Housing Market in the San Francisco Bay Area
Natalie and I have been visiting open houses for the last two months with the goal of buying a home in the San Francisco East Bay in Fall 2007. Our experiences have shown that the housing market is saturated with properties whose owners are trying to capitalize before the bubble bursts. In my opinion, the primary factors contributing to a dramatic drop in home prices and increased inventory are high consumer debt, fears of rising interest rates, and the climax of the housing market after 5 years of irrational exuberance.
The California real estate market has long been an expensive investment option. Most homeowners will cite "inflation hedge" and "pride of ownership" as being reasons for owning property. Unfortunately, neither of these have been true for the last couple of years in the Bay Area. Inflation was hardly a concern in 2000 when the Fed began lowering the prime lending rate; however, temptation to borrow has driven property owners to perform expenseive rennovations and treat their homes like ATMs with the aid of home-equity loans. Pride of ownership is just that, but with so little disposable income remaining available after paying bills, one's pride is severely weakened.
Reliance on home-equity loans might be explained by the fact that the U.S. has the lowest domestic savings rate of any industrialized country in the world. Germany claims a strong domestic savings rate of 10.6%. The domestic savings rate in the U.S. is a mere -0.5%. Once an individual, company, or nation has a net-worth in the red, their ability to borrow is severely diminished. How much longer will it be until companies are deemed a credit risk simply because they reside in the U.S.?
Rumours of people making small fortunes in the real estate market have lured many people with inadequate incomes to invest in a market that has been grossly over-valued. Many of these people resorted to the more affordable Adjustable Rate Mortgages (ARMs) which may be adjusted at higher interest levels in a couple years. Unless their incomes rise enough to accomodate higher mortgage payments driven by higher interest rates, many people may need to foreclose on the properties or resort to renting. Rental rates have been dispproprionately cheaper than mortgages over the last couple years. Our rent is roughly half what a comparable mortgage might cost.
I am very grateful for our ability to purchase a home in the near future; however, my confidence in the market is low. The Federal Reserve is left with a complex dillema: raise interest rates to thwart inflation at the risk of killing the real estate market, or keep interest rates low to foster economic development but with a higher rate of inflation. Either way, I think that much of California and the country are in store for some hard times.
Information elsewhere on the web hints at this outcome. However, I'm a pessimist, so it's natural for me to arrive at such a dire conclusion :)