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Todd Robbins, Major, USAF NS 3041, Winter 2009

Irrational Exuberance: A Comparative Look at Housing Price Movements in the U.S. and U.K. Todd Robbins, Major, USAF NS 3041, Winter 2009. Real Home Prices. Source: http://mysite.verizon.net/vzeqrguz. Real Home Prices. Source: http://mysite.verizon.net/vzeqrguz.

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Todd Robbins, Major, USAF NS 3041, Winter 2009

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  1. Irrational Exuberance: A Comparative Look at Housing Price Movements in the U.S. and U.K. Todd Robbins, Major, USAF NS 3041, Winter 2009

  2. Real Home Prices Source: http://mysite.verizon.net/vzeqrguz

  3. Real Home Prices Source: http://mysite.verizon.net/vzeqrguz Source: http://www.nationwide.co.uk/hpi/historical.htm

  4. Overview • Fundamental Basis for Home Prices • U.S. and U.K. Demographics • U.S. and U.K. Interest Rates • U.S. and U.K. Per Capita GDP • U.S. and U.K. Housing Prices • Shiller’s Irrational Exuberance Model • Conclusions

  5. Home Price Fundamentals • Location, Location, Location • Population and Population Growth • Mortgage Interest Rates • Income level • Construction Costs

  6. Location, Location, Location

  7. U.S./U.K. DemographicsPopulation Growth Source: IMF WEBSITE - http://www.imf.org http://www.stats.indiana.edu/maptools/maps/thematic/population/us_daytime_density http://www.bestcountryreports.com/media/D_Images/UK_Pop.jpg

  8. Interest Rates Source: www.federalreserve.gov http://www.bba.org.uk -- British Banking Association

  9. U.S./U.K. DemographicsReal Per Capita GDP Source: IMF WEBSITE - http://www.imf.org -- adjusted to real terms using the IMF deflator

  10. Combined U.S. Data

  11. Real Home Prices Source: http://mysite.verizon.net/vzeqrguz Source: http://www.nationwide.co.uk/hpi/historical.htm

  12. Irrational Exuberance • “Irrational Exuberance” -- Alan Greenspan introduced the term to describe the behavior of stock market investors in 1996 • Robert Shiller -- Economics professor at Yale University • Irrational Exuberance, 1st Ed March 2000 • Irrational Exuberance, 2nd Ed 2005 • Co inventor of the S & P/Case-Shiller 20 city Home Price Index • Irrational Exuberance defined: • “Wishful thinking on the part of investors that blinds us to the truth of our situation.”

  13. Irrational Exuberance • How it creates speculative bubbles • “News of price increase spurs investor enthusiasm, which spreads by psychological contagion from person to person, in the process amplifying stories that might justify the price increases and bringing a larger and larger class of investors, who, despite doubts about the real value of the investment, are drawn to it partly through envy of other’s successes and partly through gambler’s excitement”

  14. Precipitating Factors • 6 of Shiller’s 12 precipitating factors that propelled the recent market bubbles • Capitalist explosion and ownership society • Cultural emphasis on business success • New Information technology • Expansion of reporting of business news • Analysts optimistic forecasts • “It appears we have established a bottom.” NAR Chief Economist, January 2007 • “New Era” thinking Source: Emily Friedlander “ ‘The Bottom is Here’: Former NAR Economist Lereah’s Rosy Statements”, Wall Street Journal, 11 Jan 2009

  15. Feedback Loop

  16. How It Ends • Speculative Bubbles can be viewed as naturally occurring Ponzi Schemes • Speculative Bubble can’t grow forever • When investors no longer think prices will rise or new investors stop joining -- the bubble deflates or bursts • Downward Bubble may occur • Price Declines discourage some investors, causing further declines and so on.

  17. U.S. and U.K. Home Prices • No truly national (much less international) home price bubble until 1990s-2000s • Increase in media coverage allowed communication of the story of increasing home prices and “new era” thinking • International Real Estate (CDOs, REITs, etc) investing may have created international connections and incentives in the markets Source: Glenn R Mueller; Vaneesha Boney; Andrew G Mueller “International Real Estate Volatility: A Tactical Investment Strategy” Journal of Real Estate Portfolio Management; Oct-Dec 2008; 14, 4; ABI/INFORM Global pg. 415

  18. Real Home Prices Source: http://mysite.verizon.net/vzeqrguz Source: http://www.nationwide.co.uk/hpi/historical.htm

  19. Questions? “Whatever it is that drives this excitement, it can cross oceans” Robert Shiller, Irrational Exuberance, 2nd Ed, 2005

  20. Myth’s According to Shiller • Stocks go down but will quickly go up again – Wrong • Stocks outperform other assets – Wrong • Mutual funds with good managers outperform – Wrong • Houses are not that risky of an investment – Wrong • Houses are the best investment --Wrong

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