Real Estate Downturn v2? Probably not.

August 2011

Since 2008 both the economy and the real estate markets have been put through a roller coaster of both real and perceived threats. It is safe to say with a large degree of qualitative and quantitative hindsight the ’08 crisis as it related to real estate was very real and there is some lingering, although greatly diminished, effects of that today. So what does the current crop of economic news mean to the real estate market?? That is the question we will try to better understand here.

The first thing to do is look at the 2008 market. The cause of the Fall 2008 crisis was predominately driven by two colliding failures:

1. The residential housing bubble finally collapsed deflating values by 25% - 40% depending on the region of the country.

2. Many of our financial institutions were undercapitalized and near a state collapse. Largely as a result of poorly underwritten residential mortgages.

The good news from this is that our country’s economic fundamentals are far stronger today than those present during the Fall 2008 and Spring 2009 financial crisis. We have consolidated our financial institutions into larger and arguably healthier banks due to more internal and government oversight. The Federal Reserve has made access to capital both plentiful and affordable. The residential housing market remains unpredictable; however, new home building is nearly a zero in our GDP so clearly the broader real estate market is not poised for a collapse.

In fact the volatility we are now navigating is not from a lack of economic confidence; it is one of a complete lack of political confidence. To quote Moody’s it is “the risk of political polarization and uncertainty that are among the drivers of our negative outlook”…on the USA and its debt. The Chief Investment Officer shared thoughts illustrating that our underlying real (or adjusted) GDP growth might be 3% v the recently reported 0.8%. Three phenomena seem to have constrained GDP from 3% to 0.8%. They were:

· The disruption in global supply chains as a result of the Japan earthquake (.25%)

· The increasing cost of oil which resulted in reduced consumer spending (1%).

· USA government fiscal policy, or lack thereof (1%).

If we believe the above are somewhat temporary and political rhetoric can be channeled to fiscal responsibility, then we may see GDP increase in the second half of 2011 to over 2%.

While all of this macroeconomic news is interesting, it certainly affects our local real estate markets. In the San Francisco Bay Area, we are a largely supply constrained market. In the six counties Pacific Union serves, only two counties really experienced over building in the pre-2007 housing boom. As a result, inventories are manageable and not causing downward pressure on pricing. Pacific Union (PUI) has representation across all of the Bay Area’s major markets and our regional managers weighed in with the following observations from our San Francisco, Marin and other selected regions:

· San Francisco – The market seems stable with typical light activity as expected in summer. Multiple new escrows in process and mainly in $1.25 to $2.25 million range.

· Marin – High-end of market is performing well. The larger share of sales activity is priced over $2m and all buyers seem stable, committed and feel values are still appropriate.

· Napa – The high-end of market is very active with multiple deal closing in excess of $7m.

· Sonoma – Like Napa there is no evidence of stress in this market as well.

As we look forward hopefully our politicians have read a few recent headlines and now feel the demand for fiscal responsibility to start stabilizing the markets. As for local real estate, as our children return to school we expect to see an increase in listing inventory and increasing units sold through Thanksgiving. Interest rates remain at historic lows (mortgages are “on-sale”) and real estate is relatively inexpensive. While many will retreat and wait for the comfort zone (near the next peak), now is the time to seek opportunity and buy! That said, for those who have high quality homes in good locations that are looking to sell expect price pressure, but nothing like we saw a couple of years ago.