Monday, February 23, 2009

Equities vs. Housing... A Function of the Baby Boomers?

In response to my post Help Jake Understand: Home Prices in Terms of Equity (chart below) there were a lot of great explanations.

My personal favorite was by 'anonymous' poster:

It's not a reemergence of housing, but a death of equities, which can only get worse as the baby boomers age. A cohort reaching retirement age in bubble-level numbers is going to flee equities with a passion.

This started a little earlier than it was supposed to because of the collapse of the housing bubble, but the trend is written in the demographics.
In other words the chart shows equities beginning their outperformance in the mid to late 1960's (when baby boomers were reaching the investment stage of their life) and housing beginning to outperform when these baby boomers were began to leave the equity market in large numbers to invest in less risky fixed income and home #2 (the demand for fixed income may have contributed to the cheap levels of financing as demand for fixed income lowers required rates and home #2 and/or #3 were vacation homes for these boomers). While all of this is highly theoretically, very big picture, and all a guess, it makes sense to me...

This would explain why even with the recent mortgage bust, equities are still underperforming relative to the housing market... equities are the much more liquid of the two and you only sell what you can. He or she goes further:
Take an idealized version of the baby boom: a pimple curve with a baseline of 1, a start point of 1945 and an end point 20 years later at 1965. Slide this curve forward by about 20 years: an age where the first boomers really need houses. That puts the start of the pimple at 1965, ending at 1985. Slide another version of the curve forward by 45 years: an age when the boomers have real money to invest in the market. That puts the start of the pimple at 1990, ending at 2010. Let the two curves represent demand: the first for houses, the second for equities.
I took that idea and created the chart below. The blue line shows the ratio between stocks and housing from 1968-1988, while the red line shows the same ratio with the x-axis (i.e. the inverse of the ratio... in other words housing over equities) from 1988-2008.

Interesting stuff...


  1. Jake,

    Interesting pattern but I am not sure why the inverse is useful. I think something much more material to the point made by anonymous (albeit a different analysis) would be to look at relative housing prices for the house 'pimple years' adjusted for historic average changes and relative market cap for the equity 'pimple years' adjusted for historic values.

    Another option would be to run some correlations on the change in market cap/housing price vs. total number of people in a certain age band. I bet it is pretty high.

    Not good news for long term equity prices.

  2. the inverse just flips the numerator and denominator. thus it directly compares equity / housing from '68-'88 to housing / equity from '88-'08

    correlations would be interesting, but more work... this week is going to be tough to do anything that involves more work

  3. Hi,

    when I look at the chart I see a clear correlation to inflation at least until 2000. With spending for the Vietnam war increased inflation, stocks didn´t do well since financing became a lot more expensive. With Volcker and disinflation, stocks started to do better, with Greenspan flooding the economy with credit they did even ralley. I don´t think it has much to do with demographics, like you posted.

  4. here is support of your argument that inflation was the cause:

  5. From "Predictable Seasons of the Economy":

    The first season, Inflation and Innovation occurred roughly between 1968 and 1982. During this period, baby boomers entered the labor force and introduced revolutionary changes in technology, products, and business practices. These costly innovations were financed by scarce capital, which drove inflation rates to their highest levels in history.

  6. See following URL for graph:

  7. In other words, inflation was a secondary effect, not a cause.