't be asking if I wasn't having trouble finding it. It doesn't matter anyway as I have since found it.

Taken from the World Economic Outlook October 2008

The proposed discount for NAMA would seem to be based on this data (30% discount) however it clearly states that the model does not estimate the long term level of house prices

You know that doesn't really answer your question?

Unless you see the econometrics, you can't criticise the model.

juneshaw34

Valuation of commercial properties are determined by rent, so it is a valid argument to suggest that residential properties should be assessed in the same way. However take a house in longford, there are lots of properties that cannot be rented due to demand in the area - as there is no rental income that cant mean that the property is worth nothing?....

Hasschu

I note that we are attaching great importance to pre Celtic Tiger and post Celtic Tiger conditions. What we have experienced is a world economic boom where Ireland's low corporate tax rates and Government's backing of any horse that could make money led to excess. In countries that use their houses as cash boxes of which the US is the most notable example the housing booms and busts are a natural part of the landscape. Cheap money also aided the excess in no small part. Donations from the banking, development and building industries to the political parties also greased the slippery slope. Over the long term house prices increase at the rate of overall inflation give or take very little. Will we retrace to 2005, highly likely, 2000 better than 50%, 1995 not likely. Ireland is now a mature economy and can at best be expected to match the growth rates of the mature European economies. We have to stop thinking of ourselves as immune to the laws of gravity and start looking for something to replace the two trick pony of low corporate taxes and gov't grease now that countries like Poland, Latvia and Estonia are copying our tactics. An early election is required as we are now drifting week by week closer to bankruptcy or civil disobedience, its a toss up which will occur first.

Économiste Monétaire

Philip Lane has added a new note on the IE blog, The Macroeconomics of Long-Term Economic Value; some of you might be interested in taking a look.

http://www.irisheconomy.ie/Notes/IrishEconomyNote6.pdf

Ronando

Another estimate of long-term economic value, using the same method as NAMA, but coming up €10bn shorter than the €54bn mentioned:
Do the NAMA figures add up?

thebman

I think its obvious NAMA's valuation figures won't addup but since its a bail out of the banks, it was never intended to, was it?

An easy way to bail out banks without coming out and saying it, is NAMA with overvaluing of assets for as long as is required to get them the capital they require.