CA Housing…”Bouncing Along the Bottom” for FIVE YEARS
by Mark Hanson
April 6, 2013

 

 

Major housing market headwinds create flat to negative 2013 rates of change.  Market forecasts and sector stock multiples are forecasting sales, price and home improvement gains similar to what we saw in 2012 YoY. This will not occur.

Summary:  Following nearly 20 years of an unprecedented housing sector and mortgage credit expansion/bubble that resulted in the greatest housing and mortgage credit collapse in history one must be particularly optimistic or ignorant — or both — to think that 2012 was “the” durable bottom.

Especially when:

1)  the Homebuyer tax credit of 2009/10 also created a “short squeeze” in the housing sector that everybody thought was a “durable bottom”;

2)  at least 50% of all mortgage’d homeowners coast to coast are Zombies…dead to the housing market equation — unable to freely sell and rebuy – due to negative equity; “effective” negative equity (not enough equity to pay a Realtor 5% and put 10% to 20% down on a new house); or insufficient income or credit needed for a mortgage; 

3)  banks and the gov’t have turned up to 8 million legacy distressed borrowers into underwater renters of their own houses by the use of new-vintage, higher-leverage, worse-than-Subprime loans (aka Mortgage Mods) that redefault at about the same clip as legacy Subprime loans defaulted from in the first place

4) thin and more transitory demand cohorts — the first-timer and institutional/private ‘buy and rent’ speculator “investor” – make up half housing demand;

5) and repeat buyers — historically housings’ primary demand AND supply cohort — remain structurally unable to carry the sector until significant legacy first and second lien de-leveraging occurs.

As such, the CA housing data for February presented as follows highlight why calling “the bottom” is a risky (and early) proposition. I will agree the 2012 “bottom” (and 2010 “bottom”) are all part of a “bottoming process”. But so was the Homebuyer Tax Credit stimulus “hangover” of 2011 and the much larger Twist hangover that will grip housing in 2013/14.

 

CA Feb Home Sales…FLAT for 5-straight years.  YoY rate of change now flat to negative.  The first negative MoM and YoY print since 2008.

Bottom line:  Beginning in Q3 2011 and continuing through late 2012 housing & finance enjoyed YoY comparables against very weak housing market activity — the severe hangover created by the perma- Homebuyer Tax Credit stimulus that sunsetted in mid-2010 – while at the exact same time being injected with the greatest rates jet fuel stimulus in the history of the known universe a la Twist. On the supply side, bank portfolio mortgage modifications — ultimate in legacy loan high-risk can-kicking that leaves homeowners as over-levered, underwater renters of their own house – surged to several million units.

 

Post-Crash Stimulus and Hangover Cycle Backgrounder

The 2012 Spring/Summer peak-season YoY “hangover to jet fuel“ stimulus imbalance created the ‘appearance’ of much stronger market activity than was really occurring. But most importantly, it made for a sharply positive rate-of-change in the deeply cyclical housing market that analysts’ could extrapolate forward at the same pace every year for a decade into the future making for a situation in which fundamental analysis and PE ratios are thrown out the window.  But if all of a sudden data begin to show that the house sales volume and pricing rate of change has flattened, or worse turned negative (happening now in key leading indicator markets around the nation), then the high-flyer names in this sector will have a bad year one month.

Remember back a few years…this exact same happened. A YoY massive stimulus imbalance occurred beginning mid-2009 through mid-2010 on the Homebuyer Tax Credit. There were “lines down the street making multiple offers”, the Case-Shiller went positive YoY for several months in a row, and consensus shifted to a ”full-blown housing market recovery with escape velocity”. Nobody even wanted to hear when ‘some’ cited major pulled-forward demand occurring especially in the first-time buyer cohort. Bulls called the tax credit ”de minimis”; we called it ”the first, best, and last chance millions of homebuyers will have to buy a house” with nothing down on an FHA loan when monetizing the credit, which was allowed in 38 states for FHA lending purposes. In short, the month after the tax-credit sunsetted in mid-2010 house sales volume fell 30% MoM and the first major “stimulus hangover” was born. This hangover lasted until rates fell the most in history over the shortest time period ever — rates down 30% in Q3 2011 — in anticipation of Twist.

Yes, the Twist-induced 30% drop in mortgage rates and historic low UST yields have been a much more powerful and long lasting stimulus than the Homebuyer Tax Credits. And this is being reflected in the numbers. But at the end of the day, “the greater the stimulus the greater the hangover that follows” and the Tax Credit gave us a great look at that.

And now — after a year and a half of the “Twist effect in full force – rates are up, investor and first timer demand cohorts are burning out, and repeat buyers are only slightly less structurally imprisoned.  But obviously, sentiment is much better. It certainly will be interesting to see how many houses Mr Sentiment can buy at 10% over ask/appraised value — at 1% to 3% rental cap rates — vs last year.

The CA Feb Housing Data…What “Durable Recovery with Escape Velocity”?  I see a market bouncing along the bottom, muddling through.

The data in this report fly in the face of loudest drumbeat of one-way consensus opinion and hyperbole since David Lereah was pounding the table on CNBC several times a month from 2006 to 2007 telling everybody there was “nothing to see here” and inciting short squeezes in doomed stocks that would blow your account apart.

Highlights…

- First double drop…lower MoM and YoY — sales volume since 2008

- First Feb MoM CA sales volume drop since 2008

- First Feb YoY drop in 2 years

- Only the 2nd YoY drop (of any month) since July 2011

- Largest YoY drop (-3.1%) since 2010 

- Mix-Shift no longer a tailwind 

- “Median” house prices back to Sept levels — down 4% – after peaking for this cycle in Dec (odd month to peak but housing went straight until Dec on the “mix-shift effect”)

 

1) Feb CA House Sales – FLAT for 5-years. Still “bouncing along the bottom”.

If one were to look at the chart below knowing nothing about the US housing condition they would definitely say “the market crashed, bounced, and has been bouncing along the bottom for 5 years”.  But that’s not what consensus believes or what is priced into sector stocks…far from it.

CA Total Home Sales Feb

 

2)  Feb Total House Sales (blue) vs. Distressed (red) vs. Organic (green)

Total house sales bouncing along the bottom (blue), distressed is plunging (red) artificially, and organic (green) is increasing; the latter a certain positive on a relative basis.  Then again, organic sales down 57% from 2005 is a testament to just how structurally damaged this housing market really is and how the only cure for it is lots and lots of years of de-leveraging.  On a YoY basis organic sales look great…but on an absolute basis the number is horrifying.

Bottom line: After almost 6-years of ZIRP, 4-years of QE, and 3 years of blowing a mortgage mod bubble larger in size than the entire pool of Subprime loans in existence in 2007 organic sales remain down 57% from 2005. This highlights – in Zombie color – the structural chaos from 60%+ mortgage’d homeowners in the state of CA either underwater, ”effectively” underwater, or lacking the credit or income needed to get a mortgage loan…and how much de-leveraging still needs to occur.

The menacing problem here is that organics lack the firepower to really ratchet up demand. Thus, when investors and first-timers go away — the hangover begins — support for this housing market will be far thinner than it ever has before.

CA Feb Sales - Total v Organic vs Distressed

 another look at CA Feb organic sales by itself.  On a YoY basis this chart is great. But on an absolute basis it is horrifying.

When looking at this chart on an absolute basis the structural damage is obvious.  I see a CA housing market in which 450k houses transact per year up only 8k house sales per month from the worst February on record. This is still down 57% from 2005.  Or viewed another way, a Feb organic sales number only 1,100 sales greater than the past 5 year average of organic sales.

CA FEB ORGANIC SALES

 

3)  House Prices…Mix-Shift is no longer a tailwind; in 2013 mix-shift turns into “mix-shaft”.

Median house prices are highly influenced by the “mix-shift” as shown in the chart below. The correlation is perfection. But now with foreclosures at an (artificial) pre-crisis low due to the mortgage mod bubble and foreclosure outlawing the “mix-shift” is no longer a tailwind. In fact, due to “investor” burning out — on the verge of becoming a headline story on rental price cutting wars and far lower cap rates than any had modeled — the days of bidding 10% to 20% over appraised value looking solely at the yield are ending quicklyThis headwind will have significant consequences for house prices.

CA Mix Shift Feb 2013 - 1

 

4)  A look at CA Feb house prices back to 2005.

Yes, the 2013 YoY jump in median prices is impressive but the absolute level not so much.  It always very important to keep housing analysis in the context of “post-crash” in order to seek out trends.

The price increase shown below is almost exclusively due to three “transitory” factors… 

1)  a 15% increase in purchasing power by individuals using a mortgage due to Twist.

2)  New-era Wall Street landlord investors deploying other people’s money without any regard for “list price” or “appraised value”.

3)  Banks and the gov’t originating 8 million new-vintage, higher-leverage, worse-than-Subprime loans in the past 3 years in order to abate foreclosures.

Bottom line: Unless rates drop below the level of last year, households get a huge tailwind of income or lower taxes/expenses, new-era investors get comfortable with sub 3% rental cap rates, or we get a swift wave of immigration from those will pockets full of cash then the next step for CA median house prices is retracement.

Feb CA Med Price LIne

 

 

 Work ups of other “recovery” regions such as Arizona and Nevada look eerily similar.

Category: Real Estate, Think Tank

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

18 Responses to “California Housing Still Bouncing Along the Bottom”

  1. TripleB says:

    I will speak for the pockets of Northern CA that I know well, where I live and work – the housing market is on fire. My neighborhood has seen two $900k+ townhomes sell over asking, one I know to have been all cash. SFGate.com ran a story this week about foreign buyers buying places in the city, all cash – sight unseen! Multiple bids (double digits, not 2 or 3 buyers) are also standard.

    • Robespierre says:

      So here is the headline from 2004:
      “Housing market mania / Multiple offers are routine, many above the asking price — buyers coddle sellers and OK deals with few contingencies”
      http://www.sfgate.com/bayarea/article/Housing-market-mania-Multiple-offers-are-2776206.php

      These before the biggest housing market crash ever. Your comment is pretty much the same as that headline and yet for some strange reason you actually think the outcome is going to be different this time?
      One questions name a single bubble that has ever happened sequentially?

      If you look at the dotcom high flyers you will see that after the crash, some recover somewhat just to eventually drop again and stay down even to this day

      • TripleB says:

        Nowhere in my comment did I say or in any way suggest that “the outcome is going to be different this time…”

        And, yes, good observation that the parallels to 2004 are quite striking, but having just been through the refinancing process I would contrast the lending standards today (rigorous) to those in 2004 (got a pulse? – here’s a million dollar interest only loan!). The easy money may be gone, but the demand for a certain home in a certain location has only gotten more robust.

  2. Angryman1 says:

    California is a mixed bag. The bay area is booming which is helping RE, while the areas that got “housing bubbled” down south are slow to recovery.

  3. Joe says:

    I’ll line up with Triple B on this one, and I’ll add non contingent bids to the mix. That said, I’ve been in the area for 60 years so far and I’ve seen both sides and all over different time spans and geographies. Ca real estate includes SF to Palo Alto/San Jose (Facebook, mobile/semi and biotech), Stockton (newly bankrupt, mostly homes on farmland ) , and the So Cal area (all kinds of stuff all over). Not that everything in the article isn’t totally right. But the view points of BP readers in CA prolly tend toward fewer on the downside of the spectrum and more on the upside. Prolly. Selling my house a few months from now will be a lot different from buying a replacement one. That said, how many investors/foreign money/cash buyers will it take to keep the trend aloft and the headlines about price recovery?

  4. TripleH says:

    Your focus on volume as a canary in the coal mine signal is limited, also your comparison to the peak overinflated volume year of 2005 helps prove your point but you should have included the historical volume data for at least 15 years to gain additional historical perspective. Increasing prices are the new normal, volume is down due to the reasons you highlighted above, homeowners still under water and the CA homeowner bill of rights are slowing the foreclosure process down. Volume will not match the 2002-2007 period as upward home mobility was possible than as all homeowners enjoyed positive equity. Volume will increase slowly as values increase and more homeowners move to a positive equity position freeing more move-up buyers.

    If you want to analyze the direction of the housing market focus on the two things that will drive the market 1) Rent to buy ratio 2) Loan qualification standards, In almost all CA markets, where the value is below the median home price, the rent to buy ratio is around 2.0 at current interest rates ($1,500 rent over $750 home ownership costs). Of course this is assuming historically low mortgage rates, even if you run a sensitivity analysis you will find the rent to buy ratio stays well above 1.0 at higher rates. As loan standards loosen it will free more first time home buyers, who are currently underrepresented by historical standards, which will further increase prices as they find that home ownership is cheaper than renting.

    • TheUndertaker says:

      The rent to buy ratio is closer to 0.5 in Santa Monica and most upscale locations in California.

  5. TripleH says:

    If you want to analyze the direction of the housing market focus on the two things that will drive the market 1) Rent to buy ratio 2) Loan qualification standards, In almost all CA markets, where the value is below the median home price, the rent to buy ratio is around 2.0 at current interest rates ($1,500 rent over $750 home ownership costs). Of course this is assuming historically low mortgage rates, even if you run a sensitivity analysis you will find the rent to buy ratio stays well above 1.0 at higher rates. As loan standards loosen it will free more first time home buyers, who are currently underrepresented by historical standards, which will further increase prices as they find that home ownership is cheaper than renting.

  6. BuildingCom says:

    Housing in CA is a very long way from the bottom and it’s looking down the barrel of the largest price declines yet.

  7. overanout says:

    We sold our Redwood City house in 2005 for little over a million and purchased a short sale home in Pinole in 2011 but did not close until Spring 2012, for 250K. The Pinole home maybe has gone up a couple percent and that is with little inventory on the market. Northern Calif Bay Area is a mixed bag with upscale high end neighborhoods the hot spots but overall prices are no were they were in 2005, for example the home I recently purchased for 250K sold back in 2007 for 635K, the housing market in the Bay Area is limited to upscale buyers with 90% of the market banging around the bottom or worse, so I think Mark Hansen is correct.

  8. Mr.-Vix-It says:

    Here on the Peninsula, you will not be able to buy a home without competing with 35 other people in a bidding war and that is not an exaggeration. A fixer-upper is 700k-1.2 million and if you want a house that you don’t have to do any remodeling for, it’s going to cost between 1.5-2 million.Where sub-prime ruled out in Tracy and Manteca (about 60-70 miles away), it’s likely that housing has barely come back. San Francisco and the Peninsula never stay down for long and they never will unless all of the businesses here pull up their roots and leave. The California economy which is led by the Bay Area is surpassed by only a handful of countries and it’s not a shock that it’s an expensive place to live. Real estate here is never going to get cheaper than it is now. Even in 2008-2010, it never got cheap. The average Bay Area real estate price will surpass its high and keep on going higher just like it always has…

  9. bear_in_mind says:

    I’d say Hanson’s observations are more correct than not.

    Regardless of national trends, there will always be local / regional variability. The SF Bay Area has seen a number of large swings in single-family home trends since the mid-80′s. The bubble that peaked in 1990-91, with 20-30 percent price reductions common, took until 1997-98 to get back to “even”. Then the DotCom mania brought another short boomlet, followed by a brief price distribution phase, then the onward march to the mania stage.

    While “Mr. Vix It” (and others) note over-bidding of homes by newly-flush techies within very desirable neighborhoods focused primarily in pockets of SF, Silicon Valley and Marin County, there’s still a boatload of distressed, underwater owners throughout the Bay Area.

    People lose sight of how many properties were being purchased in the peak 24-36 months of the real estate mania… and how slow the recovery has been. Part of the reason property inventories are “low” is because most homeowners are still sitting 10-20 percent below break-even and simply cannot afford to absorb a $75,000 to $200,000 loss.

    Add an undetermined amount of shadow inventory from REO properties, and it’s not surprising that pockets of the market are being bid-up. But when the market gets anywhere near a true equilibrium, there’s going to a marked shift in the firmness of inventories and pricing. And at some juncture, interest rates will become a drag on housing as well.

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  11. Russ Wetherill says:

    My two month old daughter goes up the stairs several times a day. This would be amazing, not to mention a tad bit irresponsible on my part, were it not for the fact that I’m carrying her at the time. You see, sometimes the “how” does matter. How are home prices rising? Are they rising on their own, or is the Fed carrying them upwards via historically low interest rates?

    Can the Fed sustain double digit drops in borrowing costs ad infinitum? The short, but not so obvious answer is: yes they can. The longer, albeit more complicated, answer is: not without consequence. To drop costs by double digits requires less and less rate drop as you approach the zero bound. The problem is that, much like balancing a plate on a toothpick, small changes in attitude can have dramatic results. People are already taking on higher risks in search of yield. As “safe” yields fall further, asset bubbles will grow creating greater systemic risk.

    And what happens if the Fed is successful in boosting home prices and broad-based economic recovery actually ensues? Rates rise. Home prices fall. Treasuries fall. The Fed can only afford to allow the rates to rise based on the ability of taxpayer revenue increases to carry the rising US debt servicing cost. To me, this seems to be the only logical reason for Operation Twist: to get into long-term, low-rate debt, and hope that a rising economy with inflate away the US debt burden.

    The corner that the Fed seems to be painting itself into is a choice between its patent dual mandate of low employment and rising GDP, and its latent primary mandate of recapitalizing the financial industry. The problem with recapitalizing the banks through rising home prices, is that increasing the cost of the greatest household expense is a piss-poor way to fuel economic expansion. The Fed is effectively putting a ceiling on housing prices. Once all the rate DECREASES have propagated through the real estate industry, future rate INCREASES will put pressure on prices, labor wages, material prices, land prices, property tax receipts, etc. Don’t count on 70s style stagflation helping here. Wages are not going to rise with rising interest rates. If anything, we are already seeing wage pressures even before interest rates rise. Are we likely to see a growing slice of a smaller pie?

    Home prices are set at the margin. The greatest price increases will occur during the tightest, low-sales-volume market. We saw this during the bubble. Prices moved up on high volume during the 2003/4, but volumes dropped off in 2005/6 when we saw the prices top out. This makes perfect sense given the bell shaped nature of human intelligence distribution. Dumb money sees opportunities only after they pass by.

    Much talk is made lately about a “black swan event” taking down the global economy. I don’t see it that way. If all the swans in a game of swans are black, then the white swan stands out. What the world needs is a white swan event. Only an incontrovertibly good event can put mankind back on the right path. In the 90s it was the Internet revolution. In the 80s it was Glasnost. In the 70s it was the moon landing. In the 60s it was civil rights. In the 50s it was reconstruction after WWII. In the 40s it was the end of WWII. Since we had nothing good in the 00s, we are overdue for another. Some promising candidates are: 1) Health (not healthcare); 2) Peace; 3) Energy; and, 4) Technology.

  12. rj chicago says:

    Thanks BR for posting this – I was wondering when Hanson would come out with another of his analyses.
    The bomb the Fed has lit on this will explode in the future. The deal is when.
    Watch out for FHA and for the syndicate purchasers for rent as interest rates start to climb. Still way too many impaired folks to help in this overstated “recovery”.
    Chicago still in the pits and will be for a very long time- demographic moving out of this indebted cesspool of political and moral corruption. Look to states where people are moving to rather than moving from for any real value in the market.

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