A sharp drop in new construction, the dwindling supply of shadow-market units, and improvements in the macroeconomy have strengthened fundamentals on both the supply and demand side. This is boosting asking rents, reducing or eliminating concessions, and filling units.
The USC Lusk Center for Real Estate’s annual Casden Multifamily Forecast found that rents rose last year in 39 submarkets in Los Angeles, San Diego, Riverside, San Bernardino and Orange counties. Why the surge now, after a trend in lowered rents a few years ago, when only three submarkets in 2009 saw rents rising?
“After a number of years when rents were quite soft in Southern California, what we saw is a lot of people moved into apartments in the last year…so vacancies fell quite dramatically,” said Richard Green, director of the USC Lusk Center. “If you have less of a supply of something and people demanding it, you’ll see the price of it go up.”
The conditions for stabilisation in housing markets are right, says Karl Smith; rents are rising and the new home pipeline is remarkably bare. Price stabilisation is unlikely to be a stable equilibrium, though:
Once prices stabilize the incentive to begin massively expanding credit to potential borrowers will be enormous and is likely to reignite.
I would tend to think it’s unlikely that we will get the kind of price appreciation we saw the first time around. However, it is not impossible, and it’s certainly possible to get a strong uptick in construction.
It certainly appears probable that achievement of a real bottom for home prices could touch off a series of feedback loops. One, as Mr Smith mentions, is that mortgage standards may loosen, expanding credit to buyers. Standards are quite tight at the moment; while prices are falling, the chances of dipping underwater and becoming delinquent are relatively high, and banks have been correspondingly cautious. More lending should mean more buying which could soak up diminished inventory quite quickly, leading to rising prices. That, in turn, may push a lot of developers into action. As construction ramps up, resulting employment growth could boost housing demand, by raising domestic household growth and/or reigniting the flow of immigration. More housing demand means even faster appreciation, fueling the boom.
This dynamic, it’s important to point out, is entirely healthy; it’s what we’ve been waiting for, in fact. There is too little housing in America, if you can believe it, and the stock of homes for sale is increasingly undervalued relative to incomes and rents. More building and price appreciation would be a good thing. The question is what happens next.
As Mr Smith also notes elsewhere in the post, the savings glut problem has not been solved. Credit continues to flood into America and is largely finding its way to Treasury securities with pretty dismal yields. The big question in considering whether a new bubble is possible is whether housing finance will be able to tap this flow, as it did in the pre-crisis years. That, I think, is a more difficult outcome to imagine. Last time around, the market gobbled up a massive stream of what looked like high-return, safe mortgage assets. I don’t think a similar supply will be forthcoming this time around. I think that regulators will make sure that mortgage standards do not deteriorate. I think that no one, including ratings agencies, will be confused into thinking that crummy tranches of securities subprime loans are AAA. So I see how you get a market that’s hungry for mortgage assets, but you don’t get the explosion in supply of those assets that channeled the flow of foreign money into housing. And without that, you don’t get a bubble. Faced with a market opportunity, banks (and non banks) will surely aim to innovate up a connection between the flow of funds and housing, but I think that we’re close enough to the recent disaster that regulators will react very cautiously to any new financial developments.
One also suspects that the mortgage market is still fragile enough to react pretty quickly and dramatically to interest-rate moves by the Fed. I don’t see how America gets a runaway housing boom without annual inflation rising to 3% and beyond, which would probably trigger rate increases (the Fed’s commitment is not commitment-y enough for me). Those rate increases would quickly harm shaky borrowers, of which there are and will continue to be plenty, pouring cold water on the boom.
And I don’t think we can discount the importance of psychology to bubbles. It’s one thing to have a national housing bubble in an environment where home prices haven’t fallen nationally in…basically forever. It’s quite another to have one just months after the end of a half-decade swoon in which home prices, nationally, dropped over 30%.
