This impressive graph (click for larger, much more readable version) of housing inventory growth in Northern Virginia is courtesy of the Bubblemeter blog. Let's see, a huge increase in supply; declining demand as short term interest rates get higher (reducing the ability of buyers to qualify under low short-term "teaser" rates) and speculators flee. I think elementary economics tells us what's going to happen next.
UPDATE: I'm not sure how they compile the data, but this site shows that inventory for sale in Northern Virginia has increased around 400% since last March 1. For example, 159 homes in Arlington and 800 homes in Fairfax for sale on March 1, 2005. On February 24, 2006, 673 homes for sale in Arlington, and 4,378 in Fairfax. MORE: But that's nothing compared to Phoenix, where inventory has risen approximately 700% in a year.
Yup. Calls for a government program to 'save' the housing industry.
And yet, the Arlington County, Virginia tax assessor has increased the assessed value of my home by over 25 percent in just the last year, even as houses sit on the market longer and longer.
Somehow, I doubt my assessment will be reduced so rapidly when the real estate market collapses.
Northern Virginia governments are gorging themselves on all the additional revenue they're receiving from inflated assessments, but rest assured that they won't go on a diet when property values collapse.
Look at pages 7 and 8. They predict:
1. Inventory will rise
2. Interest rates will rise.
3. Homes will take longer to sell.
AND YET
4. Prices will rise 7-12%.
If I owned a rental house right now, I sure wouldn't raise the rent if I had good tenants.
Something is horribly out of whack with real estate prices in Northern VA when the sale/rental ratio is more than twice as large in Alexandria as it is in Boston -- a city where the same ratio predicted a bubble that has already begun bursting. Right now in Boston times on the market are way up and closings and asking prices are falling steadily.
I sure wouldn't buy a house right now in the DC Metro area.
Prices aren't down 5-10% in my Arlington condo building; a 2BR sold for 11% higher than an identical model did ten months earlier. I don't know where David B. is getting his price figures. Of course, I have a prime location right above a Metro station.
BTW, my brother and sister in law pay $1,150 a month to live in a small 2 br apartment very near the Clarendon metro that would easily cost $350K if sold. What sense does that make? And it's not like they are grandfathered in, they started renting last year.
We will see a bit of a price correction, but folks need to remember that the economy (and hence demand amongst residential buyers) is still very strong. The speculators will get smacked here as prices flatten out. However, as prices dip a bit, the real residential buyers will come back into a market they have been priced out of by speculating idiots. One reason that inventory is a bit high right now is that folks are still trying to sell for a premium over last year! (Real) Buyers know this and are waiting for bargains. They'll start getting them in a couple months. Then we'll start to see a return to equilibrium.
That makes perfect sense. Obviously, the landlord did not buy it for $350K, he bought it for a lot less, and $1150/mo is paying off his mortgage. There is no way anybody could buy now and expect to rent the place out for anything close to covering the mortgage, of course.
The author of that study claims that northern VA will gain 250,000 jobs in the next 4 years. If true, those people will need somewhere to live...
In other words if in January 400 homes were sold, with an average wait of 14 days, and in February 600 homes were sold with an average wait of 14 days, we would not say that the housing market had cooled, but we would see a 50% rise in listings.
I don't think that is necessarily the explanation, but it is a possible explanation.
In general, I have been seeing an abundance of houses for rent and for sale. The houses for sale are $600K and comparable houses for rent are $2K. It does not take much sense to see where things are headed.
$70k down and a $280k mortgage at 6% interest translates into almost exactly $1150/mo. in after-tax interest and Arlington property tax expense (at 30% marginal federal+Virginia tax and itemized deductions), which is the same as the $1150/mo. rent you quote. While buying thus has the opportunity cost of not being able to invest the $70k elsewhere, and requires a bit more cashflow than renting does, and there's the risk (and reward) of home appreciation and depreciation, there's no guarantee that the rent will stay at $1150 over the thirty-year life of a mortgage, either. It's not an obvious buying decision for the long-term resident, but it's not an obvious renting decision, either.
My next door neighbor bought at $567,000 in November. The fellow two floors up bought an identical 1009-sq.ft. unit (with one additional parking space and two floors higher) for $595,000 in January. Parking goes for $75/month around here, so it's hard for me to put more than a $15,000 value on the additional parking space. Give $5,000 for the higher altitude, and it still looks like prices are going up.
But when was the last time that the federal government had a big layoff ? Never.
I'd say the real estate speculators have gone in this market. If your holding .. cover your head, as the ugliness has just begun.
Mortgage on a $500K place with a 30 year fixed at 6% with 20% down is $2400 a month. $500/mo more to own rather than rent isn't that outrageous, I'll take that deal.
But when was the last time that the federal government had a big layoff ? Never.
Didn't they have one around 1990, as part of the post-Cold War "peace dividend"?
The amount of inventory available has been at an extraordinarily low level for several quarters - any move back to a more normal level would more or less have to generate charts like these.
Looking at actual historical inventory numbers over time would probably generate more light and less heat. The fact that we are not seeing comparisons of that sort as frequently as charts like this suggests to me that the picture they show is not (as yet) very shocking.
Your math is incomplete. Twenty percent down is $100,000. Put that in the stock market, and expect 8% returns a year (compounded). So you start off losing 8,000 a year, which adds another $650 a month to your costs. Then add the costs of home maintenance/depreciation. It costs at least several thousand a year to maintain the roof, gutters, landscaping, windows, appliances etc. Figure conservatively another $300 a month. Then add closing costs. No big deal if you are staying 20 years, but if you are staying five years you figure $10K going in, $40K (including real estate commissions) going out. So another $800 a month for that. If the price of the house goes up substantially, of course, you come out ahead. If it stays where it is, you'd be better off renting. If it goes down, you're hosed.
Enoch's math is also incomplete because the $2400/month includes principal payment (which is loss of cash-flow, but not loss of wealth), tax-deductible interest, and excludes tax-deductible taxes.
Is there anywhere in America where home prices are just 75-100 times the monthly rent? That's an investment a heck of a lot better than 8% compounded return, and I'll sell out my stock now to leverage into that.
NB that by that metric, home prices were overpriced here in 2001, when I faced a 200-1 or so ratio, and I would've missed out on the 400% increase in my initial equity investment because I was worried that the home was being sold for twice what had been charged for it in 1998, and was doomed to crash.
There's probably a crash due in the Bay Area, where rents have allegedly dropped 23% in the last few years. But with traffic in NoVa only getting worse, the prime locations in Arlington are going to continue to have high demand, even if people in Gaithersburg or Leesburg might end up taking a bath.
Now it's true, if I were such a genius I would have invested in D.C. area real estate around 2000. But I also know that in 1988, lots of people thought DC condo prices would go up forever, and in 1993, they were holding 40% losses, on average. And that market was less speculative than this one. You're right that location will help the close-in markets, but the problem is that literally thousands of condos are going up there, and supply is going to trounce demand, unless, of course, interest rates go down further.
I'll grant you the tax deduction point, but that still makes home ownership significantly more expensive than renting.
Anyway, what's missing from this whole discussion is that the No. Va. market is not unique. Think New York, Vegas, Phoenix, So. Fla., LA, San Fran (house prices going up with rents going down!), Boston, and for that matter, Sydney, London, etc. This is a liquidity drive worldwide bubble, the same as the late 1990s stock market. When that market crashed, and then 9/11 happened, central banks slashed interest rates to pump liquidity into the system, resulting in inflation, (just as in 1998 after the emerging markets crisis and Long Term Capital, causing, or at least greatly exacerbating, the stock bubble), but asset inflation rather than price inflation.
I don't think a "soft landing" will necessarily destroy stocks, but it would likely cause a recession. Most of the wealth is paper gains only, and since most owners have had their homes for years, they'll still be wealthier than when they started. But look for speculators to get creamed, and those who cashed out their equity in favoer of adjustable rate mortgages, hoping to refinance or sell in the future, to go bankrupt--even with just a soft landing.
Anyway, if there's a real crash, stocks will go down, but real estate stocks will go down a lot more. Hedge with long-term puts on builders.
Thousands of government workers retire each year and they can take this windfall and move into a palace in another part of the country. My own little townhouse has increased in value by nearly 100% in three years. (Yeah, I'm selling this year.)
By the way, Enoch....no, the Gummint did not have a big layoff in '90. They cut some spending and the Clinton administration whacked the daylights out of the Defense Dept., but that attrition was applied to military bases all around the world. Non-defense government jobs actually increased during that time. D.C. never stops growing.
Not so -- I have a fixed after-tax interest rate for a residence of 3.6%. I can't get that sort of interest rate on an investment condo, and there are real benefits from diversification.
I'm not sure that we're that far apart in our disagreement. I think ARMs are too risky for most home-owners, I think buying into a brand new condominium is not a good speculative investment in 2006, and if I didn't already own a home, I'd be renting; I just don't want to pay $40,000 in transaction costs to try to time the market when there's a significant chance I'll be in the same condo in ten years. I'm just not ready to cry that the sky is falling.
Ann Arbor ownership prices are $150/sq.ft., and rents are $1.1/sq.ft./mo., so the ratio there is about 135 (not sure where you're seeing 75-100). Plus there don't appear to be a lot of small condos or large apartments in Ann Arbor; it's not quite the same sort of real estate market with childless urban professionals that DC is.
My neighborhood, home prices are $500-$600/sq.ft., and rents (plus parking) are $2.5-$2.8/sq.ft/mo., a ratio of 200-220. A high ratio, but not Bay Area high, and not really any higher than late 2001, when there was considerably more uncertainty about whether there would be a DC at all. And judging by the higher rents in Bethesda (which has comparable nightlife and restaurants, worse grocery stores, and is further away from the airport and downtown), it's at least as likely that the rents are going to go up here as the real-estate prices are going to go down.
Your math is incomplete too. Rent will increase - and it only needs to increase 5% a year for 6 years before that $1900/mo rent exceeds the $2400/mo mortgage (which will remain constant). I rented for 8 years in grad school, and they never failed to increase my rent the maximum they could every year. Moreover, you will probably be forced to move periodically (if they sell the house out from underneath you or convert the apartment to condos, or whatever), and each move will cost $5,000-$10,000 (it was cheap to move when I had an apartment, but now that I have a house full of stuff I would not want to move every couple of years as I did then). I suspect renters move more frequently than owners.
There is also the tax advantage of owning, of course, as Ted said.
Twenty percent down is $100,000. Put that in the stock market, and expect 8% returns a year (compounded).
It goes without saying that if you compare the most advantageous stock market scenario to the least advantageous housing market scenario, gee, you shoulda rented and bought stock instead. Yet we know there have been stock busts as well as housing busts. If you put $100K in the stock market in 1999, would you be happier now than if you'd used the $100K to buy a house in northern VA? Worst case scenario with stock bust, you have a handful of paper. Worst case scenario with housing bust, I have to keep living in my house in Reston, wow, that really sucks. Good luck waiting for your "buy and hold" strategy to bring back your pets.com stock.
From 1970 to 2005, average annual real appreciation in home prices was 6.1% nationwide - and it did a lot better in certain markets. Average real individual gain in the S&P 500 index over the same period was more like 4.5%.
Then add the costs of home maintenance/depreciation. It costs at least several thousand a year to maintain the roof, gutters, landscaping, windows, appliances etc.
You can certainly mitigate that with an intelligent purchase. I bought in 1999, and all appliances and the roof were relatively new (less than 5 years old). I haven't had to replace anything yet, so my annual maintenance has been minimal.
If the price of the house goes up substantially, of course, you come out ahead. If it stays where it is, you'd be better off renting. If it goes down, you're hosed.
The same applies if you use your $100K to buy stocks now and sell them in 5 years! If they go up, great, and if they go down, you're hosed. No guarantees either way.
I don't see this crash you're predicting unless the DC metro area economy takes it in the neck for some reason, or unless there is a mass exodus from the region.
Not predicting a great crash. Predicting at least a 20% decline in real prices over a medium-term horizon, which could simply mean no nominal price increases for the next several years, or, if prices decline more like five percent a year for four years, then we are talking more like a 40% decline in real (inflation-adjusted) prices. Of course, if rates rise substantially, a recession hits, there is war with Iran, regulators crack down on mortgage companies, or other such things occur, the hit could be worse than the late 80s early 90s, when a 33% nominal decline and 50% real decline was common in the Northeast, including the, DC area. Is there any reason that the market CAN'T go down at least as much as it did between 1989 and 1994?
Do you have a source for the 6.9% price increase annually? My understanding is the long-term price increase in the DC AREA is 6.9%, but that's substantially higher than most of the U.S., where the average is 2-3% over the long-term. Unless the last two years have skewed the results, which would be like looking at NASDAQ returns as of late 1999.
I'll buy a house in No. Va. in a year or so for emotional (and spousal) reasons, but I won't be thinking of it as an investment, though I will try not to lose my shirt (prices in Potomac and McLean seem to have increased by relatively small percentages, and I think those markets, with their great schools, will hold up relatively well as the market softens).
Too many people are arguing from different time horizons as to the advisability of purchasing. If you have a decent chance of selling your house in the next 5-10 years, one should definitely not be buying at the moment, especially in DC, based on a financial evaluation. If you are indifferent to financial return on your house, or have outside concerns (such as spousal/familal pressure), do what you need to do. But one should not try to argue that because a 20 year horizon makes buying a good idea, someone with a short term view should buy.
Arlington County
Average Monthly Rent
Detached Home (1998) $1625
Detached Home (2005) $2050
Hi Rise Apt (1998) $1191
Hi Rise Apt (2005) $1742
Townhouse (1998) $1300
Townhouse (2005) $2103
Fairfax County
Average Monthly Rent
Detached Home (1998) $1652
Detached Home (2005) $2164
Hi Rise Apt (1998) $1013
Hi Rise Apt (2005) $1600
Townhouse (1998) $1237
Townhouse (2005) $1788
So, rents are definitely not stagnating.
Rents are not stagnating, but high-rise condos in Arlington have tripled in value between 1998 and 2005, vs. 50% increases in rent. On the other hand, the average apartment size is, I think, somewhat smaller. It's hard to get the apples-to-apples comparison, which is why I prefer the $/sq.ft. figure.
Average real individual gain in the S&P 500 index over the same period was more like 4.5%.
1. Does this include reinvested dividends? I doubt that it does.
2. It looks like you're measuring from a peak baseline for the S&P, which would artificially deflate the trendline. One needs to measure peak-to-peak or trough-to-trough.
3. One is typically paying 0.5 to 0.6% annually in after-tax income in property taxes to own, while there typically isn't that level of taxes on stock ownership. That's an important part of the comparison.
4. Stocks are considerably more fungible than real estate, and transactions costs are lower.
5. Moreover, if David's partially right, and home values are due for a 10-20% correction, the favorableness of the statistic for real estate completely dissipates. The comparison would look completely different in 1999, but, as you note, one was far better off buying-and-holdng real estate in 1999 than in stocks.
One factor noone is mentioning: the risk of tax reform that would destroy the mortgage deduction for blue-state-valued real estate (i.e., a cap at $100,000 of mortgage or so). In a fell swoop, I would not only no longer be able to afford my condo, but be facing a 30% overnight decline in value.
David: have any ideas how I might hedge? I'd buy reasonably-priced puts if I could, but that financial option's not out there. Yet. (I'm aware of entrepreneurial attempts to create the financial instrument.)
To clarify, I don't expect prices to keep running up the way they have been, but I don't see any reason to fear a dramatic decline, either. I guess a 10-20% decline is not impossible... I'm no expert, and I've seen "experts" predict movement in all directions (up, down, stay flat).
Rents are not stagnating, but high-rise condos in Arlington have tripled in value between 1998 and 2005, vs. 50% increases in rent.
Though to be sure, the mortgage payments required to buy those condos have not tripled, since credit is now cheaper.
Does this include reinvested dividends?
Yes.
If you don't like that figure, the SSA says "the long-term ultimate average annual real yield assumed for equities is 6.5 percent." But then you have people like Krugman predicting something like 3 percent.
Stocks are considerably more fungible than real estate, and transactions costs are lower.
Isn't that a good thing from the standpoint of home values - it makes them more "sticky"?
the risk of tax reform that would destroy the mortgage deduction for blue-state-valued real estate
If the Republicans have any brains at all, they will examine the effects of such a move on the swing states. Is that going to put Florida permanently in the Democrats camp? Arizona? Nevada?
Is there a web site with a good searchable database of the rental market? (like www.VirginiaMLS.com provides for the sale market).
Thanks.