Real estate markets are notoriously slow when it comes to shifting momentum. While stock markets can react like a fighter jet real estate markets are more like turning around a cruise ship. They react slowly and once momentum shifts, it is hard to change course. Following previous bubbles, the turning point has always included a rise in inventory and a sudden slowdown in price appreciation. These usually go hand and hand because Taco Tuesday loving home prices usually shock some buyers and little by little inventory starts to build up as new buyers are reluctant to settle into a $700,000 crap shack with years of deferred maintenance. For the first time in many years, we are seeing a big jump in inventory in some markets. I’ve noticed a big change in inventory for Orange County and the Inland Empire. Los Angeles is seeing inventory pickup but at a slower pace. Ventura is up slightly and San Diego is virtually unchanged. Let us look at the current inventory figures.
At the start of the year, discussing a year-over-year drop in California home prices seemed unrealistic. You can only defy gravity for so long and home prices for California are virtually unchanged year-over-year. The current median home price in the state is $396,750 up only 0.4 percent from last year and down 1.8 percent from the previous month. Sales are still low thanks to prices and the lack of inventory. California has seen a dramatic addition of rental households thanks to the current trend. The big question now with momentum tilting is where will it take home prices? California tends to do things in a big way with real estate since we perpetually go into a boom and bust cycle. Now with prices hitting a snag and inventory coming back you have to see how the media cycle is going to play into this. People are now used to prices moving up so quickly as if this was some law of nature. Los Angeles County is seeing normal inventory returning while Orange County is seeing a big jump in inventory. Let us take a look at the numbers.
Foreign buyers are a big part of the US real estate game. I’m surprised that some people downplay this because on aggregate, foreign purchases of US real estate do make up a small portion of total sales. Yet foreign money is very targeted on certain areas. For example, Canadians love buying up Arizona real estate and prices must seem free when compared to the gigantic housing bubble Canada is going through. It should come as no surprise to you that the top international buyer of US real estate is now China. It should also be no surprise that Chinese buyers really enjoy buying in California. Are they buying in droves in Highland Park or other hipster areas? No. But look at places like San Marino and you will see giant pools of money flowing in. The National Association of Realtors (NAR) released a detailed report on foreign buying. I think it is worth examining closely.
You might think that the Bay Area is home to the most inflated real estate in the US but being “over priced” is also relative to local area incomes. The army of tech professionals in the Bay Area earning healthy household incomes is expansive. Sure, having a household earning $150,000 a year might make it tight to purchase a $1 million crap shack but that is the situation. So it should come as no surprise that in the land of “All Hat and no Cattle” that we have the most overpriced real estate. According to a report by Trulia the most overpriced areas come in as Austin (Texas), Orange County, and Los Angeles. Why? Incomes are detached from the rise of home prices. Of course in some areas foreign money and investors with deep pockets have pushed prices to stratospheric levels. In many parts of the US home prices are within reasonable ranges thanks to the Fed’s ridiculously low interest rate fury road policy. Yet Millennials are not buying in mass because many are deep in debt and incomes are just not keeping up with home prices. If home prices are overvalued, how much are they overvalued by? If everyone thought home prices were within reason there really wouldn’t be all this interest and analysis on the subject.
I’ve lovingly called the new movement of people leasing homes as Rental Armageddon. A truly first world problem between buying an inflated crap shack or having to rent a property. God forbid you have to lease a place. People quickly lose perspective and that is largely one of the reasons we oscillate between booms and busts in real estate. But the data is very clear and that is, we are in a deep renting trend. We’ve added 10 million renter households in the last decade while being net neutral on adding homeowner households. That is a big deal. The housing market is also facing some massive demographic headwinds. Younger buyers are cash strapped and home builders realize this (this is why home building is lagging the mania because builders realize the demand is for rentals, even higher cost places). Also, you have Taco Tuesday baby boomers entering the twilight of their lives and they certainly won’t be upgrading their properties. A recent study by the Urban Institute sheds some light on this renting trend. There are some serious demographic and economic headwinds favoring the renting trend. One key finding is that for the next 15 years, rental household formation is going to outpace homeownership formation. Let us see where things stand today.