Why Spain Is Not Florida

We publish this piece knowing full well how incredibly stupid one looks when his off-centre analysis proves erroneous, and how unscathed totally faulty predictions come out of the fracas as long as they are accompanied by many others of their ilk. We don't care.

About two and half years ago, short sellers broke through Enrique Bañuelos' million share Astroc Mediterraneo limit buy order at 45.51 euros setting off, led by Ambrose Evans-Pritchard, the chorus chanting the demise of Spanish property values. We didn't buy it then, we didn't buy it in October 2008 and, knowing full well that the future serves no master (least of all this humble scribe), we feel that our take has been at least partially vindicated to date. After all, 30 months - during which a credit crisis of monumental proportions transpired worldwide - have passed since the end was announced in the British press and we have yet to see real estate prices collapse in Spain.

In this regard, a reader going by the name 'aviat72', incredulous in the face of what he thinks are improbably optimistic price decline figures for this country, asked the writer to attempt to justify the disparity between Florida, where prices have dropped by possibly 50 percent, and this country. We think that, looking only at cost-of-carry and marginal utility, we can account for the bulk of this phenomenon.

To inform the matter a little better with some hard-ish numbers, we spoke with a homeowner (our brother in-law) who lives in Madrid just beyond the M-30 and a friend, located in northern New Jersey regarding the cost-of-carry of their respective residences. Sorry for not doing Florida, but the property tax situation there plus the cost of hurricane insurance probably make the figures worse than north Jersey, anyway.

When looking at the Google spreadsheet below, the reader should keep in mind that the figures are approximations from our respondents' memories and guesses as to their properties' values.



For our thesis, the interesting figures are the cost-of-carry raw, cost-of-carry as a percentage of PPP adjusted national median incomes (real statisticians and economists will certainly find something amiss here) and the number of years of carry that a 10% price reduction covers.

The first speaks for itself, and shows why American banks dump foreclosed homes on the market - 12,150 vs. 2,420.

The second is that cost-of-carry represents 7.85% of income, in Spain, against 26.5% in the U.S.

The third, most interesting if one puts oneself in the shoes of a potential seller who is not forced to do so, is that it takes 14.5 years of carry to spend a 10% price reduction in the case of the Madrid home, and 4.1 years in New Jersey. Thought of as an option, our brother in-law would pay 2420 euros a year to bet that his apartment will be worth more in the year 2024. Our buddy in north Jersey would be paying, in the act of not dropping his price, 12,150 dollars per year to make the same punt with a late 2013 expiry. Readers should feel free to adjust for opportunity cost, and the like.

In the case of Spain, one has to filter these numbers through the, plainly ideological, component of the relative marginal utilities of money and property. One phrase - heard by ourselves regularly from the mouths of lawyers, engineers, doctors, public servants, shopowners, regular working folk, housewives and pure country farmers who have difficulty wrapping their tongues around their own native language - is:

Money isn't worth anything. It just loses its value.

...this irrespective of interest rates, rates of inflation or anything else that might impinge on its veracity is religion in this country.

Taking the position, we think with reason, that both bankers and property developers believe this with equal faith (or are certain that the market believes it), one can imagine that these two groups would tend to interpret the stagnation of the real estate business as causing a problem of liquidity, and not solvency - by cultural definition, land can be no more insolvent than can gold. The strategy of pushing everything forward in time, under these circumstances, will be seen to be less risky than others might interpret it and would explain the banks' relative comfort with taking on property in lieu of debt. We have no idea whether the strategy will work in the long run, but we wouldn't bet against it.

Aviat72 also made the very keen observation that the re-writing of builder loans might be analogous to the 'write your own mortgage' mania that took place in the heady years of the boom in the U.S. Our guess however, judging by the amount of time it takes for the negotiations to take place, is that the banks are walking away from these deals with a not entirely distasteful call option on the assets in question - at least in the event that the borrower again defaults. Same as above, we don't know if it will succeed (and there are good reasons to assume it won't even without factoring in the possibility of another global collapse), but we'd be at least marginally more inclined to take the other side of the reader's short sale than the opposite.

As an aside, the recent news that the household savings rate in Spain had risen to an astonishing and never before seen 24.3% of disposable income in the second quarter is unquestionably a harbinger of increased real estate activity at some point in the future. Spaniards hate money.

Possibly in favour of Aviat72's thesis would be the problem of the reliability of Spanish statistics, distorted as they are by the habitual unrecorded cash portion of house purchases. To give an idea of how much paper money moved around in this business, we have a friend who worked as a site supervisor for a couple of large-ish local builders near Granada. He received about 30% of his pay in untaxed banknotes. Extend this to all the employees, the illegals being paid 100% in this form, and throughout Andalucía and one might get a glimpse of how big this was. Funding it all were the cash down payments that neither appeared in the deeded purchase price nor figured in any index of prices based on land registry or notarial documents. Our suspicion is that recorded prices will be more sticky on the downside than on the up, lending a bit more credence to his contention.

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