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Tuesday, April 19, 2005

Housing Starts

by Calculated Risk on 4/19/2005 06:29:00 PM

Angry Bear and Macroblog have commented on housing starts being lower than expected. Usually sales are a better indicator than starts, so look for the New Home Sales announcement next week.

This was an interesting comment buried in the story:

One concern among builders, [Dave Seiders, chief economist with the National Association of Home Builders] said, is that speculators are buying in new housing developments, which drives demand in the short term but could show up as excess supply down the road. "If the investor community should get worried, we could have a wholesale tumbling."
I believe speculation is the key to any bubble. This post on Angry Bear discussed the storage aspect of speculation - the "excess supply down the road" that Mr. Seiders is discussing. From the Angry Bear post:

Click on diagram for larger image.

This diagram shows the motive for the speculator. If he buys today, at price P0, he believes he can sell in the future at price Pf0 (price future zero), because of higher future demand. The speculation would return: Profit = Pf0-P0-storage costs (the storage costs are mortgage, property tax, maintenance, and other expenses minus any rents).

In this model, speculation is viewed as storage; it removes the asset from the supply. The following diagram shows the impact on price due to the speculation:

Since speculation removes the asset from the supply, the Present supply curve shifts to the left (light blue) and the price increases from P0 to P1. In the second diagram, when the speculator sells, the supply increases (shifts to the right). The future price will fall from PF0 to PF1. As long as (PF1 – storage costs) is greater than P1 the speculator makes a profit.

However, if the price does not rise, the speculator must either hold onto the asset or sell for a loss. If the speculator chooses to sell, this will add to the supply and put additional downward pressure on the price.

There is more in the Angry Bear post including a discussion of leverage as speculation.

I know I repeat myself sometimes - an old habit - sometimes I think certain ideas are worth revisiting. Best Regards to All.