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Jim Scott
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The Housing Spring

San Diego’s residential real estate sellers are happily enjoying their Housing Spring. Suddenly bidding wars for homes and condos are everywhere, particularly in the market for properties priced under $900,000. The market looks like a bubble, but it is short-term and there will be no lasting damage. Spring is always a tough time to be a buyer and this season is no different. What is really happening is an overdue reset of San Diego’s price structure.

To begin with, housing prices had a very respectable 2012 performance. Encouraged by an accommodative Fed enabling record-low mortgage rates and a steadily improving economy, many fence-sitters entered the marketplace. Values moved up steadily and the inventory of properties for sale was cut in half by year end. By December the table was set for a bull market in homes and condos.

Buyers entering the market this year soon discovered not much was for sale. Between January and March sellers suddenly gained the upper hand in homes selling between $450,000 and $900,000. Usually market distortions such as this end badly, but I am not sure it is so off-kilter. In my view, we are witnessing an overdue reset of the price structure of local property. As the stock market talking heads say, San Diego property was way oversold and intrinsically undervalued. Given local economic factors, buyers are actually behaving rationally, even though prices in some market segments seem to be accelerating at an unsustainable pace. Price discovery is what is happening; buyers and sellers are establishing a new floor the next cycle will build upon.

Think of this spring market as a reboot to adjust for lower supply of and increasing demand for homes. For 2013, constrained housing supplies will not match demand. The resulting higher prices will encourage more owners to come to market but other factors will possibly offset resulting inventory gains.  As an example, many potential sellers with negative equity and the financial capability to service their debt may keep their homes off of the market to build more equity. Merchant builders have found it extraordinarily difficult to rachet up production. Their infrastructure dissipated during the Great Recession; skilled labor fled to greener pastures and many lots remained unfinished. The lending community, facing political and regulatory pressures, have slowed down their foreclosures mills and have made serious efforts to keep distressed owners in their homes. What banks do with their personal inventories this year is anyone’s guess and thus far it appears they are loathe to bring their seized assets to market. As you can painfully recall, over the past few years distressed properties accounted for nearly half of the resale market.

On the demand side, buyers have a collective expectation that mortgage money will be more expensive within the next 18 to 24 months. The price of ten-year treasuries determines mortgage rates and the yields on those notes are being suppressed by the Fed’s quantitative easing program, known as QE 1, 2, and so on. Without their monthly injection of 85 billion freshly printed greenbacks into the bond market, mortgages would be far dearer. When the unemployment rate falls to 6.5%, the Fed has clearly stated it will reduce their purchases of securities and this will send mortgage rates higher. I will take Mr. Bernanke at his word on this matter. In the past, potential buyers have always rushed into the market when interest rates move off their lows in expectation of more expensive mortgages. This makes perfect sense as I doubt we will see mortgage money this inexpensive again in our lifetimes.

Last, the idea of the economic value of homeownership has been validated by the change in the business cycle. Much has been written in the past few years about young adults, scarred by unemployment, underemployment, and the foreclosure crisis, forsaking the idea of owning their own homes. Other financial writers have produced studies showing there is little long term economic benefit to owning. In spite of this negative press, I do not believe a cultural shift in attitudes toward San Diego real estate ownership has occurred. True, our relationship with property is often strained and difficult. I have been through four recessions and I doubt I have seen the last of them, but owning land is in our cultural DNA and once enabled economically, those under 35 will begin to act like their parents.  

Since 2002 or so we have witnessed an incredible ride up, followed by a harrowing descent. After bumping along the bottom for past  few years, it seems the process is beginning anew, but I think over the next two or three years we will see a mild seller’s market. Stability is relative, and if anything, the public has learned we now live in a financial world that is far less stable than before. Volatility in world economies has become the norm, and as we saw in 2008, outside financial events can wreak havoc on local real estate markets. Unfortunately, there will be future economic shocks, but statutory and regulatory changes that came from the Great Recession should protect us from ourselves.

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