More on Case-Shiller

Information is so easy to access today. We take this for granted, and expect easy answers for everything. A discussion about who played what position on a World Series team in 1963 is quickly settled by one of the parties exclaiming, “Fine, let’s Google it.”

People expect the same from real estate. Everyone wants an easy, concise answer to what their property is worth. Unfortunately, its not that easy. Essentially, your property is worth what someone is willing to pay for it. As we have stated before, all real estate is local. A sale in Buda does not effect an sale in Allandale, a sale in Austin does not affect a sale or value in San Antonio. Values and demand are all local. The media, policy makers, and investors alike were, and still are, basing their actions on a set of commonly accepted myths – that one price index meets all needs.

First, get with a local real estate broker if you really want to get today’s value. There is not a common index that can tell you what your value is. The most commonly quoted index is the Case-Shiller Index. They publish two indices – a composite look of ten cities, and one with twenty cities. Only one Texas city is included in the twenty city composite, and it was the last Texas metro to turn positive after the recession! What does that value have to do with what is happening in the other Texas metros? Nothing!

The Case-Shiller 10 City Composite Index of December 31st, 2013 shows year-over-year gains of 13.6%. This is their highest gain since February 2006, and marks the seventeenth consecutive month that both composites increased on an annual basis. So should a consumer use that to figure the value of their home? No.

Here are the most recent changes in the indices put together by various different sources:

chart 1-10

Depending on who one prefers to believe, house prices have appreciated between 6.5% to 13.6% year over year. The good news is most of the state saw appreciation of homes and investment real estate. However, many areas saw a little less appreciation (rural areas) and many of your top metro’s desirable areas saw double the top appreciation stated. So, again the truest value will be found by a real estate professional, an appraiser or broker familiar with your specific neighborhood and demand.

Case-Shiller is probably the most commonly referenced index today. They have a nice model with a nice interactive chart can be found on the S&P/Case-Shiller website. Those who want to engage in a bit of an intellectual exercise can read the 48 page explanation of the Case-Shiller methodology. A much better read however, is the simple one page overview by FNC that debunks all the house price indices, including their own. I would like to add that no index takes into account the local inventory and demand, prevailing interest rate and lending practices, and no-one has figured out a method to make appropriate adjustments.

To see why Case-Shiller should not be used, check out this link for our past discussions on the problems with Case-Shiller. For example, how does one compare a house that sold for $100,000 in 2005 utilizing sub-prime financing, versus the same house that sold for $70,000 cash in 2013, with a few foreclosures and flips in between? Was $100,000 a meaningful indication of value? Did it really depreciate by 30% in 8 years?

The indices are a indicator of the health of the market, but not a great way to get a value of your real estate. All real estate is local as are the values.

So what does all this mean for 2014 in your city or neighborhood?

Historical perspective

Inventory constraints contributed to the current run-up in prices, just as they did in previous housing / real estate cycles. Look at 1968, ’74, ’80, ’90 and 2000-01, saying that in this cycle ‘the same movie, same book with different players, same story that has played before.’ No supply was put into the pipeline during the recession. Indeed, the big fear going into 2013 was that there was a swell of shadow inventory of foreclosed homes that would overwhelm the market. This did not happen, particularly here in Texas. Increasing prices helped motivate more supply as builders move in to profit from the healthier market. On the existing home side, more sellers finally decided to put their homes on the market that have been waiting to get more value…and of course many of these sellers turn around and become move-up buyers. The same is true for investment and commercial property in the Texas region.

Home sales will continue to improve

Most areas will continue to see the strong appreciation much like 2013. Will it improve more than 2013? The potential is there, but lack of inventory, lending rates, continued strong job creation, etc. are all factors that individually will affect the local markets.

Supply will continue to play catch up with demand

Residential, office, retail, industrial, etc. will all continue to struggle to keep up with demand in all four metros, as well as many of the second tier population Texas towns and cities. This lack of inventory will be a challenge for most of the year.

Due to a shortage of developed and approved home sites, labor and material constraints in some markets, and a lack of available capital for small and midsized privately owned builders, the supply of homes is still not meeting current demand, let alone the pent-up demand of the last 7 years…this supply constraint could lead to a further escalation in home prices above and beyond normal trends until industry production returns to historic equilibrium.

Look at the indicators

The pace of homebuilding remains well below historical levels. This is important. Homebuilders watch resale and new home sales more closely than any investor or consumer. They have the largest investment to make or lose. In the strongest markets, inventory remains a significant constraint. What will distinguish 2014 from the previous two years of recovery will be the pace of the overall economic recovery. The good news is unlike the start of 2013, we are in recovery. Job growth and economic growth are yet to reach levels expected in the wake of a recession. The housing recovery will need more of both to demonstrate incremental improvements from 2013 (there is a positive feedback loop for housing and the general economy).

Interest rates will increase

A continued sign of our economy improving will be mortgage and lending rates increasing through 2014. Most experts are thinking in the mid-5%’s, but it could reach 6% by the end of 2014. That is still historically low rates.

Given the forecast of robust demand boosted by favorable demographics, continued tight supply conditions and no inventory overhangs, strong annual home price appreciation of around 5+% to 15% percent is likely – although it could reasonably be as low as 4 percent or as high as 20+ percent (especially if supply constraints continue). Additional increases in land use restrictions cost of utilities and regulation reducing developable land could boost home price gains still more.

What to expect in the housing recovery in 2014:
• We are still early in the recovery cycle
• Supply constraints from under-building persist. This has created production deficits in all real estate channels, residential, commercial, developable land, etc.
• Pent-up demand continues to grow with increasing population, on-going lending constraints, and
delayed household formation through 2014 /15
• Values will increase, sales will be challenged to find inventory
• Lending rates will increase! When that happens sales slow, then picks up as consumers try to lock-in rates before they rise more
• Continued economic recovery will overcome other headwinds such as higher mortgage rates and increased fees on government-guaranteed mortgages (FHFA-backed loans)
• Increasing rent in all markets and real estate channels is pretty convincing when considering a ‘buy over rent’ calculation
• Economic recoveries in local areas are particularly important and specifically targeted for investment