One of the oddest things about this current housing market is the dwindling amount of supply. For areas like Los Angeles and nationwide, total housing supply has been on a downward trajectory since 2010. While an environment of rising home prices, less supply, and hungry buyers would lead you to believe that more home building would be occurring, not much of that has actually happened. Only recently have we seen the trend reverse nationwide and some areas that are in full mania mode like Irvine and Pasadena are seeing some inventory expansion. This is an interesting trend because it really highlights the consequences of allowing banks to essentially circumvent historical accounting standards and the use of the Fed as some temporary bad bank for loans. Constrain supply and demand (certainly prices) will rise. Punish the dollar and make access to debt via low rates a method of growth. So builders are walking slowly into this new environment trying to read the tea leaves. Los Angeles inventory is still at record low levels however. Where is the inventory going to come from for a county of 10 million?
The big motivation for large real estate investors was the yield they could potentially receive from purchasing real estate in depressed markets. Early adopters entered the market in 2008 and 2009 and by 2010 the market was flood by big money investors. Today we are seeing a saturation in terms of investors and yields are not worth the time for many large funds. For example, rents in Arizona and Nevada are down from where they were in 2010 in spite of the rapid rise in housing values. It could be because there is a saturation of rentals in these markets or simply because incomes are weak in these areas. One thing is certain and some investors are losing their appetite for rental real estate. Another interesting trend involves higher inventory and subsequently and ease in the volume of bidding wars. What are some of the trends in the current housing market?
Irrational exuberance is back in fashion in California real estate. The bullish case for real estate is so strong that the echoes of the last housing mania are slowly fading away into economic history. Flipping is now a big part of niche markets and we are starting to see the whacky stories that are common in manias. For example, In San Francisco’s trendy South Beach neighborhood a parking spot sold for $82,000. While that may sound extreme that is simply the behavior that occurs when virtually the entire state is cast under the spell of real estate fever. There can be no wrong and apparently incomes do not matter anymore. We’ve already discussed the reemergence of interest only loans so we are simply experiencing another mania with a different flavor.
Nationwide the amount of homes available for sale is increasing spurred on by rising home prices and the healthy rise in home values. Yet many areas in California were still in a severe drought when it came to the amount of inventory available for sale. The rise in inventory started late last year nationwide but we are now seeing it in certain areas in California. Even in sought after areas like Irvine the amount of inventory has picked up. At a certain point the market will return and the current mania is making some reluctant sellers come out of the woodwork to offer their goods to the highest bidder. Home prices in areas like Irvine have gone up significantly and many are now being enticed to sell. At the same time, Americans are back to their non-saving ways so the current market seems uniquely familiar. Let us take a look at some of the inventory coming back into the market.
The recent rise in interest rates is a big deal for the housing market. As the economy appears to be heating up, hot money will flow to any sector with a perception of higher yields. The recent increase is occurring because of this perception. The Fed has put itself in a corner. The stance is that QE3 and all easy monetary policy will continue so long as the economy is sluggish. Well with a record rally in the stock market, jobs being added, and housing values overheating the Fed looks to be bluffing on this call. Of course much of this rise has occurred because of hot money (the same fuel causing the rally). The Fed has expanded its balance sheet by $500 billion since September of 2012 when QE3 began. Does that seem like a slow pace of growth? There is a big confidence game in housing at the moment.
Lower interest rates create added purchasing power. The lower the rate, the lower the monthly payment and the higher a home price people can afford. The math is fairly simple here. During the Wild West days of the mortgage market, teaser rates and other odd mortgages essentially provided the illusion of a low rate initially. That went away and the market contracted. What these loans also provided was easy access to low down payment options. Today that segment of the market is made up by FHA insured loans although these are expensive when you factor mortgage insurance premiums rising to make up for growing defaults. The Fed has essentially been a witness standing by when the first bubble hit and also, a pusher for the housing market as it is today by outright mortgage backed security purchases via the QE machinery. It is interesting to track the data over the last decade because you can see that the Fed is fully focused on the housing market. Is this low rate environment causing another housing bubble but of a different variety?
It is no secret that investors are pouring money into the real estate game. What is interesting is the kinds of investments being taken on are highlighting a bolder more aggressive approach. For example we are seeing more money flowing into flips in Southern California since rentals are unlikely to cash flow in many prime areas of Los Angeles and Orange County. The appreciation trade is back on. With supply at record lows and sentiment near a point of giddiness, money is being made in many different ways. Early on many of the flips we were seeing involved very minor cosmetic work and most of the gains were made on the low purchase price. Today, some flippers are doing some major work and are going for giant gains. Let us take a look at a potential flip in Boyle Heights.
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