The following article is by Smith Realty Advisors, The opinions expressed are the author's and do not necessarily represent those of the Appraisal Scoop blog.Steven R. Smith, MSREA, MAI, SRA,
This morning I responded to a post on the Inland CA Appraisers Forum, about the Fed's statements on the Housing Markets and the Subprime melt down. The following is my take on the current cycle we are in. See if you can use this as a model in your markets to test where you are in terms of housing affordability.
It requires:
- Knowing the average Household Income of an area, in this example the Zip Code.
- Knowing the average Home Price, in this case, using Zillow
- Knowing the average 30-year fixed rate loan rate
- Knowing the average car payment and consumer debt, taxes, and insurance
- Knowing the average down payment buyers have in your area.
- Knowing the rate of decline, or projecting one. I used Zillow's for this example
Armed with this information, the bottom of the market cycle can be projected. Take a look and then see how it works with your numbers in the markets you work. Feel free to post a Comment on how it worked for you.
In terms of cash to the seller, housing prices are down across the board on average. A 1% Decline in National Housing Prices is a BIG DEAL. The National Housing Price Trend has already been identified by Dr. Shiller of Yale who has tracked it back to 1890. The Feds to not seem to have this information though. This is a first in our lifetimes!
When a market tanks, in this case the housing market, it is a cyle of events. Once the peak is reached, there is a slope that takes us to the bottom. The steepness of the slope increases, then slows as we reach the valley or trough. The width of the valley is dependent in any given area on the amount of over-supply and micro economic factors as well as macro economic factors, which can be impacted by the Feds.
[Editor's Note: Pros and Cons of the Various Housing Indicators Wed, 11 Jul 2007 - Freddie Mac explains the pros and cons of various housing price indicators and reduces several of its earlier economic projections in it's most recent economic forecast. ]
In the current instance, the Housing Affordability Index is what I am using as my baseline for where prices will stabilize. My Region as below 25% by early 2006, too low to sustain the average house prices. In my Zip code, the average Household Income is around $53k, pulled up by all the appraisers, real estate agents and loan agents making $150k/year. {haha, that is history or fiction}.
$53k in income and a 6.5% interest rate, will support a Loan amount of $204,920 based on the Bank Rate Calculator with allocation of $300 for a Car payment, and $100 in others. Add to this a cash down payment of $100,000 and the average Household in my Zip Code can afford a $304,920 home. {See below} Our Average Housing Value in the Zip Code according to Zillow is closer to $500k. {does it really matter if they are low or not accurate for this example?}
Not to worry though, Zillow shows the value of my house declining at -$16,129 per month. At this rate, the average Household could afford the average Home Price in about 12-months; $500k - $304k = $196k -:- $16,129 = 12.15 Months. What if the -$16,129 is a percentage, not an absolute, then, the Rate is -1.7% Per Month. Using this, the straight line calculation of -1.7% off of the $500k, would take 23 months for the average to get to $304k. This would extend the length of the decline as well as the depth.
Using the -$16,129 as an example, by next July, prices should have declined enough that buyers start entering the marketplace in large enough numbers that the inventory starts to be absorbed. Using the -1.7% figure, the market should stop declining in 23 months. My market went down about 9% from the peak last year, that is, between March and December. It is likely to average 18% this year, and if it goes another year, maybe -12%. Yes, we could see more than a 35% decline in my neighborhood and there is nothing wrong other than pricing. The speculators, flippers, and 1031 Tax Exchangers are gone, and lending has tightened up. But the town is still the same, a nice place with a real sense of place like no other in the region..
Once the over-supply has been absorbed, prices will stop declining. That should take another year, or two, does it really matter?
My Zip Code peaked by March of 2006, from which point it has been declining. In two years, price declines should stop. This means that from the peak to the far side of the valley, it will take us over three years, or at least until 2009. It also means that we might see price declines of 35% or more from the peak.
Knowing this level of information, is a good thing, good to help the appraiser report on what is actually going on in the markets they work. It's expected by FNMA and the entire secondary mortgage market and the mortgage insurance industry too. Appraisers who think beyond the loan broker client that orders the report, and think in terms of the Stream of Commerce through which it will flow, can write reports that actually help build a national reputation that brings future business.
Loan brokers do not rely on the appraisals, their Investors do. Looking beyond the client to the end user is a good thing in terms of limiting liabilities to third parties who rely on the appraisals.
Those markets that rose way to fast, fueled by irrational behaviors, and that have the largest over-supply conditions and are out of sync with the supportable demand provided by the Household Income levels; will take longer to reach the bottom, the valley will be wider, the declines deeper. My projection is that we will see declines of -25% to -50% from the peaks.
It is a cycle and we are in the 2nd year of a 5-year one now. This is how I have appraised it, but keep it a secret, don't let the Feds know or your competitors for that matter. Instead, build better skill sets that help establish you as a Real Estate Analyst, not just an Appraiser.
The future of appraisal may be founded more in analytics than in finding three comps. Market forces are moving with technology, away from relying on the appraiser{s} who are afraid to report what is really going on and may be cherry picking data that is used unverified and unadjusted for Terms, Concessions or Time; toward looking for those that can do meaningful Market Analysis.
Take a look at the Hemet, CA graph which was created by a residential appraiser who took the 2-hour introduction to creating graphs of the Housing Market Trend. Pretty isn't it, dynamic and compelling too.
Once the individual Sales are Verified, and Concessions taken out, the Slope become Steeper. We are fortunate that our client wants the unvarnished truth, knows the market is doing down and asked us to measure it accurately. We used - 1.5% Per Month for our Time adjustment. The client is in Virginia, the property in Riverside County, CA and from our original conversation with them, they knew the market was going down. All they wanted
FYI, every regulated lender [banks savings and loans, thrifts, credit unions, etc] must report on the housing market in every market they are making loans or holding loans. So, they KNOW what is going on at the top level. If you have clients in these categories, ask for copies of their reports, use them along with the micro market information you develop to compare and contrast what is happening.
I find most published reports are stale, compared to what we do on a daily basis. Freshness is one of our signature marks. We compare and contrast current Population and Housing trends [available through our State Dept. of Finance] and find we have cities in our Region that are increasing and decreasing at the same time. Some cities appear to be going up from all published statistics like NAR, CAR or Data-quick, while others are going down double digits each month. And we have found that within the same City, there can be segments going up and others going down at the same time.
To help the residential appraiser deal with their markets In this regard, we have created a new class to help bring appraisers up to speed on ways to report and graph what the market is doing. George Dell, MAI, SRA and myself will be teaching a two day course on Stats and Graphs: Appraisal Applications in Palm Springs on 9/17 through the www.sccai.org which is my local Chapter.
"Appraisal is only hard if you try to do it right, or if the market is going down, or both."
AUTHOR: Steven R. Smith, MSREA, MAI, SRA, Smith Realty Advisors, 936 San Jacinto St., Redlands, CA 92373, Real Estate Appraisals, Consulting, Expert Testimony, Forensic Reviews, Fraud Research and Analysis, Litigation Support, Fraud Training 909-798-8855, fax: 909-798-0139
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