Posted on Oct 23, 2006 by the editor of Seeking Alpha
While much has been written about the housing market recently, it is Paul McCulley's PIMCO October Piece that had some key insights into price momentum. It is a very important point that the housing market is "reflexive" -- to use the term that George Soros coined.
That is, increases or decreases in prices are based upon expectations for the future, not necessarily on fundamental reasons like percentage of income devoted to mortgage, interest rates, scarcity of land. If people "think" that prices would go higher, that will justify paying more than the intrinsic value. The exact same can be the case when and if people "think" that real estate is not a good storage of value.
Think of the NASDAQ bubble and the justification for Amazon (AMZN) or Cisco (CSCO) at 3-4x current share prices. In hindsight we can see that prices were ahead of the fundamental reasons for owning those stocks. However, because enough people thought the price appreciation would continue, the price traded as high as it did. Reflexivity made the price the level that it traded.
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