|Fall Real Estate 2005
Publication Date: Wednesday, October 12, 2005
Bubble bursting or business as usual?
With headlines screaming that the real-estate bubble is about to burst -- and local median prices still heading up in mid-2005 -- would-be buyers and sellers nervously look to the experts for advice on the state of the market.
We asked four local professionals for their take on what's happening, from who the players are to how risky the game is.
Our participants include:
** Stephen Levy, director and senior economist of the Center for Continuing Study of the California Economy (CCSCE) in Palo Alto, a private research organization founded in 1969 to provide an independent assessment of economic and demographic trends in California;
** Catherine Ballantyne, financial planner and mortgage broker, Absolute Mortgage Banking, Palo Alto;
** Carla Rayacich, president, Stanford Mortgage Corporation, Palo Alto, who also teaches "Home Buying for Women" seminars through Menlo Park Recreation Department and Foothill College;
** Tom LeMieux, Realtor, Coldwell Banker, Menlo Park.
Q: Describe the typical home buyer in today's market.
(Catherine Ballantyne) They are the more cautious ones, the ones that didn't get caught up in the buying frenzy. Buyers today are typically more analytical, more intolerant of bidding, less emotional.
(Tom LeMieux) The most predominate buyer profile we are seeing in the market today is the family buyer -- typically in their 30s and 40s with elementary, middle and high school-age children.
Q: How are they managing to afford it?
(Carla Rayacich) It is the appreciation of the properties that really enables buyers to afford these homes. They may have to do 100 percent financing, beg or borrow the down payment, or take on a more costly loan than they'd like to get in, but when the property appreciates 20 percent in one to two years, they can refinance to a more affordable loan option, pay back money from relatives, and even pull out new money for home improvements.
(Steve Levy) Low interest rates increase the amount you can pay for a given house. Some buyers are using mortgages where their monthly payments will jump sharply later on. Some households are spending a higher share of their income on housing. In the last two cases it is possible that the households really can't "afford" what they are buying.
Q: What are the major risks to these means and what could be the effect in several years?
(Tom LeMieux) Certainly there is always market risk in any market but I don't see significant financial risk given the wealth of buyers, the loan-to-value ratios of their home loans, and the fact that most are buying homes for personal use over the long run and non-speculative reasons.
(Catherine Ballantyne) Many people say that those home buyers who have purchased homes way beyond their means with the interest only or pay option adjustable rate loans will be hit hard when the favorable terms of their loan programs expire. While I believe that this is true, I also suspect that many of these buyers bought their homes in Palo Alto for significant reasons that will have become even more important to them precisely when their loans parameters will begin to change. These buyers are educated and if they are smart, they will be doing all they can to plan for the worst that these changes may initiate.
(Carla Rayacich) I believe the risks are overstated. The tax deductions for home ownership are not going away. Roommates are readily available. One hundred percent financing could disappear -- lenders would stop offering those loans if they start to see defaults. But if property values keep rising as they have, that is not too likely. Changes in appreciation seem to be the largest area of concern since appreciation is ultimately making these properties affordable. ... Much is said about the risks of interest rate increases, since many buyers arechoosing mortgages with interest rates that can adjust up in three to five years. Since many of us have lived through the extreme inflation of 1981-83, many of us tend to overstate the risk of rising interest rates. If you look at a 200-year history of interest rates, you'll see that our current rates are not all that low, and are sustainable.
(Steve Levy) The major risks are that income growth will not be sufficient to meet future monthly payments and that housing prices will not continue to rise. If this happens there will be a lot of houses on the market where the sellers are under duress.
Q: What does it mean when we say the bubble is about to burst? In your opinion, is it?
(Carla Rayacich) I analyze every report I can find on this topic, and once I get past the sensational headline, it seems the prediction is actually that the RATE of appreciation will decline, not the price of homes. I personally would love to see the rate of appreciation drop from recent 15-20 percent levels over the past four years to just 5-8 percent per year. That lets more people afford homes, is much less scary to people trying to buy for the first time, and still gives adequate reward to those owning homes. However, the Bay Area may continue its double-digit appreciation for a while more. It seems that business is picking up and employment is increasing, and these factors tend to support further appreciation in home prices.
(Tom LeMieux) The real estate market is affected by many factors: interest rates, job market, stock market, consumer confidence and economic factors. Our local real estate market has shown great stability and appreciation over the past 10 years despite local economic cycles. We typically have more demand than supply and that keeps prices stable. Although the market might be returning to a more balanced one between buyers and sellers, I do not predict a steep decline in the market.
(Steve Levy) The bubble bursting could mean either housing sales will slow and/or that prices will fall. I believe there could be a sharp downturn in both areas. After all if housing prices fell by 20 percent they would be just back to the levels of a year or two ago.
Q: At this time, is it worth investing in residential real estate in Palo Alto? How about commercial?
(Carla Rayacich) It is definitely worth buying a home to live in and enjoy in Palo Alto. I believe it is likely that homes in Palo Alto and surrounding Peninsula communities will continue to appreciate and so make for a good investment. During the downturn in 1981-83, prices throughout the Peninsula declined 10-20 percent while prices in Palo Alto stayed steady and did not lose value. Similarly, in the decline in 1990-1994 prices in Palo Alto fell less than in communities like Los Altos Hills and Hillsborough, and they started appreciating before any other Peninsula city. ...There are many other terrific towns to buy in, if the entry price in Palo Alto is too high.
(Catherine Ballantyne) Yes. There are always fluctuations and risk associated with every investment. Most all of what's out there has a periodicity to it. Residential real estate in the Bay Area tends to cycle about every seven years. So if what is here is a dip: Dig deep to maintain your wits, and wait a while.