Waiting for the New Normal

June 2011Newsletters In the Zone

The economic recovery has been slower and more uncertain than I, for one, had expected (much less hoped for), but the residential real estate market has been particularly troubled. Even as signs of a gradual recovery in the overall economy have grown more regular, the news on housing prices and sales levels has remained almost unrelievedly grim. In the past, hard times have given way eventually to renewed growth in both sales volume and pricing, often enough to make that result seem normal. This time, however, the disconnect between the overall economy and the housing market (especially new construction) has been greater and more resistant to change. It seems increasingly apparent that we are not, any time soon at least, returning to the old normal.

There are various factors – some more scary than others – that may be contributing to the state of the housing market. The uncertain state of the job market must be given pride of place as a source for the housing market doldrums. Buying a house, whether a first home, a trade-up or a vacation property, is an act of faith for most buyers – faith that the buyers’ jobs will still be there tomorrow and next year and thereafter and will offer the regular salary bumps that make the uncomfortable financial stretch of the first year after closing gradually less nerve wracking. Remove the foundation of this faith, as today’s stubborn unemployment rates have done, and many would-be buyers find their apartments or smaller homes still serviceable for a little longer.

Under the old normal, one major counterweight to the understandable anxiety of buying a home has been the certainty that a house was a great long-term investment. In the worst case, a house could quickly be sold for more than you paid and your equity painlessly recovered. There are three assumptions built into this belief: (1) house prices at any given time were essentially correct; (2) houses would always rise in value; and (3) houses were liquid and could be sold reasonably quickly if necessary. All three of these have given way under the pressures of the recession. Houses often sit on the market for months or years, at asking prices that slowly decline toward (and often past) the seller’s original purchase price. The notion that an asking price bore some reasonable resemblance to the “right” price has been replaced by the expectation that the decline in prices will continue, with no reason for a savvy buyer not to wait until that house of his or her dreams gets even cheaper.

In fact, it is difficult to know just how far housing prices need to fall to reach a new normal. In many areas, houses intended for owner occupancy still sell (or at least are listed for sale) at prices well above their value if treated as rentals and analyzed as commercial properties. In other words, sellers expect a premium for houses sold for owner occupancy. The exact origin of this premium remains something of a puzzle to me, though doubtless it is related to the tax benefits extended to owners but denied to renters. Even factoring in those benefits, however, will not generally bridge the gap between asking price and rental value. Until those two numbers reach an equilibrium, it is hard to guess just what the final “right” price for a house may be. Of course, there is no guarantee that a new house can be built for that “right” price, as the cost of a new home incorporates factors not directly tied to buyer demand, such as commodity prices.

In short, the new normal for the housing market remains elusive. We can only hope the general improvement in the economy will start to work its magic on the housing market faster than it has to date and first-time buyers, more comfortable with their economic futures, will decide they cannot wait any longer and need to buy that beautiful house on the corner, whose seller is madly in love with that big home across town, whose owners are ready at last for the big step up….

For more information, please contact Gregory J. Kleiber at 215.299.2874 or [email protected]

View entire issue