Tuesday, September 25, 2007

The Price of Dirt

"Buy land; last I checked god isn't making any more of it".

That piece of real estate advice must have been around since the beginning of time... or at least since the civilized world stopped having unexplored wilderness right next door to it.

Today, a blogger on my daily read list wrote a piece for Pajamas Media entitled "Dirt is Expensive"; where he advances the radical proposition that if you're going to build an expensive house, on expensive land; you'd best make sure people actually want to live there, and will continue wanting to live there for some time into the future.

That would seem to be a basic piece of common sense, would it not?

Unfortunately, a lot of folks seem to have forgotten that, in the midst of their "irrational exuberance". Somehow, they seem to have believed that basic economics (which unfortunately few folks have any kind of grasp on to begin with) didn't apply to them, or to their houses.

Heres' about 75% of what you need to know about economics in one lesson: When people want to buy more of something than is being sold, the price goes up. When people want to buy less of something than is being sold, the price goes down.

Ignore this at your peril.

Of course I live in metropolitan Phoenix, the epicenter of the speculative bubble; where home prices rose as much as 250% in 10 years. This would suggest that people wanted to buy a lot of houses in Phoenix...

...Unfortunately, that wasn't really true... or rather it was true, but nowhere near enough to justify the extent that prices rose.

Part of this; perhaps the first 50% of the 250%; was a rapid increase in population (Phoenix is the second fastest growing metropolitan area in the country after Vegas); but the majority of this rise was a speculative bubble caused by investors and immigrants from California and the northeast hoping to turn a quick profit on their booming house value/lottery ticket.

When you start looking at a $300,000 purchase and thinking of it as a lottery ticket, you know something is wrong people.

In parts of Phoenix, the more distant suburbs, and the outlying areas of Maricopa county, where this thing really was a bubble, and the bubble really did burst; prices are now falling by 25% or more (some developments are seeing a 40% collapse).

In Scottsdale however, my house which was valued at $315-$325k four years ago is currently valued at... $295k-$305k; and most of that drop is because I need a new lawn, and new AC (which is actually being replaced this week).

The difference of course is that prices went up in this town because people actually wanted to live here; whereas in the outlying areas prices went up because... well people wanted to live HERE, meaning Scottsdale.

Of course the prices in Scottsdale were already rather high, so instead, people built houses elsewhere and speculated that people who wanted to live in Scottsdale would also want to live wherever it was they were building their houses.

Unfortunately people DIDN'T really want to live in Queen Creek or Maricopa or any of the other places that were recently so heavily developed (or if they did, they didn't want to live on a $300,000 postage stamp). They wanted to live in Scottsdale; and once the "lottery" appeal of an inflationary housing surge ended... well, that was it then.

Now, these gorgeous looking (I have some doubt as to their construction quality) homes, are sitting on land that people don't much want to live on; and thus prices have fallen back to the point that people are really buying the house, and getting the land... not for free, but for pretty cheap.

There's no such thing as a "natural housing price", but land prices in non bubble areas tend to be rather stable, with steady small growth year over year. The speculators bought, and built, and attempted to charge Scottsdale prices, for Queen Creek land; and for a while, they got away with it. Land that was selling for $1500 to $5000 an acre, was suddenly being sold in 1/5 acre lots at $300,000 with a $200,000 house on it.

$500,000 an acre is a bit much for a piece of desert 40 miles from where you might actually want to live.

So long as people could buy a house on spec and flip it to another idiot in 3 years for a 50% to 100% profit, sure, they'd live 40 miles out. But to live there just to live there? Not for that kind of money thank you very much.

Meanwhile, Scottsdale house prices are already starting to go back up again... a little more slowly this time.

Basic economics: If people want what more of what you've got, than you have to sell them, the price goes up.

The problem is, people were trying to buy profits, not houses. They didn't really want that many houses. The price of dirt has stayed the same, it's just that people were pretending they weren't buying dirt; they pretended they were buying profit.

Thing is though, you can't actually buy profit... and people didn't really want that much dirt; and well... they've stopped pretending now.