Monday, July 25, 2016

On High Plateaus and Soft Landings

by Osman Parvez
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What is a “high plateau” and what does it mean for the Denver housing market? from Sunday's Denver Post is generating interesting online discussions. Let's take a closer look. 

“As long as we have economic growth, we will likely bump along a plateau both in terms of price and volume,” said Mark Boud, chief economist at Real Estate Economics [snip].

Boud predicts a three-year run of double-digit gains in metro-Denver home prices will come to an end in the second half of the year, ushering in a long stretch of meager price increases and then small declines.


Barring major job losses, Boud doesn’t see a slump like 2007 to 2009, when the metro area suffered a tough stretch of falling home prices that drove a surge in foreclosures and distressed sales.
A high plateau looms ahead

As I've long stressed to my clients and on this blog, real estate is both seasonal and cyclical. Prices do not gradually move up and down. They are quick to rise during the upside of a real estate cycle and sticky on the down side. Double digit price increases are unsustainable year after year. Seasonality offers risk and opportunity. 

But the leveling off could require an adjustment in thinking and strategy in a market accustomed to sharp increases in home prices. And someone who buys in 2017 might find themselves sitting on zero appreciation come 2021.

If you're only now adjusting your strategy for long term ownership, you haven't been paying attention (to this blog). For buyers, early phases of a real estate cycle are forgiving. Near the end of the cycle, it's critical to be selective. For sellers, now is a great time to unload real estate particularly in marginal locations and in poorly performing markets. It's also a good time to sell if you don't have visibility for an ownership horizon of at least 5 years. The downturn could be in the 2nd half of this year. It could be in the first half of next year. Heck, it could push into 2018. When it happens is unclear, but one thing is certain: Winter is coming (although it might not arrive until the 8th season of GoT, thanks GRRM). 

Buyer choices; (a) sit on the sidelines and build your cash (or equity) position, (b) compete more aggressively in bidding wars, or (c) choose from overpriced, overlooked, or otherwise poor real estate options. This year, I've helped many buyers and sellers successfully achieve their real estate goals. I've also counseled a half dozen buyers and investors to wait. As of this writing, I have a half dozen properties under contract in Boulder. 

What comes after 2019 will feel even more uncomfortable, especially for buyers late to the game — a 1.6 percent decline in 2020 and a 2.7 percent drop in median home prices in 2021.

It's also possible that price appreciation will revert back to historical norms, more or less tracking long term inflation. That is until pressures from wealthy new arrivals to Colorado, wage growth, a low rate liquidity trap, low rates driven by global uncertainty, or limited supply start to push the appreciation rate again. Most primary home buyers in the Denver MSA are myopically focused on their monthly payment, not the purchase price. Investors and second home buyers and sellers are driven by other motivations. Fact: Nobody has a crystal ball, not me, and not Mark Boud. An unknown or Black Swan could lie ahead. His WAG is about as good as mine. 

Keep in mind that within regional gains and losses are significant differences. During the last cycle, for example, inventory exploded upwards in Longmont first. Longmont also corrected at least 12 months before Boulder. Although both Boulder and Longmont are primary home markets, the characteristics and drivers of supply and demand for these communities are quite different. If you bought at the entry level in Boulder for example, your worst case peak to trough loss was about 5%. If you timed it wrong at the high end, your loss could have been as much as 40%.  

The rest of the Denver Post article goes on to cite a number of reasonable sounding but mostly anecdotal opinions. Have builders in the Denver MSA been producing enough worker housing? Of course not. It's not as profitable as constructing trophy homes. Will the market be driven from the top down during the downturn? Of course it will, that's where the oversupply exists.  

The bottom line remains the same. All buyers need to exercise caution, but buyers at the high end are the most exposed to downturn risk. Your strategy to buy or sell should fit your specific real estate objectives. Work with a real estate adviser who has a deep understanding of market conditions and their fiduciary responsibility.  


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The ideas and strategies described in this blog are the opinion of the writer and subject to business, economic, and competitive uncertainties.   We strongly recommend conducting rigorous due diligence and obtaining professional advice before buying or selling real estate. 

image credit: Michael C. Cordell via CC 2.0

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