Headline: U.S. homes lose $2 trillion in value in ‘08

CNN has an article about a report from Zillow.com which claims that home values will have fallen by $2 trillion by the end of the year.  Sounds like the end of the world.

The Zillow website has lots of fancy charts and data from 163 metro areas (which doesn’t include Huntsville, unfortunately) backing up the report.  It’s well worth a look.

The nation’s hardest hit area is Stockton, CA where home prices have fallen nearly 33% year-over-year.  But a look at their annualized home appreciation makes me a bit less sympathetic.

Since 2000 homes in Stockton have appreciated at an annualized rate of just under 6%.  Not too bad, really.  The real problem is that the values soared at a rate that owners should have known was far too great.  What has happened so far is little more than a price correction.

The following plot illustrates the underlying problem: too much debt.

As values started to rise equity began to drop – falling into negative territory in 2004 even though prices continued to rise for two more years.  That is counter intuitive.  Typically when you buy something and it appreciates in value your equity stake also increases.  What this plot shows is that people (lenders and creditors) became irrational.  They saw prices rising indefinitely at an alarming rate and did anything they could to take part.  If they owned a home they tapped every bit of the equity to finance their lifestyle.  If they were buying a home it was with a $0 down pick-a-payment ARM, which ratcheted up their principle as they made the lowest allowable payment.  Absolutely insane and completely unsustainable.

I’m not picking on Stockton.  The same scenario played out in Miami, Phoenix, and many other hyper-inflated locales.  The same charts for areas that did not drink the free money/real estate elixir, such as Nashville, TN, show a much more stable, although not static, situation.

Prices there rose at a much more sustainable rate, although equity has fallen by well over half.  In fact, homeowners who bought in Stockton – the “worst performing market” in the country – in 2000 have seen more appreciation in their homes than have Nashville homeowners.

This USA Today article discusses the sudden, rapid acceleration in home values that were far in excess of the average of the previous five decades.  From 1950 to 2000 average appreciation was 0.5% after inflation.  From 2000 to 2006 home values increased at over 8% after inflation.  That is just one of multiple historical rules of thumb that were violated – and should have thrown up enough red flags to temper the craze.

A very interesting read/listen is this story from NPR about lending to the Amish in Lancaster, PA.  The banker in the story has been lending to the Amish for over 20 years.  Ninety-five percent of his customers are Amish and he is responsible for around $100 million in loans.  And he says the bank has NEVER lost money on an Amish loan.  Never.  Even this year – the height of the financial crisis – he has only had one customer make a payment just a few days late.  Everyone else paid on time.  In addition to leading a modest lifestyle the Amish also view going into default on a loan or a late payment as something that brings shame on them, their family, and their entire community.  Shame is a great motivator and something that isn’t as prevalent in the general society when it comes to loan repayment or welfare as it should be.