May192016

High California home prices slow sales in 2016 homebuying season

The spring house price rally of 2016 shows signs of weakness because buyers can’t afford high house prices despite very low mortgage interest rates.

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Most housing analysts predicted a robust spring rally with increasing home sales and increasing prices. With low unemployment, an improving economy, and budding wage growth, the signs all pointed to a strong spring market. Unfortunately, now that house prices reached the previous peak in many areas, fewer and fewer buyers can afford them.

When house prices go up absent an increase in wages — which they have over the last four years in California — affordability declines. In simpler terms, if potential buyers don’t make more money, but prices go up anyway, fewer buyers can afford to buy, and those that do must substitute down to lower quality housing. This phenomenon prices out marginal buyers, and it removes the motivation to buy from other potential buyers because nobody wants to accept lower quality homes, thus reducing demand and slowing sales, which is what we are seeing today.

Buyers prefer stable 30-year fixed-rate financing, but when affordability becomes a problem, they substitute to less desirable properties and less stable adjustable-rate mortgages to close the deal. The substitution to less stable financing options lead to previous housing bubbles and busts. The Dodd-Frank law effectively removed these unstable loan products from the market and prevented a recurrence of the previous boom and bust cycles (at least so far).

With buyers unable to use toxic financing options because lenders won’t offer these products due to the new restrictions, the barrier of affordability becomes much more rigid, and future housing markets will be very interest rate sensitive. Whereas in the past, at this point in the cycle, we would see an explosion of adjustable-rate mortgages with increasingly unstable terms, so far in this new Dodd-Frank era, the cycle is broken — and that’s a good thing; in fact, that was the whole point of Dodd-Frank’s housing regulations.

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California Existing Home Sales Slip

Banana peels, inventory squeeze, and higher prices cause 2nd worst start to spring season since 2009.

May 16, 2016

Sales of existing, single-family detached homes in California totaled a seasonally adjusted annualized rate of 406,800 units in April, down 2.6% from a revised pace of 417,580 in March and 5.4% off the pace of April, 2015, the California Association of Realtors reported Monday.

This is a troubling and unexpected sign. Interest rates are near record lows, so that isn’t the problem. The economy produces good jobs, and unemployment is low, so that isn’t the problem. Once those factors are eliminated, the only plausible explanation is that current price levels price-out enough buyers to diminish transaction volume.

It was the second worst start to a spring home-buying season since the housing recovery began in 2009.

The housing recovery did not begin in 2009. House prices bottomed in early 2012.

The Realtor group attributed the drop to an imbalance between supply and demand

That’s one of those explanations that sounds intelligent but says nothing.

and a 5.3% increase in the median home price to $509,100 from March, 5.1% higher than the same month in 2015. April marked the first time in nine years that the median price has risen above the $500,000 level but remains below the pre-recession peak of $594,530 reached in May 2007.

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“Thin housing supplies were the driving force behind April’s sales drop with the most inventory constrained markets feeling the largest declines,” said C.A.R. Vice President and Chief Economist Leslie Appleton-Young. “In the San Francisco Bay Area, sales were down in eight of the region’s nine counties, with only Napa – which had a five-month supply of homes for sale – posting a modest 1 percent gain. As home buyers continue to move inland to find affordable housing, inventory will eventually be depleted, putting upward pressure on home prices.”

(See: Must-sell shadow inventory has morphed into can’t-sell cloud inventory)elevated_house_prices

The statewide median home price rising above $500,000 for the first time in nine years will undoubtedly exacerbate housing affordability for California home buyers,” said C.A.R. President Pat “Ziggy” Zicarelli. “As home prices continue their upward trend, especially in high-cost, major metropolitan regions, home buyers are looking to maximize their housing dollars by moving to even further outlying regions. For example, Bay Area buyers who were previously seeking homes in areas adjacent to San Francisco, such as Solano and Sonoma counties, now are looking even further in Sacramento, Stanislaus, and San Joaquin counties, as Bay Area adjacent counties become less affordable.”

Actually, no, they are not. (See: Buyers drive up house prices in desirable neighborhoods, leave the rest behind)

Other key metrics from C.A.R.’s April 2016 resale housing report include:

  • … inventory levels are running at roughly 60% of normal.  …

(See: Low housing inventory is an indicator of residual mortgage distress)

  • Mortgage rates dipped slightly in April, with the 30-year, fixed-mortgage interest rate averaging 3.61 percent, compared with 3.69 percent in March and 3.67 percent in April 2015, according to Freddie Mac. Adjustable-mortgage interest rates slipped, averaging 2.83 percent in April, down from 2.9 percent in March and 2.73 percent in April 2015.

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The affordability ceiling is a real barrier. The ability to repay rules coupled with the new mortgage regulations make the housing market very interest rate sensitive and much less prone to bubble behavior; however, this barrier is not an absolute: all-cash buyers could still push through it.  If prices do move into new bubble territory, it will do so on low sales volume. Financed buyers won’t be the ones pushing prices higher; all-cash buyers will, and since there are far fewer all-cash buyers than financed ones, then sales volumes will necessarily suffer.

Lenders who want to offload their inventory at peak prices will be happy to keep inventory restricted and let the new bubble form; after all, the next downturn will hurt equity players, not the banks. If we do inflate another housing bubble, it won’t collapse in dramatic fashion like 2008; instead, we would likely see another early 90s type decline with slowly deflating prices until affordability caught up again. Lenders will modify loans and sit on inventory just like last time around rather than cause another dramatic decline.

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