Sub-prime loans are only part of the real estate story.

The current focus on sub-prime loans (note Google News Reference Volume) makes sense, I suppose, but the real estate bubble is a lot larger than just the sub-prime market. Speculation by investors had a lot to do with the rise in volume of sub prime loans, as did historically low interest rates, as did the desire among low-income families to own homes. However, speculation was hardly limited to the sub prime market.

The developers were selling lots, the builders were selling homes, and the buyers were snapping them up as fast as everyone could secure a loan. Otherwise prudent investors were buying second and third homes, looking for a quick profit. And not the inexpensive vacation homes and cabins of our parent’s generation. A half-million for a house by the water was nothing, and peoples were plowing their savings into $200,000 - $300,000 condos before they were even built. The results are easy to see. Below are some data points from a recent Fortune article by Tom Garnder:

Year over year, building permits are down 28%, building starts are down 16%, and foreclosures are up 35% nationwide. The sentiment indicator of the National Association of Home Builders is at a 26-year low. Shares of one residential construction company after another have fallen at least 40%.

A visit to some resort communities in Florida will reveal plenty of empty lots, unfinished buildings, and for sale signs. The very rich may be riding this one out, but many of the everyday rich are feeling the pinch. Even prudent investors were often hurt by the swift turn in the market.

The speculation impacted buyers who were looking to buy their primary residence as well. The surge in home prices made houses harder to reach, and therefore made variable interest loans with a low initial rate more attractive.  For many people in hot markets, even middle to upper-middle income families, it was an appealing way to stretch into a house that four years earlier might have cost 25 percent less. Even if these families can continue to meet their increased monthly payments as interest rates rise, they will have significantly less disposable income, and that has to impact the U.S. economy.

The signs were there. The articles were abundant. Most people had plenty of warning and simply elected to ignore it. I can’t fathom why, and I am hoping we get a little smarter before the next bubble hits.

My wife and I bought a house four years ago, near the peak of the residential market. Not great timing, but we were ready to move. My father told me that if I planned to live in a house seven years or more the smart play was to put as much as I could muster into the down payment and get a fixed rate, 30-year mortgage. With interest rates at historic lows I thought that was good advice and I took it. The value of my house may not appreciate five to 10 percent a year for the next five years, but it will hold its value until the market recovers and my monthly payments won’t increase.