COMMENTS:
European house prices may be on the verge of declining as the economic environment deteriorates and the commercial real estate sector is also at risk, the European Systemic Risk Board, the EU's financial risk watchdog, said on Thursday."The real estate cycle in several EU countries might be reaching a turning point," the ESRB said in a statement."Transaction data and forward-looking household survey responses showing a decline in intentions to buy or build a house suggested that the probability of prices declining in the near future was rising." - Reuters, Dec, 2022
So what is behind all this global financial turmoil? The gist of it all ties back to the fact that interest rates were too low for too long. Ignoring the real economy and its salient factors, we are feeling the effects of the monetary easing that was necessary to bailout the BIG banks and financial system back in 2008-9. Under the hubris and premise of - Quantitative Easing - that was conjured up by Ben Bernanke - the Federal Reserve Chairman - interest rates were permitted to drift to historic lows of 1% or less. Indeed, at times they were even recorded and provided at negative rates at the Fed's borrowing window to help save the BIG Banks? Meaning they were actually being paid to borrow money???
As a consequence, record levels of currency were being printed by the Treasury building up an inflationary monster that loomed in the background ready to pounce on unsuspecting economies and financial markets. Inevitably it would be woken to wreak havoc on all of us; many will personally lose everything, while economies will and are being severely disabled under its battering assaults. Lebanon, Sri Lanka, Argentina, and even the UK are a few examples of the terrible economic, social and human outcomes.
At this point, however, it serves little purpose to debate the merits of whether the monetary policies chosen were appropriate. It is what we now have to deal with - no matter what. What is important to understand is the Mathematical Trap that these policies created and what will be their potentially devastating outcomes - to the point of collapsing a vast number of national currencies and economies. Nonetheless, while the ravaging domino effect upon poor and developing countries is beyond determination, it will lead undoubtedly to further geo-polictical tensions and conflict.
So what is the Mathematical Trap? Using simple mathematics, assume you put a 100% mortgage on a property valued at $100,000 with an interest rate of 1%. Over 12 month you would pay interest totaling $1,000. Suddenly interest rates spike to 2% and now one will have to pay $2,000. A problem occurs because buyers can still only afford to pay $1,000 and thus the property price needs to be adjusted downwards by 50%; so any potential buyers can afford to carry the property mortgage at the previous rates.. Fortunately, mortgage interest rates are not all immediately adjusted and the problem is deferred to the end of their respective mortgage terms.
To conclude, as rates go up: asset values will decline in accordance with this axiomatic proportionate algebra . This deflationary impact will affect all primary asset classes, and moreover explains the sizable decline in the value of stocks, bonds, currencies and private equity financings witnessed over the past nine months. Highly levered nations, companies and consumers will also fail under the stresses of higher interest rates lasting years.
Still, there is no utter guarantee such higher rates can cure an inflation caused by the Real Economy's trend to the lower production of goods and services per capita as global resources are rapidly depleted. That said, what's in store for the future? Well, if rates continue to rise; then asset values will decline sharply while nations, businesses and consumers will fail and default on their borrowings. Hence, leading to; as both Buffet and Munger predict, an Economic Depression much worse than the 1930's.
Unfortunately, in all probability, the writing is clearly on the wall - but it is not a good story to either read or watch.
Terrance A McNeil
Executive Director
BERKSHIRE HATHAWAY INC.
Warren and Charlie relaxing.
EU Watchdog Warns of Real Estate Risk, Up To 90% Overvalued
A global real estate bubble was brewing, and regulators are only now catching onto why it’s an issue. This week notes from the General Board of the European Systemic Risk Board (ESRB) annual meeting were released. The notes reveal members are concerned that inflated home prices present a systemic risk to the EU economy. Steep valuations and weak demand have the Board concerned that prices will begin falling soon, and it’s a long way down to fundamentals.
BILLIONAIRE INVESTOR RAY DALIO ISSUES DIRE WARNING
AFFECTING ALL GLOBAL ASSET CLASSES
The EU’s Financial Watchdog Sees Housing As A Systemic Risk
Steep prices and rising financing costs have households hitting the pause button on housing. The Board cited falling transactions, and household survey responses that show falling intentions to buy or build a home. “[this]… suggested that the probability of prices declining in the near future was rising,” the Board warns.
EU Real Estate Markets Are Overvalued By Up To 90%
How overvalued is EU real estate? It depends on the model and country, but the Board separately provided range data. At the high end of overvaluation is Luxembourg, which their model shows can be up to 90% overvalued. Even their more elaborate demand-based model pegs the country at nearly 40% overvalued, which is a high “conservative” estimate for any market.
FED WILL CONTINUE TO RAISE RATES AND FIGHT INFLATION
EU Over/Undervaluation of Residential Real Estate
The over/undervaluation of national residential real estate markets across the EU.
Source: European Systemic Risk Board.
Larger EU economies with significant overvaluations are likely to present the biggest risks. The most concerning overvaluations in the group are Germany (~15-50%), France (~10-30%), Netherlands (~15-30%), and Sweden (~25-70%). Since these countries also represent significant economies when it comes to output, the issue of overleveraged households is compounded for the whole region.
The global cheap credit bubble is quickly unwinding, and it seems like regulators everywhere are concerned. That’s a good start, since it means they’re looking for ways to address the issue. However, the detachment is so large, and the growth so rapid it’ll be difficult to unwind home price inflation without any losers. Either inflated prices are maintained, meaning first-time buyers will have to sacrifice consumption, and the economic benefits to leverage up, or real estate owners will have to take a substantial loss.
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