Nov

22

 A contractor told me proudly he was out of stocks since summer, because he bought a house. I suggested that house prices are currently correlated with stocks, and to the extent that most mortgages create leverage (ie, LTV 80% means if the house loses 20% you lose 100% - at least until Oh saves) the effect is amplified. Then I told him he needed an extraction, and he got mad and left.

Don't shoot the messenger?

Anyway he got me thinking about the definition of wealth. If you knew about a guy who made $100,000 per year, you might not be that impressed. Except if this happened in 1932 (that year comes up a lot now). 100K then was a lot of money, but not now. Maybe $100,000 will be respectable again soon.

Income is relative. Maybe net worth is too. Now everyone who owned stocks over the past year is worth less, and the same if you owned a house. Since most people own houses, and many own stocks, most got poorer. If you own a business it's probably worth less too.

But if you own stocks, a house, and a business, they still have worth relative to others - and ostensibly it is not zero (though the formerly low-risk concept of leverage has been revised). Now prices have to catch up, and lots of businesses don't yet understand that they need to cut prices.

It's amazing how powerfully emotion rules the mind. In 13 months the net worth of the world was about cut in half, and if you think about it, in reality how different is the world since then? Did an asteroid hit? Did Amadinejad invade Israel? No. People in many countries got carried away with house prices then got scared and stopped buying. Which pushed the leveraged upside down, foreclosures increased, counter-parties bellied up, and now everyone wants out.

Jeff Watson writes:

My son likes to watch a TV show on MTV known as Cribs when he's home from school. Cribs is a showcase of the big houses that rappers, pop stars, and others of that ilk like to buy and decorate when they get their big break. Generally, the houses have brand new furnishings and have been done in a very modern, minimalist, interchangeable styling. Part of the show is a tour of their garage, where multiple Hummers, Ferraris, Bentleys, and Escalades seem to be the cars of choice. They take you to their pool areas, which usually are very nice and expensive. All the houses have game rooms and private theaters, with state of the art equipment. My son was telling me how rich those guys must be to have all of those toys, and asked why we don't live like that. I pointed out the math to him, on an artist who has one or two hits under his belt, and grossed $10 million tops. Out of that $10 million, he has his agent and management fees taken right off the top, figure 25-35%. Then comes taxes which might be another 20%. Add the cost of a $5 million house, a million dollars worth of cars, another million in furnishings, then the salaries of their entourage, local taxes, utilities, and they're practically broke, or even have negative net worths. They are living for the now, on the expectation of their next deal, which may or may not appear. I pointed out to him that living really large on a shoestring isn't the way to exercise fiscal prudence. I also pointed that every performer whose house is showcased on Cribs has one striking similarity: a total absence of books anywhere in the houses, closets or even built in bookcases. I've never, ever seen a book in that show, and I've been forced to watch more than a few episodes. Evidently those performers never read, and one could postulate that reading is counterproductive as far as that type of success is concerned. In any case, my son learned a valuable lesson in thrift when I sat down and ran the numbers for him.

Vincent Andres adds:

Concerning the absence of books, it would be very nice if this observation were really specific to the houses showcased in such shows. I'm however afraid this observation is very general (and recursively, mainly because of many examples of this kind, the only cultural tap in so many houses is indeed just the TVs).

Entering a house is a bit like entering the owner's brains. Seeing no books, empty walls, … strange feeling. Intellectual faculties are outsourced, TV and the Jones are the spinal chord.


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10 Comments so far

  1. Prudence Gently on November 22, 2008 12:08 pm

    How different is the world since then? Since the markets are forward looking, I imagine it will be very, very different in about six months. What are the odds such a dramatic reduction in wealth will incite revolutions and wars around the world? What are the odds the Protectionism meme will take hold around the world? What are the odds that immigrants all over America and Europe — now at levels about on par to that just prior to WWII — will be scapegoated for economic problems? If you do know the odds, please email them to me.

  2. David Riffer on November 22, 2008 1:38 pm

    It's like spread relationships. If your assets are falling less in value than the total sum of the system, you are doing okay. Similarly, this deflation in asset prices is not so bad if you are not levered, because prices are, as you point out, only starting to deflate. That is nice since inflation (not productivity) is why money is worth less today than 1932. Of course, the rules of the game can be changed…

  3. Adam on November 22, 2008 10:28 pm

    $10 million seems low for at least some of the acts featured on Cribs. The Foo Fighters’ Dave Grohl has had his publishing rights to Nirvana valued at well over $150M during his well publicized feud with Courtney Love. Beyonce Knowles of Destiny’s Child fame had income of $96M according to a 2008 Forbes list (her husband Jay Z has long had net worth in the hundreds of millions). Moby, Tony Hawk, No Doubt, Mariah Carey and Usher all have net worth well in excess of $10(0?) million. There is also some evidence that the “management” of these acts has improved over time with even b-list talent like Jessica Simpson able to write a check for $10 million during her divorce.

  4. Kermit Johnson on November 23, 2008 11:47 am

    Wealth seems to have been more easily defined for a homesteader a century ago, but there are still questions. A house, a barn, horses, cows - all were wealth. Build a new granary and he had accumulated more wealth. But, build a more comfortable chair, and his wealth increased also. But maybe not the same as a similar investment in a granary.

    Inflation also is problematic, isn’t it? The question is always - inflation in what? Up until very recently, we had seen little inflation in things people need, but massive inflation in things that people wanted. It not only depends on money supply, but also on who has the money and what they need or want to buy with it.

  5. Jeff Watson on November 23, 2008 6:45 pm

    Adam,

    While you rounded out the top of the list, one can’t forget the bottom like “Pimp My Ride’s” Xzibit, the fantastic Lil’ Romeo, madman Chris Pontius from “Jackass,” professional skateboarder Bucky Lasek, or comic Carlos Mencia. I would be surprised to see if they ever saw 10 million dollars. It would be an amusing exercise to run the numbers on the entire list to see what the real average net worth was of those folks, assets minus liabilities. It would also be interesting to see what their cash flow was like, and how much they saved. And one must not forget that this show was made over a year ago, and we’ve seen a decline in prices and values over the past year. When you see people like Ed McMahon(who’s been a real earner for 40 years) in foreclosure, it isn’t hard to see some of the aforementioned people on the Cribs list having a negative net worth.

    Hollywood money is different than real money in the rest of the world. An old joke goes; The real estate agent calls up his star client and says, “I found a great Malibu beachfront deal for you, and I’ve got good news and bad news. The good news is that they’re only asking $6 Million dollars, but the bad news is that they want $50K down.”

    Jeff

  6. Gary Rogan on November 23, 2008 7:17 pm

    Other than a means to impress others, wealth is simply one’s ability to procure objects or services one needs or wants. If you’re not in the market for houses but have to pay college tuition for your child than clearly the asset price destruction we have witnessed impacted you very negatively because college tuition costs have not gone down. If you own a car, than lower gas prices have been of marginal help. Overall the “crash” has impacted people’s perceived ability to be confident in their financial future and has thus influenced their perception of wealth. To the extent that people’s actual ability to pay certain dollar amounts is less than it used to be for some basket of goods and services while their prices have not appreciably changed there has been real loss of wealth. It seems that the real definition of wealth is some function of one actual ability AND willingness to be able to exchange one’s available resources, both owned and borrowed, for things one desires. It’s not clear that there is any sure-fire way to preserve wealth unless it’s immense and distributable across all asset classes and geographies. During catastrophies laying claim to some distant pot of gold or land holdings is of little use and sooner or later currency assets will be wiped out by abnormal bouts of inflation. Will the US Treasuries ALWAYS be the safest assets in the world? How sure are you?

  7. John on November 24, 2008 12:18 pm

    A measure of wealth is the ratio of time you spend enjoying your lifestyle to time you spend supporting your lifestyle. This provides two paths to wealth. You can accumulate income producing assets that will support your lifestyle, or you can adopt a less expensive lifestyle.

  8. acetrader on November 24, 2008 12:22 pm

    Jeff is right again on these “Cribs” clowns. MOST of them are b,c, or d-list “stars” who will quickly fade away to bankruptcy. The thing with most is that they have to flash the cash to get people to buy their image, er, music. It’s the old adage of driving a Lexus from your one bedroom apt to your business meeting to “prove” you not what you are talking about! Heck, I bet if you check the name on the mortgage you will see the record label’s name rather than XXXYBITZZZZZ or Sisquo!

  9. iconoclast on November 24, 2008 12:29 pm

    i loved the original comment on total absence of books re hideous american show cribs… this is symptomatic of the savagery of these times

  10. Manuel Bravochico on November 25, 2008 2:36 am

    Yes Jeff, because as you imply, these guys are just a bunch of savages who make records and then spend all the proceeds should they be so lucky. We on the other hand, are much “superior” as we sit back and speculate in financial markets. Some of us make some money and some of us don’t. Tell me Jeff, what exacly gives “us” the highground here because I can’t see it from my cushy leather chair in my cherry wood library………but I guess I can sleep well tonite knowing that you’ve got it all figured out for us spec’s with your knowledge of entertainment accounting skills down there in the swamps.

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