Orange County Housing Report
September 2, 2010

Summer is unofficially over and schools are back in session. Let's take a look at where the grades stand as the fall Orange County housing market gets underway. Housing Demand: C The year started with decent demand, however, we quickly realized that it was artificially high due to the Federal first time home buyer tax credit. This tax credit required that buyers had to have a pending deal by April 30th. After April 30th, demand plunged. Basically, demand was pulled forward. Buyers that would have purchased during the summer had to buy early to cash in. In retrospect, while the original first time home buyer tax credit that ended in November 2009 was needed to help jump start an extremely sluggish market, the latest tax credit may have done more damage than good. The pumped up pending sales figures ultimately led to pumped up closed sales figures.

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Reports of a year over year rise in demand, sales and the median sales price enticed many sidelined homeowners to place their homes on the market at unrealistic prices. They mistakenly thought that the market, along with home value appreciation was improving at a rate higher than it really was. With the end of the tax credit, demand, the number of new pending deals over the prior month, dropped significantly from its April peak of 3,979 pending sales, and now totals 2,893 pending sales, a 27% drop from its 2010 height. The current pace of pending sales is following a normal cycle, and is currently mirroring 2008 demand.

The active listing inventory appears to be reaching a peak, gaining only 67 homes in the past two weeks, the smallest increase so far this year. Unfortunately, even with the best demand since 2005 for the first four months of the year, the inventory has continued to increase. It started the year at 7,165 homes and has increased since by 4,552, a 64% increase, and now totals 11,717 homes. Many homeowners, especially those with equity, interpreted the year over year 7% increase in the median sales price as a green light to place their homes on the market 7% above the most recent comparable or pending sale. Therein lies the problem; as opposed to the buyers of 5 years ago, today's buyers are what we refer to as "spreadsheet buyers." Spreadsheet buyers are not willing to pay much more than the very last comparable or pending sale. For the right home, they may pay a few thousand dollars more, but not tens of thousands more. Buyers do not want to overpay for a home. They will meticulously look over a spreadsheet of recent sales activity for the area to arrive at a price they think is fair. They just are not ready to pay a premium given the current economy. Until the economy starts humming along, spreadsheet buyers are here to stay. The reality is the majority of our housing market is not appreciating.

Just when we think that interest rates can't go any lower, they drop to a new record low. It is unlikely we will see rates this low again during our lifetime. Rates were supposed to increase after the Federal Reserve halted their purchase of pools of loans back in March. Instead, Europe's ill economy became the worldwide focus and investors from around the world started parking their money in US Treasuries, causing rates to drop to unimaginable levels. Buyers should not forget the ramifications of increasing rates on purchasing power; as rates rise, the amount you will be able to afford will drop. As an example, a buyer with an income of $100,000 and a 20% down payment will experience a $50,000 drop in home affordability with an interest rate increase of 1%. When the economy eventually improves, investors are going to pull out of the safety of US Treasuries and rates will quickly climb. For perspective, rates were at 17% in 1980, 10% in 1990, and 8% in 2000.

The lower price ranges have dropped in value considerably over the last three years, instigating the return of first time home buyers and investors. With an expected market time of 3.49 months for all homes priced below $1 million, the activity has helped keep a lid on falling prices in a market that contains so many distressed properties. 40% of the active inventory below $1 million is distressed, either a short sale or foreclosure, so a higher rate of activity is needed to counteract these distressed properties. In May, right after the end to the tax credit, the expected market time was at 2.12 months. So, things have slowed somewhat, but the lower ranges still have sufficient demand to keep prices stable.

It seems as if the end of the tax credit has also affected the upper price ranges. Since the end of the tax credit, the expected market time for homes priced above $1 million increased from 7.53 months to 11.54 months today, mostly because of an increase in inventory. This is a deep buyers market. When the expected market time reaches double digits, market activity seems frozen. There are currently 2,354 homes priced above $1 million, but demand is only at 204 pending sales. A bottom has not yet been reached in the upper ranges as prices are a bit stickier and have been slow to drop.

Foreclosed properties are still the hottest segment of the Orange County housing market. The current expected market time is 1.81 months, a deep sellers market. There is still a voracious appetite for foreclosed properties due to the notion that they are incredible deals. But, banks price their homes according to the market value and only discount for property defects, poor condition and/or a poor location. Ask any buyer that has come across a foreclosed property within their home search and they will tell you that the competition is over the top. Buyers should not expect a wave of new foreclosed properties. The slow methodical pace of foreclosures will only increase slightly over time. There are currently only 684 foreclosed properties on the market, representing only 6% of the total active inventory.

Short sales are by far the Achilles heel of the housing market. Absolutely nothing is more frustrating than short sales. There is nothing "short" about a short sale. Short sales occur when homeowners attempt to sell for less than they owe on their homes. The homes are pulled off the market after a seller accepts an offer from a buyer; however, they cannot close until the lender or lenders in many cases, approve of the sale and agree to take less than a full payoff of the outstanding loan(s). This process can take anywhere from a few weeks to months. Short sales that close quickly are a gross exception to the rule. In a short sale, there are three verifications that need to take place. First, the buyer must qualify to purchase the home. Second, the seller must have a true hardship, no money secretly tucked away, in order to qualify for a short sale. Lastly, the home must appraise for close to the agreed upon price between the buyer and the seller. A lender is not in a rush to accept a short sale payoff when the home is selling for $25,000 below the real market price. Many short sales are significantly underpriced, which ultimately leads to a rejection of the short sale by the lender. There are other obstacles to putting together a short sale. Outstanding homeowner association dues, outstanding property tax payments, collection agencies, attorneys, and income tax liens, to name a few. All of these all potentially stand in the way to closing a short sale. There are currently 3,394 short sales that are pending, 57% of all pending activity. Yet, only 480 short sales closed last month. At that rate, it will take about seven months to deplete just the short sale pending activity. There are still an additional 3,232 current active short sales that need to be absorbed as well. The expected market time for all short sales is at 3.24 months. In May, after the end of the tax credit, the expected market time was at 1.7 months. Short sales are still hot, but they used to be sizzling, similar to foreclosed properties. The reputation of short sales has turned off many would be buyers.

Source: Steven Thomas, President, Altera Real Estate