Aug292016
Can mortgage interest rates inflate a housing bubble?
As mortgage rates rise, home sales will decline, and if it goes on long enough, prices will fall.
In rocketry, escape velocity is the speed required to propel an object into a stable orbit. In a housing market, escape velocity is a rate of price and sales volume increase necessary to sustain an increase in demand required to push prices higher for the long term. Escape velocity is the elusive dream of real estate pundits, a group who doesn’t understand what it was or why it disappeared (probably forever).
In previous real estate cycles (pre Dodd-Frank), as prices went up and buyers were priced out of the market, lenders responded by offering affordability products toxic mortgage financing terms. As affordability products proliferated, prices kept rising, and many buyers accelerated their buying plans out of fear of being priced out and out of greed to capture appreciation. This unsustainable and self-reinforcing buying activity is escape velocity. All that was required to start the cycle was a period of rising prices — and a heavy dose of realtor bullshit.
For a housing market to embark on a long bull rally, it needs rising prices predicated on rising incomes and increasing household formation built on a stable foundation of steady interest rates and conventionally amortizing mortgages. For the last ten years, the market has bounded from one unstable prop to another in the hopes fundamentals would improve. The main reason prices rose is because inventories were so restricted by bank policy that the few active buyers in the market were forced to pay more.
Today, sales momentum is clearly slowing down, a troubling sign considering mortgage rates are near record lows.
We’re in a new housing bubble: Why it’s less scary this time
Diana Olick, August 29, 2016
A decade ago, the U.S. housing market swelled to a bubble of epic proportions. Too many homes were built, and too many people were willing to pay top dollar for them with the help of faulty mortgage products.
When the bubble burst, millions lost their homes and their savings. Home prices dropped for six years, finally hitting bottom in 2012; today, home prices are about 1 percent shy of that 2006 bubble peak.
Which is a testament to the effectiveness of can-kicking bad loans instead of foreclosing on them.
The difference today from a decade ago is that these prices are not being driven by faulty mortgage products that people can’t afford. They are being driven by a severe lack of supply of homes for sale, as well as near record low mortgage rates.
“If you look at the percent of the median income required to buy the median household, we’re at 21 percent, which is very healthy,” said Ben Graboske, senior vice president of data and analytics for Black Knight. “In the bubble years it was 36 percent. Rates are super low, and that is a big impact on affordability.”
The concern, however, is if those rates start to move up. Then affordability would weaken and home prices could move lower.
Assuming a consistent payment, higher mortgage rates decrease the size of the loan and reduce the amount borrowers can bid on real estate. While it is possible the federal reserve may print enough money to spark wage inflation, given the high levels of residual unemployment and a low labor participation rate, wage inflation is elusive and almost certain to come later than rising mortgage rates. Therefore, if rising mortgage rates results in smaller loan balances, then either sales volumes will go down, or house prices will go down, or perhaps some combination of both. This isn’t speculation; it’s basic math.
(See: Fewer home sales or lower prices sure to follow higher mortgage interest rates)
Also, low rates may make homes affordable, but a sizable number of potential buyers still can’t qualify for those low rates and/or cannot meet the down payment requirements. As home prices rise, so too does the down payment.
“It’s the credit box. There are a lot of people that cannot qualify because they don’t have the credit or the equity,” said Graboske, adding,
The huge down payment barrier prevents many people from buying, particularly at price points above the conforming limit where 20% down is a must.
“A portion is not buying because housing had a reputation for depreciating for five years, and people don’t like buying depreciating assets.”
I don’t see this attitude much anymore. People are cautious — and they should be — but unlike ten years ago when the mania was in full force, the kool-aid intoxicated ignored the signs, but more rational people saw the bubble for what it was and chose not to participate. The debates in forums like this one were epic.
The headline of the article is catchy, but it fails to make the case that today’s house prices are a bubble.
We’re not in a housing bubble, Redfin economist says
Michelle Fox, August 29, 2016
Despite sky-high real estate prices, there is no housing bubble, Redfin’s chief economist, Nela Richardson, told CNBC on Monday.
“We just have really high prices and shrinking number of transactions. In fact, I think the market is contracting instead of expanding into a bubble,” she said in an interview with “Power Lunch.”
I have no idea what she is talking about when she talks about expanding into a bubble.
Nela Richardson fails to understand that a decline in transaction volume is the first sign of a market top. At a market top, sellers expect buyers to raise their bids, and buyers don’t cooperate, so transaction volume declines. If sales remain sluggish the following year, prices begin dropping as motivated sellers decide to get out.
I’m not saying today’s prices are a bubble, but Nela Richardson’s argument against a bubble is completely incoherent.
Richardson said a bubble is usually marked by speculative building and buying, neither of which is happening right now.
“New construction is short of historical norms. We need more inventory, not less,” she said.
There is plenty of speculative buying in coastal markets, and if there is a bubble anywhere right now, it’s in those markets where people are buying because they believe home price appreciation will provide them a windfall.
Meanwhile, the investor share of existing homebuyers has also been really low, making up about 10 percent of the market, and it’s been a difficult environment for homeowners who want to trade up.
In fact, sales dropped last month due to chronically low inventory, she said.
“A lot of them are staying put, choosing to renovate and stay in their existing homes instead of speculate on a growing market and get something bigger.”
The problem with housing is and always was affordability, and the long-term decline in mortgage rates has artificially improved affordability. (See: Housing market impact of 25 years of falling mortgage interest rates)
For example, the average monthly interest rate from 1993 to 1999 was 7.63%. The average monthly cost of ownership was $1,538 in Orange County. That combination would finance a loan of $223,011. Add a 20% down payment, and the home price would be about $275,000 ($278,763 to be exact). Over the last 12 months, the median monthly cost of ownership in OC was $2,102. If you plug in that number in place of the $1,538 from 1993-1999, the resulting home price would be $380,089. The last reported median home price for OC was well over $500,000. House prices have been boosted about 30% due purely to the decline of interest rates from the mid 90s to today.
So now let’s assume mortgage rates will revert to the mean. What will a long-term rise in interest rates do to home prices? Interest rates must rise from about 4.5% to 7% to reach historic norms. If this happens over a 7 year period — which is a very gentle rise — rental parity will still fall from its current level even as rents and fundamental values rise. Since rental parity will serve as a more rigid ceiling on appreciation in the future, when prices rise beyond this barrier, it will serve as a major drag on appreciation.
In the absence of rising wages, when mortgage interest rates go up, one of two things will happen: either sales will fall, or prices will fall. Since we don’t have a free market, it seems more likely to me that sales will fall and remain depressed for a long time.
[listing mls=”LG16190283″]
O.C. homebuilder sales soar nearly 69% in 22-day period
Orange County homebuilders are enjoying a hot-selling summer.
Builders sold 371 homes in the 22 business days ending Aug. 8, up 68.6 percent from a year ago, CoreLogic reported.
The jump is part of a year-long selling surge by developers who last year were caught with limited supply after a hot-selling 2014. Mid-month homebuying data can be volatile, but in 2016’s first half new homes sales were 22 percent above the 2015 pace.
Builders — with sales equal to 10 percent of the market — are having success with some proportionally lesser-priced homes. Orange County’s median selling price for new homes in the period ended Aug. 8 was $742,000, down 7.2 percent from a year ago.
Overall, the local homebuying market is relatively flat. Countywide, 3,601 Orange County residences — new and existing — sold in the 22-day period ended Aug. 8, up 1.7 percent from a year ago. Sales rose in 39 of 83 Orange County ZIPs compared to the year-ago period.
Orange County’s median selling price for all residences was $645,000 in the period, up 4.9 percent compared to a year ago. Prices were up in 54 of 83 Orange County ZIP codes compared to the previous year.
It’s part of a noteworthy summertime sales push at Orange County real estate’s upper end.
In the 27 priciest ZIPs — median sales price beginning at $715,000 — sales were up 8.9 percent compared to a year ago. That contrasts to sales in the 27 least expensive ZIPs — median sales price at $565,000 and below — that fell 3.1 percent compared to a year ago.
In the eight Orange County ZIP codes with median selling prices above $1 million, sales totaled 258 homes, up 14.7 percent compared to a year ago.
As for other slices of the Orange County market:
• Single-family home resales totaled 2,229 — down 2.7 percent from a year ago. Median selling price was $700,000 — up 2.9 percent from a year ago.
• Resales of condos were 1,001 — down 2.7 percent from a year ago. Median selling price was $460,000 — up 7.0 percent from a year ago.
Median selling price was $700,000 — up 2.9 percent from a year ago.
The 500k death grip now sits at 700k.
I haven’t seen el O in a while. I hope he comes back.
He signed-off a couple weeks ago, saying something like, “I’ll see you in a few weeks. Have a good summer.” Maybe he’s working on Trump’s minority outreach team? 😉
There are dozens of earth movers grading Orchard Hills Village III.
While their ultra-high end may be languishing, apparently, the bulk of their market is doing well.
Why rent control won’t fix Orange County’s price problem
Living in Orange County has rarely been more expensive. Rents in Orange County (OC) are up 28% in five years, just below the average 32% increase in home prices over the same time. Meanwhile, the wage increases required to pay for these rent increases fall far short, as incomes have increased at half the pace of rents, rising about 15% in five years.
Real estate agents survive and thrive when renters consistently transition to homeownership. But with high rents and slow income growth, how is a renter to save up for a needed down payment?
Even with a low-down payment FHA-insured mortgage, a 3.5% down payment for an average home in OC is at least $23,000 — more than the average cost of renting for one year in OC. Thus, high rents often preclude renters from homeownership.
Rent control misses the big picture
In OC, much like in the Bay Area, rent control can only be a short-term solution to address the governmental failure to foresee and zone for today’s rapidly worsening housing shortage. Yet, even with today’s low housing supply, the political pressure to implement some form of rent control is practically nonexistent.
Ultimately, rent control is a negative economic solution, as it weakens growth by:
forestalling natural and gradual gentrification which can raise property values;
perpetuating the balkanization of “rich” versus “poor” neighborhoods;
reducing fertile turnover of residential and business occupancies; and
removing the motivation for construction, limiting rental supply and increasing rents for non-rent-controlled projects.
As a consequence, rent control is a political inversion of the landlord/tenant relationship. The landlord of a rent-controlled apartment:
is constantly hoping their tenant will move out to leverage increased rents (even though the tenant who remains avoids the expenses of turnover and vacancy); and
has less incentive to properly maintain their property since their net operating income can only be increased by reduced operating costs, not increased rental income.
In the end, the only way to boost supply and meet the abundant demand for housing is to implement inclusive zoning changes to accommodate OC’s thriving population. This will organically keep demand in check and cure the supply crisis. Denser, taller buildings with fewer parking requirements are needed to help builders increase the housing supply.
Meanwhile, the state government is slow to enact preemptive, statewide zoning mandates. Thus, it is left to the local governments and the few, vocal residents who attend city council meetings where zoning decisions are often made.
The votes are in: Prop 13 maintains loyal following
Proposition 13 (Prop 13) shows no signs of losing favor among first tuesday readers: in a recent poll, 82% said Prop 13 is not a regressive tax amendment and does not need to be reformed.
This majority opinion is one long-held by our readers and remains unchanged from a 2013 poll yielding nearly identical results — 81% voted in support of Prop 13 then.
Prop 13 poll results
Why the Prop 13 adoration — and criticism?
Prop 13 has been commended by many in the real estate community as necessary legislative reform, providing tax relief to vulnerable homeowners — particularly those pensioners over the age of 55 — releasing them from the insatiable tax trap bought on by reassessment at distorted property values.
Prop 13 garners support due to its tax limitations which:
reduce annual property tax assessments to 1% of a property’s cash value at the time of purchase;
restrict inflation of the property’s assessed value to no more than 2% a year; and
prohibit reassessment of a property at the current market rate until the property changes ownership or undergoes new construction.
It is undisputed that Prop 13 provided one solution to the ‘70s-era tax issues prompting its inception, but is it the tax savior proponents make it out to be?
Despite Prop 13’s popularity, it does have some critical drawbacks.
Prop 13 disproportionately impacts new homebuyers whose higher property tax bill subsidizes existing homeowners and provides a larger share of local revenue to pay for public services. The asymmetrical assessment of new and existing homeowners has earned Prop 13 the nickname of the “welcome stranger” law.
Not only does this tax plan reward perpetual homeownership at the expense of expanding homeownership to newcomers, but it also unjustly leaves some with the short end of the stick based solely on when they purchased their home. For example, a homeowner who purchased their home prior to 2003 pays a property tax rate shielded from the price inflation of the mid-2000s housing market, while a homeowner who bought during the recent 2013 speculator price wars and government failures to zone for a sufficient housing supply will pay higher property taxes far after their home’s value has deflated.
Without Prop 13, the people that bought in 2011 would have had their taxes increased anywhere from 60-100% over the past 5 years. How is that fair? The reason Prop 13 was passed in the first place was to prevent citizens from being punished by the taxing authorities over the volatile swings in real estate prices. People buying a house should have some idea of what their long-term tax burden will be, and existing owners shouldn’t have to worry about how to afford their taxes due to speculative market forces out of their control.
With your condo I assume you got a tax break when values went down, but with Prop 8, you’ve faced escalating property taxes.
Can you share your experience with that?
I had to appeal my property tax bill three separate times during the downturn. They have the “hearing” at the old courthouse in Santa Ana where civil weddings are also performed. You go up against the assessor and provide your comps in front of a panel of three volunteer real estate “professionals”. The whole process is a sham IMO, designed to make people feel like they are getting a fair hearing, when really the assessor has the advantage of having done hundreds of these hearings and the panelists aren’t legal professionals or appraisers. It’s easy for the assessor to run circles around them and the assessor’s objective is to get as much property tax as possible, not getting to the true value.
Anyway, the first time I went in was 2007 when the downturn was still new and not quite acknowledged as being a real thing. The assessor agreed with my lower value right away, which told me I wasn’t aggressive enough and he knew it was worth less. I’ll always remember one of the real estate professionals saying they had never heard of Zillow and couldn’t fathom that a private citizen could pull their own comps.
The second time was in 2008 and they had wizened up that people can pull their own comps. They ruled against me on a technicality because I didn’t put my comps on their approved government form. It was bogus and the assessor was using an 8 month old comp to value my property when the market was in a free fall, assigning way too high of value as a result.
The next couple years they still overestimated my value, but it was close enough that it was not worth my time to miss work and drive to the courthouse. I figured that my savings would have been $100 or less.
The last time I appealed was 2011 and this time I was prepared. They had such a huge backlog that the assessor wanted to negotiate a settlement over the phone. I intentionally pegged my value way below market value thinking that as we negotiated we would “meet in the middle” at the true value. Well, turns out the guy that I talked to was new to the department and not a very good negotiator and I was able to convince him of a value that was lower than market, IMO. Of course I made him feel like he won by coming up from the original value that I requested. So I felt like my overwhelming victory the third time helped make up for the loss on a technicality the second time. The dollar amounts roughly offset each other.
Since those days, the value of my condo has been increasing and the assessed value has been increasing by higher than 2% due to Prop 8. The assessor has actually come in under market value a couple of times, so no need to appeal the value at this point. I think the assessors office has gotten more accurate overall as the crisis and recovery has worn on. In the mid-00’s they didn’t have to be good at appraisal because home values never went down, and the first few years of the crisis they were not prepared to deal with appraising thousands of properties accurately or the overwhelming volume of appeals challenging their values.
Thanks for sharing.
With most buyers maxing out what they can afford, a 60%+ increase in property taxes would be very painful to them.
Has the tax increases hurt you much, or is it such a small portion of your monthly costs that it hasn’t been noticeable?
I would say it’s noticeable but the interest rate has a much bigger effect on the overall payment amount, and that is still down 2% from my original note rate. Overall, I want the price of the condo to recover so I’m not going to sweat the taxes going up slightly as a result. For every $100 increase in taxes, it means my equity has gone up $10,000.
The only real negative with Prop 13, as it relates to residential property taxes, is that it can become a barrier to otherwise moving to a more desirable home/location.
Jerry Brown’s housing hypocrisy
Jerry Brown worrying about the California housing crisis is akin to the French policeman played by Claude Rains in “Casablanca” being “shocked, shocked” about gambling at the bar where he himself collects his winnings.
Brown has long been at the forefront on drafting and enforcing regulations that make building housing both difficult and very expensive. And now he has pushed new legislation, which seems certain to be passed by the Legislature and signed by the governor, that makes it worse by imposing even more stringent regulations on greenhouse gas emissions, mandating a 40 percent cut from 1990 levels by 2030.
The press and activists may cheer the new bill, which will require massively expensive and intrusive measures likely to further raise housing costs. A 2012 study by the California Council on Science and Technology found that, given existing and potentially feasible technology, cutting back carbon emissions by 60 percent, roughly comparable with the new legal mandate, would require that “all buildings … either have to be demolished, retrofitted or built new to very high efficiency standards.” Needless to say, this won’t do much for housing affordability.
Brown and the middle class
Brown’s housing policies offer little to the middle class. Densification, for example, has no record of making housing affordable much of anywhere. It is also not what most people want, which is one reason that middle-class families, particularly young families, continue to move out of the state, according to an analysis of 2014 Internal Revenue Service numbers.
California millennials already have among the lowest rates of homeownership in the country, with many staying with their parents after their mid-twenties. Brown’s proposal would have at least produced small units, although such units are hopelessly unfit to attract young families.
The biggest victims: The poor, the working class and the new generation
Brown’s land-use regulation policies – including those tied to greenhouse gas emissions – have been disastrous, especially for low-income households. According to the U.S. Census Bureau, California has by far the highest poverty rate in the nation of any state when adjusted for housing costs. With a rate 50 percent above that of Mississippi, for low-income households, California is regulating itself into something of a third-world country, with large portions of the population stuck in permanent poverty.
Renters in the Los Angeles metropolitan area are paying 48 percent of their monthly incomes on rent, up from 36 percent historically. In 2013, the Riverside-San Bernardino metro area had the highest poverty rate among the 25 largest metropolitan areas. Los Angeles (including Orange County) tied with Phoenix for the third-worst poverty rate.
Market Conditions Improve Chances of Rate Hike, Says Yellen
In a recent speech at Jackson Hole, Federal Reserve Chairwoman Janet Yellen supported the anticipation of two possible rate hikes this year, noting that the case for a rate hike has strengthened.
“In light of the continued solid performance of the labor market and our outlook for economic activity and inflation, I believe the case for an increase in the federal-funds rate has strengthened in recent months,” Yellen said.
Job gains have averaged 190,000 over the past three months, and in addition to the rising labor market, experts believe that the “strengthening” Yellen points to could be based on the bolstered dollar and the recovery of economic confidence post-Brexit, which stalled rate predictions back in June.
Yellen commented heavily on the need to refresh the Fed’s toolkit in order to hold off the next recession. Friday’s release of the August jobs report will likely offer insight into when the next rate hike may occur.
Mortgage Debt Continues to Grow
http://eyeonhousing.org/2016/08/mortgage-debt-outstanding-continues-to-grow/
Given the steep rate of principal amortization on low-interest loans, they have to underwrite a lot of new mortgages to keep mortgage debt growing. Of course, that also means the Federal Reserve is buying a lot more mortgages too, which should help keep rates down.
Case-Shiller reaction: Housing markets still strongly dominated by sellers
Homebuyers still face challenging market
http://www.housingwire.com/articles/37903-case-shiller-reaction-housing-markets-still-strongly-dominated-by-sellers
Too Rich For Words—–Chinese Envoy Whines About Vancouver Anti-Bubble Tax
Some time in the early days of August, Vancouver’s housing bubble burst with a bang, not a whimper, just days after the July 25 announcement by British Columbia of a 15% luxury real estate tax, whose purpose was first and foremost to stop the Chinese “hot money” invasion. It succeeded. As we reported two weeks ago, what happened next was dramatic: at least in the first days after the tax was implemented, the local market essentially imploded, with the average City of Vancouver home price dropping to $1.1 million, down 20.7% over a period of only 28 days and down 24.5% over the last three months.
Confirming that the market has found itself in a state of paralyzed shock, there were only three home sales in West Vancouver between Aug. 1 and 14 this year, compared to 52 during the same period last year. That was a decrease of 94% (full details here).
Needless to say, while most Vancouverites had long been priced out of the domestic real etate bubble – and some say were hoping for the recent substantial pullback in prices, if not outright crash – the biggest losers from this sudden, dramatic collapse, were foreign buyers, mostly the Chinese, whose aggressive, “buy at any price” money laundering “purchase tactics” have been duly documented on this website for the past year.
The result was swift: as Bloomberg reports, China’s top envoy in British Columbia slammed the Canadian province’s new 15% tax on foreign home buyers, questioning the justification behind the hastily imposed measure.
“Why a 15 percent tax? Why now? Why this rate? What’s the purpose? Will it work?” Liu Fei, China’s infuriated consul general in Vancouver, said in an interview with Bloomberg. “The issue is how to help young people afford housing,” she added. “I’m not sure even a 50 percent tax would solve the problem.”
China Consul General Liu Fei
Ah, ye olde redirection “think of the young people who can’t afford housing” trick… just ignore the not so young Chinese money launderers who have been scrambling to funnel billions in (mostly illegally obtained) funds into local real estate to avoid the ongoing, and accelerating, Chinese currency devaluation. As for “solving the problem”, we would say a 20% drop in one month has done a rather admirable job of just that.