The median sales price of homes steadily increased throughout 2016 and into 2017. This of course was no surprise, as I discussed about a year ago. What would be a surprise though (at least to me) is if prices continued to increase into 2018.
So what happens next? Let us speculate…
First, I just need to clarify something
I have NO crystal ball, I can’t tell you definitively what is and what is not going to happen in the real estate market this year. But, I am a real estate professional who spends his days talking to buyers, sellers, other professionals and studying the local market and economic data. I’ve got a unique perspective, and this article is just my own “educated” opinion.
Then and Now
Do you remember what happened last time prices were this high? I do; they came back down in a hurry, and it hurt. We called it The Great Recession. There were massive layoffs, unemployment peaked, stocks were down, real estate was down, and mortgage defaults were through the roof. Needles to say, it was a tough time for a lot of people.
The important thing to remember though, is that the sharp declines in housing prices back then DID NOT cause the recession. It was the other way around. Real estate prices fluctuate in response to other factors like the surrounding economy (failing banks for example), job market, and most importantly: supply and demand.
Prices rose sharply in the mid 2000’s because sub-prime loans and easy money allowed them too. Now, prices have risen for a much more simple reason: low supply, or as we say in the business “low inventory.”
Remember Economics 101 – decreases in supply cause prices to rise.
There are just not enough homes to satisfy buyer demand. As a result prices rise to a point where only the most financial able buyers are able to transact. This has been the case for a few years now, so why do I expect it to change?
Affordability is Decreasing
Perhaps the most compelling reason to expect prices to fall, or at least stop increasing (“normalizing”) is that interest rates are increasing. Interest rates directly affect the amount of money that buyers are actually capable of paying for a home.
The monthly payment that a buyer gets approved for stays constant. So, as interest rates go up, the amount of money they are borrowing must go down if they are to keep the same monthly payment. This means that most buyers will simply have less money available to them to buy a home. As a result, prices will need to come down for transaction to happen.
Interest rates are set by the Federal Reserve. You have probably noticed that interest rates have increased over the last 6 months or so, this is because the Federal Reserve has been raising interest rates and plans to continue raising them for the foreseeable future. I’m not guessing here, The Federal Reserve has stated that this is the plan going forward.
Job growth in Orange County has also contributed to rising home prices as more people have enough money to buy. But can this trend continue? The unemployment rate in Orange County is currently about 3.7%, which is pretty low considering we spent over 9 of the last 10 years above that number. The overall unemployment rate for California is 5.2% and for the nation it’s 4.9%. We can do better, but not a lot better.
One interesting detail to note here, however, is that a significant number of jobs were created in construction, an increase of over 11% from 2015 to 2016 actually. This could very well be a sign that we are likely to have more new homes on the market, helping to alleviate that low inventory that has been driving prices up.
New Home Construction
Another point of focus is that new home construction has been increasing year over year in Orange County for the last 6 years. In fact, there were 4,690 new homes sold in 2016, which was a 29% increase over 2015. New homes accounted for over 12% of all home sales. Last year
This data, coupled with the increased hiring in construction is a good indication that new home construction is likely to continue, further alleviating the short supply on homes and helping to reduce prices.
Let’s Sum It Up
Nothing lasts forever. What goes up must come down. The only questions are when, and how far down?
My bet is that the trend of increasing home prices will level off before the end of the year. There may or may not be a pullback too, but if there is I think it will be slight. The Federal Reserve may react to the market reacting to its interest increases. This does happen, sometimes they postpone rate increases due to disappointing job reports. But overall, I think employment in Orange County will be relatively stable, homes will keep getting built, and interest rates will keep going up. Ultimately, this soup of economic indicators will apply downward pressure to home prices. My. Two. Cents.