Commercial PropertyIf Affordability Is So Low, Why Is The Market So Strong? C.A.R."s Economist Explains
The California Association of Realtors" "2006 Housing Market Forecast" is highly anticipated because one in nine U.S. residents lives in California.
The state, along with Florida and parts of the west coast, have seen record price increases to the point that affordability is flirting with record lows. Less than 16 percent of California residents can afford to buy a median-priced home in the state.
The minimum household income needed to purchase a median-priced home at $540,900 in California in July was $125,670, based on an average effective mortgage interest rate of 5.73 percent and assuming a 20 percent downpayment.
By contrast, the minimum household income needed to purchase a median-priced home at $219,000 in the U.S. in June 2005 was $50,790.
It"s expected that the median home price in California will increase 10 percent to $575,500 in 2006 compared with a projected median of $523,150 this year, while sales for 2006 are projected to reach 630,610 units, falling 2 percent compared with 2005.
The last time affordability was so low, California housing lost value and took years to recover. According to Local Market Monitor, Los Angeles homes topped the market at $220,200 in 1990. By 1996, they were worth $176,300, a 20 percent loss, not counting what the houses would have been worth if they had kept pace with inflation. The homes would have lost more than 34 percent of their value, according to CNN journalist Les Christie"s calculations.
However, prices in Los Angeles and across the state rebounded exponentially following the bust and as much as 103 percent in the last five years.
In July 2005, the median price of a home in Los Angeles was $543,890, but affordability had fallen to 14 percent.
Did affordability issues cause the housing bust in the "90s, and is it about to happen again?
No, says C.A.R. Chief Economist Leslie Appleton-Young. California"s bust was not affordability-driven; it occurred only after the economy went into a recession.
"The market peaked in 1989 and then for several years, it didn"t plummet, but got relocated inland," she says. "Then we went into strengths in different areas, and then we had a recession. For six years, there was a decline in some areas, but some areas declined as little as five percent. I don"t think housing will create a recessionary environment."
Appleton-Young says she is frequently asked that if affordability is so low, why is the market so strong?
"The market has been dominated by trade-up buyers," explains Appleton-Young. "You have a growing schism between housing-haves and housing-havenots. People have gained equity in a short time and that"s enabling them to trade-up and buy vacation homes. The baby boomers have owned homes for 10 or 20 years and equity is important. The people who are being impacted are the ones who aren"t in. The ones who aren"t in are priced out of opportunity."
That"s what"s causing some homebuyers to move inland. This partially explains the growing popularity of Sacramento, which Local Market Monitor calls 46 percent overpriced. Twenty-one percent of homebuyers can afford a home in Sacramento, where last year at this time more than 26 percent could.
They are also exiting the state looking for warm weather property in Nevada and Texas.
"The data isn"t strong," says Appleton-Young, "but we have relocation reports, IRS data, and anecdotally that one-third of the people going to Las Vegas are from California."
"One thing is we think price appreciation in the bay and coastal regions will be in 6 to 12 percent range," says Appleton-Young, "and the central valley will be in the 18 percent range. There will be a range of appreciation whether you are in coastal or inland."
Any lessons for national housing bubble watchers?
"I see a market that will be a soft landing," says Appleton-Young. "The areas where there should be concern are any communities with significant investor presence, like in the central valley and in new home construction in New Mexico and Arizona. When a significant part of the market is buying on prices going up and then they sell, that"s risky. Prices are so high in the coastal areas, it"s not an issue or reality. There is a supply shortage and that keeps a little bit of net under the market. As long as the economy grows and the rate environment stays reasonable we"ll see a robust market, but I do think the top of the cycle will be in 2005."