Bruce Norris is joined again this week by Leslie Appleton-Young. Leslie is vice-president and chief economist for the California Association of Realtors, a statewide trade organization with 155,000 members dedicated to the advancement of professionalism in real estate. Leslie directs the activities of the association’s member information group. She oversees the analysis of the housing market and brokerage industry trends.
Bruce and Leslie discussed financing and FHA, which was less of a factor in 2012. They were still a big factor and way above what they were in 2000-2006. However, they did less percentage of loans in 2012 than they did in 2011 and 2010. Leslie thinks this reflects the inventory situation. You have your FHA buyer at a disadvantage in this market, so inventory has fallen and competition has intensified. It is the all cash buyer and not the low down-payment buyer who will win in those multiple offer situations. You have at least half of the properties selling in California with multiple offers. There were situations where a property was 25% over list with forty offers on it. Leslie hears about these kinds of things all the time and knows how it is very competitive out there.
We got used to very easy financing in 2000-2006, however it is much harder to get a loan. However, one of the things that is a lot more generous is the loan amount for FHA. Right now we are at a 366 median price. Back in the 90s when prices were at this number, the loan amount for FHA maxed out at 160,000. FHA was just not a factor because most of the properties were priced above that limit. Bruce said he always liked when they raised the limit in Riverside since back then whenever the median price bumped up the prices ran to meet it. This was because the sale was most likely going to be an FHA buyer.
Right now, FHA’s loan limit in Riverside is 500, double what the median price is, and 700 in Orange County, double the median price of the state. This is very generous but not an announcement he would want to see. Leslie said it is a very attractive program but not effective in the marketplace we are facing right now because of the competition from all cash. The buy and hold investor is keeping most of the inventory. They would have sold to an FHA buyer left and right. However, right now it is more profitable to hold it. Another big part of it is we are buying less of the inventory. The Norris Group does a fair amount of loans, and half of their loans now are people who want to hold the same inventory that they would have sold. Some of the big companies who are their competitors and buying a lot more than them buying none of those. This has been a big change.
Bruce wondered what the agents are feeling out there. He wondered if they are feeling that there is an upswing coming and the buyers are excited, or if there is only frustration that they cannot get anything for their clients. Leslie said they are definitely in a much better state than they were a year or two ago. However, it is a challenging market to work because it is so competitive. It is really competitive to receive listings and appraisals tend to lag in any turn of the market. Because of this you will have appraisal issues coming up where there is financing involved, the appraisal is not coming in, and yet the buyer and seller have agreed on a significantly higher price. Leslie said there are a lot more short sales happening much faster at about 25% of the total market. While there is still some frustration, it is definitely better and the lenders in general are doing a much better job of moving things through quickly. It is not a perfect market, but it is a market that is moving.
One of people who is in the news a lot is Robert Schiller. He recently quoted, “If you think investing in housing is such a good idea, why not invest in cars? Buy a car, mothball it, and sell it in twenty years.” He really thinks housing is not a very smart investment, although Bruce said he would really love to challenge this one. Bruce wondered if there are people who buy into this. Leslie said she was just listening to an interview Robert did recently, and he was called upon to defend himself in terms of being so negative given how strong the data has been. He also really clarified that he is not negative, he is just being cautious and looking at long-term trends. He is wondering how long rates are going to stay this low as well as how long investors are going to be engaged in the market. He is just urging caution given the long-term perspective he has had over the last twenty years and what has happened in the market.
When Leslie was at the Federal Reserve Bank of Philadelphia, she was Robert’s research assistant for a while. Robert is someone you really have to pay attention to because he is thoughtful. You look back at his irrational exuberance quote, and you see how he was pretty much right on the money. The issue is not that the market is strong and very responsive right now. The question is as you look out over the next 2-4 years, what will happen to the properties that are owned by investors as well as what will happen to housing prices. Leslie is more optimistic and positive as she looks at California and the demographic trends, pent-up demand, the fact that housing starts are still relatively low in this state. She could point to all kinds of reasons, but the economy works in strange ways and we do have to pay attention to some of the new things in this cycle that we have never seen in prior years. One of the issues is the data is not very clean and aggregated in an easy way to be able to answer the questions of who owns what, for how much, and for how long.
When you talk about being cautious, for Bruce this means you have a chance to lock up a payment to reside somewhere at an all-time low, then do this for thirty years where it does not change. This would seem to be very cautious, and he said he does not care what happens in the short-term in that sense. One thing he can predict pretty well is rents will not stay stagnant for the next thirty years. This is why it seems that irregardless of price, if your payment is fixed then you will feel less of that weight over time. You will be able to have a better life having discretionary money far in excess of somebody renting at the current rate every year. It is very frustrating for people to do what he is describing and are not able.
Bruce wondered if people are receiving different lengths of loans than normal. You would think everything would be 30-year, but then you listen to the radio and it is a ten-year or a “yourtgage” (Create your own mortgage). Leslie said there is more of this because you have people refinancing who are looking at their retirement horizons, so you have more of the 10 and 15-year loans especially at these low rates. For a while some of this was at less than 2%, so if you have a lot more diversity in terms of timeframes than you did in the past. This makes a lot of sense for people who are trying to prepare for their future.
Bruce said we are not thinking about how fantastic this is going to play out twenty years from now when people have these low-interest rate mortgages and have been able to participate in more spending in the economy. They then end up with no house payment much sooner than they ever would have in prior years. It is a big country and markets are behaving differently depending on what areas you go to, so the concern would be the areas where you have a very high investor-owned percentage and do not have a strong economic base to prop it up. This is where Leslie sees the weak link. The question is when we are going to see this economy really kick in and start to create jobs for this next generation.
One of the factors that has to happen in California is you have to have prices accelerate to where it pencils to construct something. Bruce thinks this is what 2013 is about and what we will likely see this year. It is hard to see past what you are feeling right now, and one of the things that is happening simultaneously with this is developers are developing 5% of the amount of lots in Riverside and San Bernardino than is normal. There is no way building will catch up until they create building lots. Unfortunately, building lot creation has not gotten easier, but rather more involved. They are 2-3 years away from a building lot; so when you look at Riverside normally creating 35,000 and see they are creating only 5% of these, that number is stunning. This is going to affect economic development if people cannot live close to take advantage of the jobs.
We have existing lots, and once we go through those they are going to be surprised at there being a gap. This is why Bruce feels like the prices of existing homes will accelerate since there will not be whatever percentage normally the new home market will be. It will be hamstrung because of no building lots being created for five years.
One of the charts that surprised Bruce was the one that showed the percentage of sellers losing money reached an all-time high in 2012. This is due to the emergence of the short sales. You also had an acceleration of the proportion of short sales out of the total amount, so this almost skewed this number. Leslie guessed we are going to see this start to go down as the appreciation that we saw last year continues to accelerate very dramatically. The assumption is that all the people who lost money on their home cannot be buyers. However, this is not true; and they are going to be back in the market or just stay where they are. We are seeing a lot more principal reduction loan modifications happening as wells as people deciding to stay put. When you are looking at over 2 million mortgages, there is a lot of room for a variety of responses. However, there is no doubt that the price appreciation that we are seeing is going to push some of them out as well as push some of them to stay in for the time.
Bruce asked if he decided to do a short sale but was current on his loan, would he be able to get an FHA loan right after the closing. Leslie said he absolutely can, and if we see the Boxer bill go through the you would be able to be current on your payments and take advantage of a refinance, even if it is not a Fannie/Freddie loan. If we see that go through, which was alluded to in the State of the Union address, that is going to help people as well. The stabilization of the housing market is indisputable at this point. It has been that way in California for the last two years, and looking at last year you can say that for the nation as a whole.
What is also important to the short sale business and getting it finally through the end of this crisis and on to a normal market is the fact that they extended the mortgage debt forgiveness. You have this extended through the end of 2013, so this was the one part of the fiscal cliff negotiations that were being pushed very hard. However, now that this is done we are going to start looking at tax reform. The next issue that will be back on the front burner will be the mortgage interest deduction. This brings up a broader topic of representation for our industry. The National Association of Realtors, the California Association of Realtors, and the Mortgage Bankers Association are all going to bat for a specific industry during a time where a lot of people are looking at real estate and saying they can take a lot of goodies from this segment. Bruce is looking at it and trying to say they maybe should not do this.
Leslie said the argument is really strong that the housing sector is back and leading the rest of the economy, so do not do anything to put on the brakes. This does not make any sense at all. With all this said, the political reality is when they go behind closed doors and look at tax reforms, everything is going to be on the table. Leslie said as they have gone to Washington and talked to the California Congressional Delegation, she sees that there is tremendous support for not touching it. However, you go in and, for anyone who remembers 1986, the last time we had this situation we were good until the final hours. All of a sudden, you had a $1 million cap. We have been mobilized, and we will be even more so as we go into this session. However, the imbalances between revenue and expenditures are significant and are going to require some creativity to get through it. Real estate does seem to have some of the goodies from which they can make revenue.
One of the rules Bruce has always been surprised has stayed in place is that you can make $250 and $500,000 on the sale of your residence every two years and tax-free. When you have tax increases for people that are making a lot of money, Bruce wondered if it has a chance to skew people by an expensive residence for the sole purpose of it being one of the few ways you can make a lot of money that cannot be taken. Leslie said it depends on how you are projecting price appreciation over the time period that you are going to own the home. It would not be a short-term strategy, but would rather take a long time to gain that much equity in a home bought today. Clearly what we saw at the end of last year was the December sales were inflated at the upper end as you had high net worth individuals pushing to close transactions before you had an increase in capital gains or the thought that it would happen. Financial decisions as big as homeownership are impacted by tax rates. Looking at the exclusion on capital gains is going to be a longer-term strategy.
In 2005, Bruce read a report that had to do with the reason people bought in 2005. At that time, it was to make a profit. In 2012, the reason is homeownership. Unless you were just surveying investors, then the reason would be yield and cash flow. The market is 30% cash buyers and is very high historically compared to what we have had in the past. It feels like there is more cash than you could ever imagine waiting on the sidelines to do something.
Bruce asked Leslie what she thinks of the future of Fannie and Freddie. Leslie said we do need some things, so whatever the GSEs do needs to be done very slowly. In 2012, 87% of the new originations were bought by Fannie or Freddie, so they are the mortgage market. Any transition away from the GSEs is going to be at significantly higher rates. There is probably no one who can say what this will look like, and there is not even a proposal on the table. There have been a couple white papers that have come out over the last couple years, one from the Treasury and one from the FHA. It is a big complicated issue, and Leslie does not think anything is going to happen in 2013. Going forward, it really is the issue of this era for the future of the housing market because if you do not get a mortgage, you really will not need the mortgage interest deductions. The availability of capital at a reasonable rate is currently insured by the construct with the GSES and is going to have to be dealt with very carefully. This is the biggest policy concern looking ahead for Leslie.
Bruce asked if we know what Dodd-Frank now entails completely. He wondered if it is all done and will be implemented. Leslie said she thinks they are still working through some things, although other things such as QM have already been released. However, there are other things that are still being defined. It is still a little bit of a work in progress, obviously very political and contentious.
Bruce wondered if we are solving yesterday’s problems sometimes with policies that are no longer necessary. Leslie said there are a lot of people who would agree with that. Dodd-Frank was negotiated and developed in good faith. However, everything you attempt to do to regulate and avoid what happened in the past creates new challenges for the future. It is something you have to think about very carefully since there were a lot of things that led to the crash, and maybe the biggest one is not an issue right now. This issue is that you need to be qualified today to receive a mortgage. This was easy back in 2003-2005, but this is certainly not the case today and could possibly make the biggest difference of all.
When they look back, they have probably written the safest book of loans in 2011 and 2012 without a down payment of 20%. You look at all the issues with FHA right now, and you see it is certainly not the book that they have for the last 2-3 years. It really is what came before; and what they have done recently looks fabulous. You just don’t have a market typically that goes down the way we did.
One thing that could impact California a lot is if we have some kind of immigration forgiveness like we had during the Reagan era. Bruce asked Leslie if she sees this impacting California as far as households that are all of a sudden capable. Leslie said yes and that the general economic analysis of immigration reform is that it is positive. You are going to have people investing in education, paying more taxes, and being more engaged in the community. They are here already, so the net outcome for immigration reform is going to be very positive for the future and the economic growth of the state.
To find out more information, you can visit CAR’s website at www.car.org. This site contains fantastic information to keep you updated on all of the current statistics on sales, price, and affordability.
For more information about The Norris Group’s California hard money loans or our California Trust Deed investments, visit the website or call our office at 951-780-5856 for more information. For upcoming California real estate investor training and events, visit The Norris Group website and our California investor calendar. You’ll also find our award-winning real estate radio show on KTIE 590am at 6pm on Saturdays or you can listen to over 170 podcasts in our free investor radio archive.