Rational Prices

[Anonymous]

Deadzone, I agree that, today, the premium to rent is lower than the premium to buy: the median sales price for a resale home in La Jolla was $1.7MM in June '06 and $565K for San Diego as a whole. But, there are, believe it or not, 17 neighborhoods in La Jolla:

http://www.liveinlajolla.com/real-estate/index.htm

And, there is great differences in attractiveness, size of house, size of lot, etc.  The La Jolla aggregate numbers get skewed by the big homes/big lots in Muirlands, the oceanside homes in Lower Hermosa, the homes walking distance to the beaches at La Jolla Shores and Windansea.  I'm happy with the modest neighborhood where we now rent, Upper Hermosa.

[Bugs]

What makes anyone here think the correction is going to be based on rational decisions? Rational decisions didn’t build this house of cards and I’d be surprised if the demo is going to involve any either. The corrolary to irrational exuberance is irrational fear, and I think the correction is going to run on that more than rational thinking.

[(former)FormerSanDiegan]

jg –

I am not arguing with the principle here, I’m trying to point out that precision of the estimates are very important. For example, the difference betwen a price-to-rent ratio of 12 versus 8 translates to a huge difference in price (33% is large, no?).

As for your comment about skewed numbers…
There are 137 different neighborhoods in San Diego. There are great differences in attractiveness, size of house, size of lot, etc. The San Diego aggregate numbers get skewed by the big homes/big lots, the oceanside homes in Sunset Cliffs, the homes walking distance to the beaches, etc.

[(former)FormerSanDiegan]

Bugs –

You are correct to a certain extent. But at some point when the cost of purchasing falls enough, relative to renting, people tend to buy.

At least that’s what’s happened historically. But maybe this time it’s different.

[powayseller]

I’m the most bearish here of all, so am I overly optimistic in thinking that prices will stabilize when they equal 100x rent? I think once investors can be cash flow positive on rentals, they will start buying again.

My thought was that the lower end and properties which can be rented, will pick up first. A year later, the middle market, and last the higher end.

What can delay it all is the depressed economy and tight lending, as people won’t be able to qualify for loans. Imagine needing 5 or 10% down on a $200K house. How many people have $20K laying around? This is not exactly a nation of savers.

Bugs and privatebanker, were you specifically paying attention to this last time? Which sectors and communities picked up activity first? Also, does anyone have info on coastal properties, and how they held up in the last bust?

[PerryChase]

jg, why would native born leave the area? I would think that people who’ve been here a long time bought their houses a long time ago or have inherited their homes. It’s the new transplants who have problems affording the high prices.

[Anonymous]

I feel very comfortable using a point estimate — 10X annual rent — and understand that there are confidence bounds around it (I have a U. of Chicago MBA, with concentrations in Finance and Statistics). As you know, there have been Nobel prizes given for work in discount rates, but whether you use CAPM or APT or the matched maturity T-Note for riskless investments as Warren Buffett does, there’s a lot of imprecision. So, I don’t sweat the imprecision, and just understand it’s a reasonable range.

[Anonymous]

Perry C., I’m older than you — 44 — and my friends my age all came to CA with the Navy or for work. My friends and I are transplants, and have lived in great places (my two children were born in a suburb of Minneapolis, a truly great town). CA has its unattractive aspects, which we transplants well recognize: high taxes, high gasoline and food, high congestion, odd morals and ethics (I’m a Texas boy). The only thing that keeps me here is that my wife’s parents live here, and are awesome grandparents. The cost of housing is just the near-final straw.

My Rancho Bernardo company closed down in ’03, and I came very close to moving to St. Louis. I was ecstatic about moving to a place with rivers, affordable housing, great restaurants, a change of seasons. But, the job turned out different than I was expecting, so we remained in San Diego, and I found a job after a painful (eight month) search (I’m a CFO in the life sciences field). Once enough well paying jobs go due to the high cost of doing business here, as they seem to be with Burnham, Scripps, Nokia, et al. setting up shop elsewhere, well paid transplants like me will surely leave.

[Anonymous]

Oh — when I say native born, Perry, I mean born in the U.S. (i.e., white folks), I don’t mean San Diego natives (there aren’t very many of those). I’ve got a Latin last name, so I can be frank!

[ybc]

jg — which year from U. Chicago GSB? I’m class of 2001.

[SD Realtor]

I think the valuations you guys are making are not taking into account geographical locations. I believe that as prices continue to deteriorate, when they finally do bottom out there will still be variations due to desireability. I think certain areas will go below the 10x multiplier but others may still higher, in some cases irrationally higher. I believe one of the earlier posts to this thread estimated 492k for a home in La Jolla. I am sorry but in places like Birdrock and other parts of La Jolla I just don’t see that. Forgive me if I misquoted that earlier post.

Don’t get me wrong, as I am hoping for it cuz my wife would love to move to Birdrock. However I don’t see that happening due to the desireability factor.

[Anonymous]

YBC — call me ‘Pops’: I got out in ’92.

[(former)FormerSanDiegan]

When trying to determine relative value and where one would enter the market again, it seems to me that precision is quite important. If my estimates have an uncertainty in a range of +/- 30%, and my estimate for the nominal price drop is 30%, precision is important.

Otherwise, I generally agree with the initial analysis.

Anyway, here’s my latest numbers …
Based my analysis, I have concluded that the median price of a home in San Diego will bottom out to 50% of peak prices (with a margin of error of +/-175K).

[Bugs]

PS,

In answer to your question about which areas picked up first, it usually goes like this: last areas to drop will be the first areas to recover. Detached homes will rebound before condos. Areas close to employment will rebound before the outlying areas.

There is a possible exception to this that I can’t guess one way or the other, and that is the fate of the homes that are currently in the $1.5mil+ range. Wages weren’t the main factor driving these prices to begin with, and the avilability of credit when the markets to recover would have a huge impact on the ability of buyers to purchase.

[PerryChase]

bugs, I bought my first house in 1988 and I’ve followed the market ever since. I’ve read your posts and what you’ve said is exactly how I remember it. San Diego, like Manhattan, has always been a real estate mad town. It’s part of the culture.

I see a repeat of the 1990’s but uglier. The more things change, the more they remain the same.

[Author]

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