Maybe the Housing Market Will Collapse After All…

As readers, listeners of Notorious POD, and people who have heard me present live know, I’m on the record as suggesting that we do not have a housing bubble. What we have is dollar devaluation caused by massive Fed money printing since the start of the pandemic. Accordingly, I believe that the “seller’s market” will continue even if the Fed raises rates, engages in quantitative tightening, etc.

The reasoning is simple: investors will rotate out of financial assets (especially bonds) that are returning negative real yield once inflation (nominal or real) is taken into account, and get into real assets that represent hedges against currency devaluation. So even if consumer demand drops off a cliff because mortgage rates go to 5% or whatever, unless the Fed actually raises rates high enough to really tamp down inflation (which it will not, cannot do), investor demand will step in to buy up houses.

Ergo, I did not and do not believe that we’ll see the housing “bubble” burst, because there is no housing bubble.

There is, however, a chance that the housing market will collapse after all… once our Lords and Ladies in Congress are done mucking with it. The rhetoric coming out of Washington DC is… troubling to say the least.

My Prediction Appears On Track

When I did my Seven Predictions for 2022 I was going for predictions that are likely to be wrong, because they’re “so out there,” but get people thinking as to the underlying trends. My seventh prediction was a Federal ban on investment into single family residences:

Accordingly, I think what we see is a ban on institutional ownership of single family residential properties. This is narrowly focused enough to only piss off a few big institutional players like BlackRock and Tricon and so on and they could likely be paid off in some other way like big tax breaks, or getting grandfathered in. By tailoring the ban to only apply to large investors — say more than 4 units? — you get around the protests from family and individual investors. By applying it only to SFRs, you leave the condo market and actual multifamily wide open for institutional investors.

Housing will become contraband for institutions. Mark my words.

Of course, such a policy doesn’t actually solve the problem of skyrocketing home prices (which has more to do with money printing) and rising rents (which has more to do with money printing), but it has the great benefit of allowing politicians to say they’re champions of the little guy going against greedy Wall Street landlords. And despite not solving the problem, there will be plenty of votes in these here hills. Watch this video, which has the highest views I’ve been able to find on YouTube:

Well, that particular prediction appears to be on track. Which kinda sucks for everybody.

The Senate Hearing

There was a recent article in Globe St. titled “Backlash Grows as Real Estate Giants Increase SFR Market Share” that alerted me to the fact that the U.S. Senate recently held (another) hearing to bash on institutional investors:

Sen. Sherrod Brown, (D-OH), chairman of the US Senate Committee on Banking, Housing and Urban Affairs, last week accused real estate investors and large asset management firms of cynically exploiting a “captive” housing market to increase the profit of large stakes they are acquiring in single-family rentals.

“Private equity firms, corporate landlords and investors saw a shortage, and they saw a captive market. They see these [single-family houses] as nothing more than annual return on equity,” Brown said, in an opening statement at a committee hearing Thursday entitled “How Institutional Landlords are Changing the Housing Market.”

Naturally, I went digging for this hearing. I wanted to see for myself what happened. Okay, maybe it isn’t natural to want to watch two hours of Senate Committee hearings, but I do it so you don’t have to.

In case you too are masochistic, here’s the link to the hearing and all of the written testimony from witnesses: “How Institutional Landlords are Changing the Housing Market.”

Two Narratives

I think we are seeing two narratives being built here, one from the Democrats and one from the Republicans.

The Democrat narrative is that heartless, greedy private equity funds are snapping up properties, sucking up the profits, doing little to no maintenance, creating dangerous living conditions, unreasonably jacking up rents on tenants, and generally abusing them in order to fatten their pockets. From Chairman Sherrod Brown’s (D-OH) written statement for this hearing:

Whenever there’s a problem in the economy that’s hurting families and driving up prices, there’s a pretty good chance you’ll find a Wall Street scheme either causing it, or taking advantage of it and making it worse.

One of the reasons housing prices have gotten so out of control, is that corporate America sensed an opportunity.

Private equity firms and corporate landlords and investors saw a shortage, and they saw a captive market. They bought up properties, they raised rents, they cut services, they priced out family homebuyers, and they forced renters out of their homes.

The Republican narrative is that this is the result of Biden Administration’s massive overspending, government intervention in the marketplace, and GSEs (Fannie and Freddie) making capital available to institutional investors. From ranking member Pat Toomey’s (R-PA) written statement:

This is a direct result of the administration’s massive overspending. The administration is desperate for someone else to blame. But there’s nothing wrong with people renting homes instead of, or before, becoming homeowners. And there’s also nothing wrong with investors—whether institutions or individuals—putting their own money to work to meet the needs of these renters.

This is a simple issue of supply and demand. Institutional investors are the ones with the deepest pockets, the ones with the most capital available to invest in building new housing stock. Just imagine how expensive housing would be if some Democrats got their wish and most institutional investors were driven out of the housing market.

Instead of blaming those who actually build housing stock, Democrats should take a look at their own role in creating this disaster. Housing is expensive and getting more expensive in part because this administration has doubled down on 50 years of failed big government housing policies.

Ah, partisanship! What a fantastic way to run a Republic! </sarcasm>

The Democrat Narrative Is Winning

Maybe it’s because most of the Republican members of the Committee appear not to have attended, but the hearing was decidedly one-sided. Apart from Toomey, I did not hear any questions or comments from any of the Republican members. The two “free market” witnesses who testified were basically ignored in favor of the three “Wall Street is evil” witnesses.

Again, this could simply be the result of which Senators actually attended the hearing. Or it could be that Republicans are the Stupid Party and do not recognize just how powerful this issue is for average voters. It isn’t because of donors, since Wall Street gives overwhelmingly to Democrats.

But the Republican talking points about GSE policies, monetary policy, risk layering, inflation, etc. etc. are just boring as fuck. They might be correct, but it sure is hard to get excited about “reining in the GSEs.” It isn’t at all clear that facts matter in politics.

The Democrat talking points, however, are emotional, hard-hitting, individualized, and really quite effective. It is very easy to blame some faceless Wall Street executive for jacking up rents by 50%, not doing repairs, adding on fees, kicking grandma out of her home that she’s lived in for ten years, etc. In fact, they take pains to try (not sure how successfully) to distinguish between good landlords and bad ones. Again, from Brown’s written statement:

No one is arguing that landlords – whether a teacher renting out the home her parents raised her in, or a professional company – shouldn’t be able to make a living.

Of course rental housing is a business: You provide a decent place to live, in exchange for collecting people’s hard-earned money in rent each month.

But if your building is full of mold and mice and doesn’t have working heat or a working stove, you’re not holding up your end of the deal.

That’s very smart, because it leaves open plenty of room for Congress to pressure Wall Street for additional contributions to keep whatever new legislation or regulation is coming at a moderate level, as well as exempting small local landlords (the teacher renting out the home her parents raised her in) from draconian restrictions.

What Might Be Coming

Please note that trying to discern what Congress might do is tantamount to reading tea leaves or casting bones. Who the hell knows? Especially in a hyperpartisan 50/50 Senate in a Midterm Election year. Having said that….

The activists who testified want all kinds of things to rein in landlords, and to “hold them accountable.” National rent control was mentioned. Prohibitions on “excessive” fines and fees were brought up. Making eviction more difficult was floated. Housing is a human right is the idea. I doubt any of those make it into actual policy.

What does appear more likely are small steps that lets politicians talk tough, without actually disturbing the status quo too much.

Transparency

Quite a few of the Senators appeared very, very concerned with lack of transparency with institutional landlords. Forbes clipped the section in a video, so you can watch the five minutes or so:

And throughout the hearing, witnesses testified over and over again how difficult it is to even find out who the actual owner of the property is as giant investment funds setup a web of LLCs to invest in and own the actual property.

This is in fact a real problem in trying to track who owns what. Requiring any institution buying real estate to disclose who the actual beneficial owners are seems like a no-brainer and low-hanging fruit for legislators. I can’t imagine any argument against disclosure from either side.

Code Enforcement

Perhaps because one of the witnesses, Sally Martin, was a former local regulator in Ohio, a lot of the conversation was around the lack of regulatory enforcement at the local level. Both Martin and Michael Waller, an activist with Georgia Appleseed, stressed over and over how local code enforcement is understaffed and underfunded.

The general idea is that remote landlords don’t maintain their properties adequately, leading to all manner of code violations. Local governments have to inspect these properties and ensure that they are up to code, but they don’t have the staff or the money to do so.

The simple solution is for the Federal government to give money to local governments. That seems likely to happen since nobody in government is opposed to more government funding for more government employees and bureaucracy.

Changes to GSE Policies

I also believe that some changes to GSE funding is likely. Witness Tobias Peter made some compelling arguments about how the GSEs have really increased their portfolio of multifamily mortgages, and correctly points out that government backing of investor loans is not helping to increase homeownership. Since the Democrats on the Committee also made all kinds of statements about how there is a housing crisis, how they want more affordable housing, and about families having the opportunity for homeownership, it does appear to me that an easy compromise to make Republicans come along is to change GSE policies.

Eliminating GSE role in investment loans and multifamily mortgages, and redirecting that money to purchase loans — especially for low-income first-time homebuyer loans — would theoretically be something both Democrats and Republicans can point to as success.

Maybe it’s milder still. Perhaps the GSEs would only offer multifamily or investor mortgages to individuals or small investors (say under 4 units?) and only for local properties where the owner lives. That would ice out institutional investors who need to have scale, and keep the teacher-landlord able to access subsidized capital for local real estate investment.

Frankly, I don’t think BlackRock would care whether they lost access to Fannie mortgages or not. BlackRock and other big institutions have enough of a headache trying to find somewhere to park their cash as they rotate out of negative real yield bonds.

That Which Crashes Housing

My best guess at this time is that Congress will talk tough, but do very little. There is, however, an outside chance that they do more because why use a scalpel when a chainsaw is available? And some of the rhetoric from Democrat senators is hot as hell. For example, here’s a transcript of Sen. Elizabeth Warren’s comments from the hearing:

You know, we’ve reached the point where nation-wide more than one-in-every four single-family homes in America is purchased by investors. And that is a huge increase. And the vast majority of investor purchases, more than 75%, were made in cash which is really hard for a family to compete with.

So if investors are buying up more and more homes, and new construction isn’t keeping up, who gets the short end of the stick?

And I think the answer is pretty clear: families that dream of buying their first homes. When investor home purchases skyrocketed last year, the share of purchases by first-time homebuyers, most of whom can’t compete with those all-cash offers, fell to its lowest level since the crash of 2008.

and

You know, institutional investors like to say that they are helping out renters and potential homebuyers across the country. But that’s just the story they want to tell while they just keep raking in the profits. With mountains of cash on hand and access to exclusive listings, these Wall Street firms are buying up already scarce homes from right under American families, and then, they jack up rents and exacerbate the inflation that’s straining family pocketbooks.

So think about what this means. Big investors are blocking the main path that families have traditionally had to build wealth and financial security. That is buy a home. They’re also standing in the way of opportunities to narrow the racial homeownership gap and the racial wealth gap that are a blight on our country.

So there’s a lot we need to do to fix the housing crisis. But we should– And we should start with building more housing, just as Build Back Better would do.

But we also need to loosen the grip that Wall Street investors have on our housing market. This would level the playing field so that every family in America has an opportunity to pursue the dream of owning a home.

That’s not language suggesting Warren would be satisfied with tweaks to GSE rule, requiring disclosure of LLC beneficial ownership, or sending FedBucks to local code enforcement agencies.

The other senators weren’t quite as spicy as Warren, but they too all talked about how families — especially “black and brown” families, which is a major talking point of Democrats — can’t compete with these big money cash investors.

Now… that’s the Senate. The Senate has long been the more civil of the two chambers of Congress, and it was designed to be the more “deliberative” and “collegial” body. The House is where the popular passions run wild. And The House is where the more radical socialist wing of the Democrats are. Rashida Tlaib, Alexandria Ocasio-Cortez, Cori Bush, Jamaal Bowman are all members of the Democratic Socialists of America.

Nevada Senators Cortez-Masto and Rosen are not DSA members, nor are the three Democrat representatives, Dina Titus, Susie Lee, and Steven Horsford. However, in 2021, the DSA took over the Nevada Democrat Party. The Midterm elections are this year.

It is unlikely but not inconceivable that the more radical wing of the Democrats would want more than small tweaks that don’t really change anything. Removing institutional investors from the home purchase equation, or disadvantaging them significantly, in order to give “every family in America an opportunity to pursue the dream of owning a home” might be on the table.

That would in fact crash the housing market.

Higher mortgage rates, which is inevitable due to Fed tightening, means lower demand from consumers. Without institutional investors wanting to park their cash in real estate, we would in fact see a dramatic collapse of home prices.

It seems obvious that even more radical schemes like federal rent control or making evictions impossible or something similar would also render real estate a non-viable asset class for investors large and small. That crashes the housing market. Capital would still rotate out of bonds and cash, but into things like Bitcoin or commodities instead.

What worries me and should worry you is that the Democrat narrative is very powerful. The current polling suggests a red wave that would see Democrats lose both the House and the Senate this year. A powerful populist message that Democrats can send to those voters in the middle who can be convinced is just what the doctor ordered. “We’re protecting you from greedy Wall Street landlords!” is pretty damn compelling, while talking about GSEs and risk layering is compelling only to libertarian economics types.

No one knows what will happen. But if my prediction from December proves to be true, and the Fed does in fact persist in monetary tightening to fight off inflation… then yeah, buckle up for bad times.

Ain’t politics grand?

-rsh