Looking back at affordability and market corrections over the years we can see that a 6% interest rate on a 30 year mortgage is the norm. What’s changed of course is the price. Since WWII prices have only dropped twice. 1990-91 and 2007-12. In looking for any common link between these corrections and the risk of a 2025-26 correction, I found one common thread: Artificial Demand. (Contact Tim Here)
Consider 1990-91. This crash/correction was the result of new home speculation. Buyers would buy a new home, immediately sell it with mark up, that person would do the same – all before the builder even finished. Like a house of cards, the market corrected. That daisy chain of escrows artificially created demand beyond what should have been and prices followed, until they didn’t.
2007-2012 artificial demand was unquestionably fueled by easy money, easy no credit, no income qualifying loans powered by stupid low teaser rates. People who had no business buying a home let alone several, drove up the values more than they would have normally. And like ’90-91 created artificial demand. Of course the derivatives and MBS’s sold by Wall Street exacerbated this and nearly broke the economy but the catalyst was artificial demand. (Find Your Home Value Here)
Fast forward to today and we have to ask, did 2-3% mortgage rates from 2020-2022 cause more people to stretch and buy more house than they normally would have been able? Did it cause buyers to bid $100K, $200K, even $300K over ask to win a property.? Was this only possible because rates were so low that the payment buyers could afford was so low they could go way over ask? Answer: yes. Millennial demographics, seniors aging in place and a lack of building certainly have contributed to a shortage of homes for sale, but shortage alone doesn’t account for 40% appreciation in 4 years.
Artificial demand is the culprit for each correction in the past 40 years.
Does this mean we are destined to crash in 2025-26? Not necessarily. Demographics and lack of home building are still in play. Millennials are a huge population ready to buy should affordability return. Then there’s the “Silver Tsunami;” $90T of Silent Generation and Baby Boomer wealth being passed down to younger generations. Might lower rates stave off a crash? Any one of these events could impact a 2025-26 correction.
A couple final thoughts… if no one buys US debt since we’ve alienated friend and foe alike, will rates actually come down even if the FED lowers? Answer: maybe not. It’s a supply and demand equation and we know there’s lots of supply, but will there be adequate demand at lower rates? There’s also the spread that banks are making between the 10Y Treasury and the 30-year mortgage. Historically it’s been 1.5%-1.8%. Today it is 2.3%+. Banks doing fewer loans, are padding their margins. Thus, a 10Yr T-Bill at 4.24%, with a normal 1.5%, spread, should mean mortgage rates would be at 5.75% but they aren’t, they are at 6.75%. So, while it looks like we’re heading for a correction, it’s not yet a certainty.
Lots are starting to be cleared. While a very slow and painful process, it is nonetheless the first step to rebuilding. Lots have also been put up for sale. Some have sold, especially in more affordable Altadena where lots are typically selling for $500,000-600,000. Whether the Altadena families will find a way to retain the character of their community remains to be seen. As I write this, there are 32 active fire lots, 31 in contract, and 17 have closed. If you figure total sold and under contract is 48 homes and that’s 2 months activity, you can safely conclude that’s 24 homes sold on average per month and that there is 1.33 months inventory. A seller’s market by any measure. That’s good because while 48 is a big number, consider that 5,500 homes burned down and that is not a big number, that is a massive number. Should every lot sell and no one rebuilds, which we hope doesn’t happen, it would take at present rate 229 months approximately to sell all the lots at current pace. That’s 19 years. As staggering as that might sound, Palisades is in far worse shape.
At this moment there are 6 fire lots in escrow and 10 have closed. Using the same math as before, that’s approximately 16 sold in the past 2 months or 8 selling per month. But… there are 88 fire lots for sale in Pacific Palisades. This means there are 11 months of unsold inventory. Unquestionably a buyer’s market. Why so different from Altadena? Price naturally. Just how many builders are there, that can put $3-4M down on a lot, wait several years to build and sell? Even though the Palisades is one of the greatest places on earth, it’s too expensive for most people to even participate in this process including many of the property owners themselves. The magnitude of these fires is truly difficult to comprehend but to try and put it in perspective, looking at Altadena, if every lot came up for sale, at current pace there, there are 29 years’ worth of inventory. In Palisades, using a similar approximate number of 5,500 homes (I believe it’s actually higher but that may include Malibu), if all the lots had to sell, there is currently 57 years’ worth of inventory. I know this sounds crazy, but according to County Assessor records of the 488 homes destroyed in Malibu from the Woolsey Fire, just 39% have been rebuilt while 29% or 140 lots have been sold with the balance of roughly 43%, presumably in some process of being sold or rebuilt. By the way for context, the Woolsey Fire was 7 years ago. Similarly, 8 years ago in Ventura, the Thomas Fire burned 500 homes and to date 299 have been rebuilt with roughly 20% sold off as vacant lots. The difference, you guessed it, price… that and the Coastal Commission one would presume. If the Palisades or Altadena follow these trends, we could expect roughly 1,500 lots to come up for sale, but I believe the base land cost for Pacific Palisades is going to drive that number higher.
Looking at the mass destruction from the Palisades and Eaton Fires, it’s easy to say, rebuild. Before even contemplating this however, you need to first answer the six questions: Who, What, Where, When, Why and How? The Who answer is the most important component and basis of my entire supposition. The Who is local national home builders. The What is homes consistent with what existed previously. The Where is easy, the burn areas. The When is in phases, just like a subdivision. The Why is because it’s the only way to accomplish such a monumental task. The How, is utilizing the private sector in conjunction with government subsidy and incentives to ensure speed, efficiency and profitability for the builders. Now, for the explanation.
This brings us to the question of The What? What to build? Housing advocates want higher density. To accomplish this, a cluster of lots would need to be strung together to allow for a higher density project. Possible perhaps, but not very likely. Eminent Domain? Again, possible but not likely, though one could envision higher density closer to the major corridors or once existing commercial, which by the way would be a value add for those homeowners that would be required to sell their lots. Clearly, we can’t have everyone build custom McMansions. Thankfully, LA already has restrictions on how much larger a builder can build on a tear down, and this can be more clearly laid out by the builders offering pre designed and approved plans. So, it makes sense that the home builders offer a variety of designs covering a variety of sizes and configurations. One of the concerns many area residents have is maintaining the character of the neighborhood. To accomplish this part of the rebuild, incentives will be provided to builders to utilize and design more architecturally and historically consistent homes. In new home building these are called “Elevations.” The exterior appearance. By incentivizing more classic Southern California architecture, be it bungalow or cabin, Spanish or ranch, builders won’t lose money in satisfying the greater public good and in keeping with the character of the neighborhood. That’s called a win-win in my book. 
The Where is obvious: The areas where the homes burned down. Many will say however, rebuilding in these fire areas is stupid. But with a series of specific construction requirements, homes can be fire hardened and when coupled with some infrastructure improvements to aid in firefighting efforts, we can rebuild where we were before.
The reality is this: Without decisive action by leadership, many homeowners will not rebuild. The elderly, the under insured, those who own due to generational wealth: “We live in Grandma’s home, but aren’t millionaire Hollywood moguls etc.” These folks do not and will not have the ability to rebuild. What happens to those lots? They will sell to the highest bidder. Ask yourself this, what happens to prices when many lots come on the market at the same time? Prices go down. So who do prices go down for? The most vulnerable and the least affluent. Then ask, what goes in their place? New custom homes. What do they look like? How large will they be? How does this affect the culture and heritage of the community? Ultimately the key to success is leadership. Consider two approaches to disaster rebuilding efforts in California. The Loma Prieta Earthquake of 1989 caused the freeway along Fisherman’s Wharf to be demolished. The discussion of what to do there, quite literally took years. While San Francisco waited for decisions, 4.5 years later the 1994 Northridge Earthquake happened and the 10 Freeway was damaged making a primary artery for LA inaccessible for commuters. Swift action by LA leadership at the time, had workers working 24/7 and the freeway was repaired and up and running in no time. Meanwhile SF leaders were still mulling the Embarcadero Freeway and what to do. Without question leadership is paramount and with great leadership, the afore mentioned plan will work. Will everyone be happy? Of course not, but I believe it is the only logical course of action. (
The Fires… I am already receiving calls from agents looking for certain types of homes for buyers who’ve lost their homes in the fires. Like before the fire, attention will likely be focused on turn-key homes since the victims will have plenty of repairs and updates ahead of them rebuilding their burned-down homes. This group of buyers will probably be fairly small in number, when compared to the total of lost homes. However, the number will be significant enough given the affluence of The Palisades and Malibu victims, to put additional pressure on the spring market inventory. This will push prices higher by some measure. 
For many landlords, it’s been a very long time since they themselves were tenants. The second step is understanding why a landlord wants to be a good landlord. To a tenant, a good landlord takes pride in their property. They are interested in maintaining the home and understand and respect the value of a good tenant. I often tell my landlords, a good tenant is worth their weight in gold. That’s not to say a landlord should ever be beholden to a tenant or that the tenant should be allowed to dictate terms. The homeowner is always in charge. It’s their home. A good tenant should be grateful that the landlord is allowing them to rent their home, regardless of how qualified that tenant is but in return, the landlord has to live up to certain responsibilities and understand their tenant’s expectations. It’s a two-way street that requires mutual respect and cooperation.
For him, getting the home ready consists of wiping down the counters and baths, taking a lawn blower and “blowing out the home” and then vacuuming. While this method may work for him, it’s not the approach I recommend. I am of the opinion that the more pride a landlord takes in the condition of their property, the better the tenant will treat and respect it. Obviously, there are always going to be tenants that get into a place and are total slobs and disrespectful to the home. However, as a Realtor who’s done my share of lease applications, we do our best to try and screen this type of thing out. Looking at credit history is one obvious data point, but these days we also Google our applicants and look at their social media pages too. It’s a lot easier to truly find out about people by this method than just looking at credit or income. I tell my kids, be careful what you post, you never know who’s going to see it!
Let me tell you, you would not want to have me care for your yard. I only kill gardens and can’t grow squat. Since there’s no way to know if a future tenant has a green thumb or not, there is no benefit to the landlord to give the tenant the option of caring for the yard. Landscaping replacement is expensive and most deposits won’t cover the cost of a new lawn or plants and flowers. A good landlord offers gardening with the rent, it’s in their best interest.
Most landlords apparently don’t own pets – not sure why that it is but it’s true, while most tenants do. I make it a policy to try and get my landlords to accept pets. There are a couple reasons for this approach. The most obvious is that it’s easier to rent your home if you accept pets. Second is that a tenant who has a pet could lie and bring the pet in anyway and while this is a violation of the lease terms, it’s difficult to police. Another more recent issue is that under nondiscrimination laws, if a tenant has a service animal you can’t turn them away. By the way, it’s easy to get a dog certified as an Emotional Service Animal. If you look online, there’s a bunch of online services. Last year I had a landlord turn down 7 applicants including one willing to pay a full year in advance because they didn’t want pets. Finally, we found a tenant who didn’t have a pet and took even less than asking when accepting them. She moved in without a pet. Two months into the lease there was a school shooting at USC where her daughter attended. The daughter ended up moving home and commuted to school. Since it was determined that she was suffering from PTSD, her doctor recommended she get a service dog. It helped her immensely but the landlord who so adamantly refused a pet, ended up taking a pet anyway and without compensation in the form of “Pet rent.” By the way, in California a landlord can only take up to two times the monthly rent as a deposit. That means not 2 months plus pet deposit. The total deposit cannot exceed 2X rent. When a prospective tenant comes forward with a pet, the way the landlord gets compensated for taking a pet is by charging a little more rent for the pet. I call it pet rent. $25 or $50 helps offset any extra potential wear and tear that a pet brings and most tenants don’t object because after all, they love their pet and it’s a small price for them to pay to get the home they want and keep their pet. On a side note we are seeing many of our military service members come back from war and they have service animals with them. It’s just become a fact of life.
So, what does all this have to do with inflation? Since these two elephants are putting undue pressure on both prices and rents, and housing represents up to 45% of the CPI, the read that the Fed is getting is warped. This in turn means that the Fed will keep rates higher for longer. Higher rates mean higher borrowing costs (higher costs=inflation) not just for consumers but more importantly for developers. If you doubt this look no further than #BarrySternlicht of #StarwoodCapital who controls over 7,000 single-family homes, and a total of 290,000 residential units. Mr. Sternlicht says (and I’m paraphrasing) that we as a nation have a housing shortage and that higher rates mean less construction since developers are the first leg on the borrowing ladder.
I was on a listing appointment yesterday with the most sophisticated of sellers selling a $2.3M home in Calabasas, CA. We discussed everything normally discussed on an appointment and confirmed I would be charging a 5% commission which I would be sharing with the buyer’s agent 50/50. My client being in finance asked me, “Before we finish, what are your thoughts on the N.A.R. settlement?” Now you may be thinking I might not know how to answer this, or maybe I was nervous or even dreading the question. I was not and knew exactly how to answer this because commissions have always been talked about at listing appointments and they are always negotiable.
The Real Estate Conversation 