Greater Phoenix Real Estate Update 2/18/2022

Today is all about the AZ market. On Wednesday, Clear Title hosted a presentation with Tina Tamboer, with the Cromford Report. She always shares pertinent and timely information. Below I have combined a lot of her information from her presentation, along with additional information from my research.

To learn more about a Cromford Report membership, click here.

The AZ Market:

In order to be successful in real estate you need to know what is actually going on, clear information is the best. Ignore the noise and fear mongering headlines, it is just click bait. The sky is not falling but the market is indeed changing, it is always changing. This is what I wrote about in my update from last week, which can be found here.

Wages and Demographics:

The Census Bureau openly admits that the 2020 US Census data is incomplete and of low quality. The Census released experimental estimates for the 1-year data. Between the low quality, lack of data, and experimental estimates; establishing benchmarks, like affordability levels, is difficult. Garbage in, garbage out.

The US Census stated, “Unfortunately, even with modifications focusing on known sources of bias, the Census Bureau determined that the estimates did not meet our statistical quality standards. These inconsistencies led to the Census Bureau’s decision not to release the standard set of 1-year data products.”

Without the 1-year data, we cannot estimate population growth or accurate wage information. And without that data, we cannot accurately estimate affordability.

HUD publishes wage data once a year, from the Census data. The next update will be released in March. To measure affordability in Greater Phoenix we are still using $79,000 as the median household annual income. This number was established by using the 2018 wage data and applying inflation over time (yikes!).

Based on that amount, affordability is suffering significantly. The ideal affordability range is 60-75, meaning that of the families earning the median income were able to afford 60-75% of the homes sold that quarter.

Tina doesn’t believe it is this bad, it is unlikely that our affordability level is only at 44.5 like it is on the report. With demand still 18% above normal, Phoenix’s affordability rate is probably closer to the national number at 54.2.

Rather than using the affordability index as a predictor; we have to closely watch all demand indicators. As soon as the population cannot afford an item, demand drops.

Buyer Mix:

All residential property owners are categorized in one of three buckets. 1. Owner occupied, 2. Second home, and 3. Landlord.

From 2015 to 2019 owner occupied buyers purchased 70-76% of the properties. In 2020 it was 80-83%. In Q2 2021 a new trend emerged, owner occupied purchases began declining and by the end of the December that rate dropped to 64%.

What changed? It wasn’t the iBuyers, they pulled back on purchases in Q4 2021. It was the massive increase in landlord purchases that pushed that percentage down. We have to watch this number very closely. If owner occupied purchases go down further, then we clearly have a big affordability problem. This matters to everyone. Can the landlord find a renter? Can the ibuyer find a buyer? Ignoring this info today will cost the investors.

While the intensity of the market feels like the intensity of the bubble. The fundamentals are very different. A market correction will not hurt the consumers like it did in 2008-2011; it will hurt the investors who are asking too much in rent or sales price. Miscalculations destroyed Zillow Offers.

Mortgage Payments:

The February 2022 median sales price for a 1,500 to 2,000 square foot home is $435,000. That is a 27.9% year over year increase. Combine the increasing interest rates with the appreciation, payments are now 38% higher than February 2021. With an estimated monthly payment of $2,232 a family needs an income of $95,700 a year to make it affordable. That is up from $91,000 last month, last month’s update notes are here.

That monthly payment is based on an interest rate of 3.69% which was the rate last week. Yesterday’s, Freddie Mac survey showed a 30 year fixed rate mortgage is now 3.92%. Rates dropped from 2018 through January of 2021 when rates bottomed at 2.65%. In December 2021 rates were 3.12%

In 2018 they increased by 1%. Mortgage payments jumped, demand declined, inventory grew, and in 2019 rates dropped and houses became more affordable. Based on the market movement in 2018 when rates increased, we have a general idea of what to expect today. 38% year over year monthly payment increases is unsustainable.

A fixed rate mortgage is one of the best hedges against inflation.

Rentals:

Single family rental rates have been flat for the past 5 months. It is very typical to see rents hold steady in the fourth quarter of the year. Any prospective landlords must make sure there is room for rents to grow when investing. The median monthly rent is up to $2,195; up 17.1% year over year and up 34.3% since Q1 2020. Some luxury rentals have declined, February is not outperforming January.

For apartment, rents are an entirely different beast and they have been increasing significantly as well. For details on apartment rents, evictions, and distressed properties, check out these new charts from the Maricopa County Association of Goverments.

Now that the median mortgage payment is higher than the median rent, some potential buyers may be on the fence. The advantage of homeownership remains. Real estate ownership is still the greatest wealth creator.

Where can landlords get the biggest bang for their buck?

• West side
• Southeast valley
• 85254 – the magic zip code

Median size of rentals is 1,600 square feet. Rentals follow the same law of diminishing returns. Properties over 1,700 square feet have lower price per square foot rentals. Larger homes do not have huge price per square foot prices.

There is not going to be a decline in rentals until the vacancy rates decline. At 5.6% vacancy rates very low. They haven’t been this low since the early 1980s. An issue during the 2004-2006 bubble was the high vacancy rates; indicating false demand. Today’s low vacancy rates indicate true demand.

What affects demand?

• Population growth
• Relocation (inbound)
• Household formation (growing)
  • Population doesn’t need to grow for demand to grow if new households are forming. You can increase demand without population growth. Household formation is mostly related to affordability.
• Affordability (based on the worst census data ever)
  • Employment/income
  • Appreciation/depreciation
  • Interest rates (can offset effects of Appreciation/Depreciation)
    • Because rates are going up demand may decrease, but prices will not decline. There is still too much demand for the supply, prices are still increasing, quickly.
  • Loose/tight lending practices (can offset effects of interest rates)
• Consumer Sentiment

Population:

National population growth is very low, and it is very location dependent. Where is the population moving? (the Census will have an update in March) How much can we draw into Greater Phoenix? Some people talk about over building for the future due to lack of growth. Today’s market is telling us that we do not have enough houses for the people that are here now.

What will happen to AZ in the future? Job growth. Many people are moving here for jobs. Retirees used to drive the population growth, but now with so many new jobs more and more working age people are moving here. We depend heavily on domestic migration for our population growth.

From 2020-2021 only six states had a population growth greater than the entire country’s. Those states are Arizona, Utah, Idaho, Montana, Texas, and South Carolina. 16 states saw population declines.

Unsurprisingly, the areas with the greatest inbound flow are from southern California, Chicago, and Seattle. Check out the interactive map at https://flowsmapper.geo.census.gov/map.html

What affects supply?

• New homes
• FSBOs
• Appreciation/Depreciation (Equity)
• Foreclosures/Household Formation (shrinking)
• Relocation (Outbound)
• Divorce/Illness/Death/Job Losses/Tragedy
• Consumer sentiment

Builders are not going to crash the market, after a decade of insufficient building the undersupply is significant. Until you see vacancies or longer days on market, builders will keep building. Are the builders overbuilding? Permit counts are where they were in the 90s, down 15.7% year over year. New home sales declined 0.5% in 2021 from 2020. We are not currently overbuilding for the demand.

Even if builders wanted to build like they did in 2005; it won’t happen. There are still far too many challenges with tight labor and supply chain issues. Typical build time is up to 12-14 months. Permits are primarily being pulled for the west valley and Pinal County.

Arizona has indefinitely tabled a recent controversial bill that would have allowed the state to override city zoning and rules.

Household formation is growing, which makes supply drop. When household formation slows, supply increases.

Investor Flips through December 2021:

The more balanced the market, the fewer flip transactions. Briefly, in 2014, we had a balanced market and was the year with the fewest flips. Today’s market is seeing nearly as many flips as we had in 2012, when investors were selling all of the properties they picked up for $1 in 2011 (the bottom of the market after the crash). iBuyers do not affect supply.

Zillow lost $880M on its failed iBuyer business. How did they do this in a market with 28% appreciation in 2021? By paying more for properties and it sold them for. Zillow’s median acquisition price was $466,765 and its median sales price was $430,000.

Opendoor is in the hot seat with a median acquisition amount of $429,500 and a median sales price of $435,000. ibuying is risky and yet Opendoor just launched in the Bay area.

Offerpad is the most conservative of the three and is not doing as poorly as the others. Offerpad’s median acquisition price of $395,000 is 8.8% higher than its median sales price of $429,900.

Traditional flips are doing great. The long term average return is 30-40% and right now the average return is about 25%. This is significantly better than the iBuyer returns.

Short term rentals might be adding some supply, maybe. Cities are enforcing ordinances on short term rentals. PV and Scottsdale are enforcing the most.

Short term rentals are mostly in the Northeast valley, primarily in Scottsdale, Paradise Valley, and north Phoenix. One reason rents are so high is because short term rentals reduce supply in these areas which makes houses in these areas cost even more. Long term rentals is a place for someone to live so it helps slow price appreciation.

Short term rental data is tough to track. Despite some available data, analysts believe that the numbers in the chart below are very low. Rather than 210 short term rentals in Paradise Valley, experts believe the number is closer to 380, which is closer to 6% of supply in PV.

Realtors:

ARMLS Agent population has grown 19% in the past 5 years. With declining inventory and increasing competition, many agents are expected to leave the business. Keep track of those agents getting out and work with them for referrals, etc.

New listings:

• YTD down 3.1% year over year. In 2021 we had a lot of new listings hitting the market.
• We are at the lowest count for new listings since 2001. Contract activity is higher than 2021.
• Newly accepted contracts are sky rocketing.
• There are 3.5% more listings in the MLS than we had this time last year.
• Listings under contract are down 2.1 from last year but still very high and are expected to keep rising.
• Closings are still coming in very high. Second highest closing rate since 2000 (behind 2021).

Cromford Market Index (CMI): 

The best tool for predicting future price appreciation trends and is available on the main page of the Cromford Report: https://cromfordreport.com/ (without a subscription) 

• 100 is balanced and prices rise at the rate of inflation (currently 7%), below 100 is a buyer’s market, above 100 is a seller’s market, prices drop below 90, prices rise at 110. 
• On 3/20/2020 we were at 241 
• On 5/15/2020 we were at 145.2 
• Yesterday we were at 471.9
• We peaked on 3/14/2021 at 514.9 
• CMI is the predictor, it moves first and then appreciation follows. Cannot predict the CMI. It tells us where we are. 

The predictor says the annual appreciation rates are going to increase. This is not good for buyers. Prices are not declining.

Supply stopped dropping so quickly. At 4.1 points in 30 days, demand is now dropping faster than supply which is down 2.4 points in 30 days. We are starting to see a slight softening in the market.

Prices are not going down. Prices are going up quickly. Currently at a 2% month over month rate. First half of 2021 we saw a 3-5% rate of appreciation. In the second half of the year, we had 1.1% monthly appreciation.

Cities with the most new home completions have the weakest CMI. Cities with fewest new homes have the highest CMI.

Median Sales Prices:

The median sales price is up 50% in 2 years!

Prices are increasing slightly faster than they were at the end of 2021 but not as quickly as they were in the first half of 2021. Currently prices are increasing at a 1.8% month over month, up from 1.6% just last month. We may see this go up but unlikely to go up to the 4-5% we saw last year. Definitely be faster than 1.1% from last year. Average and median prices are increasing at about the same percentage together.

2022 will not be like 2021, buyers are exhausted and pulling back slightly.

What is normal anymore?

It could be another year before we see demand drop to near normal. Demand dropped in 2018 due to rates. No softening in price anytime soon. The rate of growth is slowing. Supply has to go above demand for prices to drop. It is not worth waiting for prices to go up 20% for a slight possibility of a small drop maybe in the future. The interest rates hikes have slightly decreased demand, slightly.

Past 21 Years:

• Buyer’s market – 3.6 years
• Balanced market – 4.6 years (2001-2003, 2014)
• Seller’s market – 13 years

What we are used to is not a balanced market. We are used to a weak seller’s market, like 2015-2019. There were seller concessions and some wiggle room for negotiations.

Contract Ratio:

• We are mirroring last year.
• Phoenix has slight weakening in demand.
• Pinal County has a lot of demand.

The demand is many areas is not unusual demand. Pinal and northeast valley cities have high high high demand and crazy low inventory. None of our areas have much supply, way below on where we should be. The highest contract ratio you should see is 105. All cities are currently over 200.

Closed Sales:

• We currently have a 22% annual appreciation rate (normal is 4-10%).
• 46% of homes sold over asking in February.
• Median over asking $11,000 (up from 10,000 last month)
• List to sale price ratio is rising. Great to be a buyer in Q4. Normal is 97-98%.
• Median days on market is currently 7 and will likely drop to 5.
• Median sales price is $445,000 up 27.1% from February 2021.

Summary:

Prices are expected to rise through June, possibly even at a faster rate than last year. Even in a booming market, buying still wins. It’s a hedge against inflation and provides greater opportunity as the value increases.