Greater Phoenix Housing Update 7/21/2022

Today is all about the AZ market. Recently, Clear Title hosted a Market Update with the Cromford Report’s Tina Tamboer. 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.

To register for our August 17^th Cromford Market Update with Tina Tamboer, click here.

OMG so much change!

Despite knowing that the market was going to normalize – no market lasts forever, especially not savagely unbalanced, unsustainable markets – but the speed of this change has been surprising, to say the least.

The Greater Phoenix residential real estate market has seen 15 weeks of change but in the past 4-5 weeks that change has been amplified by a lot.

What affects demand?

• Population growth
  • Every person, whether a renter or owner, is an element of demand.
  • We still have population growth, but it is slowing, it is possible for population growth to happen without increasing demand, when there is household consolidation. That increases vacancies and roommates.

• Relocation (inbound)
  • Households relocating from outside Greater Phoenix brings one excess element of demand without adding to supply.

• Household formation
  • 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.
  • When 1 household splits into 2 (growing), one excess element of demand is created.
  • When 2 households merge into 1 (shrinking), one element of demand is removed.
  • The latest household formation data is from March. It is expected to fall in the next release.

• Affordability
  • Employment/income – impacts household formation and affordability
  • Appreciation/depreciation
    • Appreciating home prices decrease affordability and decrease demand.
    • Depreciating home prices increase affordability and increase demand (eventually but not immediately)
  • Interest rates (can offset effects of Appreciation/Depreciation)
    • Lower rates increase affordability and increase borrower demand
    • Higher rates decrease affordability and decrease borrower demand
    • Over the past 4-5 weeks interest rates have been very volatile, moving from 5.3% to 5.8% and back to 5.2% in only a week. It makes it very difficult for buyers to lock in. Buyers will freeze because they are waiting for some stability, so they feel more confident locking in a rate.
  • Loose/tight lending practices (can offset effects of interest rates)
    • Loose lending practices increase demand.
    • Tight lending practices decrease demand.
  • The affordability rate was awesome right when the pandemic hit. 70% affordability. Then we dropped below normal within a year.
  • Many investors are only now learning that they cannot continue to push the prices up forever. Eventually, the population will need to be able to afford these prices. Not everyone can afford the properties that were flipped.
    • 36% of homes that are currently active were bought in the past year.
    • 25% of homes that are currently active were purchased in 2022.
    • Those who bought homes in 2020 or earlier are fine.

• Consumer Sentiment – could the most important factor
  • Emotions, such as euphoria or utter despair, based on speculative opinions or unreliable forecasts can cause some home buyers to make decisions that are not in line with market indicators.
  • This is bringing out a lot of emotions. A lot of wealthy people are thinking about selling off their property. When people start to panic sell, more people will panic sell and create a self-fulfilling prophecy. If homeowners think the market is tanking, so they may sell at a discount because they think that is what is what they have to do so then it creates exactly what they are afraid of.

Intended Use:

Q2 2021 was the first time we saw owner occupied affidavits dipping below 70%. As of May, it was 62%. From 2015 through 2019, owner occupied purchases ranged from 70% to 76%. In May, 13% of buyers were second homeowners (slightly above normal), 20% were investors, and 5% iBuyers.  The majority of the elevation is investor and iBuyer purchases.

Cash Purchases:

Not a crash. The vast majority of purchases in 2005 – 2008 included loans; only 10% of purchases were cash. Lots of risky loans. Foreclosure crises come from too many bad loans. Now investors own the properties free and clear.

Cash purchases have been growing. 30% of buyers pay cash. Cash doesn’t foreclose. We are not looking at a looming foreclosure crisis. News media is very far behind. The only way to keep up with the market is to follow exactly what is happening as it happens; ignore the noise.

Interest Rates:

By rapidly raising interest rates to tame inflation, the Fed pulled the emergency brake on real estate. Is Chairman Powell channeling inner his inner Chairman Volker? He was the Fed’s chairman in the 80s who rapidly increased rates. At the end of both of the 1980s recessions, mortgage rates declined. Many people already believe we are in a recession, or we are going into a recession very soon. Interest rates always tend to drop sharply at the end of a recession. The ability to refinance is likely if the recession happens soon or now.

The majority of owners have payments that are much lower than today’s rents. People are not going to walk away from fixed mortgage payments that are lower than rents. They won’t, even if property values decline by 10%.  Predictions planning a mass foreclosure crisis are unfounded. No homeowner wants to walk away from their equity. It makes no pragmatic sense. Why walk away to pay more in rents because prices will come down from the peak?

Interest rates don’t stay high or low forever. They always change. Nothing is forever. None of our markets are forever. The only constant is change.

Buyers primarily focus on monthly payments. The only market that matters is the market we are in right now. We can’t know what will happen but we do need to understand how we got to where we are.

15 weeks ago, mortgage interest rates surpassed 4.4%. Supply started increasing slowly. It was a very subtle turn. By April, after rates increased above 5%. Supply shot through the roof. The rate volatility has created chaos for buyers. With the lack of stability buyers have sidelined themselves.

Also, about 15 weeks ago we saw a big stock market drop. Anything that is Wall Street based is impacted. Wall Street funded institutions started pulling out of escrows. Similar to what happened at the onset of Covid. Corporations act more slowly. They stopped writing contracts. How long will Wall Street stay on the sidelines? We do not know.

Contract Ratio:

Welcome to balance. Unfortunately, it comes with a high interest rate. Buyer’s markets are loser’s markets. Seller’s markets are winner’s markets. Buyer’s markets have fewer buyers.

Seller’s markets are a dump your junk market. Everything sells in extreme seller’s markets.

Buyer’s markets are great for buyers that need more help. We will see more down payment assistance, lower down payments, first time buyer programs, FHA loans, etc. This is great for buyers who need a little help getting into a home.

The contract ratio looks at how many homes are under contract relative to how many are on the market. And it moves faster than the Cromford Market Index (CMI). It is not seasonally adjusted, and the ups and downs are more visible. On June 2 the market was still in a frenzy. By July 11 the market was warm. A warm market is a balanced market.

15 weeks ago, the contract ratio was 249, last week it was 53.2. A contract ratio of 30 – 60 is considered balanced, above 60 is hot, above 100 is a frenzy. Below 20 is a cold market. We have been living in a frenzy for 1.5 years. It is not normal to have more under contract than what is available on the market.

Are we at normal supply yet? That is a very typical question that isn’t easy to answer. Inventory counts are not that far from 2018-2019 counts. 2014 was the last balanced market we had. There were 20-25K properties on the market in 2014. A balanced market is when the number of available listings and the number of properties under contract correlate.

With a contract ratio of 53 the market is in the warm stage, balance. The contract ratio is lower than 2018 and 2019. It isn’t about the supply number it is about how many are in escrow.  We should have between 10-11K in escrow for July. But only 7700 are in escrow so we are moving towards a buyer’s are market.

Everything listed over $400K is in balance.

Days on market prior to contract is now at 17 days or 3-4 weeks. Expect it to continue to slow. For any new listings, prepare sellers for 4 weeks of active status. Expect price reductions and seller concessions. There are 143.9% more listings on the market this year than there were last year. The $400K-$1M price range has had the biggest increase in available supply.

The Market Cycle:

The market is cyclical. There are different emotions associated with the different stages of a cycle. Speed up the process and the emotions gain intensity. Capitulation is the action of surrendering or ceasing to resist an opponent or demand.

Price Reductions:

The first indicator of a balanced market is an increase in price reductions. The first wave of reductions makes a difference, but after multiple reductions the price drops don’t matter as much. Sellers have to do more to get their houses sold.

Price reductions have increased by 496% in 15 weeks. The overall median price reduction amount is $15,000.

• Listings under $200K had a $10,000 median reduction
• Listings at $200K – $400K had a $10,000 median reduction
• Listings at $400K – $800K had a $15,000 median reduction
• Listings at $800K – $1M had a $25,000 median reduction
• Listings at $1M – $2M had a $50,000 median reduction
• Listings at $2M – $3M had a $100,000 median reduction
• Listings over $3M had a $152,500 median reduction

Interest Rate Buy-Downs:

As the institutions have pulled back sellers have to focus on traditional buyers. The median sales price is slightly down from $469,000 (May) to $459,000 (July). But the payments are about the same because the interst rates are keeping the payments high. Price reductions don’t have the same impact when rates are going up.

December’s interest rates and median price worked for the median annual household income of $88,000. They do not today with higher rates and higher sales prices.

The median monthly payment for the median house is $2,745. The median rental rate for the same median house is $2,295. We have to beat rent prices to make buying desirable. In order to do that we have to pull out an old tool that hasn’t been used in 10 years.

The interest rate buy-down. A seller can buy down the buyer’s interest rate. There are different options for these and be sure to discuss the details with your lender. There is a permanent buy down option or a 2-1 buy down which drops the buyer’s interest rate by 2 points for the first year of the loan and 1 point for the second year of the loan. By year 3 there is the potential of more desirable interest rates. Market the monthly payment, not the asking price. Explain what this means to buyers. Do something different than the competition. Advertise something different. Get creative.

This is an estimate only, talk with your lender for actual costs and details:

Scenario 1:

Based on the July 9 median price of $457,000 at a 5.3% interest rate the estimated PITI is $2,733, if a seller does the median price reduction of $15,000 it will save the buyer about $86 a month.

Scenario 2:

A permanent buy-down may cost around 3% of the loan amount, assuming a purchase price of $457,000 at 5.3% and a 10% down payment, a permanent buy-down of 1% could cost the seller $12,339. A 4.3% interest rate would save the buyer $248 a month.

Scenario 3:

A 2-1 buy down may cost around 2.2% of the loan. Assuming a purchase price of $457,000 at 5.3% and a 10% down payment, a 2-1 buy down could cost the seller $9,048. The 3.3% interest rate the first year would save the buyer $481 a month. A 4.3% interest rate the second year would save the buyer $248 a month.

If a seller is willing to give up the money in a price reduction, the seller may be willing to pay for the buy-down option instead.

Supply:

For sale and rental inventory is up!

• The MLS rental supply is up 111% since September 2021.
• The MLS rental supply is up 51% since January.
• One investor increased the rental inventory by 12% in only 3 days.

Always check rental supply and rates. More people are renting, and we are seeing more roommate situations. So far in July, 37% of leases closed below asking. Last year it was only 22%.

• Homes for sale on the MLS increased by 220% in 15 weeks.
• Homes for sale on the MLS increased by 144% year over year.
• Most price points have more competition.

Sellers are rushing to sell to get the peak price, but we are already past the peak. Weekly new listings are outpacing every year since 2000 except 2006 and 2007.

Investors and flip models are driving many of the newest listings. This is unusual.

• 25% of active listings were purchased since January.
• 11% of active listings were purchased in the second half of 2021.
• 36% of active listings were purchased in the past 12 months.
• 52% of all active listings are vacant. Not normal.
• 13% of active listings are new builds.
• 12% of active listings are iBuyer owned.

Owner occupied listings have an advantage. Showing a lived in house looks good. This is not your as-is market. This is the best of the best of the market. ibuyers are still buying homes right now. They are not positioned to hold properties.

Demand:

It is always important to watch new listings (supply) and new contracts (demand). When the market shifts there is always a change in either supply or demand. Buyer demand has fallen off a cliff, which ultimately was the intention of the Federal Reserve. 40% of inflation is housing.

5 weeks ago demand took a dive. Prior to that, in June, we were ok, hanging around normal-ish demand. And when the first institutional buyers not only stopped buying but cancelled existing contracts, demand tanked. Combine that with the interest rate fluctuations, most traditional buyers have been sidelined. We need to get more buyers into the market. Teach awareness of ways to make payments better.

15 weeks ago was a great market for sellers. And now there are fewer properties under contract than there were in 2014, our last balanced market. Based on the trends it is not going to get better before the end of the year.

Greater Phoenix’s weekly accepted contracts are trending lower than any week of 2021, aside from the very last week of the year. Listings under contract are down nearly 26% year over year.

The one sector that has not been crushed by fluctuating interest rates are homes listed at $3M and up. Typically, this market is not as rate sensitive, but it does tend to be impacted by stock market fluctuations. At this point, we haven’t seen the impact of the falling stock market, but we may still.

Properties falling out of escrow is increasing. It isn’t super high but is an important number to watch. Canceled listings is increasing rapidly, 2021 had very few cancellations. Despite the increase, the cancellations are not enough to significantly slow the increase of supply. Expired listings are also increasing rapidly.

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 9.1% nationally, 12.3% in Greater Phoenix), below 100 is a buyer’s market, above 100 is a seller’s market, prices drop below 90, prices rise at 110. 
• Between 90 – 110 prices roughly follow the rate of inflation.
• Yesterday we were at 139.1
• All time high: 3/14/2021 at 514.9 
• 2022 High: 2/7/2022 at 474.6
• One month ago, 6/20/2022 it was 210.2
• CMI is the predictor, it moves first and then appreciation follows. Cannot predict the CMI. It tells us where we are. 

There is no number that defines normal. It is about the relationship between supply and demand. When the numbers for supply and demand are the same, the market is in balance.

Property value is declining while rate of appreciation is still positive. Values are declining but the seller (as long as they owned 1 year or more) won’t lose money. To lose money on a house a homeowner has to sell for less than they paid. Losing money if they are selling with in a 6 month period. Historically it took about 2 years of ownership before purchasing costs are recovered.

It is mostly buy and hold investors losing money. They are only getting slightly less than expected but a large scale. Regular owners are in really good shape. Watch what was actually invested in the property.

Supply is rising faster than demand is dropping. Month over month prices were flat from May to June and will decline from June to July. We are getting close to year over year declines but supply has to be bigger than demand for year over year prices to drop.

In 2007 it was builders and homeowners who couldn’t afford their payments who listed their homes and spiked inventory. Today’s homeowners are credit worthy, have great interest rates, and can afford their payments. They are not flooding the market with listings. Investors are listing property. Many investors paid cash, which does not foreclose.

Prices:

Sales prices represent what the market was like 4-6 weeks ago. In July there has been a sharp median sales price decline. The year over year appreciation rate in June was 19% up. So far the year over year appreciation rate is only 13% up. This is a bigger decline than normal. It usually drops off the second half of the year. Expect each month to have a smaller and smaller year over year appreciation rate.

Sale Price to List Price Ratio:

As of July 10, nearly 37% of listings closed over asking for a median of $10,000 above. Both the amount and percentage are dropping and will likely be down to 2%-3% of sales close for over asking in August.

June ended with a sale price to list price ratio of 100.0%. It is coming down now. Do not expect full price offers in July. Currently, the rate is 99.3% A decent seller’s market often sees a 98%-99% ratio. A balanced market has a ratio around 97%.

Seller Concessions:

25-28% of closings with concessions is normal. We are up to about 5.5% now. This is the third stage of a shift. First days on market increase, second price reductions increase. Third, seller concessions increase. Expect this number to continue to grow.

Distress? Nope!

Today’s desperate sellers are ibuyers. A balanced market is tough on iBuyers. Both Opendoor and Offerpad purchased far more houses than they are selling. And their model requires continuous purchasing. Both companies are seeing huge inventory increases and few sales.

Investors pushed the market further than it could bare so they are pulling back and that is why the market is crumbling now. Most price declines are leading to lower than expected prices but owners are not losing money.

Mortgage credit availability will not increase anytime soon. Most lenders believe that people will be refinancing in the next 3 years. It is tough for investors to want to increase credit because they make all of their money in the first 3 years and the lenders know people will refinance as soon as rates decline.

Not seeing a lot of pre-foreclosures or foreclosures, we are still running below 2019 numbers. A notice of trustee sale is a pre-foreclosure. A homeowner is given 90 days notice. The current median days on market before a contract is 17 days.

Final Thoughts:  

Buying is fun again. All month over month metrics are down. This can be scary for the industry yet it is necessary for the market. The severity of the previous year’s imbalance is unsustainable.