By Monte Myers — Many senior citizens, who thought they were set for life just six months ago, now face the prospect of going back to work, perhaps until they no longer can. And these are the folks who did everything they were supposed to do—not poor planners. They looked forward to that day when they could bid the world of work a fond farewell and ride off into the sunset of their golden years, rather than awake to find the wolf at the door.
Here’s a classic example: Imagine that you’re 65 and you had saved $200,000 for your retirement when you were 50. You watched your money grow at an average annual rate of 10% (the stock market’s average return on investment), netting you a cool $1 million. This was supposed to give you $40,000 a year to live on if you pulled out 4% each year. But, still not that much money, right? Social Security helped, and so did that job at Walmart. You were getting by. Besides, your house was paid for and it had gone up $150,000 in value. We good; so far?
Then the real estate crash, followed by the stock market implosion, changes all of that almost overnight. I read a story recently about a man who bought a new, three-bedroom $200,000 home in Maricopa, Arizona, in October 2005. He made a 35% down payment on his house and got a 15-year, fixed-rate mortgage at 5.75%. Today, the home is worth $80,000. His $70,000 down payment is now worthless. This is an example of how even a cautious borrower can be hurt by a price collapse.
Now, his story is an extreme example, but, so far, home values nationally have tumbled an average of 34% from their peak. As bad as that sounds, prices would need to fall at least 17% more to reach their traditional relationship to household income. If we have another 20% decline in real estate prices, we’ll need another bailout of the banks similar to what we just tossed into the gaping hungry maw of insolvent financial institutions. And if you don’t think that scenario is coming; think again.
There is a tsunami wave of new foreclosures coming over the next four years. And to make matters worse, an third wave of commercial mortgage foreclosures is just waiting in the wings. Commercial mortgages are usually written for five, seven or 10 years with big payments due at the end.
According to Peter Schiff, president of investment firm Euro Pacific Capital of Darien, Conn, “We will never see these prices again in our lifetime, when you adjust for inflation. These were lifetime peaks.” “That’s the nature of bubbles,” Schiff says. “The price never comes back.”
The price correction will probably be permanent for other reasons as well. Lending standards have changed insuring that the hoards of unqualified buyers that drove the prices up will never return. In fact, in efforts to get around these new rules, 45% of all new mortgage applications have resulted in fraud, with 65% of them involving lies about their income and actual names. The Great Depression of the 1930’s was preceded by a real estate bubble, also fueled by loose lending standards and shrinking down payment requirements.
Many people find our current predicament rather overwhelming. I would like you to have a broad overview of what is coming down the pike and why we are headed there. You may possibly dismiss this as just too “doomer” to even consider. So, if this financial crisis is leaving you confused about what is happening, I invite you to watch this narrated PowerPoint presentation by Chris Martensen. It is presented in short segments, so you can watch it as you have time. The Crash Course seeks to provide you with a baseline understanding of our economy and how it is tied to energy and the environment. It will help you better appreciate the risks that we all face, where the bailout money is coming from, and what the future holds.
