With California housing markets having decidedly shifted since the summer, the looming question is what comes next. Since 2014, Pacific Union has partnered with John Burns Real Estate Consulting to forecast the market for the upcoming three years. At our November 2017 forecast, we suggested that the John Burns Home Value Index would reach a plateau in 2018 (which we named a “table top”) and maintain that level through about 2020. The major difference between the current peak and the previous peak seen in the mid-2000s is that the current peak resembles a table top, while the last peak was characterized as a “mountain peak” — a peak followed by a large decline.

Source: 2017 Pacific Union Real Estate and Economic Forecast

A lot has happened since our last forecast, but our predictions remain similar.

While our annual forecast event has been postponed to the first quarter of 2019 as a result of the merger with Compass and the wildfires, I recently attended the JBREC annual summit in New York City, and here are the key takeaways.

• While concerns over the housing market’s strength are rising, the major tailwind is the demographic force. With U.S. millennials numbering 44 million, that generation’s largest age bracket (4.7 million people) will turn 32 years old over the next couple of years, thus creating a huge wave of potential homebuyers.
• Online buyer behavior suggests that sales will remain solid in markets in the South (such as Charlotte, Houston, Raleigh, and Atlanta) but will decline in West Coast markets and some Northeastern markets, with California home sales expected to post a 2 percent to 7 percent decline over the next six months.
• Interest-rate hikes following strong price growth over the last year took a large bite out of affordability, making it the biggest concern for California housing markets.
• While technological advancements have the potential to reduce construction costs, supply constraints outweigh any potential savings in the short term.
• Affordability constraints are likely to drive builders to pivot down in price to smaller, higher-density, lower-specification homes in slightly less desirable locations. Also, builders are more likely to construct single-family rental properties.
• Average annual price growth in six California metropolitan areas is projected at 6 percent in 2019 and 3 percent in 2020 before declining by 0.3 percent in 2021.

Long-Term View

Demographic Trends Are Propping Up Long-Term Demand

• With U.S. millennials numbering 44 million, that generation’s largest age bracket (4.7 million people) will turn 32 years old over the next year, which is the median age of first-time buyers in the U.S. Considering a combined total of about 6 million new and existing homes sold annually in the U.S., millennials have the potential to create a huge wave of first-time homebuyers and account for a much larger share of total housing demand. First-time buyers currently comprise about one-third of all homebuyers.
• These demographic forces suggest that 1.25 million more households per year over the next 10 years will need housing, which means that 1.375 million new units per year need to be built to meet demand through 2025 (including owner-occupied properties, second homes, and replacement of teardowns).
• However, after 2025, America’s aging society will reduce the need for housing production since seniors create supply when they pass away or move into assisted-living facilities or their children’s homes. Thus, the net growth of new homes will decline to 230,000 units per year.

But Supply Constraints Make Homes Increasingly More Expensive

• At the same time, meeting current demand has become increasingly more difficult, as builders take a large risk when buying raw land to entitle in their respective regions.
• Based on a JBREC survey, buying raw land is perceived by builders as twice as risky as buying a few home-builder stocks, leading to fewer builders willing to make purchases in the current housing cycle.
• In addition, builders face large labor shortages, which will not abate considering the nation’s aging demographics and immigration restrictions, both of which will lead to much higher construction wages.
• However, technological advancements in the construction industry — such as building information modeling software, 3D printing, robotics, off-site technologies imported from overseas, and smart homes — have the potential to reduce costs dramatically.
• Still, many costs will continue to increase:

1. Lot shortages will keep land prices high.
2. Labor shortages will keep building costs high.
3. Inflation and potentially tariffs will keep materials costs high.
4. Regulation-related costs are high in California.
5. Significant off-site cost reductions for nicer single-family homes are years away.

Short-Term View

2018 Slowdown

• Nationally, sales of newly built homes have been slowing all year, with a 13 percent year-over-year decline in October, bringing annualized sales to 553,000 new single-family homes, or 40 percent of the projected 1.3 million needed to meet demand.
• What led to 2018’s slowdown:
  • Mortgage rates rose by 88 basis points this year, from 3.95 percent in January to 4.83 percent in October, resulting in at least an 11 percent increase in payments without accounting for price appreciation.
  • With price appreciation, Californians’ monthly mortgage payments are up by as much as 25 percent year over year:
    • Silicon Valley, up by 25 percent
    • San Francisco, up by 19 percent
    • The East Bay, up by 17 percent
    • Los Angeles, up by 14 percent
    • Nationwide, up by 13 percent
• Each 100-basis-point increase in mortgage rates reduces borrowers’ purchasing power by about 7 percent.
• The impact on affordability is vast, as 44 percent of American households earn less than $50,000 per year and the median U.S. income is $63,000.
• In the Bay Area, the current minimum annual income required to purchase a median-priced home is more than $202,000, up from $90,000 in 2012. The median household income in the Bay Area averages about $100,000 in the eight local counties excluding Solano.
• In Los Angeles, the current minimum annual income required to purchase a median-priced home is more than $112,000, up from $54,000 in 2012. The median household income is Los Angeles County is currently about $65,000.
• Newly constructed homes cater to affluent homebuyers, with 60 percent of public builders across the U.S. now constructing homes with average prices higher than $400,000. In Los Angeles, the median new home price is $682,000, while in the Bay Area, it ranges from about $760,000 in Sonoma County to $1 million in Silicon Valley.
• Only 24 percent of American renters can afford the median-priced new home today, and just 31 percent can afford a resale home.
• And while there have been more listings on the market in recent months, inventory is still below average across all price tiers, especially for the most-affordable range, which is almost 50 percent below the average.
• Lastly, the housing market’s performance and the current slowdown is not a nationwide trend — sales of existing home remain strong in the relatively affordable South.

What to Expect in the Months Ahead

• The economy will remain healthy, boosted by low unemployment, continued hiring, and wage increases, but the rate of growth will slow.
• Mortgage rates will likely reach 5.5 percent by the middle of 2019, leading to fewer home sales.
• Historically, increases in mortgage rates when the economy was strong have generally had a small impact on activity, leading to a 7 percent to 10 percent decline in sales.
• Online buyer behavior suggests that sales will remain solid in the markets in South (such as Charlotte, Houston, Raleigh, and Atlanta) but will decline in West Coast markets and some Northeastern markets, with California home sales expected to post a 2 percent to 7 percent decline.

What to Expect Beyond 2019

• Rising rates will slow move-up homebuyer activity, with an 11 percent decrease in total home sales.
• Mortgage availability has improved, though credit scores and proof of employment play a critical role (unlike during the early 2000s).
• Affordability constraints are likely to drive builders to pivot down in price to smaller, higher-density, lower-specification homes in slightly less desirable locations. Also, builders are more likely to construct single-family rental properties.
• The risk of a recession increases, with a 48 percent probability of a downturn within two years and a 64 percent chance within four years. Fifty-nine percent of economists forecast a recession in 2020.
• However, housing risks vary by market:

1. California housing markets generally rank normal to higher risk, with no market nationally categorized as very high risk.
2. Affordability is the primary risk.
3. A huge upside in the current housing market is homeowner equity, currently at $190,000 inflation-adjusted per U.S. owned household.

• Other risks:

1. A rapid acceleration in interest and mortgage rates shaking consumer and business confidence
2. A decline in foreign buyer activity due to immigration policy or emerging market factors (such as currency, trade policy, local stock markets, or economic fluctuations)
3. Immigration restrictions: There has already been a pull-back in H-1B visa approvals, which are critical for the tech sector in California; holders of these visas are also participants in local housing markets
4. Excessive debt burdens (government, corporate, and consumer); if interest rates spike, they would have trouble repaying debt
5. A stock market correction that could rattle consumer confidence and result in in job losses
6. A “black swan,” or an unforeseen geopolitical event that triggers significant volatility in financial markets and the economy

California Outlook

• The chart below shows the John Burns Home Value Index four-year outlook for median home price appreciation in six California metropolitan areas and/or divisions. The numbers indicate the average annual rate of growth or decline.
• Because of affordability pressures, all six markets are projected to see notably slower price growth over the next three years.
• Four of the six markets are forecast to see negative growth in 2021 of no more than 1.3 percent. However, all markets will see at least a 5 percent additional cumulative increase in 2019 and 2020 before the reversal in 2021.

Source: John Burns Real Estate Consulting

Taken together, with input from JBREC and the nation’s largest home builders, our final takeaway is that buyers and investors should proceed with caution but proceed nevertheless.

Selma Hepp is Pacific Union’s Chief Economist and Vice President of Business Intelligence. Her previous positions include Chief Economist at Trulia, senior economist for the California Association of Realtors, and economist and manager of public policy and homeownership at the National Association of Realtors. She holds a Master of Arts in Economics from the State University of New York (SUNY), Buffalo, and a Ph.D. in Urban and Regional Planning and Design from the University of Maryland.

(Promotional photo: iStock/RgStudio)

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Here’s a look at recent news of interest to homebuyers, home sellers, and the home-curious.

THE YOUNGEST GROUP OF AMERICANS ARE ALREADY SAVING MONEY FOR A HOME
Several months after a survey found that more than 80 percent of Generation Z plan to purchase real estate in the next five years, another shows that they are backing up that talk by actively saving money for a down payment.

As realtor.com reports, 79 percent of Generation Z — defined as those between the ages of 18 and 24 — aspire to homeownership, slightly less than the 82 percent of millennials and Gen-Xers who want to purchase real estate. Importantly, Generation Z are planning for this investment of a lifetime and are two times more likely than previous generations to be saving for a down payment by the time they are 25.

Forty percent of Generation Z plan to actually own a home by the time they reach age 25, and they are less likely than other age groups to expect help from the bank of mom and dad to achieve that goal. Just 18 percent of Americans under the age of 25 think that their family will offer financial assistance, compared with 24 percent of millennials and 22 percent of Gen Xers.

And while nearly 40 percent of millennials and Gen Xers point to real estate’s investment potential as their reason for wanting to become a homeowner, just 29 percent of Generation Z say the same. Rather, younger Americans are most interested in buying a home so that they can customize it to their liking, cited by 61 percent of Generation Z respondents.

EIGHT IN 10 SAN FRANCISCO HOMES ARE VALUED AT $1 MILLION-PLUS
Home shoppers looking to own a piece of San Francisco real estate for less than seven figures are increasingly running out of options.

That’s according to an analysis by Trulia, which found that 81.0 percent of homes in the San Francisco metropolitan area were valued at more than $1 million as of October, the most in the nation. Just 15 neighborhoods in the city remain under the $1 million median value, including the Tenderlion, the Outer Mission, and Bayview-Hunters Point.

San Jose ranks second in the nation for most million-dollar-plus homes, at 70.0 percent, followed by No. 3 Oakland at 30.7 percent. Orange County, Los Angeles, San Diego, and Ventura County all rank in the nation’s top 10 for the highest percentage of seven-figure properties, and Trulia says that two-thirds of the 838 U.S. neighborhoods with median home values of $1 million and up are in California.

In some Bay Area communities, there is not a single neighborhood where one can purchase a home for less than $1 million: Lafayette, Foster City, Menlo Park, Cupertino, Mountain View, Palo Alto, and Sunnyvale.

NINETY PERCENT OF AMERICA’S 20 LEAST-AFFORDABLE HOUSING MARKETS ARE IN CALIFORNIA
The Golden State’s affordability crisis did not improve in the third quarter, with 18 of the country’s 20 toughest large and small markets for homebuyers located here.

The latest National Association of Home Builders/Wells Fargo Housing Opportunity Index says that for the fourth consecutive quarter, San Francisco was the nation’s least-affordable major housing, with just 6.4 percent of households able to purchase a new or existing home on the median household income of $116,400. Los Angeles was the country’s second least-affordable large housing market, with 7.6 percent of households able to meet minimum qualifying income requirements, followed by Anaheim (9.5 percent), San Jose (11.0 percent), and San Diego (14.1 percent).

California also claims the nation’s five least-affordable small housing markets: Santa Cruz (6.5 percent), Salinas (10.5 percent), Napa (11.0 percent), San Luis Obispo (11.1 percent), and San Rafael (15.6 percent). The other California housing markets to make this dubious top 20 are Oakland, Santa Rosa, Oxnard, Merced, Santa Barbara, Stockton, Vallejo, and Modesto, all areas in which less than 27 percent of households can afford to buy a home.

MORTGAGE RATES AGAIN CLIMB TO A 7-YEAR HIGH
Mortgage rates again neared 5 percent last week, and rising rates are the trend that real estate experts project will most impact the market in the coming years.

The latest numbers from Freddie Mac put 30-year, fixed-rate mortgages at 4.94 percent for the week ended Nov. 8, up 11 basis points from the previous week and another seven-year peak. In a statement accompanying the report, company Chief Economist Sam Khater said that while increasing rates have already led to slowing home price appreciation in wealthy coastal states such as California, they have not yet affected more affordable housing markets in the country’s interior.

Earlier this month, the Counselors of Real Estate named rising interest rates and the economy as the No. 1 issues that will affect the housing market in the coming decade. And rates are likely to continue to increase by the end of 2018; although the Federal Reserve declined to raise interest rates last week, it signaled that another hike is coming next month.

(Photo: iStock/Deagreez)

• San Jose residents ranks as America’s best for living within their means, thanks to having the country’s lowest debt not related to housing and smallest revolving credit usage.
• San Francisco places No. 2 for budget consciousness, with annual incomes that are more than $30,000 higher than the national median.
• Homeowners in all six of the California cities included in the analysis have mortgage-debt-to-income balances higher than 100 percent.
  

Although San Jose and San Francisco were once again the nation’s two most expensive housing markets in the third quarter, residents of those cities have their borrowing habits very much under control.

A few months ago, a survey from CareerBuilder found that nearly 80 percent of Americans are living paycheck to paycheck to meet their expenses. To find out where consumers are the best (and worst) at living within their financial means, LendingTree examined August 2018 credit data from its user base and compared it with household-income numbers, ranking 50 U.S. cities on a 100-point scale.

San Jose tops the list of places where residents have the best control of their finances, notching a total score of 73.6. The city has the lowest amount of non-housing debt in the country, at 23.5 percent of income, as well as the lowest revolving credit usage of 27.3 percent. Additionally, San Jose millennials owe an average of $18,000 in debt not related to housing — $5,000 less than young people nationwide — and have the country’s lowest student-loan balances.

San Francisco ranks No. 2 for budget-conscious residents, scoring a 70.6. The City by the Bay had the country’s second lowest nonhousing debt and credit-usage numbers behind San Jose, a respective 27.7 percent and 27.4 percent.

Of course, when judged by mortgage debt as a percentage of income, Bay Area residents do not fare as well. San Franciscans’ mortgage balances equal 123.9 percent of their earnings, while San Jose homeowners have a housing debt-to-income ratio of 107.0 percent. In fact, homeowners in all California cities included in the list have mortgage balances that are more than 100 percent of their yearly earning: Los Angeles (121.0 percent), Sacramento (126.5 percent), and San Diego and Riverside (both 131.1 percent).

So why are residents of America’s most-expensive places to call home so good at managing their finances? High incomes are partially responsible; as LendingTree points out, the median annual income in San Francisco is about $88,000, compared with the national median income of $55,300. The fact that Bay Area residents tend to have higher education levels helps them earn such large incomes in a region with plentiful, high-paying technology jobs.

LendingTree offers some common-sense tips for prospective homebuyers who are fretting about their spending and budgeting habits, starting with consolidating debt and regular credit-score monitoring. And besides creating a monthly budget and paying bills on time, consider refinancing student, automobile, or mortgage loans to get a more favorable rate.

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• The average American can expect their credit score to decline by 15 points after buying a home, with the total recovery time taking about 10 months.
• San Jose and San Francisco homebuyers have exceptionally high credit scores but will need to wait roughly a year before their ratings return to normal.
• Making on-time mortgage payments will help boost new homebuyers’ credit ratings, as will the diversification of their accounts by owning real estate.

San Francisco homebuyers have some of the best credit scores in the country, but they also face one of the longest roads to recovery after completing their real estate purchase.

A new analysis by LendingTree Chief Economist Tendayi Kapfidze examines how much buying a home affects credit scores in 50 major American metropolitan areas and the length of time that it takes ratings to return to their prepurchase averages. U.S. buyers can expect their credit scores to decline by an average of 15 points after they buy a home over a period of nearly five months. After that, the recovery begins and takes another five months for credit scores to return to the baseline.

Of the six California housing markets included in the report, San Jose fares the best when it comes to credit recovery. Before buying a home, San Jose residents boast credit scores of 725, the highest of any of the cities included in the study. Post-purchase, Silicon Valley credit scores fall to 711 for an average of 149 days before taking 173 days to recover, ranking it solidly in the middle of the country.

San Francisco homebuyers have almost as good of credit as their counterparts to the south, at 724, and they can also expect their scores to dip to 711 over a period of almost exactly six months. Once the 196-day recovery time is factored in, San Franciscans will need to wait one year and 10 days for their ratings to normalize, ranking it near the bottom of the list at No. 47.

The other Golden State cities included in LendingTree’s analysis also appear in the lower half of the rankings when it comes to total credit-recovery time: No. 39 Los Angeles (347 days), No. 40 San Diego (348 days), No. 44 Sacramento (357 days), and No. 48 Riverside (375 days).

As Kapfidze explains, the reason that Americans’ credit scores fall when they purchase a home is fairly logical: As the biggest purchase that most people will ever make, a real estate transaction adds a large amount of debt to one’s balance sheet. Once new homeowners have proven that they can swing the monthly house payments in a timely manner, their credit ratings gradually improve, boosted by the fact that having a mortgage helps diversify a credit portfolio.

Of course, having a good credit score is key to getting a home loan in the first place, and younger homebuyers could stand to improve their ratings to maximize their chances. Another recent LendingTree study reports that millennials have average credit scores of 634, the lowest of all generations. And earlier this year, Experian published an analysis finding that more than 60 percent of millennials lack a prime homebuying credit score.

(Photo: iStock/tolgart)

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Here’s a look at recent news of interest to homebuyers, home sellers, and the home-curious.

MOST NEW AMERICAN HOMES COME WITH A PATIO
Home shoppers who are eyeing a newly constructed property have a pretty good chance of scoring a place to relax outside, as builders are increasingly incorporating patios in their projects.

Citing data from the U.S. Census Bureau’s Survey of Construction, the National Association of Home Builders reports that nearly 59 percent of the 850,000 single-family homes that builders started in 2017 had a patio. The share of new homes with patios bottomed out in 2009 at 45 percent and has been steadily rising since. Though porches are the most common outdoor amenity in new homes, patios are significantly more popular than decks, which are included in only about 24 percent of projects.

Nationwide, the average patio is 260 square feet in size, with poured concrete the most common construction material. In California and other Pacific region states, 62 percent of new homes feature patios, making them more common than in other regions of the U.S. besides Mountain and West South Central states.

Buyers who opt for a home with a patio are more likely to spend time outdoors and throw backyard barbecues. According to survey results from Houzz released this spring, more than two-thirds of homeowners who improved their outdoor spaces spend more time in them, while about half said that they planned to throw more parties.

SAVING FOR A DOWN PAYMENT IN CALIFORNIA TAKES MUCH LONGER THAN IT ONCE DID
Amassing a down payment is a significant hurdle for many first-time homebuyers, and in the Golden State, it’s a much longer journey than it was 30 years ago.

That’s according to a Zillow study, which found that U.S. homebuyers now require an average of 7.2 years to save a 20 percent down payment given median home values and incomes. In 1988, homebuyers needed to save for 5.7 years to fund a down payment; since then, the savings time has increased because home value gains have significantly outpaced wage increases.

San Jose homebuyers of today need an extra 13.3 years to save a 20 percent down payment than they would have in the late 1980s, the most in the country. Buyers in Los Angeles rank No. 2 for added down-payment savings time at 9.5 years, followed by those in San Francisco (8.5 years), and San Diego (7.3 years).

THE BAY AREA: NOT THE NATION’S BEST PLACE FOR TECH WORKERS
While there is no disputing that the Bay Area is a powerhouse when it comes to the technology industry, the nation’s top places for such workers are actually about 3,000 miles to the east.

A report from tech-industry trade association CompTIA evaluates the top 20 large U.S. cities for IT professionals based on number of open jobs and projected growth over the next 12 months and five years, as well as the cost of living. North Carolina claims the top two spots on the list: Charlotte (No. 1), and Raleigh (No. 2). The former city ranks in the top three for projected tech job creation, while the latter scores very high on the cost-of-living criteria.

To be sure, the Bay Area is still a hotbed for tech workers, with San Jose ranking No. 4 on CompTIA’s list and San Francisco coming in at No. 5. San Jose has the most tech job advertisements in America compared with employed people, while San Francisco is first in the country for expected job growth over the next 12 months and five years. Both Bay Area cities are hampered by their costs of living, ranking last in the country for that criteria.

RENTAL COSTS UP IN MOST CALIFORNIA CITIES SINCE LAST NOVEMBER
Renters in most major Golden State cities are feeling the pinch as 2018 winds down — particularly those in Los Angeles, Oakland, and San Diego.

As it has for many consecutive months, Zumper’s latest rent report pegs San Francisco as the country’s most expensive rental market in November, with the median-one bedroom unit at $3,620, up by 5.8 percent year over year. San Jose ranks No. 3 after New York City; tenants there pay $2,510 for a one-bedroom apartment, 6.4 percent more than they did at the same time last year.

Rent prices were up significantly from November 2017 in No. 4 Los Angeles (15.7 percent to $2,430), No. 6 Oakland, (14.8 percent to $2,250), and No. 8 San Diego (14.5 percent to $1,890). Of the 11 California rental markets for which Zumper tracks data, one-bedroom apartment prices increased year over year in every city except Santa Ana.

(Photo: iStock/oneillbro)

• First-time homebuyers have accounted for 33 percent of transactions in 2018, down slightly from last year.
• U.S. homebuyers are making median down payments of 13 percent, up from 10 percent in 2017.
• Like last year, 95 percent of Americans started their home hunt online and 87 percent used a real estate professional during the purchase process.
  

U.S. homebuyers are dropping the largest down payments in 13 years in 2018, while student debt and deteriorating affordability continue to hinder more younger Americans from entering the real estate market.

Those are two key finding from the National Association of Realtors’ 2018 Profile of Home Buyers and Sellers, which says that first-time buyers have accounted for 33 percent of home purchases this year, down from 34 percent in 2017. First-time homebuyer activity has been sliding for three years, a trend that NAR Chief Economist Lawrence Yun says is exacerbated by a severe inventory shortage of starter homes.

Yun points to other familiar factors that are preventing more younger Americans from purchasing homes, including rising mortgage rates and student debt. Nearly one-quarter of homebuyers of all age groups report having student loans at a median of $28,000. Forty percent of first-time buyers carry student debt, with a median balance of $30,000. NAR also found that half of the 13 percent of homebuyers who are having difficulty amassing a down payment are repaying student loans.

Saving for a real estate purchase is even more difficult this year, with the median down payment at 13 percent, up from 10 percent in 2017 and the highest since 2005. First-time buyers are making median down payments of 7 percent, up from 5 percent last year. Nearly 60 percent of homebuyers funded their down payments with their personal savings.

Prospective California and Bay Area homebuyers should plan to sock away more than the national average to purchase real estate here. In a recent study of borrower data on its website, LendingTree found that Golden State homebuyers made average down payments of 21.44 percent — $97,809 — in the third quarter, the most in the nation. And this summer, a report from ATTOM Data Solutions estimated that the median down payment in the San Jose metropolitan area was nearly $300,000, while San Francisco buyers were forking over $180,000.

While first-time buyer and down-payment trends have shifted moderately from 2017 to 2018, the way that Americans shop for and purchase homes has not. For the third consecutive year, 95 percent of homebuyers began their search on the Internet, while like last year, 87 percent used a real estate professional to seal the deal. Only 7 percent of home sellers decided to market their properties themselves, the lowest number recorded since NAR began tracking that statistic.

(Photo: iStock/alekeks)

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