The Most Comprehensive California Housing Market Analysis: Looking at 11.5 Million Households and 32 Counties. Investing in California Housing is a Complicated Calculus.
The California housing market has had its worst year on record. 2008 will go down as one of the most difficult and volatile economic years in history. With that said, there is still a lingering notion or profound desire for bargain hunting. Many articles now try to call a bottom in the stock markets by looking at market fundamentals. Similarly many are now trying to call a bottom in housing in particular the California housing market.
It is hard not to be tempted to call a bottom. It is tempting to call a bottom since the median price of a California home has gone from a peak in May of 2007 of $484,000 to the current price of $258,000. That is a stunning drop of 46 percent in slightly over a year.
This is going to be a comprehensive housing report for the state of California. The challenging thing in today’s market isn’t so much that the data isn’t available, but trying to put the data together into some meaningful analysis. The data used in this report comes from the American Community Survey which was released only a few weeks ago and has data reflecting changes all the way up until the end of 2007. I’ve also combined this data with the home price data from DataQuick which has covered the California housing market for many years and is used by many analyst and reporters.
The data in this analysis will cover 32 of the most populace counties in the state and covers 33,888,596 people and 11,561,712 households. This should be a very comprehensive report. The main question many people are thinking about is whether the state of California is or near a housing bottom. Simply stating we have a bottom because prices have fallen 46 percent from their peak is not an economic argument or holds much water under analysis. We had a prolonged bubble that had its roots planted way back in 1979. It took many years to build and hit the peak only last year. We may be looking at a multiple year correction here.
Analysis #1 - Income to Price Ratios
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One excellent measure of determining whether a home is affordable is looking at the income of households living in the immediate area. This is a very important data point. For example, a median price of $1 million may seem a lot on the surface but if the median household income of the area is $300,000 per year, then the price is right. In this same line of thought, a home priced at $50,000 is expensive if the median income of an area is $5,000.
The above chart tells us a lot. First, we see that the three most expensive counties are:
San Francisco: 9.89
San Luis Obispo: 7.82
Marin County: 7.46
What the above information tells us for example is that the current median home price for San Francisco is 9.89 the median household income of the area. That is still extremely overpriced. In fact, 12 of the 32 counties on the list have income to price ratio of 5 or higher. This is high. Across the nation we will find income to price ratios of 3 or 4 which are more within historical standards.
The three least expensive counties in California are:
Stanislaus County: 3.18
Solano County: 3.09
Merced County: 2.83
What this tells us is that using a blanket statement like “California has hit a housing bottom” is missing the point. Certain counties may have already hit a bottom. Yet you will also need to look at the employment situation in some of these areas. I have provide 10 reasons why this recession will feel like a minor depression so now we have to also factor in whether other factors like employment growth will hold up. Looking at places like Detroit we find low ratios but the employment base is quickly shrinking.
And population size of a county does not indicate affordability. The largest populated county Los Angeles with 9.6 million people has a price to income ratio of 6.46. That is extremely high. Yet a county like San Bernardino with 1.9 million people now has a price to income ratio of 3.42. The dynamics of the California housing market are wide and varied.
Analysis #2 - Median Household Income
To say that a high median household income is enough to qualify for high home prices is wrong. I think this chart tells a lot more of the California housing bubble story. When prices reached nearly a $500,000 median price across the state, it was clearly a bubble because statewide the median household income is approximately $50,000. That at the peak put the ratio at 10 which is a difficult ratio to justify.
Even now after the historic bust, we are still very much overpriced. Let us look really quickly at the top 3 median household income areas and see what their price to income ratios are:
Marin County: Median Income: $83,732 - Price-to-income ratio: 7.46
Santa Clara County: Median Income: $83,074 - Price-to-income ratio: 5.37
San Mateo County: Median Income: $81,573 - Price-to-income ratio: 7.12
This is very useful data. What we learn is median income in these 3 counties is very similar. Yet Santa Clara county has a better price ratio of homes to the current income of those in the area. Let us look at the bottom 3 income areas:
Madera County: Median Income: $44,534 - Price-to-income ratio: 3.6
Merced County: Median Income: $44,141 - Price-to-income ratio: 2.83
Tulare County: Median Income: $41,837 - Price-to-income ratio: 4.18
More useful information. The incomes again are rather similar for the bottom 3 yet if we look at the ratios, Merced County would be the most “affordable” place to buy.
Analysis #3 - Median Home Price
Just looking at the median home price does not tell the entire story. If you look at the above chart, we have 2 counties with prices over $600,000, 3 with over $500,000, and 5 with median prices over $400,000. We would have to go to $300,000 to find 16 counties with higher prices, or half of the 32 counties on the list.
But what is the population of these 16 counties?
Top 16 median priced counties: 22,701,908
Bottom 16 median priced counties: 11,186,688
Keep in mind that we are looking at the largest 32 counties in the state so we are not capturing 100 percent of the picture simply because all the data isn’t available but this data captures 90 percent of the California population. So on the surface, this may lead you to believe that most people can afford to live in high priced areas. Or is it that most of these high priced areas are in a bubble and that is why people are now struggling with holding onto their homes? Let us run a quick average of the price-to-income ratio of both subsets:
Top 16 counties average price to income ratio: 6.11
Bottom 16 counties average price to income ratio: 3.61
This is a very important data set here because of the bifurcation of the state. What we can derive is the lower priced counties are starting to find a bottom yet the top 16 are still over priced. This is important because someone looking to buy in Merced would arrive at a different conclusion than someone looking to buy in San Francisco. We are looking at income relative to each county so we are painting with a very narrow brush here.
Take a look at the population breakdown:
The above chart breaks down the 32 counties in our data set by population.
It is the case that the California housing market is diverse and has enormous variability. I have argued before that California will not see a bottom until 3 years in the future and have provided an additional 3 reasons. Yet with that argument, I was looking at the state on an aggregate basis and not on individual levels. What this analysis shows is that certain counties are arriving at bottoms much quicker and higher price areas are much more stubborn yet are coming down in price. This happens in most housing bubbles. The marginal areas get hit first and progressively move up the spectrum to higher priced areas.
If you are planning on buying in the near future, make sure you know where you live and take all the data into consideration. Simply saying we are at a bottom is too broad a statement for the California housing market.
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2008 will go down as the year with the highest market volatility. Crisis after crisis seemed to hit us like a continuous barrage of waves from the ocean of economic news. The housing market continued to collapse resembling a housing market so weak, we have to go back to the Great Depression to find a similar time. The credit markets are still in complete disarray. $50 trillion in global wealth has evaporated in one year. The automakers have fallen on tough times and emblematic symbols of American manufacturing like GM and Ford stand steps away from being dismantled. In 2008 we also saw the incredible oil bubble peak and burst so dramatically that it caused many to pause.
We need to rewind a few months to get our mindset around the energy issue. During the Presidential campaign, the theme of energy was so important that it commonly found its way into the stump speeches of all politicians. Keep in mind that oil at this time was flying over $4 a gallon and consumers felt there was simply no ceiling for prices. Everyday as people drove by their local gas station all they needed to do was roll down their window, glance up at the big font price, and the probability was high the price was higher than yesterday.
It is also the case that much of the auto sales numbers have collapsed in tandem with the oil bubble yet it would be a mistake to completely attribute the oil burst with the collapse in the U.S. automakers. If oil prices were the main culprit, U.S. automakers should be back in full speed with oil now trading at $36.50 a barrel. This massive market volatility is unseen and very few people have been alive to live through such a volatile moment. At this point, we rely on historical data and precedent and hope that we can learn from our past errors.
Today we are going to examine the impact of collapsing oil prices on the overall economy. We will look at the impact it has on consumer inflation, auto sales, and also consumer spending.
Impact on Inflation
When we look at oil prices in terms of consumer inflation, we now realize that this is one of the strongest components why the Consumer Price Index is collapsing and now we are on precipice of a dangerous bout of deflation. The menace of deflation is that it renders any and all debts dangerous and a country as indebted as ours, simply cannot risk that prospect. Let us look at the most recent data from the BLS regarding the CPI:
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It is incredible to think that transportation is running at a compound annual rate of -48.1 for the previous 3 months and energy is collapsing at -69.3. The unadjusted 12-month data is even more telling. -8.9 for transportation and -13.3 for fuel. What does this mean? Energy and transportation have been seeing price destruction over the last year accelerated by the last 3 months. Clearly there are other areas weighted in the CPI data so it is important to gather how much energy and transportation make up for the index.
Looking at the BLS CPI-U information, we get the following weighting:
Overall base: 100
Transportation: 17.688
Household energy: 4.215
Over 21 percent of the index is based on items sensitive to energy prices and transportation. Given that auto sales are anemic and energy has fallen off a cliff, is it any wonder that the last three months for overall consumer prices has started to look more like deflation? Take a look at 3-month changes for the BLS over the past 10 years:
In fact, November’s drop of 1.7 percent was the biggest on record. This wasn’t a one month event. In October the index went down 1 percent and in September it came in neutral at zero. Bottom line? Transportation and energy have added to the deflation fire.
Consumer Spending
Consumer spending has also been impacted. Let us first look at the oil bubble with national retail sales:
Couple of things are going on here. Retail sales are falling at rates not seen in decades. Even the fall of oil from $147 a barrel to the current $36 a barrel has done very little to encourage shoppers to spend more during this crucial holiday season.
How much oil do we consume? Let us first look at total monthly fuel consumption:
On average, we consume roughly 20 million barrels of oil per day. Let us do some quick math to give you an idea how much money on oil was spent during the two peak months:
June average barrel price: $133.88
Average daily barrels consumed: 19.55 million per day
July average barrel price: $133.37
Average daily barrels consumed: 19.41 million per day
June total amount spent on fuel:
$133.88 x 19.55 million x 30 days = $78,542,931,102
July total amount spent on fuel:
$133.37 x 19.41 million x 31 days = $80,250,062,700
So in two months alone, we spent over $158 billion in energy. That is a stunning amount of money especially given this hits consumers squarely in the pocket. Now let us run the numbers for the latest month with aggregate data, November:
November total amount spent on fuel:
$57.31 x 19.41 million x 30 = $33,371,613,000
And with fuel going even lower in December, theoretically we have add over $50 billion a month in purchasing power yet the relationship isn’t exact. Why is that? Much of the economy of the decade relied on continually financing new and newer debt. Think of auto leases for example. The premise at least from a dealer perspective was that consumers would be trading in their cars every 3 years or so and doing this ad infinitum. Yet this model breaks down when credit stops like it has. The fact that credit isn’t available isn’t the problem necessarily. The issue is America is already saddled with $49 trillion in liabilities and a serious question to our ability to pay that is now up in the air. That is why I have argued that the Fed and U.S. Treasury are going to do everything within their power to destroy the dollar and try as best as they can to create inflation to get us out of this debt. Deflation would be the ultimate endgame scenario. Yet creating the ecology for an environment for hyper-inflation isn’t exactly the way to go either:
Auto Sales
It goes without saying that the oil bubble had a serious impact on auto sales. Let us first take a look at the overall market with data from November:
You’ll notice that the only area that has seen a positive year over year change is for small cars. This in large part was due to the surge in vehicle purchases during the first half of the year when consumers shifted their buying habits drastically. Yet even this category in November got hammered just like every other segment of the auto market.
Much focus is with the U.S. automakers but make no mistake, the foreign automakers are also facing a challenging landscape. The auto market in general is facing a serious industry shift. They may choose to blame the credit markets but there is something much bigger going on here that has been built over decades. That is, the buying habits of Americans will now need to change.
Conclusion
There is no question that oil prices have reshaped our current economy. But now that oil is trading at 4 year lows, we realize that automakers weren’t faltering simply because of high oil prices but also the unsupportable amount of consumer debt being carried around by many Americans. With balance sheets decreasing and unemployment skyrocketing, that additional money saved on lower fuel is helping blunt lower or stagnant wages and also to service current debt. The model of buy and trade up in cars is going to be temporarily stopped just like the buy and trade up housing mentality of the past 30 years.
Aside from smaller family sizes and a baby boomer population looking to downsize, you have to ask where is the money going to come from to get things going again? Maybe boomers were counting on large nest eggs that have been caught up in that $50 trillion destruction of wealth. Cheap oil is clearly not a panacea. Oil can go to $15 a barrel but what use is it if you have no job or your wages are being slashed? If anything, it is simply a consolation to the bigger picture. And the price of oil has fallen because of demand destruction. It has not fallen because of a healthy and stable market.
I have never seen so many economic problems strike at once in my lifetime. I think most people are ignoring oil prices and simply want 2008 to come to a quite end. But what month of 2008 has been quite?
