Lower interest rates create added purchasing power. The lower the rate, the lower the monthly payment and the higher a home price people can afford. The math is fairly simple here. During the Wild West days of the mortgage market, teaser rates and other odd mortgages essentially provided the illusion of a low rate initially. That went away and the market contracted. What these loans also provided was easy access to low down payment options. Today that segment of the market is made up by FHA insured loans although these are expensive when you factor mortgage insurance premiums rising to make up for growing defaults. The Fed has essentially been a witness standing by when the first bubble hit and also, a pusher for the housing market as it is today by outright mortgage backed security purchases via the QE machinery. It is interesting to track the data over the last decade because you can see that the Fed is fully focused on the housing market. Is this low rate environment causing another housing bubble but of a different variety?
It is no secret that investors are pouring money into the real estate game. What is interesting is the kinds of investments being taken on are highlighting a bolder more aggressive approach. For example we are seeing more money flowing into flips in Southern California since rentals are unlikely to cash flow in many prime areas of Los Angeles and Orange County. The appreciation trade is back on. With supply at record lows and sentiment near a point of giddiness, money is being made in many different ways. Early on many of the flips we were seeing involved very minor cosmetic work and most of the gains were made on the low purchase price. Today, some flippers are doing some major work and are going for giant gains. Let us take a look at a potential flip in Boyle Heights.
The whispers about private equity exiting the rental market are now out in the open. A few reports are highlighting that some private equity investors are testing the waters for an exit via IPOs. Some have asked why it is necessary for these investors to hold onto properties for a few years before exiting. One of the main reasons is for valuation purposes given that it takes a few years to gather enough workable data on say a block of 1,000 homes and their overall vacancy rates, rental rates, and expense ratios. This would be important if this pool of homes were to be converted into an income stream for investors. Yet many are now looking to exit given how hot the stock market is. You want to sell into momentum. A few other key points include rents falling in places like Las Vegas where investor demand has been incredibly high. Is the hot money planning an exit?
Foreclosure sales usually come at a deeper discount than non-distressed home sales. For many years, the mixture of foreclosure sales and non-distressed sales was distorted especially in California where the housing market faced a deep correction. The peak occurred in early 2009 when 58 percent of sales were foreclosure re-sales (today it is down at 13 percent). This past year or so, foreclosure re-sales became a tiny portion of total sales so the median price reflects a much higher price because of this shfit. For example, the median price is up 28 percent according to the California Association of Realtors or 22 percent according to DataQuick. The Case Shiller, a better measure has price up over 10+ percent which is still very strong. This is an unbelievable pace and is clearly unsupportable. I think that goes without saying but what will be interesting moving forward is how year-over-year data will be impacted as the shift in the selling mixture will start to emerge. So where did all the foreclosures go?
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