djc
02-26-2008, 05:35 PM
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To understand why the big price declines are inevitable, it's important to appreciate the giant chasm that opened between prices and rents, and how fast it happened. All through the 1990s the multiple of prices to rents nationwide remained between 14 and 15.
Then prices exploded for reasons that are now highly familiar. The most important was easy money. The 40-year-low interest rates that prevailed from 2003 to 2005, especially the irresistible teaser rates on adjustable loans, brought a flood of investors into the market. Lax lending standards allowed subprime borrowers, people with poor credit histories and erratic employment records, to suddenly afford to buy houses, further stoking demand.
By 2005 the Fed was aggressively raising rates to slake the coals. But the banks and Wall Street kept the party raging until late 2006 by concocting exotic mortgages that held down monthly payments for the first year or two and enabled buyers to keep paying outrageous prices. Then rising defaults forced lenders to scale back on loans to the high-risk borrowers driving the market. In July the subprime meltdown dealt the market a stiff blow by erasing the bargain rates that started the entire boom.
While prices rocketed, rents barely budged. From 2000 to 2006 they rose a total of about 10%, not even keeping pace with inflation. For a while, part - but only part - of the rise in prices relative to rents made sense. The drop in rates genuinely made houses far more affordable for millions of buyers. Between 2000 and early 2005 average mortgage rates, adjusted for inflation, declined from 5.5% to less than 4%.
But the tailwind from low rates is now over. The turning point came with the credit crunch this summer, when rates on jumbo loans jumped almost one percentage point. Today average real rates for all mortgages, fixed and adjustable, stand at 4.7% (adjusted for inflation), which is roughly in line with the long-term average. "For a time, higher than normal ratios of prices to rents were justified because of low real mortgage rates," says Mark Zandi, chief economist at Moody's Economy.com. "Today that justification is gone."
The cheap and easy money is gone, but the inflated prices it created are still here. No other factor was as important in driving the price-to-rent ratio to its current, unsustainable heights. From 2000 to 2007 the nationwide P/R jumped from 15 to 24, an increase of 60%. The figure went from 12 to 21 in Tampa, 11 to 26 in Washington, D.C., and 28 to 51 in California's East Bay, an area that includes Oakland and the area east of the city.
http://i.l.cnn.net/money/2007/11/06/real_estate/home_prices.fortune/gap_years.03.gif
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http://money.cnn.com/2007/11/06/real_estate/home_prices.fortune/index.htm
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Good article. While not specifically about SoCal, it has a lot of good points and information for those not following the events as closely as others.
To understand why the big price declines are inevitable, it's important to appreciate the giant chasm that opened between prices and rents, and how fast it happened. All through the 1990s the multiple of prices to rents nationwide remained between 14 and 15.
Then prices exploded for reasons that are now highly familiar. The most important was easy money. The 40-year-low interest rates that prevailed from 2003 to 2005, especially the irresistible teaser rates on adjustable loans, brought a flood of investors into the market. Lax lending standards allowed subprime borrowers, people with poor credit histories and erratic employment records, to suddenly afford to buy houses, further stoking demand.
By 2005 the Fed was aggressively raising rates to slake the coals. But the banks and Wall Street kept the party raging until late 2006 by concocting exotic mortgages that held down monthly payments for the first year or two and enabled buyers to keep paying outrageous prices. Then rising defaults forced lenders to scale back on loans to the high-risk borrowers driving the market. In July the subprime meltdown dealt the market a stiff blow by erasing the bargain rates that started the entire boom.
While prices rocketed, rents barely budged. From 2000 to 2006 they rose a total of about 10%, not even keeping pace with inflation. For a while, part - but only part - of the rise in prices relative to rents made sense. The drop in rates genuinely made houses far more affordable for millions of buyers. Between 2000 and early 2005 average mortgage rates, adjusted for inflation, declined from 5.5% to less than 4%.
But the tailwind from low rates is now over. The turning point came with the credit crunch this summer, when rates on jumbo loans jumped almost one percentage point. Today average real rates for all mortgages, fixed and adjustable, stand at 4.7% (adjusted for inflation), which is roughly in line with the long-term average. "For a time, higher than normal ratios of prices to rents were justified because of low real mortgage rates," says Mark Zandi, chief economist at Moody's Economy.com. "Today that justification is gone."
The cheap and easy money is gone, but the inflated prices it created are still here. No other factor was as important in driving the price-to-rent ratio to its current, unsustainable heights. From 2000 to 2007 the nationwide P/R jumped from 15 to 24, an increase of 60%. The figure went from 12 to 21 in Tampa, 11 to 26 in Washington, D.C., and 28 to 51 in California's East Bay, an area that includes Oakland and the area east of the city.
http://i.l.cnn.net/money/2007/11/06/real_estate/home_prices.fortune/gap_years.03.gif
...
http://money.cnn.com/2007/11/06/real_estate/home_prices.fortune/index.htm
---
Good article. While not specifically about SoCal, it has a lot of good points and information for those not following the events as closely as others.