Housing price conundrum (part 4)

WEBVTT
Kind: captions
Language: en

00:00:00.670 --> 00:00:04.290
I'll now explain to you why,
from 2000 to 2005, we had very

00:00:04.290 --> 00:00:06.390
low defaults on mortgages.

00:00:06.390 --> 00:00:14.490
Let's say that I buy a
house for $1 million.

00:00:14.490 --> 00:00:15.610
I buy a $1 million house.

00:00:15.610 --> 00:00:18.280
So let's say the bank
gives me $1 million.

00:00:18.280 --> 00:00:20.370
And then I'm willing to pay
a percentage on it.

00:00:20.370 --> 00:00:23.700
So this is from the bank.

00:00:23.700 --> 00:00:25.130
This is me.

00:00:25.130 --> 00:00:27.190
And I use that to buy a house.

00:00:27.190 --> 00:00:28.360
I don't know if these
diagrams help you.

00:00:28.360 --> 00:00:30.320
But you get the general idea.

00:00:30.320 --> 00:00:31.600
And the bank does that.

00:00:31.600 --> 00:00:36.330
And let's say, I don't know,
a year later I lose my job.

00:00:36.330 --> 00:00:39.340
I just can't pay this
mortgage anymore.

00:00:39.340 --> 00:00:41.420
So I have a couple of options.

00:00:41.420 --> 00:00:48.920
I can either sell the house
and pay off the debt, or I

00:00:48.920 --> 00:00:50.780
guess I could just tell the
bank, well I can't do

00:00:50.780 --> 00:00:52.570
anything, and I'm going
to foreclose.

00:00:52.570 --> 00:00:53.760
And that would ruin my credit.

00:00:53.760 --> 00:00:54.440
It would hurt my credit.

00:00:54.440 --> 00:00:56.650
And I would lose all
my down payment.

00:00:56.650 --> 00:00:59.470
So what are the circumstances
that I can sell the house?

00:00:59.470 --> 00:01:01.650
Well, if I borrowed $1 million,
as long as-- and

00:01:01.650 --> 00:01:02.940
let's say I didn't put any
money down, just for

00:01:02.940 --> 00:01:04.190
simplicity.

00:01:04.190 --> 00:01:07.600
If I can sell the house for
$1.1 million, well I

00:01:07.600 --> 00:01:08.640
would do it, right?

00:01:08.640 --> 00:01:10.910
Let me sell for $1.1 million.

00:01:10.910 --> 00:01:13.460
If I sell for $1.1 million,
I pay the bank--

00:01:13.460 --> 00:01:14.760
let me switch colors.

00:01:14.760 --> 00:01:19.900
I pay the bank $1 million,
and I net $100,000.

00:01:19.900 --> 00:01:20.800
And everyone's happy.

00:01:20.800 --> 00:01:23.540
The bank got their money back,
so they didn't lose any money

00:01:23.540 --> 00:01:24.690
on the transaction.

00:01:24.690 --> 00:01:26.360
I made $100,000.

00:01:26.360 --> 00:01:28.840
And so the whole reason why this
worked out, even though

00:01:28.840 --> 00:01:30.970
maybe I was a credit risk,
is because the

00:01:30.970 --> 00:01:32.970
housing prices went up.

00:01:32.970 --> 00:01:38.050
So when you have rising housing
prices, the banks will

00:01:38.050 --> 00:01:40.100
not lose money lending you.

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Because if you can't pay, you
just give back the house, the

00:01:43.270 --> 00:01:43.860
bank can sell it.

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Or, you won't even give
back the house.

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You'll sell the house and you'll
pay it off, even though

00:01:47.190 --> 00:01:48.800
you can't pay the mortgage
anymore.

00:01:48.800 --> 00:01:51.200
The only situation where I
would foreclose is if the

00:01:51.200 --> 00:01:54.070
market price of the house
goes less than my loan.

00:01:54.070 --> 00:01:55.320
And that's actually
the situation that

00:01:55.320 --> 00:01:56.400
we're facing now.

00:01:56.400 --> 00:01:58.340
So if, let's say that
I can only sell

00:01:58.340 --> 00:02:00.400
this house for $900,000.

00:02:00.400 --> 00:02:01.430
Well, then I'm just
going to give the

00:02:01.430 --> 00:02:04.000
keys back to the bank.

00:02:04.000 --> 00:02:05.840
That's actually called jingle
mail, because you just mail

00:02:05.840 --> 00:02:07.030
the keys back.

00:02:07.030 --> 00:02:09.139
And then the bank sells the
house for $900,000.

00:02:09.139 --> 00:02:10.610
And then they would
take a loss.

00:02:10.610 --> 00:02:14.510
So when housing prices go
down, that's the only

00:02:14.510 --> 00:02:16.810
situation where really you
should have foreclosure.

00:02:16.810 --> 00:02:19.550
When housing prices soon. go up,
the person who borrowed it

00:02:19.550 --> 00:02:22.700
is just going to sell the house
and pay off the loan.

00:02:22.700 --> 00:02:24.070
And they are actually probably
going to make some money.

00:02:24.070 --> 00:02:25.970
So there was every incentive
to buy a house.

00:02:25.970 --> 00:02:29.390
So let's think about this whole
dynamic over the last

00:02:29.390 --> 00:02:30.870
several videos that we've
been building.

00:02:34.210 --> 00:02:42.300
So we said, from 2000 to 2004
housing prices went up.

00:02:45.180 --> 00:02:46.530
Let me do it like this.

00:02:46.530 --> 00:02:48.030
Let me change it a little bit.

00:02:52.950 --> 00:02:58.160
We can even say, from
2000 to 2006.

00:02:58.160 --> 00:03:00.300
So we know that housing
prices went up.

00:03:06.660 --> 00:03:09.770
And why did why did housing
prices go up?

00:03:09.770 --> 00:03:11.120
Well, we saw the data.

00:03:11.120 --> 00:03:13.240
It wasn't because people
were earning more.

00:03:13.240 --> 00:03:16.010
It wasn't because the
unemployment rate went down.

00:03:16.010 --> 00:03:17.940
It wasn't because the population
increased.

00:03:17.940 --> 00:03:20.840
It wasn't because the supply
of houses were limited.

00:03:20.840 --> 00:03:21.830
We disproved all that.

00:03:21.830 --> 00:03:24.830
We realize it was just because
financing got easier.

00:03:24.830 --> 00:03:28.770
The standards for getting a
loan went lower and lower.

00:03:28.770 --> 00:03:33.850
Financing got easier
and easier.

00:03:33.850 --> 00:03:37.850
And because housing prices went
up, what did that cause?

00:03:37.850 --> 00:03:40.150
We just said when housing
prices go up,

00:03:40.150 --> 00:03:41.400
default rates go down.

00:03:46.760 --> 00:03:48.330
You could give a
loan to someone

00:03:48.330 --> 00:03:49.890
who's a complete deadbeat.

00:03:49.890 --> 00:03:53.970
But as long as housing prices go
up, if they lose their job,

00:03:53.970 --> 00:03:56.690
they can still sell that house
and pay you back the loan.

00:03:56.690 --> 00:04:00.060
So housing prices going up
makes sure there's no

00:04:00.060 --> 00:04:02.140
foreclosure, so defaults
go down.

00:04:02.140 --> 00:04:04.950
So then the perceived risk
goes down, of lending.

00:04:09.390 --> 00:04:17.360
Perceived lending
risk goes down.

00:04:20.029 --> 00:04:23.040
So that makes more people
willing to lend.

00:04:31.240 --> 00:04:34.450
And the corollary of more people
willing to lend, is you

00:04:34.450 --> 00:04:36.410
that the actual standards
go down.

00:04:38.910 --> 00:04:39.860
That's financing easier.

00:04:39.860 --> 00:04:40.600
We could actually write that.

00:04:40.600 --> 00:04:41.850
Standards go down.

00:04:44.990 --> 00:04:47.320
So you had this whole-- I guess
you could argue whether

00:04:47.320 --> 00:04:50.230
this is a negative or
a positive cycle.

00:04:50.230 --> 00:04:54.720
But you had this whole cycle
occurring from the late '90s,

00:04:54.720 --> 00:04:57.770
but especially, it really got
a lot of momentum at around

00:04:57.770 --> 00:05:00.090
2001, 2002, 2003.

00:05:00.090 --> 00:05:03.070
That financing got easier,
despite the fact that people

00:05:03.070 --> 00:05:05.740
were earning less, population
wasn't increasing that fast,

00:05:05.740 --> 00:05:06.920
that there were all of
these new houses.

00:05:06.920 --> 00:05:09.170
And that caused housing
prices to go up.

00:05:09.170 --> 00:05:11.850
Housing prices went up, then
we had a lot fewer people

00:05:11.850 --> 00:05:13.300
defaulting on their loans.

00:05:13.300 --> 00:05:15.050
No one would default on their
loans if they could sell it

00:05:15.050 --> 00:05:16.630
for more than the loan.

00:05:16.630 --> 00:05:19.420
Then a lot more people said,
well these are super safe.

00:05:19.420 --> 00:05:23.910
And so the ratings agencies,
Standard and Poor's and

00:05:23.910 --> 00:05:27.030
Moody's, were willing to give
AAA ratings to more and more,

00:05:27.030 --> 00:05:29.030
what I would argue,
are risky loans.

00:05:29.030 --> 00:05:31.070
So the perceived lending
risk went down.

00:05:31.070 --> 00:05:32.920
Then more and more people
liked this asset class.

00:05:32.920 --> 00:05:33.960
They said, wow, this is great.

00:05:33.960 --> 00:05:36.650
I can get a better return than
I can get in a bank, or in

00:05:36.650 --> 00:05:39.080
Treasuries, or in a whole set
of securities, even though

00:05:39.080 --> 00:05:41.750
these are very low-risk
or perceived low-risk.

00:05:41.750 --> 00:05:43.990
So I want to funnel more
and more money in here.

00:05:43.990 --> 00:05:46.890
And so the mortgage brokers and
the investment banks said

00:05:46.890 --> 00:05:51.080
great, the only way we can get
more volume to satisfy all

00:05:51.080 --> 00:05:53.700
these people who want to lend
money-- the only way we can

00:05:53.700 --> 00:05:56.150
find more people to lend
money to, is by

00:05:56.150 --> 00:05:57.460
lowering the standards.

00:05:57.460 --> 00:06:00.020
And this cycle went round
and round and round.

00:06:00.020 --> 00:06:02.820
And it really started because
this whole process of being

00:06:02.820 --> 00:06:05.970
able to take a bunch of people's
mortgages together,

00:06:05.970 --> 00:06:09.630
package them up, and then turn
them into securities and then

00:06:09.630 --> 00:06:12.270
sell them to a bunch of
investors-- this was a

00:06:12.270 --> 00:06:15.630
quote-unquote innovation in the
mid-'90s, or early '90s.

00:06:15.630 --> 00:06:16.810
I forgot exactly when.

00:06:16.810 --> 00:06:20.670
And it really started to take
steam in the early part of

00:06:20.670 --> 00:06:21.860
this decade.

00:06:21.860 --> 00:06:26.000
So that's essentially why
housing prices went up.

00:06:26.000 --> 00:06:29.200
And why kind of all of this
silliness happened.

00:06:29.200 --> 00:06:32.270
And in the next video, I'll talk
a little bit more about

00:06:32.270 --> 00:06:35.320
maybe who some of these
investors were.

00:06:35.320 --> 00:06:39.300
And I'll tell you what a common
hedge fund technique.

00:06:39.300 --> 00:06:40.980
And I think it's very important
not to group all

00:06:40.980 --> 00:06:41.760
hedge funds together.

00:06:41.760 --> 00:06:43.000
There are some good ones.

00:06:43.000 --> 00:06:46.270
But what a common hedge fund
technique was, to take

00:06:46.270 --> 00:06:49.110
advantage of this virtual cycle,
to make the hedge fund

00:06:49.110 --> 00:06:50.980
founders very wealthy.

00:06:50.980 --> 00:06:52.450
I'll see


Housing price conundrum (part 3)

WEBVTT
Kind: captions
Language: en

00:00:00.720 --> 00:00:01.780
So just a bit of review.

00:00:01.780 --> 00:00:05.650
What happened from
2000 to 2004?

00:00:05.650 --> 00:00:08.029
Actually I should really say,
from 2000 to 2006, because

00:00:08.029 --> 00:00:11.700
that really was when the housing
bubble happened.

00:00:11.700 --> 00:00:13.270
Well financing got easier.

00:00:20.920 --> 00:00:23.640
Or essentially they lowered
their standards.

00:00:23.640 --> 00:00:26.230
And it got progressively easier
and easier and easier,

00:00:26.230 --> 00:00:27.400
every year we went.

00:00:27.400 --> 00:00:36.630
So then that allowed more
people to bid on homes.

00:00:36.630 --> 00:00:39.110
So it increased the demand
artificially in certain ways.

00:00:39.110 --> 00:00:41.670
Because we saw from that New
York Times article that

00:00:41.670 --> 00:00:44.360
people's incomes weren't
increasing, and the population

00:00:44.360 --> 00:00:46.160
wasn't increasing anywhere
near as fast

00:00:46.160 --> 00:00:47.470
to soak up the supply.

00:00:47.470 --> 00:00:52.110
So all it did is allow people
who were renting before, and

00:00:52.110 --> 00:00:53.900
who couldn't save the money for
the down payment, now to

00:00:53.900 --> 00:00:54.490
participate.

00:00:54.490 --> 00:00:59.480
So now you had more people
bidding for the same house, to

00:00:59.480 --> 00:01:01.550
bid up houses.

00:01:01.550 --> 00:01:03.530
But that led to the
obvious question.

00:01:03.530 --> 00:01:08.050
Why did financing get
easier and easier?

00:01:08.050 --> 00:01:11.980
So let's go back to the good old
days, like the early '90s.

00:01:11.980 --> 00:01:13.370
Or actually, let's go
even before that.

00:01:13.370 --> 00:01:16.990
Let's go to the classic, what
happens to get a housing loan?

00:01:16.990 --> 00:01:20.260
Well traditionally, if I
want to get a loan I

00:01:20.260 --> 00:01:21.535
would go to my bank.

00:01:26.500 --> 00:01:29.330
And that loan officer at the
bank, he's going to be giving

00:01:29.330 --> 00:01:31.370
the bank's money for
your house, right?

00:01:34.030 --> 00:01:35.210
He gives you money.

00:01:35.210 --> 00:01:38.200
And you're going to pay
him interest. Right?

00:01:38.200 --> 00:01:39.800
This is me.

00:01:39.800 --> 00:01:43.390
And so that loan officer at the
bank, he really cares that

00:01:43.390 --> 00:01:45.460
they're not going to lose money
on the transaction.

00:01:45.460 --> 00:01:47.860
If he's going to give you $1
million, he wants to make sure

00:01:47.860 --> 00:01:50.820
that no matter what happens, if
you lose your job, if you

00:01:50.820 --> 00:01:54.750
get arrested, if you skip town,
that he's still going to

00:01:54.750 --> 00:01:56.260
be able to get his
$1 million back.

00:01:56.260 --> 00:01:58.630
And if you go back to our
equity and balance sheet

00:01:58.630 --> 00:02:01.180
presentations, that's why, back
in the day, they made

00:02:01.180 --> 00:02:04.480
sure that you put 20%, 25% down
payment on your house,

00:02:04.480 --> 00:02:06.650
that you had a good credit
rating, that you had a good

00:02:06.650 --> 00:02:07.660
steady income.

00:02:07.660 --> 00:02:11.080
Because that banker, that
loan officer, was

00:02:11.080 --> 00:02:11.890
going to be in trouble.

00:02:11.890 --> 00:02:14.860
And his bonus was based
on how good the loans

00:02:14.860 --> 00:02:15.770
he gave held up.

00:02:15.770 --> 00:02:18.280
So that was the traditional
model.

00:02:18.280 --> 00:02:21.190
What happened-- started to
happen the mid-90s, especially

00:02:21.190 --> 00:02:24.760
in California, and then
nationwide in about 2001,

00:02:24.760 --> 00:02:28.670
2002-- is you had what we call
a securitization of the

00:02:28.670 --> 00:02:30.100
mortgage market.

00:02:30.100 --> 00:02:33.170
And this, in all fairness, this
actually happened a while

00:02:33.170 --> 00:02:35.230
before, with things like Fannie
Mae and Freddie Mac.

00:02:35.230 --> 00:02:37.830
And I'll do a completely
separate video on those.

00:02:37.830 --> 00:02:40.000
But Fannie Mae and Freddie
Mac essentially

00:02:40.000 --> 00:02:41.390
had the same standards.

00:02:41.390 --> 00:02:44.550
They had the standards of, we
call them, conforming loans.

00:02:44.550 --> 00:02:46.740
I think the numbers -- you
have to have 20% down.

00:02:46.740 --> 00:02:48.310
You have to have a certain
credit score,

00:02:48.310 --> 00:02:49.550
certain steady income.

00:02:49.550 --> 00:02:53.190
So Fannie Mae and Freddie Mac
were these entities that might

00:02:53.190 --> 00:02:56.420
buy the loan from your
local banker.

00:02:56.420 --> 00:02:58.950
But their standards were just as
high as the local banker's.

00:02:58.950 --> 00:03:03.110
And they were based -- I think
they were actually, they had

00:03:03.110 --> 00:03:04.390
oversight by Congress.

00:03:04.390 --> 00:03:09.050
So they weren't giving
away loans for free.

00:03:09.050 --> 00:03:11.116
But I'll do a whole other
presentation on Fannie Mae and

00:03:11.116 --> 00:03:12.140
Freddie Mac.

00:03:12.140 --> 00:03:15.800
What you had happen in the late
'90s, and especially in

00:03:15.800 --> 00:03:18.550
the early part of this decade,
is you had a whole industry

00:03:18.550 --> 00:03:21.120
outside of the
government-sponsored entities.

00:03:21.120 --> 00:03:23.550
The government-sponsored
entities are Fannie Mae and

00:03:23.550 --> 00:03:24.510
Freddie Mac.

00:03:24.510 --> 00:03:28.280
And this is essentially --
instead of you going to your

00:03:28.280 --> 00:03:32.810
local bank for a loan -- this
is me again -- I would go to

00:03:32.810 --> 00:03:35.700
my local mortgage broker.

00:03:35.700 --> 00:03:38.400
Countrywide is the most
famous of them.

00:03:38.400 --> 00:03:39.440
I think they're CFC.

00:03:39.440 --> 00:03:40.840
That's their stock ticker.

00:03:40.840 --> 00:03:42.380
They're not bankrupt yet.

00:03:42.380 --> 00:03:44.630
So I would go to Countrywide.

00:03:44.630 --> 00:03:48.010
And essentially I would
get $1 million from

00:03:48.010 --> 00:03:50.170
them, a home loan.

00:03:50.170 --> 00:03:51.470
I would get $1 million
from them.

00:03:51.470 --> 00:03:54.520
And I'd agree to pay interest
to Countrywide.

00:03:54.520 --> 00:03:57.890
But then Countrywide would do
this like, a million times.

00:03:57.890 --> 00:03:59.600
So times a million, right?

00:03:59.600 --> 00:04:01.670
They'll give home loans
to a million people,

00:04:01.670 --> 00:04:03.120
put them all together.

00:04:03.120 --> 00:04:05.320
And then they'll
sell the loans.

00:04:05.320 --> 00:04:08.090
They'll sell the loans to like,
let's say, Bear Stearns.

00:04:11.970 --> 00:04:14.060
So that's an investment bank.

00:04:14.060 --> 00:04:16.420
Let's call it Bear Stearns.

00:04:16.420 --> 00:04:17.890
Hope none of these
people sue me.

00:04:17.890 --> 00:04:19.860
I guess they have bigger
troubles now, then wondering

00:04:19.860 --> 00:04:21.579
about my YouTube videos.

00:04:21.579 --> 00:04:22.620
They sell it to Bear Stearns.

00:04:22.620 --> 00:04:26.070
And then Bear Stearns will
package a bunch of these

00:04:26.070 --> 00:04:29.550
mortgages together, essentially
IOU's from people.

00:04:29.550 --> 00:04:31.770
And then they would sell
those to investors.

00:04:31.770 --> 00:04:33.980
Right?

00:04:33.980 --> 00:04:39.540
So essentially, instead of
Countrywide being responsible

00:04:39.540 --> 00:04:44.580
for my loan, my payments now
go to these investors.

00:04:44.580 --> 00:04:47.380
And you could watch the--
that says investors.

00:04:47.380 --> 00:04:49.190
I know my penmanship
is horrible.

00:04:49.190 --> 00:04:51.030
But you should watch the videos
on mortgage-backed

00:04:51.030 --> 00:04:53.530
securities and collateralized
debt obligations, if you want

00:04:53.530 --> 00:04:55.800
to get a better understanding
of exactly how

00:04:55.800 --> 00:04:57.080
the money flows go.

00:04:57.080 --> 00:04:59.810
But the bottom line is, because
of this process,

00:04:59.810 --> 00:05:01.150
what's happening?

00:05:01.150 --> 00:05:04.860
Countrywide is just being
a transactional.

00:05:04.860 --> 00:05:07.200
They're just doing the paperwork
for my loan.

00:05:07.200 --> 00:05:08.920
They're temporarily
holding the loan.

00:05:08.920 --> 00:05:11.780
And they're doing a little
bit of due diligence.

00:05:11.780 --> 00:05:17.640
And in return for that, that
Countrywide mortgage broker

00:05:17.640 --> 00:05:21.020
will just get a fixed fee for
doing that transaction.

00:05:21.020 --> 00:05:25.000
Maybe they'll get like $5,000
for just doing the paperwork

00:05:25.000 --> 00:05:26.090
for my mortgage.

00:05:26.090 --> 00:05:26.570
Right?

00:05:26.570 --> 00:05:29.160
And then Bear Stearns will
package a bunch of these

00:05:29.160 --> 00:05:31.710
mortgages up-- and now it's
going to be in the billions--

00:05:31.710 --> 00:05:35.320
and then repackage them and
sell them to investors.

00:05:35.320 --> 00:05:37.700
In the process, Bear
Stearns gets a cut.

00:05:37.700 --> 00:05:40.430
And Bear Stearns is doing
this for millions of

00:05:40.430 --> 00:05:42.420
mortgages at a time.

00:05:42.420 --> 00:05:44.580
It's in the billions of
dollars, and Bear

00:05:44.580 --> 00:05:45.600
Stearns gets a cut.

00:05:45.600 --> 00:05:48.570
So Bear Stearns essentially
just gets a fee, like the

00:05:48.570 --> 00:05:49.180
mortgage broker.

00:05:49.180 --> 00:05:51.630
Of course it's a huge fee.

00:05:51.630 --> 00:05:53.290
And then the investors
are going to

00:05:53.290 --> 00:05:54.766
get my interest payments.

00:05:54.766 --> 00:05:55.670
Right?

00:05:55.670 --> 00:05:58.220
And let's say if the interest
rates, if I'm paying 7%, and

00:05:58.220 --> 00:06:00.710
the other million people are
paying 7%, the investors are

00:06:00.710 --> 00:06:03.380
going to get 7% on
their money.

00:06:03.380 --> 00:06:05.800
And that seems like a pretty
reasonable proposition.

00:06:05.800 --> 00:06:08.960
And of course the investors
would care that the money that

00:06:08.960 --> 00:06:10.950
they're essentially giving --
because they're giving money

00:06:10.950 --> 00:06:12.520
to the investment bankers
who are giving money to

00:06:12.520 --> 00:06:13.250
Countrywide.

00:06:13.250 --> 00:06:16.100
And that's where my $1 million
is essentially coming from.

00:06:16.100 --> 00:06:17.460
The only reason why the
investors would give their

00:06:17.460 --> 00:06:21.490
money, is if they have a lot of
confidence that these are

00:06:21.490 --> 00:06:23.580
really really good loans.

00:06:23.580 --> 00:06:25.150
Well the investors, they
don't know who I am.

00:06:25.150 --> 00:06:27.745
They don't know what my
job is, how likely I

00:06:27.745 --> 00:06:28.540
am to pay the loan.

00:06:28.540 --> 00:06:30.820
So the investors have to rely
on someone to tell them that

00:06:30.820 --> 00:06:32.290
these are good loans.

00:06:32.290 --> 00:06:35.410
And that's where the rating
agencies come in.

00:06:41.510 --> 00:06:45.170
And these are Standard
& Poor's and Moody's.

00:06:45.170 --> 00:06:49.720
And they rate these assets,
these mortgage-backed

00:06:49.720 --> 00:06:50.530
securities.

00:06:50.530 --> 00:06:53.100
And what they say is, well,
they'll look at this big

00:06:53.100 --> 00:06:56.210
package of mortgages, these
million mortgages that Bear

00:06:56.210 --> 00:06:57.300
Stearns has packaged together.

00:06:57.300 --> 00:06:59.430
And they'll look at the
historical default rate.

00:06:59.430 --> 00:07:03.320
And they'll say, wow, these
mortgages really haven't been

00:07:03.320 --> 00:07:04.050
defaulting.

00:07:04.050 --> 00:07:05.760
And you can think about
why they haven't.

00:07:05.760 --> 00:07:07.590
Because housing prices
been going up.

00:07:07.590 --> 00:07:10.060
So these mortgages really
haven't been defaulting.

00:07:10.060 --> 00:07:11.770
There's a very high chance
you're going to be able to get

00:07:11.770 --> 00:07:12.810
all your money back.

00:07:12.810 --> 00:07:14.870
So we're going to give these
what they call, let's say they

00:07:14.870 --> 00:07:17.920
say AAA rating.

00:07:17.920 --> 00:07:20.730
So this investor, who knows,
it could be the

00:07:20.730 --> 00:07:21.850
Central Bank of China.

00:07:21.850 --> 00:07:22.880
It could be a hedge fund.

00:07:22.880 --> 00:07:23.930
It could be a whole
set of people.

00:07:23.930 --> 00:07:25.910
It might be the investment
banks themselves.

00:07:25.910 --> 00:07:27.630
Sometimes they actually
bought these just to

00:07:27.630 --> 00:07:29.090
make some extra money.

00:07:29.090 --> 00:07:31.270
These investors, they don't know
who actually borrowed the

00:07:31.270 --> 00:07:34.330
money, or what kind of credit
rating they had, or anything.

00:07:34.330 --> 00:07:36.170
But they just took
a leap of faith.

00:07:36.170 --> 00:07:38.320
They said well, Standard
& Poor's or

00:07:38.320 --> 00:07:39.650
Moody's did the work.

00:07:39.650 --> 00:07:43.320
They're telling me that this
is AAA, which means the

00:07:43.320 --> 00:07:44.430
highest level of debt.

00:07:44.430 --> 00:07:45.490
Or you know, whatever
they told them.

00:07:45.490 --> 00:07:47.140
Maybe it was A.

00:07:47.140 --> 00:07:49.860
I forget all the different
qualities of debt.

00:07:49.860 --> 00:07:52.280
But they just took their
word for it.

00:07:52.280 --> 00:07:55.525
And they got their 7% interest
on their money-- whatever it

00:07:55.525 --> 00:07:57.000
was, 6% money.

00:07:57.000 --> 00:08:00.210
And that worked out
pretty well.

00:08:00.210 --> 00:08:02.020
And so these guys, they liked
the fact that they were

00:08:02.020 --> 00:08:02.790
getting the 7%.

00:08:02.790 --> 00:08:04.220
They said, this is a
good asset class.

00:08:04.220 --> 00:08:06.150
So then they funneled
even more money.

00:08:06.150 --> 00:08:10.680
So then there were even more
investors that wanted do this.

00:08:10.680 --> 00:08:13.620
They're like, this is great,
with very little risk I'm

00:08:13.620 --> 00:08:14.930
getting a pretty good
return on my money.

00:08:14.930 --> 00:08:16.160
That's better than putting
it in the bank.

00:08:16.160 --> 00:08:17.960
That's better than buying
Treasury Bills, right?

00:08:17.960 --> 00:08:20.790
So then even more
money flowed in.

00:08:20.790 --> 00:08:24.220
Well, more money wanted to
invest in people's mortgages.

00:08:24.220 --> 00:08:27.130
But Countrywide would say, well,
we're already giving

00:08:27.130 --> 00:08:29.300
mortgages to all the
people who qualify.

00:08:29.300 --> 00:08:31.860
So in order to actually find
more people who want mortgages

00:08:31.860 --> 00:08:33.480
from us, we'll just
have to lower the

00:08:33.480 --> 00:08:34.770
standards a little bit.

00:08:34.770 --> 00:08:35.400
Right?

00:08:35.400 --> 00:08:37.080
And we can lower the standards,
because we find

00:08:37.080 --> 00:08:39.130
even when we do lower the
standards, no one's defaulting

00:08:39.130 --> 00:08:40.100
on their mortgages.

00:08:40.100 --> 00:08:42.350
And in the next video, I'll
maybe give a little bit more

00:08:42.350 --> 00:08:42.610
[? color ?]

00:08:42.610 --> 00:08:43.250
why.

00:08:43.250 --> 00:08:46.190
So Countrywide will issue even
more mortgages, and give them

00:08:46.190 --> 00:08:48.210
to these investors with
even lower standards.

00:08:48.210 --> 00:08:50.050
Of course, the mortgage
brokers at

00:08:50.050 --> 00:08:51.880
Countrywide, they love it.

00:08:51.880 --> 00:08:54.300
Because every time they do a
transaction, they just get

00:08:54.300 --> 00:08:54.730
some money.

00:08:54.730 --> 00:08:56.800
And then they give the mortgage
to the investment

00:08:56.800 --> 00:08:58.850
banker, which packages
them up and then

00:08:58.850 --> 00:08:59.810
sells them to investors.

00:08:59.810 --> 00:09:01.490
So they get it off
their hands.

00:09:01.490 --> 00:09:02.350
And they just got the fee.

00:09:02.350 --> 00:09:04.100
So they just collect
the big cash.

00:09:04.100 --> 00:09:05.430
The investment banks
love it, right?

00:09:05.430 --> 00:09:08.120
They just love doing the
transactions, because they get

00:09:08.120 --> 00:09:10.380
more and more money every time
they do the transactions.

00:09:10.380 --> 00:09:13.530
And for the moment, the
investors seem pretty happy,

00:09:13.530 --> 00:09:17.960
because they keep giving money
into this system, so to speak.

00:09:17.960 --> 00:09:19.840
Even though they might be
reading the newspaper and

00:09:19.840 --> 00:09:21.450
seeing that the standards
are going down.

00:09:21.450 --> 00:09:24.240
But they're consistently
getting their return.

00:09:24.240 --> 00:09:27.575
And because the defaults were
very low over this time period

00:09:27.575 --> 00:09:29.950
-- and I'll explain in the next
video why the defaults

00:09:29.950 --> 00:09:33.520
were very low -- they felt that
they were getting a good

00:09:33.520 --> 00:09:37.460
return, maybe 6% or 7%, on
investments that had very,

00:09:37.460 --> 00:09:39.300
very low risk.

00:09:39.300 --> 00:09:44.680
So in the next video, I'll
explain why the defaults were

00:09:44.680 --> 00:09:46.400
very low in that time period.

00:09:46.400 --> 00:09:48.030
See you soon.


Housing price conundrum (part 2)

WEBVTT
Kind: captions
Language: en

00:00:00.750 --> 00:00:03.880
Before I go a into an
explanation of why housing

00:00:03.880 --> 00:00:08.340
prices skyrocketed from 2000 to
2006, I think it's a good

00:00:08.340 --> 00:00:11.250
idea to give a little history of
what the housing market and

00:00:11.250 --> 00:00:14.130
the mortgage market used
to be like before

00:00:14.130 --> 00:00:15.680
things got out of control.

00:00:15.680 --> 00:00:17.450
So let's go back to,
say, I don't know.

00:00:17.450 --> 00:00:21.030
Let's go back to
the late '70s--

00:00:21.030 --> 00:00:22.840
maybe mid-'70s, actually.

00:00:22.840 --> 00:00:24.340
I remember my parents,
they bought a house.

00:00:24.340 --> 00:00:25.330
We lived in New Orleans.

00:00:25.330 --> 00:00:27.390
And the house, if I remember
correctly, it

00:00:27.390 --> 00:00:33.040
cost roughly $60,000.

00:00:33.040 --> 00:00:36.370
And back then, to buy a house --
and actually, for a while,

00:00:36.370 --> 00:00:38.390
until more recently -- in order
to buy a house you had

00:00:38.390 --> 00:00:39.650
to put 25% down.

00:00:39.650 --> 00:00:42.430
So 25% of $60,000
is 1/4 of it.

00:00:42.430 --> 00:00:44.966
So you have to put
$15,000 down.

00:00:44.966 --> 00:00:47.510
So you have to save
up $15,000.

00:00:47.510 --> 00:00:50.660
And then you're going to get a
mortgage on $45,000, right?

00:00:50.660 --> 00:00:52.300
$45,000, you're going
to borrow.

00:00:52.300 --> 00:00:54.430
And I forgot the exact interest
rates then, but I'm

00:00:54.430 --> 00:00:55.830
just going to throw
out a number.

00:00:55.830 --> 00:00:58.090
This is really just for
instructive purposes.

00:00:58.090 --> 00:00:59.920
Let's say interest rates back
then, they were higher.

00:00:59.920 --> 00:01:02.190
They were like 9%, I think.

00:01:02.190 --> 00:01:04.260
So 9% on $45,000.

00:01:04.260 --> 00:01:05.900
How much interest am
I going to pay?

00:01:05.900 --> 00:01:12.750
45,000 times 0.09.

00:01:12.750 --> 00:01:18.100
So I'm going to pay a little
over $4,000 a year in

00:01:18.100 --> 00:01:30.240
interest. Or if I divide by
12, about $340 a month in

00:01:30.240 --> 00:01:31.320
interest.

00:01:31.320 --> 00:01:33.760
And I remember at the time, we
actually moved out of our

00:01:33.760 --> 00:01:36.350
house and we rented it out,
because we needed cash.

00:01:36.350 --> 00:01:39.280
And we rented out that exact
same house -- and I this is in

00:01:39.280 --> 00:01:45.310
the late '70s or early '80s-- we
rented out that exact same

00:01:45.310 --> 00:01:48.390
house for $900.

00:01:48.390 --> 00:01:54.680
The rent was $900.

00:01:54.680 --> 00:01:59.070
So this raises, I guess,
a couple of questions.

00:01:59.070 --> 00:02:04.500
First of all, the big question
is, why did those people who

00:02:04.500 --> 00:02:07.210
rented our house -- I mean,
they paid $900 a month.

00:02:07.210 --> 00:02:10.289
They must have had a good
income, for that time.

00:02:10.289 --> 00:02:12.970
Why were they willing to pay
rent, when they could have

00:02:12.970 --> 00:02:15.380
bought a house, where the
mortgage would have been --

00:02:15.380 --> 00:02:16.840
interest plus a little principal
-- it would have

00:02:16.840 --> 00:02:20.750
been no more than
$400 a month?

00:02:20.750 --> 00:02:23.350
So why would you just throw away
-- this is the classic

00:02:23.350 --> 00:02:26.640
rent-versus-buy argument -- why
would you throw away $900,

00:02:26.640 --> 00:02:30.190
where you could actually build
equity paying $400 a month for

00:02:30.190 --> 00:02:31.990
the exact same place?

00:02:31.990 --> 00:02:33.640
And you can think about
that a little bit.

00:02:33.640 --> 00:02:35.510
But there's a bunch
of reasons.

00:02:35.510 --> 00:02:38.550
What was necessary to
buy a house then?

00:02:38.550 --> 00:02:43.180
Well, one, you needed a
$15,000 down payment.

00:02:43.180 --> 00:02:46.100
Maybe these people had really
good cash flow every month,

00:02:46.100 --> 00:02:50.210
but they just never had the
circumstances, or maybe even

00:02:50.210 --> 00:02:53.740
the discipline, to
save up $15,000.

00:02:53.740 --> 00:02:55.350
You also needed a really
steady job.

00:02:55.350 --> 00:02:56.260
So you needed -- this
is the down

00:02:56.260 --> 00:02:57.220
payment, this is one thing.

00:02:57.220 --> 00:02:58.470
You also needed a steady job.

00:03:01.330 --> 00:03:05.130
Maybe the people who were
renting, they were working odd

00:03:05.130 --> 00:03:07.290
jobs, or they didn't have
a steady income.

00:03:07.290 --> 00:03:07.850
Although I doubt it.

00:03:07.850 --> 00:03:09.750
I don't think we would have
actually leased the house to

00:03:09.750 --> 00:03:10.910
them, had that been the case.

00:03:10.910 --> 00:03:12.160
They probably had that.

00:03:14.690 --> 00:03:16.510
And then the last thing you
needed to get a mortgage, you

00:03:16.510 --> 00:03:17.800
needed good credit.

00:03:21.350 --> 00:03:22.840
And maybe these people
didn't have that.

00:03:22.840 --> 00:03:25.500
Maybe they didn't pay some bills
in the past. And they

00:03:25.500 --> 00:03:27.620
just couldn't find a bank that
was willing to give them a

00:03:27.620 --> 00:03:30.990
loan, despite having a steady
job and the $15,000 down.

00:03:30.990 --> 00:03:34.220
If you have to ask me, I think
the biggest barrier for this

00:03:34.220 --> 00:03:36.080
family at that time
was probably the

00:03:36.080 --> 00:03:37.830
$15,000 down payment.

00:03:37.830 --> 00:03:42.420
And frankly, they probably had
trouble saving $15,000 because

00:03:42.420 --> 00:03:44.840
they were busy paying
$900 in rent.

00:03:44.840 --> 00:03:48.400
So that was the circumstance
throughout, actually, most of

00:03:48.400 --> 00:03:49.390
modern history.

00:03:49.390 --> 00:03:52.370
That you had this barrier
towards buying a house.

00:03:52.370 --> 00:03:55.590
That it did make sense, that the
conventional wisdom that

00:03:55.590 --> 00:03:58.650
it is better to buy
than rent held.

00:03:58.650 --> 00:04:01.620
It's just, everyone knew that,
but a lot of people just

00:04:01.620 --> 00:04:03.670
couldn't buy, even though they
wanted to, because they didn't

00:04:03.670 --> 00:04:04.820
have the down payment.

00:04:04.820 --> 00:04:06.090
They didn't have
the steady job.

00:04:06.090 --> 00:04:08.360
Or they didn't have
the good credit.

00:04:08.360 --> 00:04:11.790
That was a circumstance then,
and that lasted for some time.

00:04:11.790 --> 00:04:14.490
What happened in the
early 2000s?

00:04:14.490 --> 00:04:16.480
And it actually happened in
California in the mid-'90s.

00:04:16.480 --> 00:04:20.899
But it got more and more, I
guess we could say, flagrant,

00:04:20.899 --> 00:04:23.380
as we went through the decade--
is that people

00:04:23.380 --> 00:04:24.800
started lowering these
standards.

00:04:24.800 --> 00:04:27.120
And I'll do a whole other video
on possibly why those

00:04:27.120 --> 00:04:28.330
standards were lowered.

00:04:28.330 --> 00:04:36.700
But let's say that in 1980
you needed 25% down.

00:04:36.700 --> 00:04:37.350
Let me just switch colors.

00:04:37.350 --> 00:04:39.130
That color is kind of ugly.

00:04:39.130 --> 00:04:40.380
You needed a steady job.

00:04:43.630 --> 00:04:45.200
And you needed a,
I don't know.

00:04:45.200 --> 00:04:49.290
Let's say you needed
a 700 credit score.

00:04:49.290 --> 00:04:51.620
And that was true from 1980
to, let's say, 2000.

00:04:51.620 --> 00:04:52.570
I'm exaggerating a bit.

00:04:52.570 --> 00:04:54.460
But this is just to give you
the broad sense of what

00:04:54.460 --> 00:04:55.140
actually happened.

00:04:55.140 --> 00:04:58.310
But let's say then, in 2001 --
and I'll explain later why

00:04:58.310 --> 00:05:00.590
this might have happened -- the
standards were lowered.

00:05:00.590 --> 00:05:02.780
That if you wanted to buy a
house, all of a sudden you

00:05:02.780 --> 00:05:04.570
could actually find someone who
was willing to give you a

00:05:04.570 --> 00:05:13.760
house for 10% down, maybe kind
of a steady job, maybe just

00:05:13.760 --> 00:05:14.910
need a job.

00:05:14.910 --> 00:05:18.000
And maybe you had a
600 credit rating.

00:05:18.000 --> 00:05:20.650
So what happens when the
standards on the mortgage go

00:05:20.650 --> 00:05:22.820
from this to this?

00:05:22.820 --> 00:05:24.900
Let's go back to these people
who used to rent that house

00:05:24.900 --> 00:05:27.510
from us for $900.

00:05:27.510 --> 00:05:29.640
Maybe they didn't have
$15,000, right?

00:05:29.640 --> 00:05:31.510
That would have been
a 25% down payment.

00:05:31.510 --> 00:05:34.450
But maybe back then,
they had 10%.

00:05:34.450 --> 00:05:35.810
Maybe they had $6,000.

00:05:35.810 --> 00:05:39.430
They just couldn't get up
to $15,000 in savings.

00:05:39.430 --> 00:05:41.840
Back when they were doing this,
back in the '80s, if the

00:05:41.840 --> 00:05:45.750
standards got a little bit
freer, like they did in the

00:05:45.750 --> 00:05:48.390
early 2000s, those people could
have bought a house.

00:05:48.390 --> 00:05:51.540
They would have said, man, we
don't have to rent anymore.

00:05:51.540 --> 00:05:53.640
We saved up the 10%
down payment.

00:05:53.640 --> 00:05:54.490
It's gotten a little easier.

00:05:54.490 --> 00:05:56.300
Our job now meets the
requirements.

00:05:56.300 --> 00:05:57.820
Our credit now meets
the requirements.

00:05:57.820 --> 00:05:59.250
We can go buy that house.

00:05:59.250 --> 00:06:00.720
So that would have
increased the

00:06:00.720 --> 00:06:02.820
aggregate demand for housing.

00:06:02.820 --> 00:06:07.270
Even though, even if no one's
incomes increased, even if the

00:06:07.270 --> 00:06:08.570
population didn't increase.

00:06:08.570 --> 00:06:11.370
All of a sudden, there's a new
person who could get financing

00:06:11.370 --> 00:06:12.390
to buy a house.

00:06:12.390 --> 00:06:18.400
And then if we go to,
let's say, 2003.

00:06:18.400 --> 00:06:20.290
They say, you know what,
you don't even

00:06:20.290 --> 00:06:21.410
need any down payment.

00:06:21.410 --> 00:06:22.740
No down.

00:06:22.740 --> 00:06:24.260
No money down.

00:06:24.260 --> 00:06:27.200
So you can imagine, there's a
whole set of people who maybe

00:06:27.200 --> 00:06:29.490
had a decent income, but they
couldn't save any money.

00:06:29.490 --> 00:06:32.330
Now all of a sudden there was
no down payment barrier to

00:06:32.330 --> 00:06:33.230
buying a house.

00:06:33.230 --> 00:06:35.785
Maybe you still needed a job.

00:06:35.785 --> 00:06:38.340
And maybe you just needed
a 500 credit.

00:06:38.340 --> 00:06:38.880
Right?

00:06:38.880 --> 00:06:41.950
So all of a sudden, without
people's incomes going up,

00:06:41.950 --> 00:06:46.000
without more jobs being
available, without the

00:06:46.000 --> 00:06:48.230
population increase, there
were more people

00:06:48.230 --> 00:06:49.870
who could get financing.

00:06:49.870 --> 00:06:52.200
Or more people who could
bid up homes.

00:06:52.200 --> 00:06:54.010
And the situation actually
got pretty bad.

00:06:54.010 --> 00:06:57.410
By 2004, 2005 -- and this isn't
exact, but it gives you

00:06:57.410 --> 00:06:59.010
a sense of what happened.

00:06:59.010 --> 00:07:03.160
By 2004, 2005, you had a
situation where they had these

00:07:03.160 --> 00:07:04.700
stated income -- they had these

00:07:04.700 --> 00:07:05.930
things called liar loans.

00:07:05.930 --> 00:07:07.610
Maybe I'll do videos
on each of these.

00:07:07.610 --> 00:07:10.530
But these were essentially
no down payment.

00:07:10.530 --> 00:07:13.260
If you had a job, you could
kind of make it up.

00:07:13.260 --> 00:07:14.030
You just said, I have a job.

00:07:14.030 --> 00:07:15.060
They wouldn't validate it.

00:07:15.060 --> 00:07:17.140
These were stated income.

00:07:17.140 --> 00:07:18.970
You could just say
what you made.

00:07:18.970 --> 00:07:22.530
So even though the mortgage
might require an income of

00:07:22.530 --> 00:07:25.140
$10,000 a month, and your income
is only $2,000 a month,

00:07:25.140 --> 00:07:27.300
you could say your income
is $10,000 a month.

00:07:27.300 --> 00:07:33.065
So stated income, no
down, maybe a job.

00:07:33.065 --> 00:07:35.260
And they didn't even
do a credit check.

00:07:35.260 --> 00:07:39.660
So what happened from 2000 to
2004 is that credit just got

00:07:39.660 --> 00:07:41.320
easier and easier and easier.

00:07:41.320 --> 00:07:44.650
And every time credit got
easier, there were more people

00:07:44.650 --> 00:07:46.620
who, despite the fact that they
weren't making any more

00:07:46.620 --> 00:07:49.140
money, they were able
to get financing.

00:07:49.140 --> 00:07:53.560
And so the pool of people who
were able to bid on homes, or

00:07:53.560 --> 00:07:56.200
the demand for homes because now
there was this financing,

00:07:56.200 --> 00:07:57.600
became larger and larger.

00:07:57.600 --> 00:08:00.630
And that's what increased
the prices of homes.

00:08:00.630 --> 00:08:04.510
And now you know, the obvious
question is, well, why did

00:08:04.510 --> 00:08:06.290
this happen?

00:08:06.290 --> 00:08:09.170
First of all, why did they get
easier in 2001, get easier and

00:08:09.170 --> 00:08:10.510
easier as we went to 2004?

00:08:10.510 --> 00:08:14.510
And why did they get to this
unbelievably absurd level,

00:08:14.510 --> 00:08:18.260
where by 2004 and 2005 -- you
hear stories, especially in

00:08:18.260 --> 00:08:21.310
California and Florida, of
people who were making maybe

00:08:21.310 --> 00:08:22.560
$40,000 a year.

00:08:22.560 --> 00:08:26.530
And they were able to buy houses
with no money down.

00:08:26.530 --> 00:08:28.560
Some of these people were
migrant laborers.

00:08:28.560 --> 00:08:32.260
And they were able to buy
houses for $1 million.

00:08:32.260 --> 00:08:35.480
So in the next video, I will
tell you why that happened.

00:08:35.480 --> 00:08:40.630
Why were people willing to give
their cash to people to

00:08:40.630 --> 00:08:43.480
buy a house that had a very low
likelihood of getting paid

00:08:43.480 --> 00:08:48.200
back, and for a house that had a
very low likelihood of being

00:08:48.200 --> 00:08:50.750
able to retain its value.

00:08:50.750 --> 00:08:52.870
I'll see you in the
next video.


The housing price conundrum

WEBVTT
Kind: captions
Language: en

00:00:00.960 --> 00:00:04.530
Until about 2006, if you talk
to anyone, especially real

00:00:04.530 --> 00:00:07.150
estate agents, they'd always
tell you that on average,

00:00:07.150 --> 00:00:10.660
nationwide, that housing always
goes up in price.

00:00:10.660 --> 00:00:11.930
There could be layoffs.

00:00:11.930 --> 00:00:15.780
And maybe oil drops off and
people have layoffs in Texas,

00:00:15.780 --> 00:00:17.210
so housing prices go
down in Texas.

00:00:17.210 --> 00:00:20.250
Or they have layoffs in
Michigan, so housing prices go

00:00:20.250 --> 00:00:20.710
down there.

00:00:20.710 --> 00:00:24.040
But nationwide, housing prices
do nothing but go up.

00:00:24.040 --> 00:00:26.910
And that, for the most part, has
been true since the Great

00:00:26.910 --> 00:00:27.410
Depression.

00:00:27.410 --> 00:00:30.980
Housing prices have been going
up, maybe 1% or so per year.

00:00:30.980 --> 00:00:34.660
Actually a little bit less in
real terms. But something

00:00:34.660 --> 00:00:38.810
fundamentally amazing happened
in the beginning

00:00:38.810 --> 00:00:39.890
part of this decade.

00:00:39.890 --> 00:00:43.590
I have right here, this is
the Case-Shiller index.

00:00:43.590 --> 00:00:47.300
And this is probably the best
estimate of housing

00:00:47.300 --> 00:00:48.130
prices I can find.

00:00:48.130 --> 00:00:49.300
This is better than the
median, because the

00:00:49.300 --> 00:00:53.300
Case-Shiller actually tries to
compare the price you pay for

00:00:53.300 --> 00:00:54.200
the same house.

00:00:54.200 --> 00:00:56.090
And maybe I'll do another
video later on how they

00:00:56.090 --> 00:00:57.210
exactly do that.

00:00:57.210 --> 00:00:59.350
But if we look at the
Case-Shiller index.

00:00:59.350 --> 00:01:03.040
Let's see, in 2000 -- that's
where they index it to -- a

00:01:03.040 --> 00:01:06.090
house that cost, you know,
$100,000 in 2000.

00:01:06.090 --> 00:01:09.250
Or, the index was at
$100,000 in 2000.

00:01:09.250 --> 00:01:14.310
By 2004 houses nationwide --
this is the national index

00:01:14.310 --> 00:01:19.290
right here -- nationwide, prices
had increased by 46%.

00:01:19.290 --> 00:01:23.620
And by 2006, where they peak,
they had increased by 88%.

00:01:23.620 --> 00:01:27.170
They had almost doubled since
the price in 2000.

00:01:27.170 --> 00:01:30.450
And so the obvious question
is, why did this happen?

00:01:30.450 --> 00:01:33.520
What drove prices to
increase so fast?

00:01:33.520 --> 00:01:38.670
When really, for most of the
history of America, housing

00:01:38.670 --> 00:01:42.830
prices have never increased
this fast. Especially

00:01:42.830 --> 00:01:45.310
considering what was happening
in the broader economy.

00:01:45.310 --> 00:01:46.010
What do I mean by that?

00:01:46.010 --> 00:01:48.720
Well for the price
of anything to

00:01:48.720 --> 00:01:50.380
increase, what has to happen?

00:01:50.380 --> 00:01:53.110
Well the demand has to increase
faster than the

00:01:53.110 --> 00:01:54.530
supply, right?

00:01:54.530 --> 00:01:56.170
So let's look at possible
theories.

00:01:56.170 --> 00:01:58.960
What are demand drivers
that could make

00:01:58.960 --> 00:02:00.100
housing prices go higher?

00:02:00.100 --> 00:02:02.290
Let me write that in green.

00:02:02.290 --> 00:02:04.950
Demand drivers.

00:02:04.950 --> 00:02:13.350
Well maybe the population grew
faster than the housing stock?

00:02:13.350 --> 00:02:18.190
When I say the housing stock, I
just mean that we're saying

00:02:18.190 --> 00:02:18.690
just demand.

00:02:18.690 --> 00:02:19.850
So let me just say population.

00:02:19.850 --> 00:02:21.200
Housing stock is supply.

00:02:21.200 --> 00:02:23.060
So population goes up.

00:02:23.060 --> 00:02:23.920
That's a demand driver.

00:02:23.920 --> 00:02:25.810
What's another demand driver?

00:02:25.810 --> 00:02:30.150
Incomes go up.

00:02:30.150 --> 00:02:30.400
Right?

00:02:30.400 --> 00:02:31.090
That's another reason.

00:02:31.090 --> 00:02:33.000
Maybe if a lot of people just
become a lot richer, they're

00:02:33.000 --> 00:02:35.180
willing to pay for houses.

00:02:35.180 --> 00:02:38.160
And what are the
supply drivers?

00:02:38.160 --> 00:02:40.850
Well these are just
new homes built.

00:02:45.650 --> 00:02:50.640
So if you buy the classical
supply-demand argument, why

00:02:50.640 --> 00:02:55.170
housing prices increased by 40%
from 2000 to 2004, or why

00:02:55.170 --> 00:03:03.090
they increased by 80% from 2000
to 2006, these dynamics

00:03:03.090 --> 00:03:07.330
should have grown faster
than these dynamics.

00:03:07.330 --> 00:03:10.380
So the population -- or maybe
the total income, if you took

00:03:10.380 --> 00:03:12.130
the population and incomes--
grew faster than

00:03:12.130 --> 00:03:12.810
the new homes built.

00:03:12.810 --> 00:03:14.430
So let's see if that's true.

00:03:14.430 --> 00:03:16.720
So I found this New York
Times article.

00:03:16.720 --> 00:03:19.600
And you could do some Google
searches, and I'm sure you can

00:03:19.600 --> 00:03:21.670
find probably better data.

00:03:21.670 --> 00:03:26.470
This is just me doing a very
fast search on this stuff.

00:03:26.470 --> 00:03:28.740
Let me see if I can get it up.

00:03:28.740 --> 00:03:31.510
OK, here it is.

00:03:31.510 --> 00:03:33.200
So this is from a New
York Times article.

00:03:33.200 --> 00:03:34.610
This is a little graph.

00:03:34.610 --> 00:03:38.270
And this is showing the average
of incomes reported on

00:03:38.270 --> 00:03:39.850
all tax returns.

00:03:39.850 --> 00:03:43.850
So notice, from 2000 to 2004
the average reported

00:03:43.850 --> 00:03:46.360
actually went down.

00:03:46.360 --> 00:03:49.290
It actually went down
from 2000 to 2004.

00:03:49.290 --> 00:03:50.140
And this is interesting.

00:03:50.140 --> 00:03:52.860
Let me see if I can bring
this in here.

00:03:52.860 --> 00:03:56.980
So here they say total reported
income in 2004

00:03:56.980 --> 00:04:01.570
dollars -- so they adjusted for
inflation -- fell 1.4%.

00:04:01.570 --> 00:04:04.910
But because the population
grew during that period,

00:04:04.910 --> 00:04:08.330
average real incomes declined
more than twice as much,

00:04:08.330 --> 00:04:12.650
falling by $1,641
a year, or 3%.

00:04:12.650 --> 00:04:13.680
So what are they saying?

00:04:13.680 --> 00:04:17.230
They're saying the total income
fell by 1.4%, but the

00:04:17.230 --> 00:04:22.430
population must have grown by
about 1.5%, and so the average

00:04:22.430 --> 00:04:23.900
per capita was 3%.

00:04:23.900 --> 00:04:26.100
So let me write that
in summary.

00:04:26.100 --> 00:04:26.770
So what do we know?

00:04:26.770 --> 00:04:28.080
What happened?

00:04:28.080 --> 00:04:36.290
We know from 2000 to 2004 -- and
this is nationwide -- we

00:04:36.290 --> 00:04:44.490
know that the population
increased by roughly 1.5%.

00:04:50.220 --> 00:04:51.290
So not by much.

00:04:51.290 --> 00:04:52.750
I mean this is over a
four-year period.

00:04:52.750 --> 00:04:57.200
So per year, it was growing
by less than 1%.

00:04:57.200 --> 00:05:03.910
And then if you go to the income
per person, or actually

00:05:03.910 --> 00:05:08.310
this is probably, well, this
is income for tax filing.

00:05:08.310 --> 00:05:10.750
But that's a pretty
good proxy.

00:05:10.750 --> 00:05:16.140
Income for tax filing,
that declined by 3%.

00:05:16.140 --> 00:05:20.320
So the total money available,
that New York Times article

00:05:20.320 --> 00:05:22.840
just showed us, actually
declined.

00:05:22.840 --> 00:05:26.610
By, what did they
say, by 1.4%.

00:05:26.610 --> 00:05:29.010
So the argument that somehow
there's more money out there,

00:05:29.010 --> 00:05:32.010
chasing the same number of
homes, or a slightly larger

00:05:32.010 --> 00:05:36.350
number of homes, doesn't really
carry much weight.

00:05:36.350 --> 00:05:37.250
But let's just make sure.

00:05:37.250 --> 00:05:39.550
Maybe for some reason, maybe
houses were destroyed.

00:05:39.550 --> 00:05:43.210
Or the number of homes built
just didn't keep pace with

00:05:43.210 --> 00:05:44.450
this population increase.

00:05:44.450 --> 00:05:49.260
So let's see what data
we can find on that.

00:05:49.260 --> 00:05:54.620
Well actually I found
this thing.

00:05:54.620 --> 00:05:57.160
This says that -- this was
in 1999 -- they say the

00:05:57.160 --> 00:06:00.550
composition of estimated 115
million housing units in the

00:06:00.550 --> 00:06:01.240
United States.

00:06:01.240 --> 00:06:05.170
So we can say, roughly, that
in 2000 that there were 115

00:06:05.170 --> 00:06:06.433
million housing units.

00:06:15.060 --> 00:06:15.620
So let's see.

00:06:15.620 --> 00:06:18.300
Over this time period,
roughly how many

00:06:18.300 --> 00:06:19.270
housing units were built?

00:06:19.270 --> 00:06:22.230
What percentage did the housing
stock increase by?

00:06:22.230 --> 00:06:24.910
And I found this data here.

00:06:24.910 --> 00:06:28.840
And this is annualized new
home builds by year.

00:06:28.840 --> 00:06:30.700
And I'm not going to go through
all of the math.

00:06:30.700 --> 00:06:33.620
But if you see -- let's see,
if I go back to 2000.

00:06:33.620 --> 00:06:35.740
I know this might be hard
for you to see.

00:06:35.740 --> 00:06:40.570
But if we pick up pretty much
any month from 2000, 2001.

00:06:40.570 --> 00:06:41.850
This is in thousands.

00:06:41.850 --> 00:06:46.280
So on an annualized basis,
maybe 1.5 million homes.

00:06:46.280 --> 00:06:47.310
This was in 2000.

00:06:47.310 --> 00:06:50.950
But it started accelerating,
all the way to 2004.

00:06:50.950 --> 00:06:52.900
By 2004, we were building
roughly 2

00:06:52.900 --> 00:06:54.280
million homes a year.

00:06:54.280 --> 00:06:57.280
So over that time period, we can
say, on average -- you can

00:06:57.280 --> 00:07:00.150
work the numbers to get an exact
number, but it should

00:07:00.150 --> 00:07:02.410
work out -- we were
building about 1.8

00:07:02.410 --> 00:07:03.800
million homes a year.

00:07:12.870 --> 00:07:16.550
And we can assume that homes
destroyed were pretty

00:07:16.550 --> 00:07:17.700
negligible.

00:07:17.700 --> 00:07:19.610
I'm not aware of most
neighborhoods where they were

00:07:19.610 --> 00:07:20.500
bulldozing homes.

00:07:20.500 --> 00:07:22.080
If anything, they were just
renovating homes.

00:07:22.080 --> 00:07:23.650
But these are brand new homes.

00:07:23.650 --> 00:07:25.510
So over that four year period --
and I'm just going to focus

00:07:25.510 --> 00:07:27.400
there because that's where we
got data from that New York

00:07:27.400 --> 00:07:29.330
Times article -- how many
homes were built?

00:07:29.330 --> 00:07:32.945
Well, 1.8 times 4,
that's what?

00:07:37.880 --> 00:07:41.850
So roughly 7.2 million homes,
new homes, were built over

00:07:41.850 --> 00:07:42.910
that time period.

00:07:42.910 --> 00:07:45.140
And we started with
a base of a 115

00:07:45.140 --> 00:07:50.710
million, roughly, in 2000.

00:07:50.710 --> 00:07:55.460
So over that time period, the
housing stock increased by 6%.

00:07:55.460 --> 00:08:01.040
So the supply of homes
went up by 6%.

00:08:01.040 --> 00:08:02.470
So what's going on here?

00:08:02.470 --> 00:08:06.510
From 2000 to 2004 we built
a ton of houses.

00:08:06.510 --> 00:08:09.730
The supply of homes
went up by 6%.

00:08:09.730 --> 00:08:11.310
People's incomes actually
went down, because

00:08:11.310 --> 00:08:12.220
we were in a recession.

00:08:12.220 --> 00:08:14.150
People were getting laid off,
or they were just willing to

00:08:14.150 --> 00:08:14.780
work for less.

00:08:14.780 --> 00:08:15.600
Income went down.

00:08:15.600 --> 00:08:17.320
And the population
barely increased.

00:08:17.320 --> 00:08:19.470
And if we look at the total
dollars that were being

00:08:19.470 --> 00:08:21.760
earned, that actually
went down.

00:08:21.760 --> 00:08:25.590
So the actual money out there
to pay for houses went down.

00:08:25.590 --> 00:08:27.110
And at the same time,
the total number

00:08:27.110 --> 00:08:28.550
of houses went up.

00:08:28.550 --> 00:08:31.850
But at the same time, over this
exact same period, the

00:08:31.850 --> 00:08:36.179
prices of houses
went up by 46%.

00:08:36.179 --> 00:08:38.460
Or, I forgot the number, but it
was 40-something percent.

00:08:38.460 --> 00:08:42.360
And it actually continued to
race up until 2006, where it

00:08:42.360 --> 00:08:44.990
went up 80% relative to 2000.

00:08:44.990 --> 00:08:47.520
So this is bizarre.

00:08:50.240 --> 00:08:52.650
Basic economics would tell
us that if the supply is

00:08:52.650 --> 00:08:57.610
increasing and the demand is
decreasing, prices, if

00:08:57.610 --> 00:08:59.130
anything, should come down.

00:08:59.130 --> 00:09:00.520
So what happened?

00:09:00.520 --> 00:09:02.800
So I'm going to let you think
about that a little bit.

00:09:02.800 --> 00:09:04.910
There you have the supply-demand
thing that would

00:09:04.910 --> 00:09:05.840
tell you prices went down.

00:09:05.840 --> 00:09:08.590
But not only did they not go
down, but they raced up faster

00:09:08.590 --> 00:09:11.240
than they've ever done in
history, in the history of the

00:09:11.240 --> 00:09:12.250
United States.

00:09:12.250 --> 00:09:15.500
So in the next video I'm going
to tell you, frankly, why I'm

00:09:15.500 --> 00:09:18.290
pretty sure housing
prices did go up.

00:09:18.290 --> 00:09:19.710
See you soon.


What happens when housing depreciates

WEBVTT
Kind: captions
Language: en

00:00:00.510 --> 00:00:01.840
Welcome back.

00:00:01.840 --> 00:00:02.960
I now want to play a little
bit of devil's

00:00:02.960 --> 00:00:04.190
advocate with myself.

00:00:04.190 --> 00:00:06.860
I made this argument where
I show that for the exact

00:00:06.860 --> 00:00:08.590
identical house, if these are
the numbers -- I mean you'd

00:00:08.590 --> 00:00:10.430
have to work it out based on
your market, and what the

00:00:10.430 --> 00:00:11.530
numbers are at the time.

00:00:11.530 --> 00:00:14.600
But if this is the comparable
rent for a $1 million house, I

00:00:14.600 --> 00:00:17.220
showed you that for the $1
million house you're burning

00:00:17.220 --> 00:00:19.070
$40,000 a year.

00:00:19.070 --> 00:00:21.110
This is not money that is
going to build equity.

00:00:21.110 --> 00:00:23.400
This not money that's going to
the principal of your house.

00:00:23.400 --> 00:00:25.390
This is money that just going
out of your pocket, you'll

00:00:25.390 --> 00:00:26.320
never see again.

00:00:26.320 --> 00:00:29.130
In a way, and actually not in
a way, in reality, you can

00:00:29.130 --> 00:00:33.390
view this $40,000 as rent on the
money that you borrowed.

00:00:33.390 --> 00:00:35.460
Interest is nothing but rent.

00:00:35.460 --> 00:00:39.150
So when you have an asset, if
the asset is cash, the rent on

00:00:39.150 --> 00:00:42.390
it is interest. If the asset is
a house, the rent on it is

00:00:42.390 --> 00:00:44.120
your monthly rent payment.

00:00:44.120 --> 00:00:45.880
So when you think of it this
way, when people say home

00:00:45.880 --> 00:00:48.010
ownership, they really aren't
homeowners yet.

00:00:48.010 --> 00:00:51.000
You're not a homeowner until
you don't have debt.

00:00:51.000 --> 00:00:54.870
You are a money renter.

00:00:54.870 --> 00:00:57.950
So your choice is either to be
a money renter here, or to be

00:00:57.950 --> 00:00:59.220
a house renter here.

00:00:59.220 --> 00:01:01.200
And I show that you are burning

00:01:01.200 --> 00:01:02.590
almost double the money.

00:01:02.590 --> 00:01:06.530
But then there's the argument of
well, there are advantages,

00:01:06.530 --> 00:01:07.830
still, to buying this house.

00:01:07.830 --> 00:01:09.090
And what are they?

00:01:09.090 --> 00:01:12.200
Well one example is, in this
situation, if I did get a

00:01:12.200 --> 00:01:14.200
fixed-rate mortgage -- and we
learned, when you look at all

00:01:14.200 --> 00:01:16.146
those adjustable-rate mortgages,
we know that a lot

00:01:16.146 --> 00:01:17.040
of people didn't.

00:01:17.040 --> 00:01:19.550
But if I have a fixed-rate
mortgage, I know what my

00:01:19.550 --> 00:01:22.920
payment is for the foreseeable
future, for the next 30 years.

00:01:22.920 --> 00:01:26.470
While my landlord, in this
case, they could

00:01:26.470 --> 00:01:27.960
keep raising my rent.

00:01:27.960 --> 00:01:33.260
So this might look good right
now, but what if my landlord

00:01:33.260 --> 00:01:37.590
raised the rent to, I don't
know, $3,500 a month.

00:01:37.590 --> 00:01:44.300
Well then, out of your pocket,
0.5 times 12, you'd be

00:01:44.300 --> 00:01:46.210
spending $42,000 a year.

00:01:46.210 --> 00:01:49.270
And then of course you get the
interest from the money that

00:01:49.270 --> 00:01:50.050
you put in the bank.

00:01:50.050 --> 00:01:52.050
Plus 10.

00:01:52.050 --> 00:01:56.410
Oh, minus 10 actually, sorry.

00:01:56.410 --> 00:01:58.280
So in that case, if the rent
goes up, then out of your

00:01:58.280 --> 00:02:00.250
pocket is $32,000 every year.

00:02:00.250 --> 00:02:00.910
Right?

00:02:00.910 --> 00:02:03.060
Or what if the interest that
you get on your cash in the

00:02:03.060 --> 00:02:03.950
bank goes down?

00:02:03.950 --> 00:02:05.870
Then this $10,000 thousand
will become lower.

00:02:05.870 --> 00:02:08.720
But as we can see, the rent
would have to go up a lot to

00:02:08.720 --> 00:02:12.650
make up for $41,000, to make
this a break-even situation.

00:02:12.650 --> 00:02:14.840
Let's figure out how much
it would have to go up.

00:02:14.840 --> 00:02:20.130
So in this first scenario, in
order for your net outflow to

00:02:20.130 --> 00:02:25.940
be $41,500, assuming you're
getting $10,000 from the money

00:02:25.940 --> 00:02:31.560
in the bank, your rent would
have to be $51,500.

00:02:31.560 --> 00:02:31.675
Right?

00:02:31.675 --> 00:02:35.130
Because you're getting $10,000
from the bank.

00:02:35.130 --> 00:02:45.400
And so divided by 12, your rent
would have to be $4,300

00:02:45.400 --> 00:02:50.290
in this situation to make this
a break-even proposition.

00:02:50.290 --> 00:02:51.180
This is another way
to view it.

00:02:51.180 --> 00:02:53.540
If I were to buy the house,
and if I were to move, how

00:02:53.540 --> 00:02:58.100
much would I have to rent this
house out for, in order to not

00:02:58.100 --> 00:02:59.360
be losing money every month?

00:02:59.360 --> 00:03:02.750
Well I would have to rent it out
for $4,300 a month, even

00:03:02.750 --> 00:03:06.130
though maybe the market rents
are only at $3,000.

00:03:06.130 --> 00:03:09.440
And there is another devil's
advocate argument.

00:03:09.440 --> 00:03:12.390
And that's, well, housing -- and
this is something that you

00:03:12.390 --> 00:03:14.300
heard a lot about
three years ago.

00:03:14.300 --> 00:03:16.730
And a lot of these people aren't
talking as much now.

00:03:16.730 --> 00:03:19.780
But they would say, housing has
never -- housing has done

00:03:19.780 --> 00:03:22.550
nothing but gone up, and I will
build equity just from

00:03:22.550 --> 00:03:23.990
housing appreciation.

00:03:23.990 --> 00:03:27.190
So how much does my house have
to appreciate every year?

00:03:27.190 --> 00:03:36.890
Well, to make up this
difference-- $41,500 minus

00:03:36.890 --> 00:03:45.180
26-- so to make up that $15,500
difference every year,

00:03:45.180 --> 00:03:47.960
this is $15,500 favorable.

00:03:47.960 --> 00:03:50.360
My house would have to
appreciate by a comparable

00:03:50.360 --> 00:03:51.570
amount, right?

00:03:51.570 --> 00:03:54.530
So how much appreciation
is that on my house?

00:03:54.530 --> 00:03:56.270
Well that's a $1 million
house, right?

00:03:56.270 --> 00:04:01.590
So $15,500 appreciation
on a $1 million house.

00:04:01.590 --> 00:04:03.690
I'm doing everything in
thousands, so 1,000 thousands

00:04:03.690 --> 00:04:04.705
is a million.

00:04:04.705 --> 00:04:07.760
So that's only 1.5%
appreciation.

00:04:07.760 --> 00:04:12.450
So if my house appreciates by
1.5%, that's it-- 1.5%.

00:04:12.450 --> 00:04:17.440
If my house just appreciates by
1.5%, I'm going to make up

00:04:17.440 --> 00:04:18.899
this $15,500.

00:04:18.899 --> 00:04:21.019
And so it is worth it for me.

00:04:21.019 --> 00:04:24.110
It is worth it for me to blow
this money by having kind of

00:04:24.110 --> 00:04:27.900
an increased -- by renting the
money for more than I would

00:04:27.900 --> 00:04:29.970
have to pay to rent the house.

00:04:29.970 --> 00:04:32.330
And that might sound like a very
reasonable proposition,

00:04:32.330 --> 00:04:34.780
that the house will appreciate
by 1.5%.

00:04:34.780 --> 00:04:39.060
From 2001 to 2005, 2006, houses
were appreciating like

00:04:39.060 --> 00:04:40.900
10%, 15% a year.

00:04:40.900 --> 00:04:44.350
So it seemed -- and a real
estate agent would often do

00:04:44.350 --> 00:04:46.260
this very math with you, and
say, well, you're definitely

00:04:46.260 --> 00:04:47.470
going to get 1.5%.

00:04:47.470 --> 00:04:49.410
In fact, you're probably going
to get 10% appreciation.

00:04:49.410 --> 00:04:50.950
And you're going to make
much more than this.

00:04:50.950 --> 00:04:53.590
But think about, in the
presentation of the balance

00:04:53.590 --> 00:04:56.210
sheet and leverage, what happens
if housing prices go

00:04:56.210 --> 00:04:58.290
down by 1.5%?

00:04:58.290 --> 00:05:01.240
What happens if it's
minus 1.5%?

00:05:01.240 --> 00:05:04.740
Well, then you're going to spend
this much to rent the

00:05:04.740 --> 00:05:06.390
money, right?

00:05:06.390 --> 00:05:07.870
And you're not going
to gain this much.

00:05:07.870 --> 00:05:09.690
You're going to lose this
much every year.

00:05:09.690 --> 00:05:12.220
And so the proposition
becomes even worse.

00:05:12.220 --> 00:05:13.280
So this is a big deal.

00:05:13.280 --> 00:05:15.540
Now that, I think, on a
nationwide basis, a lot of the

00:05:15.540 --> 00:05:18.470
housing indices show that
housing prices have gone down,

00:05:18.470 --> 00:05:19.560
I think by 6%.

00:05:19.560 --> 00:05:22.280
That's what the Case-Shiller
index says.

00:05:22.280 --> 00:05:23.600
6% is a lot.

00:05:23.600 --> 00:05:26.980
Especially on a $1 million
house, that's $60,000 a year

00:05:26.980 --> 00:05:28.130
that's just evaporating.

00:05:28.130 --> 00:05:29.990
That's wealth that someone
thought they had, that's just

00:05:29.990 --> 00:05:31.690
disappearing out of
their equity.

00:05:31.690 --> 00:05:36.880
So this is rationale of pay more
to rent the money for a

00:05:36.880 --> 00:05:40.140
house than to rent the
house is justified if

00:05:40.140 --> 00:05:41.270
housing prices go up.

00:05:41.270 --> 00:05:44.610
It becomes 10 times worse when
housing prices are flat.

00:05:44.610 --> 00:05:47.240
Or, God forbid, if housing
prices actually go down.

00:05:47.240 --> 00:05:50.270
And now we see that housing
prices actually go down.

00:05:50.270 --> 00:05:52.150
In the last couple of years
especially, in the areas

00:05:52.150 --> 00:05:55.170
where, like the Bay Area, or
Florida, or California,

00:05:55.170 --> 00:05:56.690
especially Southern California,

00:05:56.690 --> 00:05:57.760
where this is happening.

00:05:57.760 --> 00:06:00.560
And back even two or three years
ago, when people used to

00:06:00.560 --> 00:06:02.020
make this argument.

00:06:02.020 --> 00:06:03.460
People used to make the
argument, well you know, my

00:06:03.460 --> 00:06:06.290
house just has to go up 1% or
2% percent, and I'm going to

00:06:06.290 --> 00:06:07.500
make up the difference.

00:06:07.500 --> 00:06:09.000
I'd say well, why is
your house going to

00:06:09.000 --> 00:06:11.430
go up 1% or 2% percent?

00:06:11.430 --> 00:06:13.750
I mean, there has to be some
reason why next year someone's

00:06:13.750 --> 00:06:16.420
willing to pay 2% more
for that house.

00:06:16.420 --> 00:06:18.880
Is it because rents are going
up 2% a year, so the income

00:06:18.880 --> 00:06:20.650
stream is going to
be 2% higher?

00:06:20.650 --> 00:06:25.150
And actually in the Bay Area,
from 2001 to roughly 2003,

00:06:25.150 --> 00:06:26.440
rents were going down.

00:06:26.440 --> 00:06:27.760
And there were actually
people moving out.

00:06:27.760 --> 00:06:29.610
All the tech workers were
getting laid off.

00:06:29.610 --> 00:06:32.640
You had a lot of programming
jobs being outsourced to India

00:06:32.640 --> 00:06:33.580
and wherever else.

00:06:33.580 --> 00:06:35.025
So you had this whole situation
where the population

00:06:35.025 --> 00:06:36.570
was actually decreasing.

00:06:36.570 --> 00:06:39.500
Demand for housing
was going down.

00:06:39.500 --> 00:06:42.280
But for some reason housing
prices were going up.

00:06:42.280 --> 00:06:44.210
So people said well, they've
been going up for the last

00:06:44.210 --> 00:06:45.260
five years, so they'll
continue.

00:06:45.260 --> 00:06:46.760
And they've never gone down,
et cetera, et cetera.

00:06:46.760 --> 00:06:49.450
But it didn't make an
economic argument.

00:06:49.450 --> 00:06:51.960
And I'll show in a future video
that the only reason why

00:06:51.960 --> 00:06:55.230
housing prices did go up is that
it just became easier and

00:06:55.230 --> 00:06:59.300
easier and easier
to buy a house.

00:06:59.300 --> 00:07:02.830
The standards that banks used
for giving out a loan became

00:07:02.830 --> 00:07:03.730
lower and lower and lower.

00:07:03.730 --> 00:07:07.430
There are actually examples in
Southern California, and in

00:07:07.430 --> 00:07:10.790
San Jose and some of the
suburbs, where people who had

00:07:10.790 --> 00:07:12.930
incomes of $30,000 or
$40,000 a year.

00:07:12.930 --> 00:07:16.360
The bank actually gave them a
$1 million loan to buy a $1

00:07:16.360 --> 00:07:18.700
million house, based
on stated income.

00:07:18.700 --> 00:07:20.900
There's things called stated
income loans, where you just

00:07:20.900 --> 00:07:22.600
tell the bank what you earn.

00:07:22.600 --> 00:07:24.070
You don't have to prove
it to them.

00:07:24.070 --> 00:07:26.540
And so every year that went by,
it just became easier and

00:07:26.540 --> 00:07:27.560
easier and easier.

00:07:27.560 --> 00:07:29.910
More and more people just
thought that housing always

00:07:29.910 --> 00:07:30.480
appreciates.

00:07:30.480 --> 00:07:33.610
So that's why they want to pay
more and more to essentially

00:07:33.610 --> 00:07:35.380
rent the money for a house.

00:07:35.380 --> 00:07:37.360
And this became a
self-fulfilling prophecy.

00:07:37.360 --> 00:07:39.720
But as we see on the
way down, it works

00:07:39.720 --> 00:07:40.800
completely against you.

00:07:40.800 --> 00:07:43.240
So in the situation where we
are now, where nationwide

00:07:43.240 --> 00:07:46.360
housing prices are actually
declining-- and actually they

00:07:46.360 --> 00:07:49.530
will decline until this
rent-versus-buy equation

00:07:49.530 --> 00:07:54.270
starts to make a little bit more
sense-- it really hurts

00:07:54.270 --> 00:07:55.220
the home buyer.

00:07:55.220 --> 00:07:58.100
And what's even worse, and this
is kind of adding insult

00:07:58.100 --> 00:08:03.330
to injury, is that this guy,
if I bought this house, and

00:08:03.330 --> 00:08:06.250
all of a sudden I lose my job,
and I can't pay the house

00:08:06.250 --> 00:08:10.260
back, I might lose my entire
$250,000 down payment because

00:08:10.260 --> 00:08:11.750
maybe I can't sell the
house, or the house

00:08:11.750 --> 00:08:13.470
is selling for less.

00:08:13.470 --> 00:08:15.770
Or maybe I want to move, and
there's no one out there who

00:08:15.770 --> 00:08:19.070
can buy a house because the
banks all of a sudden got

00:08:19.070 --> 00:08:20.930
smart again, and realized that
they should become more

00:08:20.930 --> 00:08:23.170
serious in terms of who
they give money to.

00:08:23.170 --> 00:08:26.170
And so I'm stuck holding this
house, and my flexibility in

00:08:26.170 --> 00:08:27.950
terms of where I can
move is limited.

00:08:27.950 --> 00:08:29.330
Actually a friend of mine was
telling me that they've

00:08:29.330 --> 00:08:30.020
actually done studies.

00:08:30.020 --> 00:08:31.760
And there's a correlation
between

00:08:31.760 --> 00:08:33.440
unemployment and home ownership.

00:08:33.440 --> 00:08:36.309
Because when you own a home, you
have less flexibility in

00:08:36.309 --> 00:08:37.110
looking for a job.

00:08:37.110 --> 00:08:40.530
If I have a house in San Jose
but there's a job in LA, I

00:08:40.530 --> 00:08:42.049
might not be able to take
that job because I

00:08:42.049 --> 00:08:42.919
can't sell my house.

00:08:42.919 --> 00:08:44.910
Or I might not even want to
look for a job in LA.

00:08:44.910 --> 00:08:49.340
While the renter, of course,
my lease ends and I leave.

00:08:49.340 --> 00:08:52.870
So this is just a rough sense
of the rent versus buy.

00:08:52.870 --> 00:08:54.490
And I know I get very
impassioned about this.

00:08:54.490 --> 00:08:56.710
But that's just because
I explain this a lot.

00:08:56.710 --> 00:08:59.850
And when I'm at parties and
I start talking about the

00:08:59.850 --> 00:09:01.520
calculations, people's
eyes glaze over.

00:09:01.520 --> 00:09:04.190
But I made this video now
and I'll just tell

00:09:04.190 --> 00:09:06.010
people to watch it.

00:09:06.010 --> 00:09:07.950
See you in the next video.


Is buying a home always better?

WEBVTT
Kind: captions
Language: en

00:00:00.870 --> 00:00:01.660
Welcome back.

00:00:01.660 --> 00:00:03.960
I'm now going to take a slight
tangent and cover a topic

00:00:03.960 --> 00:00:05.910
that, I think, this is probably
the single most

00:00:05.910 --> 00:00:08.860
important video that really
anyone can watch.

00:00:08.860 --> 00:00:11.080
I go to all of these parties
where I go see family.

00:00:11.080 --> 00:00:13.980
And my wife and I right now,
we live in Northern

00:00:13.980 --> 00:00:14.570
California.

00:00:14.570 --> 00:00:16.000
And we're renting.

00:00:16.000 --> 00:00:18.120
And I like to point
out, by choice.

00:00:18.120 --> 00:00:20.360
And I have family members,
why don't you buy?

00:00:20.360 --> 00:00:22.300
You're at that stage in
life, that's a major

00:00:22.300 --> 00:00:23.150
milestone, all of this.

00:00:23.150 --> 00:00:24.380
There's a lot of pressure
to buy.

00:00:24.380 --> 00:00:26.180
And when I tell friends,
I tell them I'm

00:00:26.180 --> 00:00:26.720
not going to buy.

00:00:26.720 --> 00:00:31.450
Because I think I'm pretty
convinced, almost 100%

00:00:31.450 --> 00:00:34.170
convinced, that housing prices
are going to revert back.

00:00:34.170 --> 00:00:36.100
And I'm going to do a bunch
of presentations to

00:00:36.100 --> 00:00:37.690
justify why they will.

00:00:37.690 --> 00:00:40.810
But then my friends, they'll
just throw out the statement

00:00:40.810 --> 00:00:42.870
that I hear from them, that
you hear from real estate

00:00:42.870 --> 00:00:45.030
agents, because obviously
they want you to buy.

00:00:45.030 --> 00:00:48.850
Well, isn't buying always
better than renting?

00:00:48.850 --> 00:00:51.530
And I think that kind of common
wisdom comes out of the

00:00:51.530 --> 00:00:55.270
notion of, when you have a
mortgage or when you borrow

00:00:55.270 --> 00:00:58.490
money to live in a house, every
month that money that

00:00:58.490 --> 00:01:01.580
you give to the bank is kind
of going into savings.

00:01:01.580 --> 00:01:02.760
That's the perception.

00:01:02.760 --> 00:01:04.590
While when you rent,
that money's just

00:01:04.590 --> 00:01:06.160
disappearing into a vacuum.

00:01:06.160 --> 00:01:10.410
In this video I'm going to work
through that assumption,

00:01:10.410 --> 00:01:13.360
and see if that actually
is the case.

00:01:13.360 --> 00:01:15.050
So let's say I have a choice.

00:01:15.050 --> 00:01:16.300
Let's say there are
two houses.

00:01:19.100 --> 00:01:20.940
This is house number one.

00:01:20.940 --> 00:01:23.870
And this is house number two.

00:01:23.870 --> 00:01:25.670
And let's say that they're
identical houses.

00:01:25.670 --> 00:01:30.910
These are three bedroom, two
bath, townhouses some place in

00:01:30.910 --> 00:01:32.960
Silicon Valley, which
is where I live.

00:01:32.960 --> 00:01:36.090
And I want to live in
one of these houses.

00:01:36.090 --> 00:01:37.970
I'm indifferent as to which
house I live in, because they

00:01:37.970 --> 00:01:38.770
are identical.

00:01:38.770 --> 00:01:41.300
So living in them is the
identical experience.

00:01:41.300 --> 00:01:54.320
I can rent this house
for $3,000 a month.

00:01:54.320 --> 00:01:59.890
Or I could buy this house
for $1 million.

00:01:59.890 --> 00:02:03.100
And let's say that in my bank
account right now, let's say I

00:02:03.100 --> 00:02:06.970
have $250,000 cash.

00:02:06.970 --> 00:02:08.979
So let's see what happens
in either scenario.

00:02:08.979 --> 00:02:13.470
Let's see how much money
is being burned.

00:02:13.470 --> 00:02:16.760
So in this scenario
what happens?

00:02:16.760 --> 00:02:17.400
I'm renting.

00:02:17.400 --> 00:02:20.060
So in a given year, let's just
see how much money comes out

00:02:20.060 --> 00:02:20.910
of my pocket.

00:02:20.910 --> 00:02:23.790
So in a given year
I pay $3,000.

00:02:23.790 --> 00:02:28.455
$3,000 times 12 months,
so I lose $36,000.

00:02:28.455 --> 00:02:30.270
So I'll put a negative
there, because that's

00:02:30.270 --> 00:02:31.460
what I spend in rent.

00:02:31.460 --> 00:02:37.550
$36,000 per year in rent.

00:02:37.550 --> 00:02:41.640
And then of course I
have that $250,000.

00:02:41.640 --> 00:02:45.240
I'm going to put that into the
bank, because I have nothing

00:02:45.240 --> 00:02:45.930
else to do with it.

00:02:45.930 --> 00:02:47.640
I didn't buy a house with it.

00:02:47.640 --> 00:02:50.480
And let's say that I can,
in the bank, let's say

00:02:50.480 --> 00:02:51.210
I put it in a CD.

00:02:51.210 --> 00:02:52.800
And I get 4% on that.

00:02:52.800 --> 00:02:55.942
So let's see, 250, that's
what? $10,000, I think.

00:02:55.942 --> 00:02:58.600
That's 0.04.

00:02:58.600 --> 00:03:01.800
Right, I get $10,000 in interest
a year on that.

00:03:01.800 --> 00:03:02.890
So I get $10,000.

00:03:02.890 --> 00:03:07.840
So plus $10,000 a year
in interest.

00:03:07.840 --> 00:03:11.890
So out of my pocket, for the
privilege of living in this

00:03:11.890 --> 00:03:15.120
house, in Silicon Valley, with
beautiful weather, out of my

00:03:15.120 --> 00:03:20.970
pocket every year
goes $26,000.

00:03:20.970 --> 00:03:24.780
So that's scenario one.

00:03:24.780 --> 00:03:29.210
So what happens if I give in
to the peer pressure of

00:03:29.210 --> 00:03:33.890
family, and realtors, and the
mortgage industry, and I buy

00:03:33.890 --> 00:03:35.230
this house for $1 million?

00:03:35.230 --> 00:03:39.180
Well I only have $250,000, which
is more, frankly, than

00:03:39.180 --> 00:03:42.110
most people who buy $1 million
houses have. But I have

00:03:42.110 --> 00:03:45.330
$250,000 cash.

00:03:45.330 --> 00:03:47.550
So I need to borrow $750,000.

00:03:47.550 --> 00:03:57.970
So I take out a mortgage
for $750,000.

00:03:57.970 --> 00:03:59.630
And I'm going to do a slight
simplification.

00:03:59.630 --> 00:04:01.820
And maybe in a future
presentation, I'll do kind of

00:04:01.820 --> 00:04:03.070
a more complicated one.

00:04:03.070 --> 00:04:05.830
In a lot of mortgages, when you
pay your monthly payment,

00:04:05.830 --> 00:04:07.930
most of your monthly payment,
at least initially, is the

00:04:07.930 --> 00:04:09.600
interest on the amount that
you're borrowing.

00:04:09.600 --> 00:04:11.800
And you pay a little bit
extra on that, to

00:04:11.800 --> 00:04:13.080
bring this value down.

00:04:13.080 --> 00:04:14.850
That's called paying
off the principal.

00:04:14.850 --> 00:04:17.850
You can also take an
interest-only loan, but the

00:04:17.850 --> 00:04:20.779
component of the interest
is the same.

00:04:20.779 --> 00:04:22.710
Essentially, when you take a
traditional mortgage, kind of

00:04:22.710 --> 00:04:25.640
a 30-year fixed, every month
you're paying a little bit

00:04:25.640 --> 00:04:28.530
more than the interest, just
to take down the balance.

00:04:28.530 --> 00:04:30.750
But for the simplicity of this
argument, I'm just going to

00:04:30.750 --> 00:04:33.110
say that we're doing an
interest-only mortgage.

00:04:33.110 --> 00:04:34.970
And then maybe with any
extra savings, I can

00:04:34.970 --> 00:04:36.190
pay down the principal.

00:04:36.190 --> 00:04:37.440
And that's the same notion.

00:04:37.440 --> 00:04:40.090
And right now, if I do 25%
down, and I'm buying a $1

00:04:40.090 --> 00:04:45.020
million house, I'll have to
take a $750,000 mortgage.

00:04:45.020 --> 00:04:47.450
I don't know what a
good rate is, 6%?

00:04:47.450 --> 00:04:55.040
So let's say at 6% interest. So
to live in this house, how

00:04:55.040 --> 00:04:58.350
much am I paying just
in interest?

00:04:58.350 --> 00:05:05.830
Well I'm paying $750,000
times 6% a year.

00:05:05.830 --> 00:05:18.510
So $750,000 times 0.06 is equal
to $45,000 in interest.

00:05:18.510 --> 00:05:20.810
That's coming out
of my pocket.

00:05:20.810 --> 00:05:23.240
And of course, on a monthly
basis, that means in interest

00:05:23.240 --> 00:05:25.870
per month, I'm paying,
just to get an idea.

00:05:25.870 --> 00:05:29.570
I'm paying about $3,700, $3,800
in interest a month.

00:05:29.570 --> 00:05:32.180
My mortgage actually might be
something like $4,000 a month.

00:05:32.180 --> 00:05:36.150
So I pay the interest. And then
I pay a little bit to

00:05:36.150 --> 00:05:39.480
chip away at the whole
value of the loan.

00:05:39.480 --> 00:05:41.540
It takes 30 years to chip
away at the whole thing.

00:05:41.540 --> 00:05:43.670
And over time, the interest
component becomes less, and

00:05:43.670 --> 00:05:44.540
the principal becomes more.

00:05:44.540 --> 00:05:47.440
But for simplicity, this is the
interest that I'm paying.

00:05:47.440 --> 00:05:49.420
$45,000 a year.

00:05:49.420 --> 00:05:51.570
And then of course at a party,
when I start to explain this,

00:05:51.570 --> 00:05:52.740
it's like, ah-ha.

00:05:52.740 --> 00:05:56.220
But interest on a mortgage
is tax deductible.

00:05:56.220 --> 00:05:59.750
And what tax deductible means,
is that this amount of money

00:05:59.750 --> 00:06:03.400
that I spend on interest
on my mortgage, I can

00:06:03.400 --> 00:06:04.870
deduct from my taxes.

00:06:04.870 --> 00:06:08.890
I can tell the IRS that
I make $45,000 less

00:06:08.890 --> 00:06:10.860
than I actually did.

00:06:10.860 --> 00:06:14.700
So if I'm getting taxed at,
let's say 30%, what is the

00:06:14.700 --> 00:06:16.060
actual cash savings?

00:06:16.060 --> 00:06:17.940
Well I'll save 30% of this.

00:06:17.940 --> 00:06:21.030
I'll have to pay $15,000
less in taxes.

00:06:21.030 --> 00:06:22.080
How does that work?

00:06:22.080 --> 00:06:22.720
Well, think about it.

00:06:22.720 --> 00:06:26.070
Let's say I earned $100,000
in a year.

00:06:26.070 --> 00:06:27.980
And I normally have
to pay 30%.

00:06:27.980 --> 00:06:30.610
So I normally pay $30,000
in taxes.

00:06:30.610 --> 00:06:31.290
Right?

00:06:31.290 --> 00:06:33.800
This is, if I didn't
have this great tax

00:06:33.800 --> 00:06:35.410
shelter with this house.

00:06:35.410 --> 00:06:37.720
Now I have this interest
deduction.

00:06:37.720 --> 00:06:39.910
So now I tell the IRS
that I'm actually

00:06:39.910 --> 00:06:46.800
making $55,000 a year.

00:06:46.800 --> 00:06:48.990
And let's say my tax
rate is still 30%.

00:06:48.990 --> 00:06:51.420
it actually will probably go
down since I'm -- but let's,

00:06:51.420 --> 00:06:54.280
just for simplicity, assume my
tax rate is still $30,000.

00:06:54.280 --> 00:07:02.710
So now I'm going to pay $16,500
in taxes to the IRS.

00:07:02.710 --> 00:07:05.170
So how much did I
save in taxes?

00:07:13.180 --> 00:07:18.640
So I saved $13,500 from taxes,
from being able to deduct this

00:07:18.640 --> 00:07:20.030
$45,000 from my income.

00:07:20.030 --> 00:07:33.090
So let's say tax savings,
plus $13,500.

00:07:33.090 --> 00:07:34.410
Now what else goes into
this equation?

00:07:34.410 --> 00:07:36.290
Do I get any interest
on my $250,000?

00:07:36.290 --> 00:07:36.650
Well, no.

00:07:36.650 --> 00:07:38.880
I had to use that as part of the
down payment on my house.

00:07:38.880 --> 00:07:40.730
So I'm not getting
interest there.

00:07:40.730 --> 00:07:42.390
But what I do have to
do is, I have to

00:07:42.390 --> 00:07:46.160
pay taxes on my property.

00:07:46.160 --> 00:07:50.340
In California, out here we have
to pay 1.25% in taxes, of

00:07:50.340 --> 00:07:51.890
the value of the house.

00:07:51.890 --> 00:07:52.910
So what's 1.25%?

00:07:52.910 --> 00:07:55.270
So, taxes, this is
property tax.

00:07:55.270 --> 00:07:58.030
And that's actually tax
deductible too, so it actually

00:07:58.030 --> 00:08:00.750
becomes more like 0.75% or 1%.

00:08:00.750 --> 00:08:03.540
So let's just say 1% just
for simplicity.

00:08:03.540 --> 00:08:06.610
Property taxes.

00:08:06.610 --> 00:08:10.200
So 1% times $1 million.

00:08:10.200 --> 00:08:10.930
That equals what?

00:08:10.930 --> 00:08:14.100
1% of $1 million is
another $10,000 a

00:08:14.100 --> 00:08:15.730
year in property taxes.

00:08:15.730 --> 00:08:18.310
And notice, I'm not talking
about what percent of my

00:08:18.310 --> 00:08:19.490
mortgage goes to
pay principal.

00:08:19.490 --> 00:08:21.980
I'm just talking about money
that's being burned by owning

00:08:21.980 --> 00:08:23.210
this house.

00:08:23.210 --> 00:08:25.460
So what is the net effect?

00:08:25.460 --> 00:08:33.080
I have a $13,500 tax savings.

00:08:33.080 --> 00:08:35.049
I have to pay $10,000 --
actually I have to pay a

00:08:35.049 --> 00:08:37.080
little bit more than that, but
we're getting a little bit of

00:08:37.080 --> 00:08:38.960
income tax savings on
the deduction on

00:08:38.960 --> 00:08:40.900
the property taxes.

00:08:40.900 --> 00:08:45.170
And then I actually have to pay
the $45,000 of interest

00:08:45.170 --> 00:08:46.270
that just goes out the door.

00:08:46.270 --> 00:08:52.320
So I'm paying $41,500.

00:08:52.320 --> 00:08:57.140
Notice, none of this $41,500
is building equity.

00:08:57.140 --> 00:08:58.560
None of it is getting saved.

00:08:58.560 --> 00:09:03.010
This is money that is
just being burned.

00:09:03.010 --> 00:09:04.680
So this is a completely
comparable

00:09:04.680 --> 00:09:06.970
value to this $26,000.

00:09:06.970 --> 00:09:09.400
So in this example -- this
example is not that far off

00:09:09.400 --> 00:09:11.590
from real values.

00:09:11.590 --> 00:09:14.950
Out here in the Bay area, I can
rent a $1 million house

00:09:14.950 --> 00:09:16.700
for about $3,000.

00:09:16.700 --> 00:09:21.020
But in this situation I am
burning, every year $41,500,

00:09:21.020 --> 00:09:24.110
where I could just rent the same
house for $26,000 out of

00:09:24.110 --> 00:09:26.360
my pocket, when I adjust
for everything.

00:09:26.360 --> 00:09:29.140
And then people a couple of
years ago said, oh, but houses

00:09:29.140 --> 00:09:29.750
appreciate.

00:09:29.750 --> 00:09:31.000
And that's what would
make it up.

00:09:31.000 --> 00:09:32.940
But now you know, very recently
-- we know that

00:09:32.940 --> 00:09:34.410
that's not the case.

00:09:34.410 --> 00:09:36.540
And in the next video, I'll
delve into this, and

00:09:36.540 --> 00:09:37.480
a little bit more.

00:09:37.480 --> 00:09:39.080
I'll see you soon.


Housing equity loans

WEBVTT
Kind: captions
Language: en

00:00:00.740 --> 00:00:01.550
Welcome back.

00:00:01.550 --> 00:00:05.820
In the previous video we had
this very positive scenario,

00:00:05.820 --> 00:00:08.770
where I had originally bought
a house for $1.5 million.

00:00:08.770 --> 00:00:11.950
Then a year later, the value of
the house, or at least my

00:00:11.950 --> 00:00:14.280
perceived value of the house,
went up to $1.5 million,

00:00:14.280 --> 00:00:16.530
because my neighbors sold
their identical

00:00:16.530 --> 00:00:19.210
house for $1.5 million.

00:00:19.210 --> 00:00:22.570
And so my initial equity
investment went from $250,000

00:00:22.570 --> 00:00:23.500
to $750,000.

00:00:23.500 --> 00:00:24.110
And why is that?

00:00:24.110 --> 00:00:27.320
Well equity is nothing but, if
I have an asset that's worth

00:00:27.320 --> 00:00:32.390
$1.5 million, and I owe
$750,000-- that was my

00:00:32.390 --> 00:00:34.820
original mortgage on that
asset-- then what I'm left

00:00:34.820 --> 00:00:35.480
with is the equity.

00:00:35.480 --> 00:00:36.810
So my equity just tripled.

00:00:36.810 --> 00:00:39.600
It went from $250,000
to $750,000.

00:00:39.600 --> 00:00:41.240
In this video, what I'm going
to do is I'm going to show

00:00:41.240 --> 00:00:43.810
you, well, what can you
do with that equity?

00:00:43.810 --> 00:00:44.950
I mean, it's not cash.

00:00:44.950 --> 00:00:48.000
It's kind of like this make
believe amount of wealth that

00:00:48.000 --> 00:00:50.060
you have. You just
feel richer.

00:00:50.060 --> 00:00:53.580
And I'll show you that you can
actually turn it into cash

00:00:53.580 --> 00:00:56.220
using something called
a home equity loan.

00:00:56.220 --> 00:00:59.350
And I'd argue that this is
actually what drove our

00:00:59.350 --> 00:01:04.910
economy from about 2002 to
probably still, to this day.

00:01:04.910 --> 00:01:06.520
Although I think we're
in a recession now.

00:01:06.520 --> 00:01:08.840
In fact I'm about 100%
sure we are.

00:01:08.840 --> 00:01:12.300
But definitely until
about 2006.

00:01:12.300 --> 00:01:13.350
So what's a home equity loan?

00:01:13.350 --> 00:01:14.500
Well I go to the bank.

00:01:14.500 --> 00:01:18.100
I say, wow, bank, I have this
$750,000 of equity.

00:01:18.100 --> 00:01:21.470
I wish -- I'm rich, but I
don't have this in cash.

00:01:21.470 --> 00:01:23.540
I want to do something, though,
with the equity.

00:01:23.540 --> 00:01:25.830
I would like to live
like a rich person.

00:01:25.830 --> 00:01:28.940
Well the bank says, Sal,
you know, you're right.

00:01:28.940 --> 00:01:33.970
Our only requirement is that
you have $250,000-- or our

00:01:33.970 --> 00:01:36.260
only requirement is that
you have 25% equity

00:01:36.260 --> 00:01:37.790
in your house, right?

00:01:37.790 --> 00:01:40.470
Because they want a cushion in
case you can't pay and they

00:01:40.470 --> 00:01:42.870
get the house back, and they
have to foreclose, and auction

00:01:42.870 --> 00:01:44.330
off the house, et cetera,
et cetera.

00:01:44.330 --> 00:01:48.590
So they said, well, we're
willing to lend you up to 75%

00:01:48.590 --> 00:01:50.220
of the value of your house.

00:01:50.220 --> 00:01:52.120
So what's 75% of the
value of my house?

00:01:52.120 --> 00:01:58.390
So let's see, 1.5 times 75%,
let's see that would be

00:01:58.390 --> 00:02:01.470
$750,000 plus half
of $750,000.

00:02:01.470 --> 00:02:09.270
It'll be 1.075 million,
I think.

00:02:09.270 --> 00:02:10.530
I did that in my head,
it could be wrong.

00:02:10.530 --> 00:02:12.170
But it's roughly the
right number.

00:02:12.170 --> 00:02:15.080
So the bank says, you know what,
we're willing to lend

00:02:15.080 --> 00:02:18.820
you up to 75% of the value
of your asset.

00:02:18.820 --> 00:02:22.400
And it's of course going to be
guaranteed by this asset.

00:02:22.400 --> 00:02:25.850
So far, we lent you $750,000.

00:02:25.850 --> 00:02:28.660
So let's see how much you
have more that you

00:02:28.660 --> 00:02:30.500
can borrow from us.

00:02:30.500 --> 00:02:34.420
Minus -- we're talking millions
-- that's 0.075.

00:02:34.420 --> 00:02:34.940
So that's what?

00:02:34.940 --> 00:02:42.710
300, that's 250 plus 75, so up
to $325,000 more that you

00:02:42.710 --> 00:02:44.380
could borrow.

00:02:44.380 --> 00:02:45.530
And what is this?

00:02:45.530 --> 00:02:47.180
Where am I taking this
money out of?

00:02:47.180 --> 00:02:51.100
Well I'm essentially taking this
money out of the equity

00:02:51.100 --> 00:02:51.860
of my house.

00:02:51.860 --> 00:02:53.190
And how does that make sense?

00:02:53.190 --> 00:02:54.440
Well, what's going to happen?

00:02:59.550 --> 00:03:00.560
Let's say I take this loan.

00:03:00.560 --> 00:03:02.380
Let's say I say, bank, great.

00:03:02.380 --> 00:03:08.180
I want $325,000 in cash.

00:03:08.180 --> 00:03:10.530
I want it right now.

00:03:10.530 --> 00:03:11.340
So what happens?

00:03:11.340 --> 00:03:16.990
Let me draw another series,
another balance sheet.

00:03:16.990 --> 00:03:18.690
I stopped using the word balance
sheet, even though

00:03:18.690 --> 00:03:21.690
that was the original purpose
of this whole discussion.

00:03:21.690 --> 00:03:25.120
I'll draw it a little
bit bigger.

00:03:25.120 --> 00:03:28.110
Remember liabilities plus
equities are equal to assets.

00:03:32.500 --> 00:03:35.720
So what are my assets now?

00:03:35.720 --> 00:03:47.040
So now I have a $1.5 million
house, and I also got $325,000

00:03:47.040 --> 00:03:55.280
cash from the bank, so we
can call that 325K cash.

00:03:55.280 --> 00:03:56.860
Got it from the bank.

00:03:56.860 --> 00:03:58.640
Now what are my liabilities?

00:03:58.640 --> 00:04:01.050
Well I have the original
mortgage on my house.

00:04:05.170 --> 00:04:10.080
The original mortgage
is $750,000.

00:04:10.080 --> 00:04:12.680
This is liabilities
on this side.

00:04:12.680 --> 00:04:13.696
Well not the whole side,
we're going to

00:04:13.696 --> 00:04:14.390
have equity down here.

00:04:14.390 --> 00:04:16.500
So just this is liability,
$750,000.

00:04:16.500 --> 00:04:21.060
And then I took a new loan to
get this $325,000 of cash.

00:04:21.060 --> 00:04:27.480
So I have a new loan here,
that amount is $325,000.

00:04:27.480 --> 00:04:30.150
And this was a home
equity loan.

00:04:30.150 --> 00:04:32.690
I took a loan against
the equity that

00:04:32.690 --> 00:04:33.420
I have in my house.

00:04:33.420 --> 00:04:35.030
This was the equity
in my house.

00:04:35.030 --> 00:04:37.690
So what's the leftover equity?

00:04:37.690 --> 00:04:39.430
Let me just make everything
clear.

00:04:39.430 --> 00:04:41.210
These are liabilities.

00:04:41.210 --> 00:04:42.442
These are assets.

00:04:42.442 --> 00:04:44.200
And equity is what you
have leftover.

00:04:44.200 --> 00:04:45.640
So what are my assets?

00:04:45.640 --> 00:04:55.220
I have $1.825 million in assets,
minus -- now what are

00:04:55.220 --> 00:04:56.440
my liabilities?

00:04:56.440 --> 00:05:05.230
Minus $1.075 -- that was the
max that I could borrow --

00:05:05.230 --> 00:05:06.110
liabilities.

00:05:06.110 --> 00:05:10.630
Assets minus liabilities
is owners equity.

00:05:10.630 --> 00:05:15.710
So let's see, 825 minus 75.

00:05:15.710 --> 00:05:19.570
I still have $750,000
of equity.

00:05:19.570 --> 00:05:20.710
And that makes sense.

00:05:20.710 --> 00:05:23.500
If I just enter into some
transaction where I get cash

00:05:23.500 --> 00:05:26.680
in exchange for debt, my equity
shouldn't change.

00:05:26.680 --> 00:05:28.500
But now what does happen?

00:05:28.500 --> 00:05:31.960
Well I have this cash, and I'm
feeling rich, because I've

00:05:31.960 --> 00:05:34.800
never seen numbers
like $750,000.

00:05:34.800 --> 00:05:37.100
And that neighbor, that new
neighbor that just bought that

00:05:37.100 --> 00:05:41.720
house right next door for $1.5
million, he just bought a

00:05:41.720 --> 00:05:44.060
beautiful new Hummer.

00:05:44.060 --> 00:05:48.990
And being a very down-to-earth
person, I feel that I also

00:05:48.990 --> 00:05:51.660
deserve a Hummer, like my
neighbor, because I am just as

00:05:51.660 --> 00:05:53.570
rich as they are.

00:05:53.570 --> 00:05:57.260
So I go decide to go out
and I'm going to spend

00:05:57.260 --> 00:06:01.940
$100,000 on a Hummer.

00:06:01.940 --> 00:06:03.260
Actually, let's not do a Hummer,
because a Hummer could

00:06:03.260 --> 00:06:04.890
actually be considered
an asset.

00:06:04.890 --> 00:06:06.460
I want pure consumption.

00:06:06.460 --> 00:06:09.050
Although I think a Hummer is as
pretty close as a car gets

00:06:09.050 --> 00:06:10.160
to pure consumption.

00:06:10.160 --> 00:06:13.430
Let's say that neighbor went on
a round-the-world vacation

00:06:13.430 --> 00:06:15.050
for $100,000.

00:06:15.050 --> 00:06:17.830
And I too, because I did nothing
but sit on my house

00:06:17.830 --> 00:06:21.710
and made $500,000 last year, I
feel that I also deserve a

00:06:21.710 --> 00:06:23.730
$100,000 vacation.

00:06:23.730 --> 00:06:28.230
So what I do is I take $100,000
of this cash.

00:06:28.230 --> 00:06:33.930
So I'm now left with just
$225,000, and I have the great

00:06:33.930 --> 00:06:35.940
experience of going
on a vacation.

00:06:35.940 --> 00:06:37.980
But of course I didn't get any
asset in return for that.

00:06:37.980 --> 00:06:40.820
Although maybe your happiness
is an asset, I don't know.

00:06:40.820 --> 00:06:42.840
But it doesn't show up on
your balance sheet.

00:06:42.840 --> 00:06:44.780
So we had $325,000 in cash.

00:06:44.780 --> 00:06:51.930
Now we have $225,000 in cash.

00:06:51.930 --> 00:06:54.410
So our total assets went
down about $100,000.

00:06:54.410 --> 00:06:55.160
What are our assets now?

00:06:55.160 --> 00:06:58.550
It's $1.725 right?

00:06:58.550 --> 00:07:01.840
Because we spent $100,000
of our cash.

00:07:01.840 --> 00:07:03.780
So what's going to be the
liabilities and equity?

00:07:03.780 --> 00:07:05.360
Well the liabilities won't
change, right?

00:07:05.360 --> 00:07:06.885
Just because I went on vacation,
the bank's not going

00:07:06.885 --> 00:07:08.890
to say, hey Sal, you
owe us less money.

00:07:08.890 --> 00:07:13.300
I still owe the almost
$1.075 million.

00:07:13.300 --> 00:07:17.380
The $100,000 is going to come
all out of my equity.

00:07:17.380 --> 00:07:22.160
So now all of a sudden I
don't have $750,000.

00:07:22.160 --> 00:07:28.170
I only have $650,000.

00:07:28.170 --> 00:07:30.060
And this isn't the balance
sheet just for my house.

00:07:30.060 --> 00:07:32.960
This is kind of my whole
personal balance sheet.

00:07:32.960 --> 00:07:34.255
And now my whole personal
balance

00:07:34.255 --> 00:07:35.780
sheet, what just happened?

00:07:35.780 --> 00:07:39.440
I just took some of that
original equity that I had.

00:07:39.440 --> 00:07:43.060
I took $100,000 of it, turned it
into cash, and just went on

00:07:43.060 --> 00:07:45.610
a great one-year-long
vacation.

00:07:45.610 --> 00:07:47.980
And this is what home
equity loans are.

00:07:47.980 --> 00:07:51.840
And this is what, I would argue,
drove the economy.

00:07:51.840 --> 00:07:54.310
Or at least took us into
an expansionary stage

00:07:54.310 --> 00:07:56.560
from 2002 to 2003.

00:07:56.560 --> 00:07:59.150
Because if you remember, a lot
of people were still getting

00:07:59.150 --> 00:08:01.780
laid off in 2002, 2003,
but consumer

00:08:01.780 --> 00:08:02.910
spending kept going up.

00:08:02.910 --> 00:08:04.300
So people are earning
less money, or they

00:08:04.300 --> 00:08:05.010
don't even have a job.

00:08:05.010 --> 00:08:06.330
How is spending going up?

00:08:06.330 --> 00:08:08.240
Well, the values of their
house went up, and they

00:08:08.240 --> 00:08:10.190
borrowed against the value
of their house.

00:08:10.190 --> 00:08:12.760
They took cash out of it, and
they used that cash to buy

00:08:12.760 --> 00:08:18.240
their Hummers, to go on
vacation, to buy fancy

00:08:18.240 --> 00:08:19.130
clothes, whatever.

00:08:19.130 --> 00:08:20.710
And that drove the economy.

00:08:20.710 --> 00:08:24.270
And in the next video I'll
actually talk about, maybe,

00:08:24.270 --> 00:08:26.820
why those housing
prices go up.

00:08:26.820 --> 00:08:29.590
Or why they went up, in
particular, during this

00:08:29.590 --> 00:08:32.429
housing boom, this one that
we're definitely in the

00:08:32.429 --> 00:08:34.340
process of getting out of.

00:08:34.340 --> 00:08:36.080
See you in the next video.