The biggest issue is getting the inventory data. The MLS holds that pretty tightly.

Thanks for the feedback. I would like you to explain 2 items:

“Dr Doom – w/r/t absorption – I do include that in my model – but on a seasonal basis based on 7 year average. Since I was trying to use the model to be predictive – I couldn’t use any variable that is available only in real time.”

1) How do you include absorption in the model?

2) What do you mean by variable only available in real time? The absorption is simply the reciprocal of months of inventory. If you have past inventory values (end of month I assume) and monthly sales you can calulate either months of inventory or aborption rate. Is it that the monthly sales history is not available?

However, I am working to duplicate your work using OFHEO data for Seattle and inventory change only not absorption. I have The Tim’s inventory data set seattle bubble spread sheet but I think it is only King county data were you use a bigger set. I have done the King County – OFHEO scatter plots and time shifts and get similar but not identical results to your CS. Intercept is 9.92%, R2=.7598 and months delay is 12 (OFHEO data is quarterly so I average Tim’s monthly King Y2Y inventory changes. The slope is significantly different at -.276 which could be OFHEO difference, King county only issues or my poor statistics. Can you point me to your inventory data set in the CS Inventory analysis?

By the way the irvine predictive models seems to use 1990’s patterns to predict median price, and a constant 3% rental appreciation out to 2013 to determine when markets regain balance. I need to study it further and earlier irvine posts but it seems to have several a priori assumptions which might prevent me from being able to cross check it.

-(insert local large company that is no better off now than they were back in 2000) will save us

I’m curious as to which companies newspapers said would save San Diego from price declines. I just read an article in the Deseret News that said that SLC real estate is still rosy due to their “strong economic foundation”. Say what? Well, I guess those granite countertops have to come from somewhere . . . Either that or all of the newspapers say the exact same thing no matter where they’re located.

In my experience (down in San Diego), the winter will be a time of contemplation. The writing will be on the wall, but the papers will be full of things like:

-Don’t worry, the usual Spring bounce will help us. It’s always slow this time of year.
-Inventory is always high at the end of the season – it’s normal.
-We’re returning to a more normal market. It may seem really slow, but this is how a normal market is. No need to panic.
-Boeing will save us
-Microsoft will save us
-(insert local large company that is no better off now than they were back in 2000) will save us

I wonder come spring time people will get a clue and one will start seeing serious price cuts.

If I inherited $500,000 tomorrow, I still wouldn’t rush out and buy a house in a falling market.

No kidding. The Puget Sound area is definitely NOT the place to buy right now. It’s at the tippy-top of the bubble and is just turning down. If one is going to treat owning a home as an investment (as opposed to, I don’t know, a place to live!), then the key is to buy at the bottom, and the trick is knowing when the market has hit bottom. If I had $500,000 burning a hole in my pocket, I might consider buying property in some of the big time bubble areas, like Vegas and Miami. I’m sure there are some deals to be made in markets that have over two years of supply.

But Seattle is not the place to look for real estate investment. It’s still in going through the some of the early stages of grief. It’s just given up the denial phase and is now in the bargaining phase. (“sure we are in a bubble, but really it’s not bubble. It’s a stair case. A stair case made of sparkly crystal with a pretty pink pony at the top…”)

Interesting and intriguing stats. It would be truly interesting to know the historical % occupied stats over the years. I guess in the end though, even if there ratios are historically similar to today’s, I think there is a new generation of realestate investors that have a significantly higher cost basis than what the ‘old school landlords’ who owned a house in Wallingford since 1979 have. Those landlords are probaly 65 and I’ll bet half of them cashed out in the past 5 years to retire… if you owned 5 houses in Wallingford outright (with a 1979 cost basis) you can imagine… hmm.. pain the a$$ renters or $850K in the bank/house… hmm.. “I’m too old for this…see ya!” Today’s ‘investors’ were not really planning on being landlords as much as flippers… totally different game. Tortise and the Hare…

I guess I was hoping (or hoping not) to see that the % owner occupied dropped by 20% or more (which would show a major shift in who actually owns a house today vs. before…. to me, I think the super low interest rates made it crazy not to buy early on in the boom vs. rent, then a bunch of folks thought they were going to be priced out forever, and now the investors who bought during this cylcle are trying to get out while they are still ‘in the money’. The good thing is, 98% of people today wouldn’t buy a house as an investment… so we can probably say that most buyers are non-discretionary. Everyone else is just doing the wait and see thing… most likely a bit of pent up demand. Hopefully a little retraction in price 12-18months out and then continued upward in the next 3 years.

Are there really a bunch of Canadians sitting around thinking, “Well, yeah, I’m might lose $100,000 if I buy this Seattle house, but I don’t care because I have more money this month than I did last.”

If I inherited $500,000 tomorrow, I still wouldn’t rush out and buy a house in a falling market. Just because you can, doesn’t mean you will. Being rich(er) doesn’t cause one’s common sense to fly out the window.

Description:…………………2000………..2006………..Change…….%
Population:…………………563,374…..562,106…..-1,268…..-0.23%
Population > 25 years:.409,582…..415,196…….5,614……1.37%
Housing Units (HUs):….270,524…..282,414….11,890……4.40%
Occupied HUs:…………….258,499…..259,163……….664…..0.26%
Owner Occupied HUs:…125,165…..134,524…….9,359…..7.48%
% occupied:…………………….95.6%……….91.8%…….-3.8%
% owner occupied:………….48.4%……….51.9%……..3.5%

So what it shows is that population growth was flat – with some small uptick in the >25 (likely home buyer) group. Housing stock grew about 3x as fast as that population group – so there should be plenty to go around, right? turns out not, because ownership went up 7.5% in the same period – and occupancy went down 3.8%…

That last one had me puzzled – but when I think about all the condo conversions, tear downs, remodels, and general increased rate of “churn” in the housing stock – I think that could explain a lot of houses going off the market.

Thanks for the link to Irvine predicting model. Looks very well researched but it will take time to digest.

Kime:

Thanks for the feedback

1. % of homes in King County that are owner occupied (year by year if possible)
-the inverse of this would be ‘investor properties’?
-not sure if we’d want to break this down between condo and SFH?

2. absolute number of apartments available in King County (year by year if possible)

3. number of people moving in and out of King County (year by year)

4. number of homes added to King County year by year (SFH and Condo separately)

We all have pretty good idea that investors definitely spurred a lot of the price run-ups. Cheap 4.5% money was pretty helpful too. I’m thinking the buildup in inventory is a bunch of the investors (and discretionary sellers) heading for the exits before their investments go ‘negative’ like the rest of the country. Not sure how long the line to get out the door is…. hoping those stats can help us understand it. I’m also thinking that a number of the discetionary sellers will pull their place off the market as they head towards losses for owners. They will likely be replaced by non-discretionary sellers that tried to hold on, but couldn’t or that ‘had to move’ for whatever reason.

PS. has everyone heard their friends talking about… “oh, I think I’ll just rent the place if it doesn’t sell.”… wonder what effect that will have?

I regularly read the Irving Housing blog and this post reminded me of one of the analysis posts from there. Specifically, this one tries to predict the eventual bottom of their local market based on the fundamental values in RE. I use Irvine as a rough estimate of where the Greater Seattle area is heading, as they seem to be about 15 months ahead of us. Hopefully you can use this to help flesh out your predictions a bit.

According to http://www.city-data.com/county/King_County-WA.html, King county population has increased by 28833 between 2003 and 2005.

To get a rough handle on new construction, I went to redfin and did a search on Kirkland. 242 listings. Then I did I refined the search to new construction. 65 listings. In Issaquah, 99 out of 202 are new construction. Bellevue was 2 out of 99.

There are about 15000 MLS listings for King county. If 1/3 are new construction, that’s 5000, or a few month’s supply, if the population is still growing by 14,000 per year. That’s why sellers aren’t selling.

You are assuming that there has not been too much speculating in real estate in the Seattle area; that we have less than other areas. But I can tell you that although I don’t know how much it compares with other areas, there is a lot of speculation at a level that hasn’t happened in our area before. For instance, my husband is in construction, and now he regularly meets guys even in their early twenties who own several homes for “investment.” These are not people from rich families, they are construction workers. My husband has worked in construction since 1982, and he has never seen this before. That is one reason why Dr.Doom’s reference to how Seattle has never dropped before is not relevant to the current situation. The level of speculation will be a significant driver in the prices of the market. And also the amount of risky loans, which will be another big driver that you didn’t mention.

The volume seen on MLS listings is in large part just discretionary up-sizing and down-sizing. What will really drive prices in the market is the net inflow of people into the region because of jobs, how fast young people move out of the parents’ houses, etc. vs the currently vacant housing plus new construction. People who don’t need to sell can simply wait until new construction declines to match the demand.

Jon – I’m not sure how you are drawing these conclusions.
– We are at historically high inventory levels. The majority of sellers may be discretionary, but the marginal seller is almost certainly not discretionary.
– As to demand coming from jobs and household creation – that is just not borne out by the numbers. check out the census data. Seattle population/household has been essentially flat between 2000 and 2006, while the number of homes has increased considerably. That would suggest prices falling – not going through the roof.
– The only thing that has changed is that we’ve hit a historically rate of home ownership. That trend is reversing. Guess what follows?

As a Canadian immigrant, I can tell you with complete certainty that one of the ONLY ways people from Canada can buy “second homes” down here is with cash. The cross-border mortgage situation is just not viable for a majority of people.

Faced with the choice between changing one’s mind and proving that there is no need to do so, almost everyone gets busy on the proof.
John Kenneth Galbraith

Then, one person piped up and suggested that prices were headed back up because rich Canadians (!) with their dollar at parity were going to swoop down and buy up all the property in the Seattle area. Canadian equity locusts. You heard it here first.

Gee, I wonder where they got that idea?

So you believe the Federal Government never makes any mistakes in its models? I don’t have that much faith in them.

“There appears to be a local floor to how far prices can fall”

Appearances can be deceiving. Just because it hasn’t happened before doesn’t mean it can’t happen.

on topic,

“SFHs will be sticky on the way down. people and banks can only afford to write off so much.”
You are wrong in thinking (or at least you seem to be implying) that the fact of people and banks not being able to afford to write off so much will keep prices up at a certain level. There will be a lot of forced liquidation and people and banks will be going bankrupt as a result if they cannot afford to write it off. You seem to think that banks will be able to hold the homes until they get the price they want, and thus control the market, but it just isn’t true, they can only hold just so many and then they MUST sell, they have no choice.

That is true, but then the question is how much of the currently pricing was created by people who won’t need to sell?

That’s the big question. Was this market created by people speculating on big appreciation and streching to hit it big, or was it created by good old fashioned demand for places to live by people with lots and lots of money?

Tim has ruled out a lot of arguments for the latter case.

and we’re the last to join the decline, so all of the optimism has been used up. nobody but a realtor can claim this is a hiccup or minor correction.

so, we’ll fall back to historic prices in real dollars, possibly a bit lower for a while if the recession/depression is bad enough or interest rates get too high.

condos will be less sticky, since they are almost all owned by investors. either the investors building them or the investors that bought them. builders will go bankrupt and their lenders will liquidate

Further review of OFHEO modeling says absolute floor at zero absorption would be a 6.2% drop in YOY prices. In the past absorption has not fallen below 20%. However I think I have heard Seattle is at 7 months of inventory which is 14.3% absorption. That corresponds to YOY total price change of only .1% far below inflation or the historical average of around 9%.

There appears to be a local floor to how far prices can fall (thus it takes more time to correct). This is different from the stock market. Using OFHEO prices Seattle has never in recorded OFHEO history declined in price although there are periods when it didn’t keep up with inflation (1992-1997). Compare to Sacramento where prices dropped from 1992 to 1996 but never more than 7% a year.

Why the floor? Why the difference? Also if you think in terms of absorption rate instead of months of inventory then 24 months is not that much closer to zero than 10 months. That is the bottom for sales activity is zero “absoption” but infinite “months of inventory”.

It is important to try to predict. Although not everything is knowable or predictable having a numeric prediction leads you to acknowledge when other forces come to play. Predicting and being accountable keeps you alert. You should encourage DJO to see where it goes.

IRA:
DJO has shown that that inventory change leads to price change. This is what should be expected. People (sellers and buyers) are not watching inventory levels to decide when to take action. The decision is personal…they need a bigger house, they want to be in this neighborhood, that house sold, prices are rising or falling, etc. It takes time. The question is what should be the time delay between inventory and sales changes. Watch inventory levels to predict future not current sales.

RCC – I’m not trying to predict either. I just think looking at what is happening elsewhere is a good sanity check for what might happen here. Based on that, predicting we will exceed what is happening in Miami seems like a low probability case – but as you say – time will tell

Lukasz – I haven’t looked at inflation adjusted prices. Probably because I don’t believe the published inflation figures…

Have you tried applying your model to inflation-adjusted prices? Was the correlation between inventory and price changes stronger or the same (with vs without inflation taken into account)?

What data can support the guess that the downturn will take about 3 years? Experience from previous downturns might not be directly applicable to the current one. I don’t think that other US markets have reached the bottom yet, but once they do we can do some kind of comparison.

My guess is that the sales mix has / is changing. The financially unqualified people who should never have bought have dropped out of the market because nobody is stupid enough to give them money to buy a house. The well qualified can still get decent financing – even though rates for jumbo fixed 30 yr 20% down are at least 0.8 point higher than 4 months ago. The unqualified buyers were typically buying at the lower end while the buyers qualified in todays market are more affluent and tend to buy at the higher end.

As to the expected depreciation? I don’t think anyone can predict given the huge number of externalities. My guess is that prices will be sticky on the way down. I see a flat to declining (-2%) price appreciation over the next 1 to 2 years. Then possibly slow price appreciation or additional depreciation based on where the economy is. a 5 – 10% drop in price seems feasible over the next 2 – 3 years. MAybe more, maybe less.

In the article I referenced, it is suggested by someone smarter than most of us, that the global derivative meltdown is not even in the first inning yet.

That said, I don’t feel like making any predictions. I’ll just wait and see what happens instead.

I find your work very helpful. Thank you.

How about looking at price compared to absorption rate (monthly sales/inventory)? I have found it has the strongest correlation to price. It is not just what is available for sale but how much is selling that drives the market. Absorption rate takes both factors into account and peaks then declines with price. Correlation R2 factors increase (.82 or so with a 9 month delay from absorption change to price change)

Have you looked at the OFHEO data compared to the Case-Shiller index? OFHEO is free and available online for all metro US areas (I am in Sacramento). Can you point me to the online source for Case-Shiller Index you use? OFHEO data comes from “www.ofheo.gov” and generally goes back to the 1970’s. Do you have information on the differences between CS and OFHEO?

I think it will be faster than that – I’ve now read on a couple of Seattle RE blogs recently that “investors” are currently supporting the Seattle market. See, for example, http://www.seattlecondoreview.com/2007/10/market-update.html.

Once it becomes abundantly clear that Seattle RE is a terrible investment (at least for the next year or two), the “investors” will flee, until inventory drops to a level that indicates that prices are going to stabilize. The last bit of the stupid money is being sucked into the Seattle RE market at this point, and then we will have a sizable correction.

BTW, I love the new RE talking point – that real estate is a “long-term” investment, thereby implicitly conceding the point that it currently is a bad short-term investment. Can you imagine a stock analyst saying that a given stock’s price is going to drop over the next quarter, but should buy it now anyway, since the stock will go up later?

She is definitely correct the margin is where the action is, can you imagine being a person who bought at the peek even if you don’t need to sell the idea that you overpaid will be painful.

Just as when the market goes up and the herd starts running to bid up a house the same thing will happen on the downside. Human psychology in the market place is always fascinating to watch.

As prices start going down, the conventional wisdom will first become that prices will be pretty flat and then start going back up, then that they will be flat, then that they will go down until who knows when. As the conventional wisdom changes, behaviour will follow and some portion of the kinds of people that were buying houses will exit the market.

A book on economics I read recently pointed out that prices are set on the margin. That is, the few people on the edges, as it were, the ones who are willing to buy or must sell, no matter what, are the ones that set the prices for the entire market.

Thus, as the market cools, I’m expecting the marginal buyers to drop out. As they drop out, the market will cool even more. So far as I can tell, most people expect that they can always sell their house for at least as much as they paid (plus the 10% for taxes and commissions). If that stops, I am guessing that at least some of the people that would buy in a normal (slowing appreciating) market will stay out.

In short, I think that the market has gone up so sharply due to a positive feedback loop and as that turns over and prices fail to go up for long enough, the feedback loop will run the other way. That is, as prices start dropping, they will continue to drop because they are going down, until they get to levels that are sharply below what they are now.

The other interesting question, of course, is how long this will take. Again as a guess, I’m thinking that this year and perhaps next will be pretty flat, then there will be a sharp drop. After that, we’ll see.