Predictions for 2012
When I first started writing about the housing market in 2007, I gained attention by making some outlandish predictions about the housing market. I was one of the few who publicly made the case for a crash in housing prices. I laid out the case, provided my reasoning, and stood by my predictions.
I reviewed my results in early 2011 in Predictions versus reality: Irvine Renter’s track record. Today, I want to take a another stroll down memory lane and make new predictions for 2012.
In 2007, I said house prices would crash in Predictions for the Irvine Housing Market (2007).
Below is a chart I created to demonstrate what I believe will occur in the Irvine Housing market between 2007 and 2013.
- Median sales price will decline approximately 40% from near $700,000 to near $400,000 over the next 5 years.
- There will be a multi-year flattening of prices at the bottom.
- Sustained appreciation will not return until 2013 or later.
- Peak bubble prices will not be seen until 2027 (unless we get another bubble).
My predictions were based on the idea that prices would crash back to rental parity levels in Irvine. At the time, that was near $400,000. With the federal reserve taking mortgage interest rates down below 4%, the value of rental parity has increased. The reasoning behind my prediction is coming true at a higher dollar amount.
It’s taken five years for prices to fall to rental parity levels, but we are there now.
In my next year’s Predictions for 2008, I made these statements:
I will make the not-very-bold prediction that 2008 will see the worst single-year decline in the median house price ever recorded, and quite possibly the largest single-year decline we will witness in our lifetimes… .
another not-very-bold prediction for 2008: one or more of our major financial institutions and one or more of our major homebuilders will fail as a result of the collapse of housing prices.
So what does all this add up to? My next not-so-bold prediction: a severe local recession. Huge amounts of money used to flow into our local economy through the subprime mortgage business. This business model is dead. It is not going to return.
So how did I do? 2008 was the worst year of the house price declines, although 2011 was pretty bad too.
We had several major financial institutions bite the dust in 2008, and more would have if we had not deemed them “too big to fail.”
The local recession was very bad, and it lingers to this day.
So what did I predict in 2009?
However, there is one bright spot for the housing market that will blunt the declines in 2009: ultra-low mortgage interest rates. We will see properties at rental parity in 2009. The low interest rates are going to reduce the cost of borrowing to the point that many properties will reach rental parity this year. This does not mean we will be at the bottom.
With the low interest rates, and with the foreclosures resulting from this year’s loan resets being a year away, we are in a good position to see our first bear market rally. This summer, we might see two or three months of sustained appreciation. This will bring out all the bottom callers. Everyone will be cheering the Federal Reserve, and many will believe the worst is over for the housing market. This will cause some major emotional gyrations for desperate homedebtors. Those who had moved from denial to fear will likely move back to denial for a time.
I nailed those two, wouldn’t you say?
We did see a few low-end properties get to rental parity, and we did get a bear rally because of it. However, I said the bear rally was doomed because it was artificial, and in 2010, the wisdom of that idea became apparent.
In 2010, I made more predictions which turned out mostly correct.
Predictions for 2010
In looking ahead to 2010, I see a number of important factors that will influence the housing market. Many of the issues discussed today will be the focus of future posts.
Mortgage interest rates will increase in 2010
I don’t know how high they will go, but mortgage interest rates will begin their ascent to a (somewhat) natural market. Any stable homeowner who has not refinanced should do it now or forever miss their chance.
Inventory will increase in 2010
Eventually, lenders are going to have to foreclose on properties, kick out the squatters, and resell the houses in the resale market. Inventory is coming; how much of that we will see in 2010 is anyone’s guess, but I believe we will see much more than we saw in 2009.
Affordability will improve as mid to high end properties are released to the market, and prices of the houses of greatest interest to buyers in Irvine should come down because, despite the buyer interest, there are more properties in distress than there are buyers interested in obtaining them.
Properties selling at or below rental parity becomes the norm in 2010.
As I have noted on other occasions, many properties, even in Irvine, are trading at or below rental parity. This will happen more often, and it will happen at higher and higher price points.
Sales volumes will increase in 2010
Despite the rumors of a healthy real estate market, transaction volumes remain 15% below historic norms on a seasonally adjusted basis. Sales volumes will increase due to greater supply, and prices will go down.
Prices in Irvine will fall 2%-5% in 2010
Increasing interest rates will decrease affordability, and increasing supply will force sales onto the market. The combination will cause prices to begin a multi-year slow decline similar to the 1994-1997 period. The price decline will not be orderly, and the relative stability in the median will mask seismic shifts within the market at sales composition changes (more mid to high end properties will sell) and prices of individual properties decline.
Interest rates fell for most of 2010, and if not for a November collapse of the bond market which brought interest rates up at the end of the year, this prediction would have been totally wrong. The reason interest rates went down was not due to market conditions as much as it was due to federal reserve intervention.
The other predictions came true including the decline in prices. In fact, the expiration of the tax credits spelled the end of the bear rally, and prices have been dropping steadily since June of 2010.
My predictions for 2011 were short and to the point:
Basically, my outlook for 2011 is unchanged from 2010. (1) Inventory will go up. (2) Properties selling at or below rental parity will be the norm. (3) Sales volumes will increase. (4) Prices in Irvine will fall 2% to 5% in 2011.
Whatever the result, the leg down in pricing from the double-dip will be the last move down in this market cycle. The housing market will bottom at different times in different market tiers. I think the biggest discounts will be at the high end going forward. The lowest tier of the housing market may have already hit bottom. If not, it will bottom first. With low end support producing the first wave of move-up equity buyers, the slow grinding declines of higher price points can finally cease, perhaps in 2014. During the next three years, expect a range-bound housing market with a slightly lower bias.
I also predicted that Strategic mortgage default will become common and accepted in 2011. It did.
Prices will decline 1% to 4% even as affordability reaches record levels
Payment affordability is very high by historic standards. The combination of falling prices, rising rents and super low interest rates make home ownership attractive from a monthly cashflow perspective. If this were a healthy market, those conditions would spawn and unsustainable rally. But this is not a healthy market.
Many forecasters will be dumbfounded by the refusal of the market to appreciate. Their econometric models will predict a robust recovery in prices which will not happen. At this point, affordability is not the problem. The problem for the foreseeable future will be an imbalance between supply and demand.
The banks are going to start clearing out the delinquent mortgage squatters. These houses will increase the supply of for sale homes, and the sellers will be motivated. The displaced former owners will not have the down payment or qualifying credit to buy anther house. This removes them from the potential buyer pool and reduces demand. So what we are left with is an increase in the supply of motivated sellers and a decrease in demand. That spells trouble for home prices.
To see this in action, take a look at the Las Vegas housing market. Affordability has never been as good as it is today. It costs less on a monthly payment basis to own a house than it does to own a car. Despite this fact, prices keep falling due to the imbalance between supply and demand. A similar dynamic will be operative locally over the next few years.
Rents will increase as the economy slowly improves
Rents started to creep up in 2011. Many apartment developers expect this trend to continue. Unfortunately for them, the abundance of supply coming on in blue-chip markets like Irvine are going to hinder rent growth for several years. Rents will either go up slightly or flatten as these new apartment complexes are leased up. The demand is not so strong that several thousand units can be absorbed and have rents increase 3% to 5% per year.
The improving economy will add to demand, and it will help the apartment developers absorb their inventory, but look for the rent increases to be less than most pundits expect.
Increasing rents will cause affordability to improve. Rental parity is measured against comparable rents. As rents go up, many people will opt to save money by owning. The tepid rent increases will serve to take some of the urgency out of the move to ownership and keep the housing market in deflation mode.
Strategic default will become epidemic in 2012
The bear rally of 2009 and 2010 caused many loan owners to relapse into denial. With steadily declining house prices since the expiration of the tax credits — a decline working on 18 months now — many have moved from denial to fear. When they reach futility, they will capitulate.
For loan owners, capitulation is when they stop making payments. What’s the point? They know they don’t have any equity, and with falling prices, they know they won’t have any equity any time soon. As the false hopes are dashed, many will walk away from their mortgage obligations and allow the lender to call an auction to get what’s left of the bank’s money back.
As more and more underwater loan owners opt to save money by becoming renters, the banks will have to deal with stubbornly high delinquency rates. Lenders are anticipating a decline in delinquencies as they foreclose and remove the non-performing loan from the pool. Unfortunately, as each delinquent mortgage squatter is flushed from the system in a foreclosure, a new strategic defaulter will take their place. Delinquency rates will not see the bid declines lenders are hoping for.
The lending cartel will collapse as Bank of America capitulates
One of the biggest stories of 2012 will be the increased foreclosure rates at Bank of America. Since they have such a large market share, their activity will force the other banks to react or risk being left holding worthless assets. If a few of the major banks start competing to foreclose on their delinquent mortgages and liquidate their REO, a stampede for the exit may ensue. The lending cartel may collapse. If that happens, prices could fall significantly more than I have predicted. Based on Bank of America’s behavior at the end of 2011, they appear to be desperate for cash. A collapse of the cartel may be imminent.
The FHA will make a surprise announcement that it needs a bailout
The FHA has been denying it needs a bailout. Their denials don’t seem plausible. The FHA has been providing a significant portion of the financing for the US housing market with 3.5% down payments. If those buyers wanted to sell, they couldn’t cover the commissions to leave. They are underwater from the moment they by. To make matters worse, prices have been steadily falling, so none of them gained any equity over time.
In short, the entire FHA loan portfolio is effectively underwater. And since few of those borrowers have any real money in the transaction, they are prime candidates for strategic default if the need or want to leave.
The FHA doesn’t have much for reserves to cover the inevitable losses. A bailout is almost a certainty, but since the FHA has given strong assurances it doesn’t need a bailout, everyone involved will at least act surprised. We won’t be.
In the mood for more predictions?
This is the highest priced REO in Huntington Beach. The bank believes this house has appreciated in value since the peak in 2005. Perhaps the former owners upgraded the interior, but I rather doubt they added so much value with pergraniteel that they overcame the tremendous downdraft in market pricing. Expect this price to be reduced 25% to 30% before it finally sells.
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Proprietary OC Housing News home purchase analysis [raw_html_snippet id=”post snippet”]
221 20TH St Huntington Beach, CA 92648
$1,080,000 …….. Asking Price
$907,500 ………. Purchase Price
1/3/2005 ………. Purchase Date
$172,500 ………. Gross Gain (Loss)
($72,600) ………… Commissions and Costs at 8%
$99,900 ………. Net Gain (Loss)
19.0% ………. Gross Percent Change
11.0% ………. Net Percent Change
2.5% ………… Annual Appreciation
Cost of Home Ownership
$1,080,000 …….. Asking Price
$216,000 ………… 20% Down Conventional
3.94% …………. Mortgage Interest Rate
30 ……………… Number of Years
$864,000 …….. Mortgage
$205,201 ………. Income Requirement
$4,095 ………… Monthly Mortgage Payment
$936 ………… Property Tax at 1.04%
$0 ………… Mello Roos & Special Taxes
$270 ………… Homeowners Insurance at 0.3%
$0 ………… Private Mortgage Insurance
$0 ………… Homeowners Association Fees
$5,301 ………. Monthly Cash Outlays
($943) ………. Tax Savings
($1,258) ………. Equity Hidden in Payment
$293 ………….. Lost Income to Down Payment
$290 ………….. Maintenance and Replacement Reserves
$3,682 ………. Monthly Cost of Ownership
Cash Acquisition Demands
$12,300 ………… Furnishing and Move In at 1% + $1,500
$12,300 ………… Closing Costs at 1% + $1,500
$8,640 ………… Interest Points
$216,000 ………… Down Payment
$249,240 ………. Total Cash Costs
$56,400 ………. Emergency Cash Reserves
$305,640 ………. Total Savings Needed
This property is available for sale via the MLS.
Please contact Shevy Akason, #01836707
[idx-listing mlsnumber=”S680675″ showpricehistory=”true” showlocation=”true”]
305 20TH St
3 bd / 3.25 ba
2,674 Sq. Ft.
319 21ST St
3 bd / 3.25 ba
2,817 Sq. Ft.
528 21ST St
3 bd / 3.5 ba
2,400 Sq. Ft.
6545 FEATHER Dr
4 bd / 2.5 ba
2,500 Sq. Ft.