Economy Still Has Plenty of Room to Run

The American economy is dynamic. It runs in cycles. When economic activity and hiring are increasing, we call that an expansion. When economic activity and hiring are decreasing, we call that a recession. This phenomenon of economic cycles is part of the fabric of American life.

Recessions are short and painful. Since 1950, the United States has recorded ten. On average, they lasted 11 months. The longest recession in the last 65 years was our most recent downturn that began in January 2008 and lasted 18 months.

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Fortunately, expansions last a lot longer. Since 1950, the United States has recorded 11 expansion periods. The average length of these expansions is 61 months. As you can see, some expansions can last for a long time. The longest was 120 months from April 1991 to March 2001.

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Notice how our current expansion began 61 months ago, exactly the length of the average expansionary cycle.  Does this mean that we are close to the end of this recovery?  Clearly that is not the case.

Employment is expanding, spending is increasing, car sales are robust and wages are starting to grow again.  Single-family home construction is the one part of the economy that has been slow to recover.  As the number of new homes under construction increases, this will be another engine of economic growth in the coming years.

Nobody can predict future economic activity with any precision, but this economy feels like it still has a lot of room to run. Car sales are expected to be strong again in 2015. If home building picks up at all, that will add more fuel to the fire.

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Houston’s Industrial Real Estate Outlook

I got to keynote the 2015 Commercial Real Estate Forecast Competition for the Houston CCIM chapter this month. There were lots of numbers flying through the room, with some of the best brokers in town sharing their expertise. Here are some of the comments I heard regarding industrial space in the Houston market.

We are likely to see eight million square feet of new industrial space come into the market in 2015. Absorption is expected to be between 4.5 and 6.0 million, so the occupancy rate is expected to decline. Look for more concessions this year and possibly some decline in asking rental rates. New product will be developed in all quadrants of the city, but the vacancy rate in the northwest sector is currently at an all-time low.

Occupancy rates for dock-high warehouses are forecast to be a healthy 93 to 95 percent by the end of the year.

Oil pipe yards and other energy services companies have been hit hard. But higher levels of construction and growth in the petrochemical business is still creating a need for warehouse and industrial space. Bulk distribution is the healthiest segment in the sector. Bayport, the Houston Ship Channel and the east side of Houston should continue to do well in 2015.

Land prices have skyrocketed virtually out of sight. Some land has been selling for $5 per square foot. At this price, very few real estate development deals make sense. Expect to see some downward pressure on land values throughout the metro area.

New development funding has virtually dried up. But stabilized buildings still have plenty of bidders. Foreign capital was buying a lot of real estate in Houston last year. One advisor told me he sold an entire city block to buyers from Eastern Europe. Cap rates on Class-A properties have dropped to the 5 to 5.5 percent range. Class-B and -C buildings are yielding 7 and 8 percent respectively.

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How Were We Useful Last Year? Tierra Grande Readers Told Us

Every so often, we at the Real Estate Center pause for a moment to try and get a sense of what’s on our customers’ minds. Most recently was in December, when we surveyed Tierra Grande readers to find out which TG article from 2014 they found most useful.

The most popular responses will likely come as no surprise to anyone who’s picked up a newspaper lately. The top three articles selected were about water, oil or both (who says oil and water don’t mix?).

What To Do About All This Fracking Water,” Harold Hunt’s look at how water used in the fracking process is being reused, was considered the most useful by far.

Charles Gilliland’s analysis of the correlation between oil prices and rural land prices (“Oil Prices Lead, Land Prices Follow”) ranked second alongside “Whose Water Is It Anyway?,” Judon Fambrough’s discussion of Texas water rights.

Speaking of Fambrough, readers also appreciated his detailed explanation of when electronic correspondences hold up in court as a legally binding contract (“Electronic Transactions: When Email Becomes a Contract”).

The beginning of the year brought a new federal law intended to reform the mortgage lending industry, so it stands to reason that an article discussing its effect on the housing market would resonate with readers. Sure enough, “The Pendulum Swings: Dodd-Frank’s Impact on the Housing Market,” by Jim Gaines, rounded out readers’ picks of the top five most-useful TG articles of the year.

By the way, the first 300 survey respondents received a copy of our 2013-14 Annual Report/2015 Calendar. If you missed out this time around, be on the lookout next fall. You might just have another chance.

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Why Central Bankers Fear Deflation

Almost all Americans can tell you what inflation is. When the price of hamburger goes up or the cost of medicine goes up, that’s inflation. Inflation is a way of life in America. We expect it. The cost of living goes up every year.

When you retire on a fixed income, you really notice it. Every year that goes by, your retirement income buys less and less.

Inflation is not pleasant for consumers.

So why wouldn’t everyone be in favor of deflation? Wouldn’t it be great if the cost of orange juice, bacon, milk and cable TV all dropped. Americans would be able to buy more things even if their paychecks didn’t increase.

In theory, deflation should be no big deal. Prices fall and maybe wages fall. But your quality of life hasn’t changed.

If the price of my house falls by $25,000 and the price of your similar house falls by $25,000, who cares?

I can still sell my house and buy yours. If my wages fall 5 percent and the price of everything I buy falls by 5 percent, then I’m still living the way I have been accustomed.

So why is deflation such a fearful thing to central bankers around the world?

When people think that the price of something could be lower in a few months, they tend to postpone buying it. So the economy starts to slow down. This is part of the concern.

But here is the bigger concern. It has to do with being in debt. Individuals all over the globe have borrowed money to buy things. Corporations have borrowed money to finance growth, business takeovers, dividend payouts and stock buybacks. Governments have borrowed money to buy things they can’t afford to pay for out of tax revenues.

When you have high levels of debt, prolonged deflation becomes catastrophic.

If my wages fall by 15 percent, I may no longer be able to make my mortgage payment.

If car prices fall by 15 percent, car companies may not be able to pay interest on their loans.

If government tax revenue falls by 15 percent, the government may not make interest payments on its bonds.

If prices and wages fall too much for too long, here is the outcome.

  • Homeowners lose their homes to foreclosure.
  • Businesses lose their businesses through bankruptcy.
  • Local, state and federal governments default on their bonds.
  • Pretty much the entire economy collapses under the massive weight of too much debt.

So this is why you see so much panic in Japan and now Europe to put a quick end to deflation. The Japanese intend to print money until there is no more ink. The European Central Bank has announced a similar strategy.

What is the moral of this story for Americans? Be careful with debt.

All of the central banks on earth are launching a full-scale war on deflation. They will probably win, but they might not. Our Fed launched the initial charge with a $3 trillion assault on deflation. Currently our guns (printing presses) have gone silent. But now Japan and Europe are the new fusiliers, launching a massive new barrage against the global enemy. And don’t forget; our guns can easily be redeployed in a moment’s notice.

Meanwhile, all of this money printing is likely to cause prices for commercial real estate to continue to increase as long as the presses are running and the ink supply is adequate.

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‘Clearing Market’ is Good News

During 2009 and 2010, the federal government was being encouraged to “do something” about the large number of families that were delinquent on their home mortgage.

I’m sure that some of the people in my audiences then thought that I was very calloused and uncaring. But, being from the “old school,” I was suggesting at the time that the housing market would not return to normalcy until these houses were actually foreclosed and sold to other buyers.

In a free market, this is referred to as “clearing the market.” Until the market clears, there is much uncertainty about the overhang of potential foreclosures. Buyers are hesitant to purchase, unless the discounts are substantial, because of concern about what happens when distressed homes finally come on the market.

Looking back, we see that this logic holds. Housing markets in states with nonjudicial foreclosure have recorded a strong rebound in prices. States like New York, New Jersey, Florida, Illinois and Nevada are lagging behind.

In my presentations back then, I suggested that our housing market has always been resilient. This is how the market has always worked:

  1. You miss your payments; you get foreclosed upon.
  2. You move into an apartment and rent for several years.
  3. When your credit is repaired, you buy another house.

This logic still holds today.

Here’s a real life story of how the market works. I was speaking in Las Vegas a few days ago to some commercial Realtors. I mentioned how the housing markets were finally clearing except in areas that had restrained the foreclosure process.

After the speech, a young woman in her 40s came up to me and said she had filed for bankruptcy in 2010. She said she cried for a week before finally going through with it. She lost her business in the process.and now works in the commercial real estate industry.

She wanted me to know that she had just bought another house. She was so excited and proud of the fact. She said she bought the house for $160,000. Initially the lender wanted a down payment of $17,000, but at closing, reduced it to $7,900. It was a conventional loan at current interest rates.

This is really good news for the housing market. Thousands of people lost their homes through foreclosure in the past eight years. For several years after foreclosure, it can be hard to get a mortgage to buy another house. But the calendar pages just keep turning. Many of these people that have been shut out of the market to buy a home because of foreclosure or bankruptcy are coming back into the market.

Capitalism works. The free market works.

What is the market? It’s simply the amalgamation of the decisions and thoughts of millions of buyers and sellers each day. Government intervention can postpone reality, but in the end, the market will clear. The quicker this happens, the quicker we are on the road to recovery.

I hope we don’t forget this next time.

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How Low Can Oil Prices Go?

The price of oil is volatile. It’s like the GEICO commercial says “everybody knows that.” Texans in Houston know it. Texans in Midland and Odessa know it.

The oil companies know it, too. Some of their stock prices are off 40 percent in just a few months. Stockholders don’t like 40 percent losses. It doesn’t take a CEO long to begin postponing projects, laying off or furloughing workers and cutting costs everywhere.

Some experts have tried to estimate just how low the price would need to fall before new exploration shut down. The fact of the matter is that some companies have much lower production costs than others. Some companies have hedged their 2015 production. This means that somebody has agreed to buy all the oil they can produce for $95 to $100 a barrel, regardless of how low the market price falls.

How low can it fall? Nobody knows. This big drop in price has caught everyone off guard. Look at the chronology of comments from key players in the oil market.

  • October 3: Price drops below $90 after Saudis announce a price cut.
  • October 13: Kuwait oil minister says “natural floor for prices at $76 to $77.”
  • October 15: Price drops to $81.84.
  • October 15: Saudi prince says Saudi Arabia needs $80 to $90 to balance the budget.
  • October 28: Goldman cuts price target for oil for 2015 from $90 to $75 for West Texas Intermediate crude (WTI).
  • October 28: Citigroup expects Brent crude to be $92 in first quarter 2015.
  • October 28: Deutsche Bank predicts Brent will be $88.
  • November 4: Saudi price cut moves WTI to $77.
  • November 7: OPEC officials say “at $70 there will be panic in OPEC” and “were prices to fall below $70, there will be action from OPEC.” However, OPEC doesn’t expect price to fall below $75 in the near term.
  • November 13: Brent fell below $80 for the first time in four years.
  • November 13: The Energy Information Agency (EIA) forecasts WTI to average $77.75 in 2015, down from its previous $94.58 estimate.
  • December 4: Saudis say oil could stabilize at around $60, a price they believe they could withstand.
  • December 9: Morgan Stanley sees Brent average of $70 in 2015.
  • December 12: “Prices set to drop toward $50.”
  • January 6: WTI trades at $48.

As you can see from this sequence, even the smartest people in the industry were caught completely off guard. As late as October 28, Goldman Sachs thought oil would be $95 this year. As late as November 13, the EIA thought oil would be $77.75 in 2015.

OPEC countries signaled they would like oil to be $80, and that there is a natural price floor around $77, and that prices below $70 would cause a panic.

Oil is a commodity, like gold and silver. Commodity prices can fluctuate dramatically in a very short period. Speculators have a strong influence in commodity markets. This is why prices can spike upward in a violent fashion and collapse with astounding quickness.

Take a look at the price of oil in the chart below. Notice how oil collapsed from above $140 to $32 by December 2008. The world economy was imploding and the United States was in a credit/banking crisis.

Notice also how fast the price of oil recovered, even in the most difficult of times. In just 12 months, the price of oil had recovered to $79 by the end of 2009.


My opinion is that the price of oil will bottom out this spring as speculators drive the price to the absolute bottom (whatever that may be). Marginal production in the United States will shut down first, because investor funding for new wells will dry up. As U.S. production slows, the price of oil will stabilize.

OPEC countries and Russia will suffer heavy damage with prices at these lowest levels. Internal social pressures will build to the point that these governments finally agree to cut production. This announcement will signal the bottom of the oil price decline debacle.

When will this happen? It will happen when the pain of low prices gets so intense that OPEC calls a special meeting and “adjusts” its production schedule.

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RealtyTrac Knows if You’ve Been Bad or Good

You better watch out because Santa’s not the only one with his eye on you this year. Last Thursday, RealtyTrac released its lists of the ten “nicest and naughtiest” housing markets in the country. Six Texas cities can expect to unwrap something cool under the tree this year.

In compiling its lists, the housing market analytics firm studied various quality-of-life factors in 334 U.S. markets — factors that are often important to house hunters. Cities making the nice list had school scores that were nearly twice the national average; crime rates of no more than one-third the national average; average 4.6 unemployment rate or lower; no more than 24 foreclosures per 10,000 housing units; and no more than four sex offenders per 10,000 people.

At number three, Pearland ranked highest of the six Texas cities on the list. Frisco came in fifth, while Sugar Land, Richardson, Katy and College Station filled the next four slots.

The top two spots were claimed by Cary, NC, and Fairfax, Va.

And no Texas cities need to worry about finding coal in their stockings this year. None made RealtyTrac’s naughty list.

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America Fighting Economic War on Four Fronts

Economic growth in America has been sluggish since the end of the recession in 2009. There are myriad reasons why this is happening. Many of them are internal to our country, such as government uncertainty related to health care and bank regulation.

But internal problems are being compounded by warlike conditions that are hindering our economic recovery. In my opinion, the U.S. economy is being assaulted in four different “wars.”

First, is the actual war, our military involvement in the Middle East. This fighting requires an expenditure of resources that could be used to invest in America’s future by building roads, bridges and other infrastructure that would enhance our long-run competitiveness in the global economy.

The second front is the cyber war. Every day somebody from Russia, Eastern Europe or China steals credit card information, health records, business secrets and our newest technology. Our banks and businesses have to spend massive amounts of time and money to defend against these assaults.

The third front is the currency war. In the global currency arena, whoever has the cheapest currency has the best advantage to sell products around the world. Japan and China are experts in this tactic. They know that if they keep their currency and products cheap, Americans will prefer to buy their products over more expensive products made here. Europe is now doing the same thing. They talk incessantly of the need for printing more money. Talk like this makes the Euro cheaper. It gives Germany and others an even greater advantage when they sell cars and other products in our country. As these countries succeed in the currency war, it will be harder for American workers to compete.

The fourth front is in the energy market. Can you remember back in the golden days when filling stations would have a “gas war”? One station would arbitrarily cut the price of gasoline to get all of the sales that day. For historical reference, this would have been back in the days when Herman’s Hermits and the Dave Clark Five were the hottest new bands. Well, Saudi Arabia and OPEC have declared a gasoline war on America. They are determined to produce enough oil to make the price go way low. If they can get the price low enough, they think they can greatly reduce American oil and gas production (meaning massive layoffs in the U.S. energy sector).

So, when you look at the entire global perspective, the U.S. economy is doing pretty well. It continues its modest growth while simultaneously fighting global wars on four different fronts, but the United States is still the strongest economy on earth.

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Why Hasn’t Full-time Employment Recovered?

Since the end of the Great Recession in June 2009, the number of full-time employed in the United States is 2.2 million below its 2007 pre-recession peak (Figure 1). Although, the number of individuals working part time has remained high, it’s starting to decline (Figure 2). Part-time work increased during the recession, which is typical. The increase was high, which is not surprising given the magnitude of the recession. However, the persistence of part-time work levels in the ongoing recovery and expansion is unusual because it’s accompanied by a slow recovery in the number of full-time workers.

Why do people work part time? The Bureau of Labor Statistics (BLS) differentiates between economic and noneconomic reasons. One economic reason is that workers who prefer full-time work are typically regarded as involuntary. They are working part time because in slack times businesses cut back employee hours. Sometimes workers can’t find full-time work.

Noneconomic reasons involve voluntary part-time workers who work part time because of medical needs, child-care issues, other family or personal obligations, school or retirement.

Most part-time work is for noneconomic reasons. Part-time work for economic reasons rises in recessions and falls in recoveries (Figure 3). This is an example of what economists call “cyclical” unemployment. The increase during the Great Recession was especially large, and there is still a high prevalence of involuntary part-time employment.

When people who want to work lack the skills employers are demanding, economists call it “structural” unemployment. Analysis of part-time work for economic reasons shows that part-time work levels are due to business slack that is still above pre-recession levels and continuing to fall (Figure 4). The continued high incidence of individuals working part-time for economic reasons can be traced to the slow recovery of jobs lost during the Great Recession rather than a permanent shift toward part-time jobs. There have been alternative explanations of the persistent high level of involuntary part-time work. These include:

  • limited education of some prime-age workers age 25 to 54 (Figure 5) and
  • the 30-hour cutoff for employee health benefits under the Affordable Care Act (ACA).

The first explanation is a structural issue. It relates to the skills and education of the workforce. The United States faces some daunting educational challenges to prepare people to work in a globalized economy. Effective solutions for structural employment begin with improved education, which tends to be expensive and take a long time to pay off. To achieve full employment, skill mismatches between workers and employers must be resolved. Otherwise, the economy could grow, but there wouldn’t be enough qualified workers to fill the vacancies.

The second explanation reflects employers’ incentive for creating part-time jobs to avoid paying health benefit costs. Part-time employees usually work less than 35 hours weekly. Recent research suggests the ultimate increase in the incidence of part-time work in response to the ACA provisions is likely to be temporary and small. In Hawaii, for example, part-time work increased only slightly in the 20 years following enforcement of a state employer health-care mandate. Also, as occurred after Massachusetts’ implementation of a similar law, the increased cost may cause firms to shift compensation from wages to health care.

Many articles and blogs have taken issue with the type of employment growth in the current economic recovery and expansion. Interestingly, the complainants maintain that part-time jobs displace full-time positions and cause a fundamental change in the labor market. Such complaints have existed since the 1991 recession.

The lack of new full-time jobs has contributed to the modest recovery in the U.S. economy, including the housing market. Whether a prospective homebuyer works fulltime or part time is key when deciding to purchase a home. It also affects consumption behavior and the demand for goods and services because part-time positions include fewer benefits.

Going forward, involuntary part-time work should be monitored to asses if working part time for economic reasons reflects the slow recovery in full-time employment rather than permanent changes in the proportion of part-time jobs.

employed full-time

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part-time by reason

part-time by economic reasons

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Trends in Farmland Properties

This is the third of a three-part series on real estate trends. This post focuses on farmland and highlights some things I heard at the annual convention of the American Society of Farm Managers and Rural Appraisers.

Farmland trends

  • Agriculture is a $3 trillion industry in the United States, and $2.4 trillion of that is in real estate.
  • Crop-producing farmland has posted tremendous capital gains in the past eight years.
  • Prices have risen to record levels, and investor returns are at historic low levels.
  • The low debt-to-asset ratio of just 11 percent means that any decline in farmland prices is unlikely to cause a banking crisis like the 1980s.
  • Large pension funds are interested in investing in farmland, and their interest is growing.
  • Ag land prices are not highly correlated with stocks or bonds. They allow investors to get some protection from big swings in stock and bond prices. Farmland is correlated with commodity prices, gold and the Consumer Price Index.
  • These pension funds are expanding their investment horizon into land that produces fruit and nuts.
  • Net income to farmers is expected to be lower in 2014 when compared with the past two years. But income is still high relative to long-run income trends.

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