Buyers drive up house prices in desirable neighborhoods, leave the rest behind
During the housing mania, every house was desirable, so prices inflated everywhere. Unlike the bubble era, today’s buyers only want desirable properties or neighborhoods.
During the housing mania, lending standards were eliminated and toxic loan products with teaser rates and negative amortization flourished. As a result, anyone could borrow any amount they wished to buy a home anywhere they wanted — and that’s only a slight exaggeration.
With liar loans, borrowers and complicit lenders rendered income requirements meaningless. Even transparent lies, like the woman on food stamps claiming $150K+ income, were eagerly funded. Further, the borrower’s income stretched to ludicrous levels with teaser rates where the borrower only needed to qualify for some low initial rate rather than the payment required to actually pay off the loan. Basically, lenders didn’t care how much borrowers made, and even when they did care, it didn’t limit the size of the loan much.
The infusion of borrowed money drove up house prices. It didn’t matter if the house was nice or nasty, if a loan could be applied to obtain it, it was very desirable because it was certain to go up in value, and as it appreciated, borrowers extracted this equity and spent it, which added to the desirability. Under those circumstances, buyers didn’t discriminate between desirable and undesirable properties.
I recently wrote about The surprising change in buyer behavior caused by the housing bust, buyers no longer respond to rising prices with a frenzied attitude toward acquiring homes. Another change, though less surprising, is that buyers no longer coup themselves up in crappy homes they don’t want. The fear of being trapped there in another housing bust makes undesirable homes even less desirable. As a result buyers simply refuse to buy undesirable properties, and the values in these cities and neighborhoods haven’t recovered like the more desirable neighborhoods.
Perhaps this shouldn’t be surprising. It makes sense intuitively that the most desirable neighborhoods should carry larger premiums than undesirable ones. However, during the housing mania, that isn’t how buyers behaved. In this regard, today’s buyers are far more rational than the kool-aid intoxicated buyers of the housing mania.
From 2004 through the housing market’s boom and bust and the Great Recession, the values of single-family homes inside the Capital Beltway dramatically outperformed those outside it, cleaving the region into two distinct housing markets…
“I continue to be amazed by what has happened inside the District and especially inside the Beltway,” Buchanan said. “… It’s a stunning reversal of our perceptions of our region several decades ago.”
“This is not unique to Washington,” Fleming said. “It’s happened around almost every major metropolitan area in the United States. The exurban fringe was always hit more hard by the housing crisis than the urban core.” …
This same phenomenon is observable in any major market metro. For example, house prices near the California coast are inflated by every measure. As you move away from the coast, house prices are expensive, but no more so relative to rent than they were in the mid 90s. If you move across the mountains into inland areas, the price gradient is fairly steep, and most houses in these areas are still underpriced relative to the cost of renting. The premium for living near the coast has never been higher.
In theory this steep gradient of home values should even out over time as people substitute down in quality, but as I pointed out in The surprising change in buyer behavior caused by the housing bust, buyers aren’t as willing to substitute as they were in years past. Without the substitution effect to drive people out to the hinterlands, the desirable neighborhoods will carry a huge and outsized premium.
Developers and home builders pounced, building sprawling developments with the anticipation that demand for housing would grow and grow. Buyers wanted big houses on big lots, and builders delivered. And because lenders were loose with their loan qualifications, some buyers bought more house than they could afford.
That’s an amusing understatement, wouldn’t you say?
When the downturn came, the new homes were derided as McMansions — temples to American excess. Homeowners found that not only could they not pay the mortgage but they also couldn’t afford to heat or cool their manses.
“At the time, most people were buying everything they could buy,” said Gordon Wood, a real estate agent with McEnearney Associates. “Now people are more realistic. They don’t look at their house as how they’re going to make a ton of money. They are starting to think about, ‘What are my true needs?’ ”
This is a major change in buyer psychology from the housing bust. This is a great change, IMO. It’s certainly an improvement over the worst beliefs of the housing mania.
Of all the positives home buyers cite for wanting to live in the suburbs — affordability, schools, newer homes, leafy neighborhoods where children can roam freely — one negative has gained more traction: traffic. …
“What is the time value of the hour and a half you spend commuting each way?” Fleming said. “If you really calculated, would you have bought that home out there? That’s why all these exurban areas are struggling to recover. Because there is not the demand.” …
The problem with commuting is simple: people quickly adjust to the niceties of the large house, but they never adjust to the lost time spent in their cars. It’s more pleasing over the long term to buy a smaller house nearer the workplace, which is why the price gradient is so steep near the desirable employment centers.
But the traffic is a drag on home values. “People pay a lot of attention these days to what their commute is going to be, where their job is located and how they are going to get to work,” said Sharon Bulova. …
Yes. They do.