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Keepin' It Real Estate: Collapse in Luxury Market More Revealing Than It Appears


Broad measures suggest recovery; submarkets tell a different story.

It only took 18 months, but the fact that the US luxury real estate market is falling apart at the seams is finally starting to sink in.

Yesterday's Wall Street Journal chronicled the plight of high-end housing markets, as formerly wealthy homeowners are falling behind on their mortgages at an astounding rate. Defaults and foreclosures are increasing in the Jumbo Prime mortgage space -- big loans made to borrowers who were supposed to be good credits -- at a faster clip than in any other segment of the market. This is causing distressed or otherwise forced sales, resulting in the type of Price Discovery that can send vulnerable markets reeling.

Meanwhile, cheaper markets have, by and large, experienced the worst of this vicious whoosh down and are now groping for a bottom. Some of these distressed areas -- the fortunate few that were allowed to experience a legitimate correction before government-sponsored foreclosure moratorium set a true stabilization back months, if not years -- have laid the groundwork for a long, arduous recovery. Others, prevented from finding a bottom on their own, will be suffering from a years-long slow bleed of inventory, crushing the hopes of local real estate investors and first-time buyers and sending capital elsewhere.

As Wells Fargo (WFC), Bank of America (BAC), Citigroup (C), and JPMorgan (JPM) -- the biggest holders of property in the country -- continue to bow to White House demands to keep housing inventory off the market, a legitimate sustainable recovery in housing will remain elusive. This matters little for high-end markets, however, as prices are screaming downward whether the government likes it or not.

What few media outlets are covering is how the upwards spreading of the housing infection will affect widely reported home-price data, and thus the psyche of the American home buyer. This is a subject I mentioned back in April, but now that the trend is becoming reality -- as the Case Shiller Home Price Index registered its first monthly increase since 2006 -- it warrants revisiting.

As defaults and foreclosures bleed into the high end of the market, buyers gain the upper hand in price negotiations as sellers become desperate. These forced sales will turn illiquid markets liquid as buyers that have been locked out of these expensive markets begin to scour the landscape for opportunities. As sale volumes pick up, so too will the average price of the homes eventually sold, since this will shift the distribution of transactions included in the broad averages towards more expensive homes.

This isn't just some statistical anomaly: As broad measures of housing data show recovery, behind the curtain, individual submarkets will be telling a vastly different story. To be sure, the Jumbo market makes up less than 3% of the total housing market, but if it's your market, that makes it 100% of the housing market that matters.
No positions in stocks mentioned.

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