Beware the False Bottom in Housing
By
Andrew Jeffery
Apr 23, 2009 9:40 am
Getting to the "bottom" of the housing market.
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In the coming months, housing-market data is likely to show price stabilization in many of the country’s hardest hit areas. Pundits, government officials and real-estate professionals will loudly proclaim the worst of our real estate woes are behind us. Back in reality, however, this data will simply reinforce the axiom that there are lies, damn lies, and statistics. The lion share of home price declines have, thus far, been focused in low-end markets -areas where property values became the most detached from housing-market fundamentals. Even though the high end is now declining, sales activity is still heavily concentrated in the country's most distressed markets.
Taking a look at the data below compiled by my firm, Cirios Real Estate -- which depict sales transactions for the part of the San Francisco Bay Area between San Francisco and San Jose known as the Peninsula -- one can see how rising home prices from 2003 to 2007 shifted sales transactions towards more expensive properties. This makes intuitive sense, and should naturally push up both average and median home prices.
Click to enlarge
Since the market peaked, however, notice how the percentage of sales of homes under $400,000 shot up to more than 50% of sales in the first quarter of this year, from as low as 9% in 2007.
Conversely, sales over $1,000,000 that accounted for almost a quarter of transactions in 2007 now make up less than 9% of total sales so far in 2009.
This heavy concentration of sales in low-end markets is skewing home price data to the downside, exaggerating the impact of depressed markets on broad measures of prices.
As the foreclosure epidemic spreads outwards to more well-to-do areas, and job losses force previously stable homeowners to sell into a weak high-end market, more expensive homes will begin to make up a greater percentage of total transactions. This dynamic -- not an overall rise in property values -- is likely to push up average and median home price measures. In other words, high-end markets will be falling as price discovery rears its ugly head, while low-end markets are flat at best, as price declines reach exhaustion levels and investors step in to buy. High levels of supply and looming shadow inventory of foreclosures will prevent meaningful appreciation in these distressed areas for the foreseeable future.
Meanwhile, data will show a housing market on the rebound.
No doubt, banks like Wells Fargo (WFC), Citigroup (C) and Bank of America (BAC) will cheer the end of the real-estate slump. Real estate professionals will pound the table that now's the time to buy (just like they said back in 2007). Government officials will proudly assert their mortgage-relief efforts were a success.
Nothing, however, could be further from the truth.
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(16)
Reply
2009-04-23 11:33:02
Missed the cause effect relationship
He didn't account at all for the fact house prices are falling, which produces much of the effect he describes.
2009-04-23 11:36:03
Another look at the data..
Andrew,
"full disclosure" - I am licensed real estate broker in California and have worked the peninsula. (No longer working in the field).
Agree with you on the median sales price potential to stabilize and even increase. Not sure I fully agree with your view on why.
Looking at the chart I would apply a different model. The increase in the sub $400,000 market is not "the low end". These are homes that sold in up to two brackets above being priced at distressed levels. (Homes that orinally sold for up to $799K are now fetching $499K.) If you apply that concept across the spectrum (with some leeway on the higher end; a property that changed hands at $2.5M two years back and now sells for $1.25M still on the upper bracket).
You can see the reasoning for the shifts.
In summary, part of the problem with how the data is being presented is this:
Many homes in the Peninsula are priced on the $1M to $2M bracket plus. Even a significant (50 or even 60%) drop in price would still keep them in the upper bracket.
The lower brackets have too much granularity and it is easy for a home to jump 2 brackets down in the current market correction.
I will expect that the chart at the end of the year will look a lot more like the 2003 bar, but also expect further contraction in the top 3 tiers as transaction volume stabilizes back at levels not seen since 1998. (Dot com/internet bubble facilitated a great many home purchases in the Bay Area.)
It would be nice to see a chart that goes back that far to see how the distribution breaks out.
In summary - Expect further price corrections, look for a stabilization in the median sales price and transaction volume to drop to pre 1998 levels across the board.
The more interesting issue is that the market is not making a distinction between "stabilization" and improvement. It is not clear to me what stabilization at current levels means for economic growth. We probably need to work off a great deal of over capacity since economic activity at this levels can not possibly support the capacity built up during the bubble.
"full disclosure" - I am licensed real estate broker in California and have worked the peninsula. (No longer working in the field).
Agree with you on the median sales price potential to stabilize and even increase. Not sure I fully agree with your view on why.
Looking at the chart I would apply a different model. The increase in the sub $400,000 market is not "the low end". These are homes that sold in up to two brackets above being priced at distressed levels. (Homes that orinally sold for up to $799K are now fetching $499K.) If you apply that concept across the spectrum (with some leeway on the higher end; a property that changed hands at $2.5M two years back and now sells for $1.25M still on the upper bracket).
You can see the reasoning for the shifts.
In summary, part of the problem with how the data is being presented is this:
Many homes in the Peninsula are priced on the $1M to $2M bracket plus. Even a significant (50 or even 60%) drop in price would still keep them in the upper bracket.
The lower brackets have too much granularity and it is easy for a home to jump 2 brackets down in the current market correction.
I will expect that the chart at the end of the year will look a lot more like the 2003 bar, but also expect further contraction in the top 3 tiers as transaction volume stabilizes back at levels not seen since 1998. (Dot com/internet bubble facilitated a great many home purchases in the Bay Area.)
It would be nice to see a chart that goes back that far to see how the distribution breaks out.
In summary - Expect further price corrections, look for a stabilization in the median sales price and transaction volume to drop to pre 1998 levels across the board.
The more interesting issue is that the market is not making a distinction between "stabilization" and improvement. It is not clear to me what stabilization at current levels means for economic growth. We probably need to work off a great deal of over capacity since economic activity at this levels can not possibly support the capacity built up during the bubble.
2009-04-23 11:49:38
Rentals too
An often overlooked dynamic looming on the horizon is the increase supply of new rentals that will be created from the increase sales of these lower end homes. Marginal investors of these lower end homes who would have otherwise flipped them now realize they can sell into this "lift" and will saturate the market with supply. This supply is being soaked by stronger investors who have no intent of selling and will imediatly put them into the rental market.
Assuming in the average low end town that 60% of all homes that sell ends up in the rental market and will remian there forever is not a good sign.
There are many more renters created in today's economy than new home buyers but the rental home supply is still growing faster than new household creation. Until the system figures out how to finance hopeful first time buyers the direction is still down . . . in more ways than one.
Assuming in the average low end town that 60% of all homes that sell ends up in the rental market and will remian there forever is not a good sign.
There are many more renters created in today's economy than new home buyers but the rental home supply is still growing faster than new household creation. Until the system figures out how to finance hopeful first time buyers the direction is still down . . . in more ways than one.
2009-04-23 13:49:08
Agree, but
I agree with Pete and Josue: the data are completely confounded. The article's main thesis is that commonly reported housing stats will show stabilization in pricing when in instead, Professor Jeffery asserts, the observed price effect will be due to a shift in sales volume from the low end of the market to the high end. This thesis is probably correct, and it illustrates why housing stats are best examined using repeat sale methodologyâ€"that way sales volume and price can be tracked for any given category of homes. But the data presented simply illustrates the very confound asserted in the article: namely, that non-repeat sales data, when aggregated, provide no clear understanding of price movement. This is because it is unknown whether the sales observed, are representative of the entire distribution of homes (or, representative of the homes that sold in the prior time period being compared). Prof Jeffery asserts that recent home sales are comprised disproportionately of lower end sales. And while the data appears to provide dramatic support for that conclusion, we know the effect is exaggerated because there are homes newly classified in the lower quintiles due to their drop in price.
I agree with Jeffery's basic conclusions and think they are important. It is true that medium home price based on non-repeat sales data will increase due solely to a migration of sales up the food chain. But evidence for his premiseâ€"that sales so far have been disproportionately comprised of lower end homes, and that sales of higher end homes will soon growâ€"is not provided.
I agree with Jeffery's basic conclusions and think they are important. It is true that medium home price based on non-repeat sales data will increase due solely to a migration of sales up the food chain. But evidence for his premiseâ€"that sales so far have been disproportionately comprised of lower end homes, and that sales of higher end homes will soon growâ€"is not provided.
2009-04-23 13:58:48
Missed the cause effect relationship
Hi Pete,
No doubt, home prices are certainly falling, it would be impossible to ignore this fact. My primary objective was to illustrate how the ways in which this data is collected, in addition to the market dynamics can skew how closely related statistics and reality actually are.
Andrew
No doubt, home prices are certainly falling, it would be impossible to ignore this fact. My primary objective was to illustrate how the ways in which this data is collected, in addition to the market dynamics can skew how closely related statistics and reality actually are.
Andrew
2009-04-23 14:08:56
Another look at the data..
Josue,
Great points -- you are right there certainly could be a more scientific way to look at this data. I picked the brackets somewhat arbitrarily, but mainly to prove the point that the "low end" is dominating market sales, dragging down median price simply by virtue of what a median price is.
I thin the sub-$400k sales simply represent a return to reality in areas that got out over their skis. Parts of Redwood City, East Palo Alto, Eastern San Mateo, East Menlo Park, parts of San Jose and Santa Clara, these are all areas where home prices "should" be under $400k to be affordable to your average family.
But you are right that in general the Peninsula is dominated by houses above $400k -- these just aren't selling right now. Partly due to economic considerations, partly due to the challenge in getting a jumbo loan.
We'll see how it plays out, everything I see here is that markets are getting increasingly localized, and that even zip code level data is too blunt to be truly meaningful.
Appreciate the local insight,
Andrew
Great points -- you are right there certainly could be a more scientific way to look at this data. I picked the brackets somewhat arbitrarily, but mainly to prove the point that the "low end" is dominating market sales, dragging down median price simply by virtue of what a median price is.
I thin the sub-$400k sales simply represent a return to reality in areas that got out over their skis. Parts of Redwood City, East Palo Alto, Eastern San Mateo, East Menlo Park, parts of San Jose and Santa Clara, these are all areas where home prices "should" be under $400k to be affordable to your average family.
But you are right that in general the Peninsula is dominated by houses above $400k -- these just aren't selling right now. Partly due to economic considerations, partly due to the challenge in getting a jumbo loan.
We'll see how it plays out, everything I see here is that markets are getting increasingly localized, and that even zip code level data is too blunt to be truly meaningful.
Appreciate the local insight,
Andrew
2009-04-23 14:14:24
Agree, but
HI Wade,
You make a good point, my assertion that home sales will tip back in the direction of higher priced homes is not data driven (yet), but from what I am currently seeing in the marketplace. Namely that foreclosures are causing forced sales in high end markets, and that buyers are looking to pick up higher priced homes that were previously too expensive.
As for the repeat sales method, (like the Case Shiller Index) is certainly better, but even that is using existing sales transactions, which are concentrated in more distressed areas. These sales will naturally have a higher price decline, since price discovery has happened first in these areas.
And as you mention, aggregate sales data doesn't help a lot when looking at a single home or even neighborhood. My concern is for the potential home buyers who will be lured back into the market under the guise some "stabilization" put forth by the NAR and media, meanwhile prices in their area are still dropping like a rock.
Appreciate the comments,
Andrew
You make a good point, my assertion that home sales will tip back in the direction of higher priced homes is not data driven (yet), but from what I am currently seeing in the marketplace. Namely that foreclosures are causing forced sales in high end markets, and that buyers are looking to pick up higher priced homes that were previously too expensive.
As for the repeat sales method, (like the Case Shiller Index) is certainly better, but even that is using existing sales transactions, which are concentrated in more distressed areas. These sales will naturally have a higher price decline, since price discovery has happened first in these areas.
And as you mention, aggregate sales data doesn't help a lot when looking at a single home or even neighborhood. My concern is for the potential home buyers who will be lured back into the market under the guise some "stabilization" put forth by the NAR and media, meanwhile prices in their area are still dropping like a rock.
Appreciate the comments,
Andrew
2009-04-23 14:25:38
False Bottom
Interesting analysis here, one thing missing in the discussion of who is buying and what will they do with the homes. Investors exist in different strengths( first time acquirers vs. experienced real estate investors doing vulture buys when price falls enough to suit their models) for sure, but the new rules for minimum down payment percentage are a large factor in price point differentiation within local markets. Locally, people with $70K down were looking to leverage that at 3% down two years ago, or a buy at $2.1M. Now, $70k leveraged at 20% down, buys only $350k home. This represents an immense collapse in previously held expectations for size and appointments and especially neighborhood for a perspective buyer. Many who have not lost jobs and do not have that fear, nonetheless, face a very different landscape of expectations, one greatly diminished from the very recent past. Getting over this disconnect in expectations will require much more time than most market forecasters are implying that we have to go to get back to the good ole days. NAR cheerleading will not prevent a continuing supply of failed option arm homes from further depressing prices in local markets where these prevailed well into 2007. These will continue to fail well into 2010 and trail off into 2011. These charts of option arms time frames are quite painful to study, as they indicate continued downward pressure for well into 2011. The flippers, aside, the lower income/low price homes populated these financial instruments, and will continue to feed sales at the lower price points, which will continue to skew any broadbased charting of data. Generalizations about pricing therefore, are trash talk for bobbleheads on the usual networks. Saving up for the big house, will take time, even for those with safe jobs, possibly an oxymoron. Builder for 40 years. cdk
2009-04-23 15:43:05
Agree, but
Andrew,
Thanks for your response. I agree repeat sales data are no panacea either. I guess a fair bit of sleuthing would be necessary to understand with precision the market as it continues to unfold. I do appreciate your article and comments, and those from others here. They provide much food for thought.
Wade
Thanks for your response. I agree repeat sales data are no panacea either. I guess a fair bit of sleuthing would be necessary to understand with precision the market as it continues to unfold. I do appreciate your article and comments, and those from others here. They provide much food for thought.
Wade
2009-04-23 15:43:26
Another look at the data..
Thanks for the reply.
The bottom line I think remains the same (and we are probably in violent agreement).
The data will be used to show two things: The market is stabilizing and that housing is "back" to being a great investment where your purchase will appreciate over time.
Lets see how it plays out.
The bottom line I think remains the same (and we are probably in violent agreement).
The data will be used to show two things: The market is stabilizing and that housing is "back" to being a great investment where your purchase will appreciate over time.
Lets see how it plays out.
2009-04-23 16:38:26
False Bottom
Charles,
I'd also add that in areas below the FHA limits, buying activity for turn key homes is through the roof. As more areas move into this window, the first time home buyers putting 3% down will be all over them and help work through supply. Another reason to fear the high end ...
Andrew
I'd also add that in areas below the FHA limits, buying activity for turn key homes is through the roof. As more areas move into this window, the first time home buyers putting 3% down will be all over them and help work through supply. Another reason to fear the high end ...
Andrew
2009-04-24 00:09:22
The problem here is where you are
Anyone that uses the Bay Are for statistics on overall property trends is living in their own bubble anyway. The Bay Area is and most likely will always be in a class by itself. People from all over the globe have migrated there for decades and therefore the stats are skewed towards a more national demographic than a average American. The bottom line is the cream of the crop from just about every corner of the globe seeks to live there so it really reflects the moods and whims of them. The issue facing this country isn't the economy in the Bay Area or any of the hamlets like Palo Alto, Cupertino or Sunnyvale; it's main stream, joe six-pack trying to make the mortgage and his daycare payment. Quoting home sales in the 800k range and observing slippage into the 650k range is really meaningless to the bulk of this country. Take a walk down Santana Row, Murphy Street or Castro Street and tell me you see a guy working a moonlight to pay his mortgage.
That's why we got here in the first place; everyone that can make a difference is looking in his own neighborhood to find the answers and most of their neighborhoods are lining golf courses or some boulevards surrounded by fences.
Terry
That's why we got here in the first place; everyone that can make a difference is looking in his own neighborhood to find the answers and most of their neighborhoods are lining golf courses or some boulevards surrounded by fences.
Terry
2009-04-24 00:55:33
The problem here is where you are
Terry,
You raise an important issue (by the way, mostly I use Bay Area stats because that is what I have access to in great detail, but there are some valuable interpretations to be gleaned from it).
What is interesting is that most people believe the Peninsula has been largely immune to large home price declines (I am talking people who live here and people who don't), because, as you say, most people out here live in a bubble. Slowly, I can assure you, the bubble is deflating (not popping).
A couple points. First, there are plenty of people in the Bay Area struggling to make a living. Oakland and Richmond in the East Bay are almost as bad as Detroit in terms of houses selling for under $10k, crime, vagrancy, etc. Unemployment in CA overall is as high as anywhere in the county. The Bay Area is unique, to be sure, and much of the people living here wouldn't know a hardship if it hit them in the face, but that is slowly changing.
Also, there is a widespread misconception that only "subprime" and "Alt-A" people maxed out credit cards, bought houses they couldn't afford and got into stupid mortgages. That's just not true. Plenty of people out here, who are still yet to be forced to sell their home, are horribly underwater. They just haven't lost their job (yet) or haven't burned through their savings (yet). Option ARMs will bring the Bay Area to its knees when they start resetting next year.
This whole thing is spreading from "subprime" to "prime" and it isn't stopping.
Another reason why the Bay Area isn't a terrible place to pull housing data from is that even though nominal prices are way higher than most parts of the country, when you slice up the neighborhoods, you still have the same demographics as anywhere else. It's just that you have to tack on a factor of 3 or 4 to get to the home prices. So looking at sales in bucket s (mine were admittedly somewhat arbitrary) and taking those buckets as a % of sales can be useful. A better way to look at this data would probably be to break it into quartiles rather than $ buckets.
Of course, the analysis is not perfect, but it echoes what I am seeing in most other parts of the country in terms of housing sales.
As for you last point -- I could not agree more. Talking to people who have never gotten their hands dirty in their respective field, or did so so long ago they don't remember what it was like, have a very hard time understanding what is actually going on. There are more of them in this area than you can shake a stick at.
Appreciate the comments - sounds like you know a thing or two about the Bay Area.
Andrew
You raise an important issue (by the way, mostly I use Bay Area stats because that is what I have access to in great detail, but there are some valuable interpretations to be gleaned from it).
What is interesting is that most people believe the Peninsula has been largely immune to large home price declines (I am talking people who live here and people who don't), because, as you say, most people out here live in a bubble. Slowly, I can assure you, the bubble is deflating (not popping).
A couple points. First, there are plenty of people in the Bay Area struggling to make a living. Oakland and Richmond in the East Bay are almost as bad as Detroit in terms of houses selling for under $10k, crime, vagrancy, etc. Unemployment in CA overall is as high as anywhere in the county. The Bay Area is unique, to be sure, and much of the people living here wouldn't know a hardship if it hit them in the face, but that is slowly changing.
Also, there is a widespread misconception that only "subprime" and "Alt-A" people maxed out credit cards, bought houses they couldn't afford and got into stupid mortgages. That's just not true. Plenty of people out here, who are still yet to be forced to sell their home, are horribly underwater. They just haven't lost their job (yet) or haven't burned through their savings (yet). Option ARMs will bring the Bay Area to its knees when they start resetting next year.
This whole thing is spreading from "subprime" to "prime" and it isn't stopping.
Another reason why the Bay Area isn't a terrible place to pull housing data from is that even though nominal prices are way higher than most parts of the country, when you slice up the neighborhoods, you still have the same demographics as anywhere else. It's just that you have to tack on a factor of 3 or 4 to get to the home prices. So looking at sales in bucket s (mine were admittedly somewhat arbitrary) and taking those buckets as a % of sales can be useful. A better way to look at this data would probably be to break it into quartiles rather than $ buckets.
Of course, the analysis is not perfect, but it echoes what I am seeing in most other parts of the country in terms of housing sales.
As for you last point -- I could not agree more. Talking to people who have never gotten their hands dirty in their respective field, or did so so long ago they don't remember what it was like, have a very hard time understanding what is actually going on. There are more of them in this area than you can shake a stick at.
Appreciate the comments - sounds like you know a thing or two about the Bay Area.
Andrew
2009-04-24 11:35:48
Fundamental flaw in this analysis.
There is a fundamental flaw in this analysis. If the prices have gone down then the number of homes under a particular value will increase. For example if in 2007, the median price of the home is 580K, then because of the 30% decline in the value ( Case Schiller approximation) , the median saleprice of the property should be 406K, which is very close to the current value of 390K . So yes people are buying low priced home but only by 4.1% and not by 30% as the writer would have us believe
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