Exploring demographic implications for U.S. housing market

James Dondero is one of the country’s foremost experts on the mortgage and real estate markets. He has built a career out of both innovation in financial products and good, old fashioned adherence to principles of value investing.

As the nation’s premier manager of collateralized loan obligations, Dondero has gained a profound knowledge of the syndicated debt markets. These include the collateralized debt obligations that are based on home mortgages. Together with the real estate market, the home mortgage market comprises one of the single largest sources of wealth in the United States.

But the U.S. housing market has shown troubling signs in recent decades. There is an increasing gap between the best neighborhoods and the worst. In some areas, the continuing rise in home prices, while good for current homeowners, is pushing younger buyers out of the market. These potential buyers, who are at a prime age for family formation, often find that they cannot practically work in certain locations and own a home. Increasingly, this has led to those who, in times past, would have formed the bulk of the middle class to indefinitely delay or completely eschew family formation. These trends have potentially grave long-term macroeconomic implications.

 

Growing inequality

One location where many would love to live and work but cannot afford to buy their own homes is Palo Alto, California. At just over $2.2 million dollars, the median home price is the highest in the nation. What’s more, since the lowest point in the housing recession, started in 2007 with the subprime mortgage crisis, the average price of a Palo Alto home has more than doubled. In fact, the current median home price is just a hair under twice what the pre-2007 all-time highs were. In short, this means that Palo Alto home owners have done extraordinarily well in the wake of the housing crisis, relative to their peers throughout the country.

On the other hand, we have Detroit. Detroit’s median home price is a much more affordable $38,000. However, its median home price prior to 2007 was over $70,000. The Detroit real estate market has hardly recovered any ground since the post-subprime low of 2012.

So, at least on the surface, it would appear that Detroit would be a fantastic place to move because the home prices are so affordable that almost anyone could get their own home there. Contrarily, it would appear that almost no one should want to move to Palo Alto. After all, spending $2.5 million for a 3,000 square foot house would mean that most workers would have to spend the entire amount they expect to make in their lives, just on their house. Obviously, that’s not possible.

The problem is, of course, that no one will move to Detroit. The crime rates, poverty concentration and lack of jobs and services are just some of the many reasons. But because of the high paying jobs, people who can afford to will move to Palo Alto. This may seem almost too obvious to point out but this is the point: A home in Palo Alto costs 68 times what it does in Detroit. This is extreme but by no means anomalous. The same pattern holds throughout the United States. If nothing is done, the United States is heading for a fate like Brazil or Venezuela, with uber-elites lording over a nation of beggars.

 

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