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Hot Vegas

Mises Daily: Monday, June 07, 2004 by

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It was reported last week that the M3 money supply has increased at a breathtaking 20% annual rate in the last 4 weeks, going up $155 billion.

Coincidently (or not), the Bureau of Land Management (BLM) held another of its semi-annual land auctions in Las Vegas. With Alan Greenspan providing the juice and animal spirits aplenty in attendance, the BLM set new records both in terms of the total amount of land sold ($707,185,000 worth) and price per acre ($279,299). The total sales figure was more than double the $309,769,500 total appraised value of the parcels.

Please don't get the idea that you will get a check in the mail once these sales close; government schools in Nevada will receive five percent of the loot, and the Southern Nevada Water Authority will receive 10 percent of the proceeds to continue convincing Las Vegas residents to stop using so much of its product. The remaining monies go to the Secretary of the Interior to buy environmentally sensitive land. So the government is not really selling land, but trading its land for other land.

Finding a seat at these auctions used to be easy. A person could show up at the scheduled start time, find a seat and watch the show. But, more easy money floating around means more big spenders and the auction had to be moved from the Clark County Government Chambers that seats a couple hundred to the Sam's Town Casino concert venue that seats 1,000.

Despite the larger venue, last Wednesday's auction was standing room only, and the start was delayed 20 minutes to allow time for all 460 bidders to check in. Three years ago there weren't but a dozen registered bidders at these auctions.

Many of the bidders were first timers such as the cheerful Oriental couple seated next to me. They had moved to Las Vegas a year ago from Northern California to invest in real estate — of course. The gentleman proudly revealed his yellow bidding card and his realtor wife quickly thrust her business card into my hand. This was their first time at a BLM auction they told me and said many that were in line with them registering to bid were also first timers.

As was the case with most of the 460 bidders, my new friend's bidding card didn't get any use. First timers are under the impression that, since the opening bids required are at appraised value, maybe the land can be had for near the opening bid prices. Not a chance.

For example, one particular acre and a quarter parcel located at what can best be described as the corner of Nowhere and Nowhere, started with an opening bid of $157,500. The parcel sold for $360,000 in all of 28 seconds. A 10-acre parcel located on a major arterial went from the appraised value of $1,900,000 to the final sales price of $4,300,000 in 100 seconds.

Many parcels sold for three and four times appraised values, with the smaller parcels typically being sold inside of a minute's time.

Even a parcel with no access (auctioneer Mike McKee said "only helicopter people should bid") sold for $240,000. The parcel's appraised value was only $35,000.

As always, it was the auctioning of a large parcel that generated the event's excitement. A 1,940-acre parcel was on the agenda that had not received a bid at the previous BLM auction held last November. The municipality that includes the parcel was requiring not only extensive infrastructure improvements in its development agreement, but an inclusionary housing requirement as well. Inclusionary housing requires that developers set aside a certain number of houses to be sold not at market prices, but at prices affordable to an income category designated by the municipality — typically some percentage of median income.

But, city hall relented and the inclusionary housing requirement was dropped, and with the median price of new homes up nearly 17 percent from a year ago, the large parcel was thought to now make economic sense.

The bidding began at $250,000,000 and quickly rocketed to $390,000,000. Ultimately it sold for $557,000,000 or $287,113 acre. However, that number is based upon gross acres. The price per net developable acre is $382,000, a number that the winning bidder considers "pretty reasonable."

The definition of "pretty reasonable" is being stretched to the limit here in Las Vegas. At the May 2001 BLM auction a 1,905-acre parcel was sold for only $47.2 million, or $24,672 per acre. A year later a 1,000-acre parcel went for $160,000 per acre. In June 2003, the average sales price per acre was $233,452.

Most of the parcels sold at BLM auctions are slated for residential development. Thus, the ultimate payoff for the developers buying the land depends upon the price of housing.

In April, the median price of a new home in Las Vegas was $233,360. The median household income in Las Vegas is $44,593. This ratio of over five times compares favorably to the median home price to median income ratios in San Francisco and New York — both over eight times — and San Diego's ratio that exceeds nine. However, Phoenix, which competes with Las Vegas for retirees, has a more reasonable ratio of 3.6 times. Atlanta's ratio is less than four and half times.

And, the Las Vegas ratio is headed higher. Las Vegas housing expert, Larry Murphy with SalesTraq, wrote recently; "The median brochure base price for a new home now stands at $303,000. That's a 52.6% increase in the median price in that past 12 months."

Considering that these are homes built on land purchased a couple of years ago, builders in Las Vegas are reaping profit margins like they have never seen before. But will home prices grow to the sky? At the land prices paid last week, they will have to. However, median income grows at a snails pace, mortgage rates are increasing, and new supply is coming to the market. The number of listings for existing homes has doubled. The number of permits pulled for new homes is up over 58 percent from a year ago. Builders are on track to pull permits for 38,000 new homes in 2004. That is close to the number of permits pulled in the Phoenix metropolitan area, which has three times the population of the Las Vegas valley.

Just how long can it continue?

"There are three rules for bubbles," Jim Jubak wrote in The Daily Reckoning last week.

  1. "Rule #1 is that they continue much longer than you expect.
  2. "Rule #2 is that they expand faster near the end of the cycle … so just when you think they should have ended long ago, they seem more robust than ever.
  3. "Rule #3 is that no one wants to admit when it's over."

The Las Vegas real estate market seems to personify Rule #2.

"It is difficult to predict how long bubbles will last and when they will go bust," economist Mark Thornton wrote on Mises.org. "The best indicator is interest rates, because when the Fed forces rates down it tends to create bubbles, and when rates are forced upward bubbles tend to pop."

Suffice it to say that when the real estate bubble does pop in Las Vegas, the pain will be felt by many; from the big developers who borrow millions gambling that home prices will continue to soar, to people like the couple who sat next to me at the auction, who moved to Vegas just to speculate on real estate.

There is talk that the BLM auction scheduled for next January will be moved to a larger venue and Las Vegas seems to be the talk of the nation, the city is "on a roll," as they say. But, any dice shooter will tell you that hot rolls don't last forever. The market could "seven out" if mortgage rates continue to rise and bidders may want to stay in the casino and gamble rather than buying government land at inflated prices. However, that's not likely, as Mr. Jubak says with his Rule #3, no one will want to admit when it's over.