We’ve never seen an inventory overhang that big in California
Chuck Ponzi November 26th, 2007
I sometimes read in print what is not available online… so you’ll have to forgive me giving a reference to an article that is this month’s Fortune magazine. It explains how prices will come down for construction in California:
In California, builders alone have 40,000 vacant houses and condos for sale. “We’ve never seen an inventory overhang that big in California,” says Mike Castleman, CEO of Metrostudy, a firm that monitors builders’ projects nationwide. “The builders are paying full freight on those houses in interest costs to the bank and taxes. THey’ve got to move that inventory for whatever price they can get.” In San Bernardino County, about 60 miles east of Los Angeles in the Inland Empire, Kent Phillips, president of Storm Western Development, is selling houses for $330,000 that last year went for $400,000. “It’s dreadful,” Says Phillips. “Last year we were selling four houses a month. Now it’s one a month. The end came just like turning off a water spigot.” Despite the steep discounts, Phillips is still holding six houses that haven’t sold in a 16 home development he completed in January.
But Phillips sees an opening to revive the stricken business: plunging construction costs. He says that prices of finished lots, equipped with roads and utilities have fallen from around $135,000 to $75,000. The cost of construction has gone down around 35%, from $85 to $54 per square foot. “Developers can now sell their houses for at least 20% less than a year ago and still make decent margins,” says Phillips.
Any care to wager if housing prices can fall still a lot more? The article reiterates the fundamentals of homebuying… its tie to rental rates and how that provides support to overall prices. And, as I have long said, rental costs are historically HIGHER than homeownership costs due to the flexibility of being able to move. This is supported historically and contextually in the article in Southern California and elsewhere.   I highly recommend anyone give a good read to the article. It’s in the November 12, 2007 Edition of Fortune magazine, starting on pg 77.
Also, here are the projected Corrections for us here in Socal from June 2007 prices:
Los Angeles: -40.3%
Orange County:Â -33.1%
Inland Empire: -31.6%
San Diego: -34.2%
These are very close to my projected correction of 28% from the summer of 2005. (prices went up after that in medians)
Thanks for the post. I cross-posted your blog with this post at the LA Times blog.
Just reflecting on all this.
I hope I can ride out this bubble without losing my job. I’m in aerospace and I expect governmnt spending to really tank.
One of the things discussed, over the past couple years, was that as this progresses housing will seem less affordable than ever. I am begining to feel that as the downward pressure makes it a bad investment. Price is lagging and collateral standards are increasing.
Seems like it will be a very long time before things reverse or revert to the mean. Then in that long dwell at the bottom we will be watching a lot of people that held on being shaken loose.
This sicknss is going to be like cancer vs having a tooth pulled without novacaine.
Why I think that next decade will be a long recession:
1) March 2010 ends a seven year economic expansion and economic expansions never last eight years. This will be bad for Transportation, Technology, Services, Real Estate, Autos, Retail, Entertainment, Resorts, Restaurants and Banks.
2) Businesses have to refinance short term debt in 2009 and 2010 and that will increase their debt payments.
3) Baby Boomers hit 50 in 2010 and peak in their spending when their children start to move out.
4) 71% of Americans own homes, the highest ever and Real Estate is slowing down, this will be bad for Construction, Real Estate investment trusts, Banks and Loan Brokers.
5) Higher Oil translates to higher utilities and higher transportation costs for businesses.
6) Interest rates are already low, so the Government cannot create the economic cycles of the 80’s and 90’s by lowering rates.
7) Every 40 years we have a major recession, 1930’s + 40 = 1970’s + 40 = 2010’s related to deflation/inflation.
9) War spending increases Government debt.
10) All of these events happened in the late 60’s and caused the long recession of the 70’s
Rental costs are historically HIGHER than homeownership costs? Uh, what am I missing here? I’ve been under the impression that renting has been cheaper than buying for years.
It costs me $1400 a month to rent. Even at slightly more -
where am I going to be able to get a home in my area with a 30 year fixed and 20% down so that my monthly homeownership costs are the same?
Historically, that’s not the case. Basically, only when irrational exuberance takes over does it reverse course.
Renting is always more flexible than buying. Reduced risk means higher premiums. That’s basic risk mitigation.
When I bought in early 2000, it was cheaper to buy than rent equivalently. I pulled an FHA loan with 3% down and it was about 5-10% cheaper to buy than rent. It stayed that way until about 2002 when things began to overheat.
In my area, Studio City, rents have nearly doubled over the past 6 years. From an average of $1500 a mo for a 2 bedroom to now around $2500 -$2800 for a 2 bedroom.
Sick
Please explain how renting is higher?
Example: I recently sold my house 2 bed 2 bath home that had a monthly mortgage payment of $4600 (not including taxes and insurance) and I now rent a 3 bed 2 bath house just a few miles from where my old house is and I pay $2000 a month.
The only thing I need to pay is rent, utilities and the gardner. I have no (bloated)property taxes, homeowners insurance or maintenance costs to worry about.
I don’t see how renting (at the present time) is higher.
I said Historically…
as an average, it is. The “ownership premium” is a myth created by 6percenters to get more sales after 2002. See comments above.
chuck
Keep in mind, this is AFTER taxes, not before.
I sold my home a few month ago in 2007. I was paying more than 4000 in interest alone. I am now paying 2100 in rent for a home that is twice the size of the home I sold. As the prices continue to fall, I am happy that I did sell. When the Foreclosures dry up next decade, I will buy back. As long as there are foreclosures, the prices will remain depressed. I am planning on buying back the middle of next decade 2015 to 2017.
I’d like the name of the contractors who have cut their prices. Maybe they reduced the rate of construction for bulk building only. In my quest to add on a bit to my home in the same area of CA, I have found prices just as high as before the downfall.
Visit me at “Overcoming Real Estate Losses” at http://WhineCountryRealEstate.blogspot.com/
Carol,
I mean this in the nicest way possible, so don’t take it too hard.
I read your blog. It’s an interesting case study in irrational exuberance wrt real estate. Real estate never has been “the basis to most succesful financial portfolios”. Whoever told you that was selling you property. Real estate has been a ho-hum investment for several thousand years prior to the last 30 in SoCal. The fact that it exploded over the 10 after a wicked bad decline only shows you it is now becoming more volatile. The surest way to losses in a volatile market is the buy-and-hold strategy. That’s small-cap investing 101. Over peak-to-peak and trough-to-trough periods, the average increase is nowhere near what a decent investment would return (after maintenance, insurance, taxes, and interest). With that said, if you’d like to throw your money away on poor investments, be my guest, but I’d try to sell my crazy elsewhere if I were you. You are now living through the peak-to-trough purchase train wreck.
In the nicest way possible… good luck.
Chuck Ponzi
Chuck, I appreciate your advice as someone who closely tracks and analyzes the real estate market. As a matter of fact, I have been enjoying all the “bubble” blogs. They are well thought out and very insightful.
I don’t represent this genre. I am the average investor, like so many others out there. My blog is my story. If you’ve read all of my posts, you’d know that my approach to buying real estate was anything but “irrational exuberance.” Our intent was to buy and hold for at least 30 years. We did buy some that we flipped because they wouldn’t rent. However, we sold most of the base of our portfolio in order to generate cash flow by buying property in other states that we knew would not likely appreciate. Apartments were our mistake.
In my ever-so-humble investment opinion, if you buy and hold for a long period of time toward the end of a volatile market, you can come out ahead. I still get calls from friends wanting to buy, fix, and sell. Now. I don’t get that. Tracking the market for 30 years through the U.S. Census Bureau site shows that there have been several peaks and valleys since that time. However, if you factor in inflation, prices, OVERALL, have increased. Real estate will always be around, and, as long as there are buyers, it will never collapse completely.
Thanks again for your valuable advice and for allowing me an opportunity to respond.
The 60’s and 70’s experienced higher inflation and if you purchased a home in the early 60’s for 10 to 20 thousand, you were looking at 300 to 500 thousand at the end of the 70’s. I remember friends telling me that “Real Esate always outperforms Stocks.” Then the 80’s and 90’s were deflationary and Gold went from 850 to 250 an ounce and my friends were saying, “Stocks always outperformed Real Estate.” I laughed and explained that they each have their two decade run up. During 2000 to 2009, Oil will be the big winner because of the economic expansions and inflation. During 2010-2019 Gold will be the big winner due the to weaker economy and higher inflation. 2020-2029 Growth stocks like computers, transportation and capital goods will be the big winners due to the deflationary cycle starting over that favors businesses and growth stocks. 1966-1976 Real Estate was depressed. From 1977-1987 Real Estate went up 6 times in value due to inflation followed by strong economic recovery. If that happens again, 2015 to 2027 Real Estate will go up 6 times in value. I am telling my children to wait till 2015 and buy two homes, wait 7 years and sell one and pay off the other.
Yes, prices haven’t dropped an amazing amount, but then, as Chuck notes in his story here, we’re getting a huge inventory. The cheapest 3bdrm homes in Corona are still around 400k, and in Orange, Anaheim, and Garden Grove, still in the 500s. As I drive around these areas, I’m seeing more and more “for sale” signage (and even some “forclosure” signage, how embarrasing) and none of these signs are coming down. The comps are s-l-o-w-l-y inching down prices.
There are loads of homes in Anaheim and Garden Grove for well under $500,000. I’m showing a client several 3 and 4 bedroom, 2 bath homes this weekend that are all priced under $475,000. One is 3 bedroom 2.5 bath with a pool for $389,000 in Garden Grove, last sold in 4/05 for $482,000. Another is 3/2 1650 sqft in Anaheim for $469,000, last sold in 3/06 for $648,000. Both of these are bank owned and prices like this kill the market for others trying to sell.
I’m not suggesting that these are good deals and I tell my clients to wait and see what happens before they jump in but prices in some areas have dropped dramatically.
It’s going to get worse. I’m afraid Chuck was right.
There are LOADS of homes in Corona under $400K. There are quite a few newer large homes under $400k. In one small area around Trilogy Golf Course I found over 30 under $400k and 15 of those were under $350k. That area is a nice area too.
Here’s a nice 3 bedroom for $280k
http://redfin.com/stingray/do/.....id=1309786
I live in the Inland Empire and bought a house for about $500,000 it is now worth about $400,000 if I can get someone stupid enought to buy it because prices are still going down. Why would I want to keep my house when in about 2 years I can buy it back for about $250,000. Even if my credit gets dinged it’s not worth all the intrest, property tax, and negative equity I will be in. The attempt to put a temporarily freeze on the arm rates are just the lending institutions trying to suck out every last drop from homeowners.
Just give the house to the lenders.
Chuck,
A little over a year ago I asked for your advice on selling my 2 B/R condo in the Long Beach area that I had purchased for about 200K. You had a careful yet wise response about what to do given your own situation. I held off from selling, but did finally take the plunge and sold the place for about 450K in July of this year. Needless to say, it is probably the best life/decision I may make in my entire life. In addition to selling, I moved out of So Cal and moved to the Mid-West to an area that I had lived in briefly in ‘99-2000. We bought a 3B/2Ba 2300 sq ft home in one of the best n’hoods in the town for 165K(20% down/30 yr Fixed).The rest of the money I cleared goes into very conservative investments. I figure that I have moved up my retirement by another 10 years if I want to retire early or I could conceivably return back to Cal and buy back in at reasonable prices down the road. I do not think this will happen for some time though as I believe that Cal is headed for some very rough times with both fiscal and economic crisis that they have not faced since the great depression. I say this with much sadness, but also with a sense of relief that I did not buy into the euphoria and blind faith that many people had in this crazy runup over the past 6 years. I also wanted to thank you and Ben Jones for your Blogs. They have been very useful and very truthful in their reporting of the housing bubbles. I do realize that my new home amy also fall victim to this falling market, but I take comfort in knwoing that this area never really took part in the runup. My guess is that any losses here will be minimal at worst and I have my Cal profits to help offset any losses incurred. I do hope to live in Cal again at some point, but now is not the time as their needs to be some serious corrections made before it makes any sense to do so. In the meantime, I will enjoy watching the squirrels and beautiful wild birds from my home office window and pray for better times for all affected. Thanks again. Escapee
Smart move!
I am fully with you. Enjoy watching the show in Cali.
HI!
I have been long enjoyed reading your articles that are great and enlightening.
Your are so nice to give us a very conservative price projection, say LA going to have 40% price drop from June 2007. That’s pretty close to what I projected in 2005.
My bottom price projection for this cycle is 80% off from the peak. Will we arrive at that level? So many factors involved. We have to check what those big cats react to the reality in a few months. If they do more “write-off” than “write-down”, we will see the drop very soon.
I have some articles focusing on this housing downturn, please go to check my blog at http://activerain.com/rocktexas
Sorry, I forgot to mention two articles that may interest you most:
1) Southern Californian Housing Drown Fast!http://activerain.com/blogsview/277195/Southern-Californian-Housing-Drown
2) A Real Case: Who cares about Average Price or Median Price! (II)
http://activerain.com/blogsvie.....l-Case-Who
Do you think that the better areas of Beverly Hills are immune to the bubble or that it’s coming? I don’t think a real estate downturn has hit the neighborhoods I’ve been watching yet. I am currently renting a house in Los Angeles. I recently sold my house in Beverly Hills at a substantial profit. I have bought, remodeled, moved into and then sold several homes in the past ten years in Beverly Hills- each with a big gain and each more expensive than the prior home. It’s not a business or a hobby- I just move a lot, enjoy the process and have gotten lucky with the timing. I am sitting on a lot of cash and I am interested in (some day) buying another home (and finally settling down for a while!) in Beverly Hills- but if the market is going to get soft, I would obviously like to wait for that to happen before I hop back in. Everyone is talking about the housing downturn, but I really haven’t noticed a downturn in high-end home prices in Beverly Hills. When (if ever) are prices going to come down in these primo neighborhoods?
ES,
Sorry to say, but it is true that the more poorer a neighborhood is, the more vulunerabe it is to foreclosure. There are reasons.
It is possibe for a home in Beverly Hills goes down to foreclosure, but it is not going to create a “block-buster” effect on the community. The situation will be “contained”.
If Beverly Hill went to the storm, our economy would be really in a castrophic stage, not just a chilly recession. The chance is slim like being hit by thunder.
I agree with ET on this point. I would also argue that BH never had the same kind of bubble as some other areas.
I actually thought it didn’t go up as much as some other places in terms of %ages.
Corona will be shattered. BH will suffer in transactions, but since there are already so few transactions and so many properties are truly “unique”, it won’t suffer in the same price % declines as some other areas. But like anywhere, if it gets bad in the economy, it will suffer.
Chuck Ponzi
I have never seen a fully worked out case where lifetime renting is more expensive than mortgage-to-own. Not even close.
Rent is tied to cash on-hand income. But that income is just the starting point for mortgages, which float up further to matching willingness to go into debt (psychology, not income).
Haven’t seen the exploding rents another mentioned in Studio City either. In inflation adjusted dollars, I pay only 3 dollars more per month than I did 16 years ago in 1991 for an apartment in a wealthy, wooded Pasadena area the owner does a wonderful and aggressive job maintaining — yet still has a hard time keeping filled.
No maintenance, no taxes, no interest, no closing costs.
I simply cannot find any scenario where a 30 year mortgage is a better deal than renting over the same time-span and investing in something other than real estate.
The logic isn’t there, the numbers aren’t there. Renting is more flexible, but how that is charged isn’t apparent.
In 1990 2 bedroom homes in Redondo Beach were 450 thousand. In 1995 they were 255 thousand. When foreclosures are increasing like they are 2007 through 2011, you want to stay away from buying Real Estate. When foreclosures stop increasing, like 2012 through 2014 then you want to buy. Since gold is now rising, in the next Real Estate up-leg, properties will rise four times in value, so a 400,000 dollar home will rise to 1.6 million the second half of next decade. You so really really really want to be in Real Estate, you just don’t want to be in too soon. Due to low rates, more Americans own homes. Real Estate has topped, and so is the Economy. Higher oil, High Real Esate and a high Economy is all bad news and Three years from now we will be in a recession. I expect Home prices to hit bottom 2012 through 2014. Its all a cycle and Real Estate is still at the top of the cycle due to the strong economy. Wait three years and it will be a whole different story.
With foreclosures for sale, prices will not rally. I learned that during the 1990 through 1998 Real Estate collapse in California. You have everything to gain and nothing to lose if you wait 3 years before you buy (because prices will not rally, but a recession and unemployment will make them drop more). I expect a recession to make Real Estate drop another 30 percent by 2012.
Chuck, I really enjoy your blog. Okay, I’m a Realtor here in SFV and you may not have heard this from one of us before but: all in all, it won’t be such a bad thing if prices drop 40% in Los Angeles. That will put us back to, oh, probably about 2001-2002 prices. Those who bought before then will still have some equity, and houses will be more affordable for the majority of people. Let’s face it, as much as I love the San Fernando Valley, a 1300 sq.ft., 2+1 bungalow SHOULDN’T cost more than $500k. Check out my blog at sfvrealestate.blogspot.com for more musings.
Judy,
You’re probably one of the few realtors who already see the value in lower prices. Too many see it as lower prices = lower commissions. In reality, lower prices means more transactions, which means more commissions. As it is, no one can execute a transaction without being a high net worth individual.
The only thing I have against realtors is the number of stupid ones. I’d even be one if I thought that it would make sense. Those realtors not convincing their clients to lower their prices are doing noone a favor.
Drop the price and blow it out the door. The next few years are going to be even worse than 2007.
Chuck Ponzi
Greenspan said that deflation was the biggest threat to America. During the 1930’s, steel prices got so low that companies could not pay their employees and we had mass bankruptcy and unemployment. Because of this the Government is no longer telling the public how much money they print. They are trying to prevent a real estate collapse by printing money and releasing it. First the war spending is spent overseas, this affects oil because so many foreign countries try to get rid of the money by buying oil. Gassoline prices are the first sign of inflation. Inflation is good for Real Estate and the Government is trying to prevent a great depression by higer inflation. This worked in the 1970’s. Higher inflation will prevent real estate, cotton, aluminum, gold, oil, natural gas, wheat and steel from collapsing. I am waiting for the foreclosures to dry up (may take years), but I believe that Real Estate will be strong the second half of next decade due to higher inflation. 1966 to 1976 Real Estate was depressed for eleven years. From 1990 to 1998 Real estate was depressed for eight years. I believe that we have experienced the first down year and should wait till foreclosures dry up to get back in. My goal for the next few years is to take Real Estate management courses to learn more before I get in too soon.
In the last California Real Estate correction from 1990 to 1998, the Real Estate fell 50 to 60 percent from mid 1990 to mid 1994. The Brokers told me that Redondo Beach Property would never fall because there was not enough land. With one Child in 1990 we looked at 2 bedroom 1 bath homes and they were $450,000. In 1994 and 1995 we say 2 bedroom, 1.5 bath two story homes in Redondo Beach for $255,000. What happened? The Aerospace recession pushed all USA properties down with layoffs and foreclosures. In 2008 we are in our Sixth year of economic expansion that started in March 2003. Economic Expansions never last 8 years, never (LBJ, Reagan, Clinton, the economy contracted in the eighth year). So if you wait three years, a recession should push ALL USA properties down with layoffs and more foreclosures. Since foreclosures depress prices, and we have lots of foreclosures, Real Estate will not rally in price soon. This means that you have everything to gain and nothing to lose if you wait till next decade to buy. I am targeting 2012 through 2017 as the best years to buy.