Signs of Hope and Recovery
Chris Schell has provided our local REALTORS with this information.
The MAJOR DIFFERENCE IS WE ARE A LOCAL MARKET WITH WELL OVER A YEARS WORTH OF INVENTORY. THAT MEANS HOME PRICES WILL NOT GO UP LOCALLY!
That said , here is some very interesting data.
We are improving some locally as homes are selling and the “vibe “ is much more positive but there was only 1 more sale for Lewes and Rehoboth in 2009 versus 2008. We have a hard ,long road to cross but we are headed in the right direction and if nationally things can work itself out, it will here too. Again I am bullish for 2010. We just don’t think there will be much movement in pricing except for maybe down a tad or just flat.
We were unable to have the graphs load. Please call or email us for the data. Sorry for the inconveniance.
Brian and Jenn
Wow. That was a heck of a year. We just went through what will likely be one of the worst, if not the worst, housing markets in recorded history. We just experienced a recession that will be included in history textbooks for centuries to come. We saw an 80% decline in new home sales and almost witnessed the collapse of our entirely financial system.
I’m going to talk about a few things in this email that I hope will be helpful to you. First, I’m going to review where we stand right now in the real estate cycle and in the economy . . . in short, our nightmare is over. Then, I’m going to talk about how costly it would be for your clients to wait to buy a home . . . I’ve found that most people don’t really understand how to value the cost of waiting 6 months to a year to buy a home (specifically, they don’t fully understand the effect an increase in interest rates has). I’ve attached an Excel Spreadsheet that I created that will help you help your clients by calculating what they can afford and also how much it will cost them to wait. I think you’ll find this simple spreadsheet to be a great sales tool for you . . . I’m happy to add to it or change it if you have any ideas on how to improve it. (You probably shouldn’t read this on a Blackberry . . .you won’t be able to see the graphs)
Again, I only write these emails in hopes that the info in them may somehow help you . . . so, if these emails annoy you because you think I’m trying to make myself a self-proclaimed “guru”, I apologize and ask that you simply not read the email and feel free to ask me to take you off the email list.
Incidentally, I would love to provide you all with local data/analysis but I was denied access to the MLS . . . if any of you have any pull with SCAOR, it would be great if you could help me get access . . . I only want it so I can analyze what is happening in our market and provide you all with this analysis.
In a prior email I mentioned that I thought the next couple of years were going to be a GREAT time to be a realtor. Why? The reasons are pretty simple:
· You have a plethora of product (homes on the market to sell) with more likely coming on the market as people who’ve been waiting for the downturn to end to list their homes start listing them
· Buyers are starting to come back to the market quickly (as you’ll see in the graph below) and I expect sales to remain strong as there was undoubtedly pent up demand created by the historically low sales rates of the past couple years.
· There are much fewer of you now so you have less competition . . . I would say there are probably 30% less Realtors now then there was in 2005 . . . maybe even 50% less. I would imagine the NAR has a stat on this. The number of licenses probably went down by a lot less than the real # of practicing realtors . . . meaning, I’m sure there are many realtors who kept their license even though they changed professions.
· You have very little competition from New Homes as the entire new home industry is a fraction the size it was before and builders are still not building spec product.
· Specific to our area: The boomers are just entering their retirement years and our relatively low cost of living compared to surrounding states makes Southern DE a very attractive place to retire. Plus, this area is awesome as we already know J
HOME SALES AND INVENTORY
Below is a chart of seasonal adjusted Existing Single Family Home sales Nationwide:
I use Single Family Home data because it tends to be less prone to errors and random swings . . . for some reason, multifamily data can be all over the place. All data is current through November. Looking at the chart above, we are clearly “out of the woods” from an existing home sales standpoint. Granted, some of these sales(30%) are foreclosure or short sales but hey, they are still sales and clearing out this distressed inventory is a good thing.
You’ll hear some of the “Professionals” talking on CNBC about how foreclosures are going to cause another leg down in housing but don’t believe this crap . . . the fact is, they’ve been calling for this for months now and every month, inventory declines even though more homes are going to foreclosure. So, the pace of sales is still higher than the pace at which homes are being listed and foreclosures are being put on the market. The two charts below show Existing SFH inventory (the first chart is actual inventory and the second chart is months of inventory).
As you can see, because real inventory is dropping and sales are increasing, months of inventory is dropping fast just as we predicted in the email I sent you all in July. However, as I mentioned before, inventory is seasonal and typically increases starting in January until about July. I don’t have enough info to gauge how many foreclosures will come on the market so it’s tough to predict what inventory will do this Spring but my best guess is that absolute inventories will increase a little over the next 6 months and that Months of Inventory will also increase a little (as they typically do in the 1st half of the year). However, I don’t think they will increase enough to cause home prices to experience another leg down.
One of the reasons existing home inventories are dropping is that there is very little competition from new homes. New Home inventories are at historically low levels as most builders are still shell shocked from the downturn and either can’t or simply aren’t building any spec product. See charts below:
New home inventory is the lowest it’s been since 1970. Even more astonishing is how low Housing Starts are (Chart below). Housing Starts are 40% lower than the lowest prior point going all the way back to 1959 . . . that’s crazy especially considering we have more than double the # of people in the U.S. now than we did in 1959.
New Home Sales haven’t really recovered much yet but this will happen as soon as the “deals” in existing homes are all sold off. New Homes simply can’t compete with existing homes in most areas of the country because the cost of building a new home is higher than what equivalent existing homes are selling for. This is why most builders still aren’t building much. New home sales through November are shown below.
I expect new homes sales to improve dramatically starting now. The inexpensive distressed existing home inventory is pretty much gone in most parts of the country, opening up the door for new home sales to start increasing.
I’ll talk more about housing inventories later when I discuss the bank issue and how tight AD&C credit is going to create a housing supply problem (too little supply, not too much) in a year or so which is going to lead to dramatic price increases . . . I know, sounds crazy but I’ll explain later why I believe this. (NOTE: I decided not to cover this topic in this email because the email is already long enough . . . I’ll cover it in a future email)
HOME PRICES
Existing home prices have almost definitely bottomed. As I spoke about in a prior email, median home prices show large seasonal effects making it tough to tell exactly if and when prices have turned up because you really need to remove the seasonality from the data to see what’s going on. However, I’m fairly confident that the low median existing home price hit in January 2009 will hold. To be more accurate: It’s not that home prices are seasonal . . . it’s that the types of homes that sell are seasonal . . . so, the price of a specific home is NOT seasonal (doesn’t fluctuate with seasons) . . . BUT, there is a greater amount of larger more expensive homes sold in the Spring than at other times of the year so the Median Price of all homes sold in the Spring months tends to be higher. For this reason, year over year price change (2nd Graph Below) is probably the best stat to look at when using the NAR data (but year over year data inherently exhibits a 6 month lag to what is occurring today).
If you look at the 1st chart above, you can see that the slope of the downtrend in prices during the 2nd half of 2009 was much better (not as steep) than the downtrend in 2007 or 2008. This tells me that with the seasonality removed from the data, prices have or are very close to bottoming. I would expect a pretty steep uptrend in prices during the first half of 2010. I think median existing home prices will rise back up to close to $200k by June of 2010. All of this hinges on how bad the foreclosure problem really is in the next 6 months but I personally think the problem will not be nearly as bad as the media is making it out to be. In fact, it might be best to look at the Case Shiller Index here. Although the Case Shiller Index focuses only on Major Metro areas, the way in which the index is calculated removes the seasonal effect. Another aspect of this index is that it attempts to track the real price change of homes in that area instead of just tracking the change in median prices of the homes that sold that month . . . for this reason, most economist think the Case Shiller Index is more representative of the real price changes occurring in the market. Below is the Case Shiller 10 City Composite Index.
The low in the chart above was recorded in April 2009 and prices have been up every month since then. This is a very good sign. In fact, since April, Case Shiller prices have been rising at an 11% annual rate . . . not too bad. Also, as you can tell by the graph, Case Shiller home prices are not subject to choppy up and down swings and tend to continue in the same direction for a long time . . . so, it is reasonable to assume that Case Shiller home prices will continue to move higher.
ECONOMY IS GETTING BETTER VERY QUICKLY
I was planning on writing a long section here giving you all the ins and outs as to why I believe the economy is exhibiting a “V” bottom . . . in other words, a very quick and consistent recovery. However, this would probably be very boring and would only delay the most important part of this email which is coming next. So, I’m just going to show you a few graphs below provided by the Federal Reserve that show how quickly several components of our economy have recovered (check out the U.S. exports to China . . . wow!). Here’s an article from CNBC today supporting this: http://www.cnbc.com/id/34700307/
I could show a ton more graphs but I think you get the picture . . . everything I look at tells me that without a doubt, the economy is recovering very quickly . . . unemployment (a lagging indicator) should peak very soon and start declining. All of this bodes well for the housing market.
WAITING TO BUY IS CRAZY TALK!!
So, this brings me to the main reason of this email . . . the window of opportunity to take advantage of this historical housing collapse is closing very quickly. Every day that your clients wait to buy a home, the following happens:
· Mortgage Interest Rates go up (the cost to a buyer of even a 1% increase in rates is MUCH MUCH larger than buyers realize . . . see math below)
· House Prices go up
· Incentives/Discounts are reduced . . . or willingness on the Seller’s part to accept large below asking offers is reduced
· Inventory is reduced so the best houses with the best deals are dwindling
It is pretty much a universal belief among economists that mortgage interest rates will continue to rise. This is happening for two reasons: 1. Mortgage rates are effected by long term treasury rates. Long term treasury rates are a function of treasury demand . . . people buy treasuries as a safe investment when they are worried about riskier investments like stocks (sometimes called a “flight to quality”). So, last winter when the stock market was declining, many people were taking their investment capital and buying U.S. Treasuries as this was a safe place to park their money. Now, with the stock market continuing to go up, people are starting to seek risk again and are selling their treasuries . . . this causes the price of the treasuries to go down which causes the yield (or interest rate) to go up. 2. The second reason rates are expected to continue rising is the expiration of the Fed’s program to purchase $1.25 Trillion worth of Agency Mortgage Backed Securities. This program was designed to provide “monetary easing” to the mortgage market and thus keep interests rates low. The program certainly worked but this program is winding down now and will be completely over by March.
I showed above how it is clear that both home sales and home prices have bottomed . . . of course you have some financial pundits talking about another leg down due to foreclosures but this is definitely not being reflected in the true hard data. So, with the economy improving quickly, unemployment peaking, and existing home sales increasing at a rapid clip, I really don’t see home prices taking another leg down. In fact, I would expect them to keep rising and rising at a pace faster than the historical average of around 5%. As a side note, home prices rise with household income, not inflation . . . since household income rises about 2.2% more than inflation per year, home prices also rise about 2.2% more than inflation per year on average (thus, the household income to home price ratio stays constant). Obviously, this relationship got out of whack in the home price bubble but has since returned to normal (see graph below).
With interest rates as low as they are, home price affordability has never been lower . . . this is the point . . . this is the perfect storm for home buyers: Low Prices, Low Rates, Many Homes to Choose From . . . the perfect Trifecta. This Trifecta wasn’t so appealing when home prices were still declining but now that they have bottomed and are increasing, there is no rational reason to wait any longer. Below is a graph that represents the affordability of homes right now given where prices and interest rates are:
As you can see, homes are even more affordable than they were in the early 1970s . . . even though back then, people were still buying homes with 5 year loans which is the main reason prices were so low then . . . it wasn’t until the 1980s that 30 year mortgages became common, making homes more affordable and permanently increasing the steady state household income to home price ratio.
So, just how costly is it to wait to buy a house? Well, obviously I can’t say for sure because I don’t have perfect information about the future. However, given what we know now, I think it is more than reasonable to assume that mortgage rates will rise around 1% over the next 6 months or so from around 5% to 6%. I think it is also reasonable to assume that home prices will rise 3% over the next 6 months (if you assume they continue to rise at the rate Case Shiller prices are rising, they would actually rise 5.5% over the next 6 months). So, using these assumptions (1% rise in rates and 3% rise in prices over 6 months), let’s assume the max mortgage payment a buyer can afford to make per month is $1,503.10. At a 5% interest rate with 20% put down on the house, the buyer can afford to buy a $350,000 house with a $280,000 mortgage. So, what happens if the buyer waits 6 months and interest rates go up to 6%? How much can a buyer afford then assuming we need to keep the monthly payment at $1,503.10? The cost of the home the buyer can afford as rates change is shown below:
|
Price of Home buyer can afford as mortgage rate changes |
||||
|
Interest Rate |
5% |
6% |
7% |
8% |
|
Price of Home |
$350,000 |
$313,381 |
$282,409 |
$256,060 |
|
% Drop From Base Case |
0 (Base Case) |
-10.5% |
-19.3% |
-26.8% |
So, the home the buyer can afford drops to $313,381 with just a 1% increase in the mortgage interest rate. Also, keep in mind that home prices increased by 3% over the 6 months so the $350,000 home 6 months ago is now worth $360,500. So, waiting 6 months created an affordability gap or decline of 13%. But here’s the real kicker . . . a home that is 13% cheaper in this price range is a lot more than “13% worse” than the other house . . . meaning home pricing is not linearly related to the quality/size of the home. In other words, there can be a major difference between a $313,381 home and a $360,500 home . . . a lot more than a 13% difference assuming this could be quantified. I know that in our communities, there is a world of difference between what $360,500 can buy you vs $313,381.
The point is this: For anyone who was even contemplating buying a home over the next several years, waiting would be a tremendous mistake . . . the whole “Buy Low, Sell High” principle applies as much to real estate as it does to stocks. There has never been a time in history (and likely never will be for awhile) when buying a home is such a no-brainer investment. I can tell you with 100% certainty that buying a home now is an infinitely better investment decision than buying a home in 2005 when it seemed like everyone thought it was a good idea. I know that natural human instinct is to avoid things that nobody else is doing and do things that everyone else is doing. It just feels comfortable to buy when everyone else is buying and prices have been up a lot for awhile and it feels uncomfortable to buy when prices have been down for awhile and all your friends are telling you that it’s a bad time to buy real estate. Ironically, it’s exactly this human behavioral trait that creates booms and busts . . . the “smart” people learn to do exactly the opposite of what the masses are doing. It’s like Warren Buffet says: “Be Fearful when everyone else is being Greedy, and be Greedy when everyone else is being Fearful”. It is also natural human instinct to hesitate when something just doesn’t feel right . . . sadly, if you trust your instincts . . . it won’t “feel right” until it is way too late.
For those people looking to buy their retirement home in Southern Delaware, the home they could afford now is undoubtedly going to be much better than the home they can afford in the future . . . or buying a specific home now will be much less costly than buying that same home 6 months from now. Even if someone is not planning on retiring for a couple years, buying now I’m confident will prove to be a wise investment decision assuming the buyer can afford to carry both houses for a couple years. In fact, this may actually be the best of both worlds for the buyer: They can buy their new home now at great rates and depressed prices and sell their existing home in two years after prices have recovered. Keep in mind, a low mortgage rate will benefit the buyer for 30 years into the future . . . it’s not just a one-time benefit.
Attached Excel Spreadsheet
I have attached an Excel Spreadsheet that should help you help your clients in two ways. The first sheet in the spreadsheet is a home price affordability calculator. Basically, just input the appropriate information into the blue shaded cells and the sheet will calculate how expensive a home your buyer can afford and what the monthly mortgage payment is. I would not type in the other cells because I have formulas in most of the other cells that you’ll lose if you type in them. One of the unfortunate causes of the housing bubble was buyers being provided mortgages they could never afford. Many buyers put too much trust in their mortgage broker and/or Realtor and assumed that the mortgage company wouldn’t issue them a mortgage or their realtor sell them a house if they didn’t think they could afford it . . . unfortunately, this was not the case. So, my hope is that you can use this affordability calculator to help your clients decide how much home they can really afford. I tried to keep this sheet relatively simple so it wasn’t confusing but I can create one with a little more detail if you’d like (include things like closing costs, property tax escrow $ in mortgage payment, etc). You’ll notice that if the buyer does not have enough cash available for the down payment, the max price of a home the buyer can afford becomes limited by the amount of cash available for the down payment and not by the maximum monthly mortgage payment.
The second sheet (called “Cost of Waiting”) will help you show your buyer how costly it can be to wait to buy a home. All you do is insert certain assumptions in the blue shaded cells and the sheet will spit out a bunch of information that shows the cost of waiting. The sheet attached is already setup to be consistent with the example given above. I think you’ll find it pretty surprising how much it can cost your buyer to wait. Incidentally, in terms of the $ value of discounts/incentives, I can assure you that as the market improves, the discounts/incentives that Seller’s are willing to provide will decline. At Schell Brothers, we’ve already implemented a per sale decline in our incentive in all our communities . . . so, each successive sale gets a slightly worse incentive than the last sale. This is our way of not only creating a little urgency to buy now but also to slowly reduce and eventually remove our incentives. Our sales have been fairly strong since July and December was our best month since 2005 and as you know, December is usually a pretty bad month for home sales. Please don’t think that I’m trying to imply that everything has been hunky dory for me and Schell Brothers . . . trust me . . . I definitely put in my fair share of pain and stress in this downturn just like I would imagine most of you did.
We’ve waited a long time for this . . . Now let’s Enjoy it
There is no doubt in my mind that the market has bottomed and will continue to get better. As I explained in the beginning of this email, I think the next few years may prove to be the best time ever to be a Realtor . . . even better than in 2004-2005 because there are fewer of you now and a much larger % of all home sales involve a Realtor today than they did then (mostly because New Home sales are a much smaller % of total sales now). So, these are the good times we’ve all been waiting for . . . it would be a real shame to live through the pain and stress of being in real estate the past few years and then deny ourselves the relief and happiness associated with the upturn. In other words, as things get better, it’s helpful to remember how bad things were a year ago . . . that contrast will almost certainly help you appreciate and enjoy the upturn. A year ago if someone could have said to us “How would you feel if I snapped my fingers and all the sudden the real estate market turns and starts getting better every day”, I’m sure we’d all say “I’d feel great . . . I’d be extremely happy for this nightmare to finally be over.” Well, the nightmare is over . . . so it’s time to feel the happiness. J
-Chris