PRO TECK Valuation Services

Following the Footprints of Institutional Investors in Atlanta Real Estate: Part 1 of 3, The Markets

PROTECKeditor — Fri, 24 May 2013 13:03:39 +0000

Last year was the first in which major institutional investors (hedge funds) operated on a large enough scale to change major real estate markets. There’s been much debate, conjecture and anecdotal reporting as to the size and nature of their activities. Some have accused hedge funds of driving small investors and home buyers out of foreclosure markets, creating overheated markets that become bubbles and lock buyers out of their traditional neighborhoods. Others credit the funds for soaking up toxic foreclosures before they even hit local markets, preventing price declines that could cripple the housing recovery and creating new, quality housing options for families who choose to rent rather than buy. Though last year the scale of institutional purchases compared to the size of foreclosure markets was small, their impact was magnified because they were concentrated in a few selected markets: Las Vegas, Oakland, Phoenix, Miami, Sacramento, and Atlanta. In search of better prices and greater supplies, funds are now reportedly branching out to markets like Tampa, Riverside, Detroit, Orlando, and Sarasota. Tracking Hedge Funds When the discounts for which foreclosures sell suddenly shrink and REO prices suddenly soar, it’s a sign that someone is spending on foreclosures. Chances are, hedge funds have come to town and set up shop. Hedge funds generally avoid buying REOs because they can purchase pre-foreclosures and bulk sales by lenders and wholesalers at lower prices and larger lots. Sales of pre-foreclosures and bulk sales are virtually impossible to track, but REO sales are listed on multiple listing services and registered as REOs in public records. Large purchases of defaulted properties that are still in the foreclosure process (not yet REOs) also impact the REO market. Pre-REO purchases reduce the number of foreclosures that become REOs, creating greater competition among small investors and home buyers for the remaining inventories, driving up REO prices and shrinking the foreclosure discount. Beset by economic woes and a flood of foreclosures, the Atlanta housing market shocked residents and experts alike when the bottom fell out of prices in 2011. The New York Times called Atlanta “one of the biggest laggards in the economic recovery,” (Jan. 31, 2012). Atlanta topped all metros in the nation in foreclosures sales during the fourth quarter of that year (6,458) and its foreclosure discount, a sign of instability, was fifth highest nationally at 48.12 percent. In the past two years Atlanta’s foreclosure picture is markedly different. Small investors have made more than 8,000 purchases in the city from 2008 to 2011, buying in neighborhoods with high poverty, high vacancy rates and low home values. As housing troubles spread to middle-income neighborhoods, larger investors followed. Georgia still has large foreclosure inventories today, completing 48,000 foreclosures in March. Almost two percent of all mortgaged homes in the state remain in its foreclosure inventories as of the end of March. Late last year, Atlanta became a target for major national private equity firms who set up shop to buy foreclosures and REOs, particularly in middle-income areas. These institutional investors, or “hedge funds”, generally buy REOs wholesale or pre-foreclosures through lenders. In the markets where they have been most active (Phoenix, Las Vegas, Miami, Oakland, Riverside, Sacramento), they have brought about a seismic shift in foreclosure markets. Once institutional investors start purchasing, REO prices increase and reduce dramatically the discount from full-priced homes that foreclosures typically experience. Their large scale purchases also drive down inventories. Ripple effects from the scarcity of REOs have driven lower-tier home prices up in other markets by as much as 15 percent over a year ago, compared to only 6 percent in other markets with less hedge fund presence. Is Atlanta experiencing these effects? Where are the hedge funds active and where can home buyers and small investors still find bargains? We will look at specifics in the Atlanta Market in Part Two of this three part series.

Shortage of Housing Inventory Leading to Much Higher Prices in Metro Areas across the Country

PROTECKeditor — Tue, 21 May 2013 12:33:37 +0000

The primary theme of the 2013 residential real estate market has been very tight conditions due to the lack of available inventory for sale. This is quite ironic when considering that a year ago, many housing market analysts were predicting that the huge supply of REO and so-called “shadow inventory” properties would keep the real estate market depressed for many years. This shortage of inventory has led to buyers bidding against one another for those homes that are listed for sale, resulting in significant home price increases in many markets. In fact, there have been numerous anecdotal stories of multiple offers being received on homes shortly after being listed, with potential buyers offering significant premiums to the listing prices. Unfortunately, there is no way to confirm this with available data but a good proxy for this phenomenon is a commonly followed metric that is the ratio of the sold price to the listing price (Sold-to-List Price Ratio). Depending on the particular market, this indicator typically fluctuates between about 92 percent and 98 percent but in very hot markets it can exceed 100 percent. This is also one of the important leading indicators that we follow for both macro and micro real estate markets. Figure 1 below shows a long-term chart of the Honolulu CBSA Sold-to-List Price Ratio and the annual percent change in the median condominium sold price. As seen, this indicator has historically led the home price by approximately six months over the past three real estate cycles and its turning points have been excellent signals for the same in condo prices. Figure 1: Honolulu CBSA Condominium Median Price Annual Percent Change and Sold-to-List Price Ratio Figure 2 below shows quarterly values back to 1994 for the Tucson AZ single family market. Here the Sold-to-List Price Ratio leads by one to two quarters and the two series have been highly correlated with one another. As seen, during the peak of the bubble period in 2006, the Sold-to-List Price Ratio exceeded 100 percent, that was indicative of a very frenzied market. Figure 2: Tucson Single Family Price Per Living Percent Change and Sold-to-List Price Ratio Since this indicator moves directly with the market itself, it is a very useful tool for gauging market conditions with values analogous to what it would be like if we could take the market’s temperature. The San Francisco Bay area has been particularly hot in the past year in all its constituent CBSAs. There have been numerous stories of “bidding wars” between potential buyers and homes being sold above listing price as soon as they come on the market. Figure 3 shows a thematic map of the most recent Sold-To-List Price Ratio by ZIP code. The red colors correspond to the hotter ZIP codes based on this indicator. Not surprisingly, most have been close to or above the 100 percent level since the third quarter of last year. Figure 3: San Francisco – Sold-to-List Price Ratios In contrast, as seen in Figure 4, markets such as Chicago are currently exhibiting more typical Sold-to-List Price Ratios and, thus, more normal conditions. The List-to-Sold Price Ratio will be a useful indicator to monitor over the coming year as a signal that some of these markets transition to more heated conditions. Figure 4: Chicago – Sold-to-List Price Ratios CBSA Winners and Losers Each month Home Value Forecast ranks the single family home markets in the top 200 CBSAs to highlight the best and worst metros with regard to a number of leading real estate market based indicators. The ranking system is purely objective and is based on directional trends. Each indicator is given a score based on whether the trend is positive, negative, or neutral for that series. For example, a declining trend in active listings would be positive as will be an increasing trend in average price. A composite score for each CBSA is calculated by summing the directional scores of each of its indicators. From the universe of the top 200 CBSAs, we highlight each month the CBSAs that have the highest and lowest composite scores. The tables below show the individual market indicators that are being used to rank the CBSAs along with the most recent values and the percent changes. We have color-coded each of the indicators to help visualize whether it is moving in a positive (green) or negative (red) direction. Top 10 CBSAs The top ranked metros in the current month include markets from all major regions of the U.S. Of particular note is that two of the top markets are in Nevada and include not only the widely followed Las Vegas-Paradise NV CBSA, but also, the Reno-Sparks NV metro, both of which had previously been very distressed having experienced severe price declines after their respective market peaks in 2005 and 2006. California continues to be well represented in this list by the Los Angeles, Oakland, and Sacramento metros. A new entrant to the Top 10 list this month is the Nashville TN CBSA, which actually had the highest score based on our collection of market indicators. This is a market that had a more shallow correction than many of the hard hit markets in the recent recession and also appears to be experiencing improving overall economic conditions. This metro has always been one of the most affordable in the U.S. and, as seen in Figure 5, is currently exhibiting its highest readings in 30 years. Figure 5: Affordability Index – Nashville Single Family An interesting development that we have highlighted in recent months is that several of the previously top markets from late last year are no longer in the list because their year-over-year sales counts are down sharply. However, the reason for this is that sales are being constrained by a lack of inventory rather than a decrease in demand. With the exception of the Nashville CBSA, this phenomenon is also showing up in our Top 10 list. Note that all these metros are exhibiting positive trends in all the important market indicators except sales activity. Because their active listing counts are also down sharply, the Months of Inventory Remaining values are still quite low. Bottom 10 CBSAs The bottom ranked metros also represent and interesting mix of markets around the country. As seen in the table, all have nine to thirteen Months of Remaining Inventory. However, our top and bottom ranked CBSAs are ranked on a relative basis. Thus, even the ones in the Bottom 10 list are showing a fair percentage of positive (green) trends. A common characteristic of all these is that they are relatively smaller markets based on both population size and sales activity. This is quite different from last year when the majority of the Bottom 10 markets had most (or all) of their indicators trending negative and colored red. Outliers In this month’s Outliers, we highlight the Las Vegas-Paradise, NV CBSA, which is currently in the list of the Top 10 metros. As seen in the ranking table above, all but one of the important market indicators for this CBSA are showing positive trends on a year-over-year basis including declining inventory, lower Months of Remaining Inventory, declining market times and lower distressed sales activity to name a few. Within this CBSA there are numerous sub-markets. On a ZIP code level, one of particular interest is Las Vegas ZIP code 89135, which is one of its higher priced markets. Figure 6: CBSA – Las Vegas-Paradise | ZIP 89135, Las Vegas, NV As seen in Figure 6, single family home prices in this ZIP code held up somewhat better that the overall Las Vegas metro since the market peak. More important, as seen above, our home price forecast models call for this ZIP code to continue to outperform the surrounding metro and move closer to its previous peak levels over the next several years. There are a number of reasons for the historical and forecasted outperformance of this ZIP code that include the fact that homebuyers in this ZIP code have historically been better capitalized and, thus, better able to weather declines in home prices. The average loan-to-value (LTV) ratio in ZIP 89135 has historically been between 75 and 80 percent compared to approximately 85 to 90 percent for the overall Las Vegas-Paradise, NV CBSA. About Home Value Forecast Home Value Forecast was created from a strategic partnership between Pro Teck Valuation Services and Collateral Analytics. HVF provides insight into the current and future state of the U.S. housing market, and delivers 14 market snapshot graphs from the top 30 CBSAs. Each month Home Value Forecast delivers a monthly briefing along with “Lessons from the Data,” an in-depth article based on trends unearthed in the data. HVF is built using numerous data sources including public records, local market MLS and general economic data. The top 750 CBSAs as well as data down to the ZIP code level for approximately 18,000 ZIPs are available with a corporate subscription to the service. A demonstration is available upon request. Please visit the Contact Us page to reserve your trial. To see how we can help your company with its valuation needs, please call 800.886.4949 or email sales@protk.com.

CEO Tom O’Grady’s Video Summary of April Home Value Forecast

PROTECKeditor — Thu, 09 May 2013 14:50:03 +0000

Video Transcript Hello this is Tom O’Grady, Chief Executive Officers of Pro Teck Valuation Services, and I’m here to talk to you about our Home Value Forecast April 2013 update. In our April update we discuss how distressed property investors continue to drive the increase in home prices, and we look at common traits in historical real estate cycles that indicate we are in the early stages of a multi-year improving trend for home prices. Our thinking at Home Value Forecast a year ago was that the residential market would turn faster than most expected, due to the lack of supply and increase in demand. Supply would be restricted for two reasons: the number of homes being built had been running at historically low rates, and the significant decline in us housing put many homeowners underwater, taking away their option to sell. On the demand side, historically low home prices on an increasing supply of REO and distressed inventory, coupled with strong rental rates, would lead large investment funds to purchase and rent out these homes. In looking back at positive real estate cycles, we see a consistent pattern in that some type of catalyst starts the cycle, and once started, higher sales drive higher prices, which attract more buyers to the market, these higher sales create a shortage for inventory. The current market is being further helped by very low mortgage rates and historically high levels of affordability. In our April update, we look at the Collateral Analytics Leading Real Estate Index. It is shown here for the overall Los Angeles metro. This index is based on a number of factors, including housing affordability, employment growth, home sale activity and new building permits. The index creates a so-called diffusion index from these components that effectively measure what percent are moving in a positive or negative direction at each point in time. The index values range between 0-100. A buy signal is given when the index moves above 50 from below, while a sell signal is given when it moves below 50 from above. These signals have been highly predictive over the last 30 years, with buy signals in late 1983, late 1996, and most recently in the third quarter of 2012, and sell signals in late 1990 and early 2007. Similar well-timed signals were given over the years in most other major real estate markets such as Atlanta, seen here. One of the primary conclusions from this is that these signals typically occur years apart, which suggests that the current upcycle is currently in its early stages. Our monthly market updates include a ranking of the top and bottom ten markets in the country. A new entrant to the top ten list this month is the Warren/Troy/Farmington Hills, MI CBSA. This market was hit hard in the recent recession, but is now showing strong improvement, the recession saw such a significant decline in home prices in this market that it now has some of the most affordable home prices in the country. Like Phoenix and Sacramento before it, this market is showing very compelling rental yields, which is attracting both institutional and individual single-family home investors. We hope you’ll visit Home Value Forecast at www.proteckservices.com/homevalueforecast. There you can view the full April update, as well as trending charts for 30 major metros, and read our past updates and commentary on the U.S. housing market.

PRO TECK TO EXHIBIT AT THE MBA’S SECONDARY CONFERENCE, MAY 5 – 8

PROTECKeditor — Fri, 03 May 2013 14:47:19 +0000

Pro Teck Valuation Services will be exhibiting at the MBA’s National Secondary Market Conference & Expo 2011, May 5 – 8 at the New York City Marriott Marquis. Stop by our booth (#213) to learn how Pro Teck is uniquely combining the best real estate data with traditional valuation solutions. Reports can be augmented with proprietary analytics and data, developing solutions to fit your individual requirements and risk...

Boston Strong

PROTECKeditor — Wed, 17 Apr 2013 13:44:16 +0000

Pro Teck is saddened by the tragic event that took place Monday during the 117th running of the Boston Marathon. We are fortunate to report that all members of the Pro Teck corporate family are safe, and we hope that the appraisers and brokers that make up our national network can say the same. Pro Teck has made a donation to “The One Fund,” a foundation set up by...

Distressed Property Investors Continue to Drive Upswing in Real Estate Market

PROTECKeditor — Tue, 16 Apr 2013 13:43:01 +0000

The overall perception of the U.S. real estate market is almost 180 degrees different from a year ago when most analysts were focused on the size of the foreclosure inventory and how much further housing prices would decline. Now, there is a positive report almost daily on how home prices have increased and how strong sales activity has led to very tight market conditions. Our prediction from a year ago that the market was likely to turn much faster than anyone could imagine has not only been realized, but also exceeded. Our thinking at the time was based on several factors. First, there was the fact that the number of new homes being built had been running at historically low rates for more than five years and that there would be a significant shortage of this component of housing supply once demand returned with an improving overall economy (see: Buy-Sell Indicator Shows Upswing in Most Markets). Second, the significant price declines in a number of important markets led to many mortgages being underwater, and as a result the owners could not afford to sell. This reduced the normal supply of existing homes available for sale. One of the catalysts in the current upswing has been the large investment funds purchasing REO and other distressed single family homes to rent out. As we also mentioned at that time (see: Lesson from the Data, Rent to Value Ratio: The Economics of Rental Property), the economics of doing this was very compelling, particularly with very low investment returns available in the more traditional financial markets. This is still the case today, even though there have been significant price increases in many of the previously distressed markets of interest. There has been some talk of this investor demand as being artificial, but we disagree. These funds have been renovating the homes, which has helped improve the overall conditions of the surrounding neighborhoods. This injection of capital can only be positive since it is unlikely that homeowner buyers would have had the means to do the same. In addition, having observed a number of real estate cycles, we have noticed that while each one may appear to be different on the surface, they all have the common thread that some type of catalyst gets them going in the first place. Once the cycle starts, a virtuous process of higher sales leads to higher prices which leads to more buyers coming into the market out of fear that they will miss out. At the same time, higher sales typically leads to a shortage of inventory available for sale except in those markets where new homes can easily be built. A unique aspect of the current real estate market environment is that it has the strong fundamental support of very low mortgage rates and historically high levels of home affordability. We have discussed in the past a number of individual market indicators that tend to lead the cycle on both the up and down sides. One that has been especially useful is the Collateral Analytics Leading Real Estate Index (CA LREI), which is shown in Figure 1 below for the overall Los Angeles Metro. This index is based on a number of factors including housing affordability, employment growth, home sales activity, and new building permits, among others. The CA LREI creates a so-called “diffusion index” from these components that effectively measures what percent are moving in a positive or negative direction at each point in time. The index values range between 0 and 100 and a “Buy Signal” is given when the index moves above 50 from below while a “Sell Signal” is given when the index moves below 50 from above. Figure 1: Los Angeles CBSA Median Single Family Price and Leading Real Estate Index As seen, the signals have been excellent over the past 30 years with “Buy Signals” in late 1983, late 1996, and most recently in the third quarter of 2012 and “Sell Signals” in late 1990, and early 2007. Similar well-timed signals were given over the years in most other major real estate markets such as Atlanta as seen in Figure 2. One of the primary conclusions from this is that these signals typically occur years apart, which suggests that the current up-cycle is in its very early stages. Figure 2: Atlanta CBSA Median Single Family Price and Leading Real Estate Index CBSA Winners and Losers Each month Home Value Forecast ranks the single family home markets in the top 200 CBSAs to highlight the best and worst metros with regard to a number of leading real estate market based indicators. The ranking system is purely objective and is based on directional trends. Each indicator is given a score based on whether the trend is positive, negative, or neutral for that series. For example, a declining trend in active listings would be positive as will be an increasing trend in average price. A composite score for each CBSA is calculated by summing the directional scores of each of its indicators. From the universe of the top 200 CBSAs, each month we highlight the CBSAs that have the highest and lowest composite scores. The tables below show the individual market indicators that are being used to rank the CBSAs along with the most recent values and the percent changes. We have color-coded each of the indicators to help visualize whether it is moving in a positive (green) or negative (red) direction. Top 10 CBSAs The top ranked metros in the current month include markets from all major regions of the U.S. Of particular note is that five of the top markets are in California and include not only the very important Los Angeles and Orange County (Santa Ana-Anaheim-Irvine) CBSAs, but also the Sacramento and Stockton metros that had previously been very distressed, having experienced severe price declines after their respective market peaks in 2005 and 2006. Texas is also well represented in this list by the Dallas and Austin metros. A number of other Texas markets did not make the Top 10 but are also showing very good conditions, including Houston, Fort Worth, Lubbock and San Antonio. A new entrant to the Top 10 list this month is Warren-Troy-Farmington Hills, MI. This is a market that was very hard hit in the recent recession but appears to be experiencing improving overall economic conditions. The difficult recession led to a significant decline in home prices such that this metro currently has some of the most favorable home prices and, as seen in Figure 3, one of the highest Affordability Indexes in the U.S. The result is that this is another market that has very compelling rental yields, which is apparently attracting both institutional and individual single family home investors. Figure 3: Affordability Index – Warren Single Family An interesting development that we have highlighted in recent months is that several of the top markets from late last year such as Phoenix AZ, and Salt Lake City ,UT are no longer in the list because their year-over-year sales counts are down sharply. However, the reason for this is that sales are being constrained by a lack of inventory rather than a decrease in demand. This phenomenon is also showing up in our Top 10 list. Note that all these metros are exhibiting positive trends in all the important market indicators except sales activity. Because their active listing counts are also down sharply, the Months of Remaining Inventory (MRI) values are still quite low. Bottom 10 CBSAs The bottom ranked metros also represent and interesting mix with two continuing to be in the upstate New York area and three in the Southeast. As seen in the table, all have double-digit MRI. However, our top and bottom ranked CBSAs are ranked on a relative basis. Thus, even the ones in the Bottom 10 list are showing a fair percentage of positive (green) trends. This is quite different from last year when the majority of the Bottom 10 markets had most (or all) of their indicators trending negative and colored red. Our Market Condition thematic maps are a good way to visualize the more geographically granular conditions within the metros. Figure 4 below shows ZIP code single family rankings for the San Francisco Bay Area which includes one of our Top 10 CBSAs, Oakland-Fremont-Hayward CA. As seen, nearly all these markets are now rated “Good” or higher with several being in the “Hot” category. Figure 4: Single Family Rankings – San Francisco Bay Area Figure 5 shows our Market Condition map for upstate New York to show the Bottom 10 Rochester and Syracuse CBSAs. Note that even these metros are exhibiting most of their constituent ZIP codes as having “Normal” conditions. Figure 5: Single Family Rankings – Rochester and Syracuse, NY Outliers In this month’s Outliers, we highlight the Sacramento-Arden-Arcade-Roseville, CA CBSA, which is currently in the list of the Top 10 metros. As seen in the ranking table above, all but one of the important market indicators for this CBSA are showing positive trends on a year-over-year basis including declining inventory, lower MRI, declining market times and lower distressed sales activity to name a few. Within this CBSA there are numerous sub-markets. On a ZIP code level, one of particular interest is ZIP code 95618, Davis, CA, which is one of the CBSA’s higher priced markets. Figure 6: CBSA – Sacramento-Arden-Arcade-Roseville | ZIP 95618, Davis, CA As seen in Figure 6, single family home prices in this ZIP code have held up much better than the overall Sacramento metro since the market peak. In addition, as seen above, our home price forecast models call for this ZIP code to continue to outperform the surrounding metro and move close to its previous peak levels over the next several years. There are a number of reasons for the historical and forecasted outperformance of this ZIP code, including the fact that homebuyers in this ZIP code have historically been better capitalized and, thus, better able to weather declines in home prices. The average loan-to-value (LTV) ratio in ZIP 95618 has historically been around 75 percent compared to approximately 86 percent for the overall Sacramento-Arden-Arcade-Roseville, CA CBSA. About Home Value Forecast Home Value Forecast was created from a strategic partnership between Pro Teck Valuation Services and Collateral Analytics. HVF provides insight into the current and future state of the U.S. housing market, and delivers 14 market snapshot graphs from the top 30 CBSAs. Each month Home Value Forecast delivers a monthly briefing along with “Lessons from the Data,” an in-depth article based on trends unearthed in the data. HVF is built using numerous data sources including public records, local market MLS and general economic data. The top 750 CBSAs as well as data down to the ZIP code level for approximately 18,000 ZIPs are available with a corporate subscription to the service. A demonstration is available upon request. Please visit the Contact Us page to reserve your trial. To see how we can help your company with its valuation needs, please call 800.886.4949 or email sales@protk.com.

Short Sales are Becoming Better Bargains

PROTECKeditor — Fri, 12 Apr 2013 18:26:04 +0000

Short sales of properties not in foreclosure accounted for an estimated 22 percent of all U.S. residential sales in 2012 and increased 4 percent from 2011. Non-foreclosure short sales accelerated toward the end of the year, with the fourth quarter total the highest quarterly total of the year and up 17 percent from the fourth quarter of 2011. At the same time, sales of properties in some stage...

CEO Tom O’Grady’s Video Summary of February Home Value Forecast

PROTECKeditor — Thu, 28 Mar 2013 13:42:15 +0000

Video Transcript Hi, this is Tom O’Grady, the CEO of Pro Teck Services. Pro Teck Services and Collateral Analytics have a partnership that puts out Home Value Forecast. Home Value Forecast provides metrics on housing markets throughout the United States, as well as monthly releases on the state of the housing market and trends that we see. In our latest monthly real estate update we talked about how...

Tom O’Grady to be a Panelist at the Five Star MPact Conference

PROTECKeditor — Fri, 22 Mar 2013 13:40:15 +0000

Tom O’Grady, CEO of Pro Teck Valuation Services, will be a panelist at the Five Star MPact Conference, being held Wednesday March 27th at the Omni Mandalay Hotel, Las Colinas, TX. Tom’s panel will discuss industry-leading products, practices and compliance strategies shaping the evolution of real estate valuations, including: The future of valuation legislation Top technologies for streamlined processing Best practices for reconciling divergent valuations Enhancing relationships with...

Why have home prices in some markets been less responsive to low mortgage rates than would be expected?

PROTECKeditor — Tue, 19 Mar 2013 20:49:40 +0000

James R. Follain, Ph.D., Norman Miller, Ph.D., and Michael Sklarz, Ph.D.

Contributing Editors to Home Value Forecast [1]

“It is very likely that the top tiers of the owner occupied housing market are the ones benefiting the most from lower mortgage rates as this group has been less affected by credit score downgrades or more restrictive underwriting.”

Historically when interest rates decline significantly as they have in the U.S. over the last four years thanks to QE1, 2 and 3 and the Fed’s commitment to buy mortgage backed securities, we generally see home prices increase. In fact this inverse relationship has been strong and steady for decades. In Exhibit 1 below we show the inverse correlation between median home purchase prices conventionally financed by Freddie Mac versus 30 year fixed rate mortgages rates. The relationship starts to break down in 2008 and beyond, and yet in some cities we have seen fairly rapid price increases, mostly within 2012 and early 2013. Why are some markets responding while others lag?[2] Exhibit 1: Median Purchase Prices on Freddie Mac Financed Homes We believe there are three dominant reasons why interest rates and a loose monetary policy are not stimulating housing prices as much as they have historically:

Credit scores for many households have been impacted by defaults, loan modifications, foreclosures, job losses and the breadth of the impact has been sufficient to affect millions of households who now must become or are already renters. Even though buying may be cheaper than renting, such households have little choice but to sit on the sidelines for a few more years.
Tight underwriting has increased both the time required to secure a mortgage loan and the challenges for those with less secure income streams. Those paid based on self-reported productivity are being affected more severely since the lenders are now requiring more conservative assumptions on future earnings. Appraisals are also being kicked back if they are not conservative in the selection of appraisal comps, and so the risk tolerance pendulum has swung towards extreme conservatism.
The investment appeal of housing and presumption that prices can only go up has lost its shine. Many households had stretched in the 2000-2005 run up and some even invested in second homes or investment properties hoping to flip these units at higher prices. Those late to the party got burned.

We have no ability to empirically test these and may never be able to accurately measure the second two factors described, but we believe they are widely accepted as factors affecting the housing market in 2013.

Drilling Down By Market

While we expect inverse relationships between interest rates and home prices, the lack of response since 2007 in many markets may be due to the extent that each market was affected by appetites for subprime and second mortgages.[3] Recent run ups may also be a result of support from greater investment buying is those markets that got hit the hardest. We first drill down on Chicago. The typical inverse correlations between monthly mortgage rates and prices, in this case single family home price per square foot, for the Chicago metropolitan area are shown below:

Period of time Correlation with 30 Year FRMs

1980-2012 -.803

1990-2000 -.566

2001-2005 -.766

Since 2005 .897

For the past four years the housing market has behaved differently in Chicago and for that matter in most other markets. Since January of 1980 to present the monthly average 30 year fixed rate mortgage, FRM, (Source: Freddie Mac) has been 8.45%. Since April of 2010 the 30 year FRM has been under 5% and in February of 2012 when home prices hit their bottom in the Chicago metro market at $137 per square foot for single family housing, the mortgage rates were 3.89%. In September of 2012 they were down to 3.47% and finally prices have shown some modest bounce, but much less so than most hard hit markets. These results are shown in Exhibit 2. Exhibit 2: Chicago Metro Single Family Prices Per Sq Ft Versus 30 Year FRM * Data: Freddie Mac and Collateral Analytics In Exhibit 3 we show the results for just 2005 through first quarter 2013. If you look only at Exhibit 3 you’d think that, at least in Chicago, home prices move with interest rates instead of inversely to them. Exhibit 3: Home Prices Per Sq Ft in Chicago Since 2005 Versus Fixed Rate Mortgages We fully understand that there are many factors driving home prices not mentioned above, such as employment trends and household disposable incomes, tax policies, land supply constraints and more.[4] But even without trying to controlling for all these factors as well as credit access and the changing appeal of housing as an investment, we still see that generally interest rates matter a great deal and the recent price response in Chicago has not been typical. We speculate that the fact that Chicago is in a Judicial foreclosure state with clogged courts and slow disposition of distressed real estate is part of the story. Technical factors which we have discussed in previous articles are revealing. The Months of Remaining Inventory (MRI) for Chicago is an average of 8.5 months, well above the national average. The distress percent of total sales based on REO sales is still over 36% as of first quarter of 2013. The Selling Price to List Price Ratio is 95.87%. Let’s compare these to a market where distress has been dealt with more rapidly and where MRI is low. Exhibit 4: Home Prices Per Sq Ft in Phoenix Since 2005 Versus Fixed Rate Mortgages In Exhibit 4 we see Phoenix home prices rebounding strongly in 2012. Compare the other statistics with Chicago. The Months of Remaining Inventory are 4.28 with several neighborhoods having only one month of inventory. The selling price to listing price ratio is nearly 100 indicating multiple bids on many homes for sale. The REO sales as a percent of total sales are down to 16.5% versus 34.5% in the 4^th quarter of 2011 and less than half of the figures observed in Chicago. We also suspect that Phoenix was one of the targets of many investors who responded to the low prices of late 2009 and the fact that rental yields were well above those available in many other markets.

Implications for the Housing Market

Average prices per square foot for regular (non-distress) sales for an entire metro market or for that matter for the nation as a whole may not be responding to the stimulus of low interest rates to the extent historically observed. However some markets have started to respond and they tend to be characterized by low inventories, declining distress inventories and multiple bidders as suggested by the high Selling Price to List Price Ratios. Affordability is definitely improved when mortgage rates are lower and yet the beneficiaries of these more attractive mortgage rates are not evenly distributed among households of all incomes and wealth. It is very likely that the top tiers of the owner occupied housing market are the ones benefiting the most from lower mortgage rates as this group has been less affected by credit score downgrades or more restrictive underwriting. At the same time we expect that investors have supported the lowest price tiers and are now bidding up the remaining REO sales in an attempt to lap up what is left of distress. Prices in the bottom housing price tiers are still dealing with foreclosure inventory hangovers in some markets with slow and clogged foreclosure systems. Markets where distress has been dispatched more expediently seem to be recovering the fastest.

[1] Norm Miller is a Professor at the Burnham-Moores Center for Real Estate, University of San Diego. Norm was the lead writer of this piece, assisted by Michael Sklarz, CEO of Collateral Analytics and James Follian, Principal of James R. Follian LLC. Bios are available here.

[2] This is similar to the question asked by Donald Kohn at the Jackson Hole meeting of central bankers: “What’s holding the economy back [despite] such accommodative monetary policy for so long?” See the Economist, Sept. 8^th, 2012. The Mystery of Jackson Hole.

[3] Amir Sufi of the University of Chicago presented information at the fall 2012 Jackson Hole meeting that “retail spending and car sales have been weaker in states that entered the recession with higher household debt (ratios)” The Economist, Sept. 8^th, 2012, The Mystery of Jackson Hole.

[4] See for example “Integrating Market Conditions Into Fundamental Home Price Forecasts” by N. Miller and M. Sklarz, Journal of Housing Research, 2012, 24:2, 183-213.