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The Race to Call the Top

The experts have made their pronouncements—it’s a bubble all right.

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In 2000, too few people who knew better went out on a limb and urged friends, lovers, and clients to get out of the stock market. But there are signs that we’ve been chastened by this collective failure. Pundits, economists, and, yes, Warren Buffett have been rushing to get on the record saying that real estate has maxed out. The top may not be here yet, they argue, but it’s close.

First out of the box was Stephen Roach, Morgan Stanley’s irresistibly gloomy chief economist. Noting soaring housing prices, he wrote last December, “In my view, they underscore the distinct possibility that America’s asset economy is in the midst of yet another bubble-induced blow-off.”

Paul Kasriel, chief economist at Northern Trust Corporation of Chicago, has constructed a price-to-earnings ratio for housing by dividing the market value of owner-occupied residential real estate (price) by the implicit rental value (earnings). In 2004, that P/E ratio was about 19, “the highest since 1952, when the time series starts,” said Kasriel. And we all know what happens when P/E ratios reach 50-year highs. Calculate the P/E ratio on your home—would you buy a stock with a number that high?

In a recent research note, David Rosenberg, Merrill Lynch’s chief North American economist, juxtaposed two charts: One showed the value of real estate as a percentage of gross domestic product, the other the value of household mutual-fund and equity holdings as a percentage of GDP. They looked eerily similar. Stock values peaked at about 1.4 times GDP in the first quarter of 2000. At the end of last year, real-estate values stood at almost exactly 1.4 times GDP, too. “We get nervous when we see things move parabolically north, because no asset class at any time ever failed to mean-revert after such an upside move.” (Translation: Housing prices will probably go the way of the NASDAQ in 2000, and soon.)

Warren Buffett, for his part, has not only opined about a housing bubble but also taken some of his own money off the table, unloading a spectacularly expensive property in Laguna, California. Ethan Harris, chief U.S. economist at Lehman Brothers, warns that there are simply too many speculators in the market now. The National Association of Realtors reports that one in four houses in 2004 was bought as an investment, an incredibly high percentage. “In a normal housing market, you have maybe 4 or 5 percent,” says Harris, adding that “New York is kind of one notch down from the worst ones.”

Savvy investors have long viewed magazine covers as classic contraindicators—the idea being that once journalists are onto it, a trend is as good as gone. Look no further than Business 2.0, Time Inc.’s New Economy magazine, which featured, on its March cover, a story called “Eight Ways to Make Money in Real Estate.” Yes, the magazine for know-it-all tech execs urged readers to buy bricks and mortar. (You’ll have to make up your own mind about the cover of this magazine; maybe it means the market is safe.)

Network TV can be viewed the same way. When dramas featuring young hotties in the financial business like Bull and The $treet debuted in 2000, the market tanked almost immediately. ABC recently considered a pilot for a show called Sold, a prime-time soap set in a high-end real-estate brokerage. But the network decided not to add the show to its fall lineup. Phew.


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