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Jim Scott
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The Five Percent Solution

San Diego’s median home price increase last year was 4.8%. This particular measurement paints a mostly accurate but incomplete portrait of the state of the local housing market. There are other metrics that offer additional insights into individual markets and neighborhoods. This column will focus on some additional 2014 market statistics for the Metro area and provide a look ahead to 2015.  

Most economic indices report the past and as such usually generate more heat than light. The Great Recession had no postwar historical twin, partially explaining why the national recovery has been less than stellar. Fearing deflation, the Federal Reserve Board’s main response thus far has been to flood the economy with cheap cash benefitting real estate. As long as $50 oil is around, mortgages will be inexpensive.

 

Yet in spite of this bounty from Washington, the local housing market had a desultory fourth quarter.  There are some troubling signs in the 92103 single family housing market; there were 91 contracts signed during the first six months of the year and 67 over the latter half. The volume during the last three months of 2014 was the lowest since the first two quarters of 2009--when the Great Recession started. To be sure, one three-month period does not make a market but 92103 single-family home prices have essentially flat-lined since the summer of 2013. Fourth quarter sale prices decreased 9.5% compared to the middle six months of 2014. Sales volume is generally a very good indicator of future asset prices as buyers either retreat from or enter a particular marketplace.

In San Diego sustained declines in the number of closed escrows have preceded a shift in the direction of appreciation or depreciation rates. As an example, during the bull market of 1976-1980, a period when prices doubled, sales volume started to tail off in late 1978, but prices continued to increase well into late 1979, ending at the beginning of  the 1980-84 recession. The same phenomenon was observed during the runup to the 1991-4 recession, when the city’s housing values plummeted 25 to 30%.  

In the most recent recession the monthly rate of sales during 2007 started declining in relation to the mid-decade closings. Prices did not begin to fall off until late 2008. The last housing down cycle started in the same way as the turndowns that began in 1973, 1980, and 1991---buyers exiting the marketplace long before anyone noticed prices were heading south. I am not arguing a real estate recession is around the corner, but history must always be minded. One could argue that declining sales were the result of low inventories, but this leaves falling prices unexplained.

Even considering the above, I remain unconcerned as San Diego is a supply-constrained market with population growth and a rapidly improving economy. Interest rates, in spite of what you read, will be low for the foreseeable future as the Fed continues to have to fight the effects of the global glut of labor and commodities. Further in San Diego the supply of new housing is managed (or restrained depending on your politics) by an often fractious partnership between developers and local governments. One should not underestimate how much land use policies influence long term residential real estate price stability.

Communities determine, for the most part, the cost of ‘The Right to Build’. The county’s local governments set building fees and pass on the expense of the associated infrastructure to the buyer. While these governmental costs are important, the market value of the building plot is more inflated by restrictive land use policies, which creates scarcity of a desired product.  

Barring some catastrophic natural or terrorist event, the current development rules will ensure a future where prices will increase faster than average as market-driven new construction will not be able to keep up with economic and population growth. Many are betting this will be a permanent circumstance; this could be the only reason investors are paying what appears to be foolish prices for apartments. This usually savvy group sees housing scarcity ahead as well as a low-rate interest environment.

If you have property here, consider yourself fortunate. If you are renting and can afford to purchase some real estate to live in, it is time to buy. Renting is going to be even more difficult to do in the short and medium term. Yes, the housing market’s slothful fourth quarter performance does raise some alarm but unless that trend continues into the summer, there is nothing to worry about. The law of Supply and Demand will protect homeowners and provide solid, but not spectacular annual appreciation. The Fed will have to continue to indirectly subsidizing the mortgage market as there remains the threat of global and national deflation.

 


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