February 24, 2004 Weekly Bay Area Real Estate Market Newsletter

You maybe wondering why we our outlook on the real estate market went from 'concerned' to 'optimistic' so quickly. In mid-January on a seasonally adjusted basis:
    - inventory although low (70%) had been increasing more rapidly then previous years except 2001,
    - sales had dropped from 154 to 96% of normal also without explanation,
    - these factors were causing DUI the key indicator to increase more rapidly on a seasonally adjust basis than previous years except 2001.

Now a month later inventory has stabilized at the 70% level, sales have returned to 109% and DUI has dropped to 27.2, the second strong year since 1999. It now appears the warning signs in January was just a market fluctuation. There has been a lot more fluctuations in the data than we have ever seen since September 1998 when we starting analyzing the market. We believe this indicates a normal market, which is something we have not seen. Since 1998 the market has been a strong seller's market, a strong buyer's market or transition in between. The market is now experiencing some strong price increases that are typical for this time of the year. Prices are likely to continue to increase until the DUI increases significantly. We are estimating that the February median Sold price of SCC will be approaching $700K.

The table below compares the current real estate market conditions to each of the past 6 years. The sign ( + = - ) next each year indicates if the current market trends are improving(+), staying the same(=), or getting worse(-) compared to that specific year. You can view the graphs of each market indicator by clicking on the column headings in the table below. The market remains so strong, that the market will have to weaken significantly before there is any softening of prices. Just a few weeks ago the table below had mostly negative signs indicating a worsening market and sales volume dropped from 120% to 96% of the 10-year average. Now, notice the number of negative signs is balanced by the number of positive signs and there are a lot of equal signs. This indicates that the market is changing normally for this time of the year. Looking at either inventory or DUI, SCC is currently experiencing its second strongest year. Only 2000 was better and there was 33% price appreciation in early 2000. The one warning flag is sales volume. Half the years were better and half were worse. But recently the market trends went from negative to flat or improving. Price increases early in 2005 are very likely and they are starting to show in the data. The recent change in the direction of the market should make these price increase larger. Using DUI as the primary indicator of the real estate market's health, there is no question the market is currently better than any year except 2000. It is equally clear that the market is no longer weakening compared to other years, but is now performing normally. Normal for this time of year includes price increases.

Using a 5-year average (graph) as a norm, allows us to better understand the behavior of the real estate market while viewing just one graph. Notice that the gradual decline in inventory leveled off in December before reversing and increasing for the first 3-weeks in January but is now following normal patterns, although only two-thirds of the normal level. There has clearly been three significant drops in initiated sales volume:
    1) the month of June 2004;
    2) mid-November through mid-December 2004; and
    3) the second half of January 2005.
Sales dipped to only 96% of the 10-year average. Currently, sales are increasing and are slightly above normal (109% not adjusted for growth). The volume of sales remains our biggest concern. The question has become, how long and how rapidly will sales volume ratio increase or will it reverse and continue its recent decline? The recent fluctuations in DUI compared to the 5-year average continues. There is no question that DUI is below normal, which means a stronger than normal market. It looks like DUI will even reach its pre-holiday levels of only 25 DUI. Even if  the current DUI of 27.2 starts increasing, it will take a while for prices to drop because significant price decreases should not happen until DUI is approaching 90. We think this is unlikely to happen any time soon.

Viewing the sales volume raw data is eye opening. Notice that volume of initiated sales did drop below the 10-year average. Currently, the volume is on above the 10-year average. This means SCC is currently experiencing more transactions (initiated sales) when compared to the 10-year average. It appears that the current sales are delayed by about 1-week compared to normal. This corresponds to a horizontal shift of 10-year average graph 1-week to the right. The deep blue line shows the significant drops in number of transactions as shown in the second column in the table below. It is the vertical separation between the two lines that shows the "extra" transaction in 2004 when compared to the 10-year average. If you visualize this as a percentage you get the third column in the table below. Most people think that the slow down was just the annual holiday slow-down. Noticing the rapidly decreasing vertical separation between the two lines. It is clear that this more than a normal slow-down. Based on our data, 2004 experienced the greatest percentage reduction in sales volume based on a percentage of the summer's peak volume. The end of 2004 experienced sales of only 44% of that summer's peak. Other years were 2003=55%, 2002=54%, 2001=95% (fueled by the post 9/11 feeding frenzy), 2000=47%, 1999=48%, 1998=62%, 1997=63%,1996=47%, 1995=61%, 1994=48%. Clearly something to monitor even though sales volume is currently at 109% of the 10-year average.

There is no question that there has been a drop in sales volume when looking at the 10-year average. Some people are confused why when sales have increased from 968 to 985, we consider this a decrease. This because normally sales increase very rapidly at this time of the year. The decrease can be seen in drop in the 10-year average. Comparing to 1999 is interesting as it shows the difference in timing. But there is still a drop from 127.2% to 78.9% of the 1999 volume. Remember that most of 1999 and 2000 saw volume at about 135% of the 10-year average. The fact that SCC dropped from 153% down to 136% was not alarming. The drop from 133% to 116% was a bigger concern especially because we still have no good explanation other than the election. The third drop with respect to the 10-year norm during the second half of January 2005 has seen volume drop to 96.1%. This decreasing volume stopped and volume has actually been increasing in February and reached 109%. We still remain cautious about these drops in volume over the past 8-months. We are very surprised no one else seems to care or even notice for that matter. But at some point if the buyers continue to stay away the market will slow, though this does not appear to be an immediate concern.    

With the passing of New Year's, the 2004 to 1999 comparison changes to the 2005 to 2000 comparison. Comparing 2005 to 2000 seemed logical as the real estate market conditions had been similar and the calendars were identical. (graphic) It is apparent that something very different started after the 2004 Presidential election. It now appears that things are starting to stabilize with inventory at 170% of 2000 levels, sales at 122% of 2000 levels and DUI at 140% of 2000 levels. Notice the sharp drop in sales during the second half of January 2005, followed by a sharp increase starting on February 1st and finally leveling off on Valentines Day. Equally noticeable is the increasing inventory relative to 2000 starting 10-days after the election. There has been a lot of fluctuations but it appears that this trend is leveling off. We think it was the dip in buyers that caused the spike in DUI. Regardless of why, 2005 remains the second best market, second only to 2000 that saw 33% appreciation.

Because people remember last year the best here is a comparison between 2005 to 2004. Sales were at about the same level until January 12th and then sales started to drop off significantly 85% compared with 2004. The rate of decline has slowed and volume now appears to be matching 2004's performance at but with 15% fewer transactions. Increase in inventory has also slowed and is following the 2004 pattern but at 74%. Despite the decrease in sales and the increase in inventory, the market 2005 is still slightly hotter than the 2004 market at 85%.

Although not very satisfying, the best explanation we've heard remains that consumers were racing to beat the election out of fear something would change. When nothing changed after the election there was no longer a need to race, so the demand dropped to normal. However, this explanation does not shed any light on the third deterioration that occurred during the second half of January 2005, nor the first drop in initiated sales during June 2004. 

We have pulled our 20% price increase for 2005 off the table and replaced it with "we don't know." But we are starting to gain some confidence. If asked to provide guidance, we would suggest a normal year for 2005. This would suggest appreciation of about 15% by the end of April 2005 from the $635K level reached in 2004 before the 2005 appreciation was pulled forward. This means a price of about $720K. We are expecting this to approach $700K for February. If this happens it is possible that SCC will see a median Sold price approach $750K before summer. We would then expect this to be followed by a plateau followed by small reductions in price as the year progresses but ending the year higher at approximately $700K(if peak at $720K) or $725K (if $750K is reached). We believe the low DUI is more important than the drop in volume in determining price appreciation, even through we remain very concerned about the drop in volume.

Remember, real estate is a great long-term investment. With the current behavior in the SCC real estate market statistics, we would recommend rational normal behavior, making plans for long-term and not the short term gains. Consider accelerating your planned purchases while watching the market carefully if you need to sell. We believe that sellers should delay their sale as we expect near-term price increases. But Seller should have your home ready, as the local real estate market can change on a dime.

This weekly analysis is based on the overall real estate market conditions of single family homes in Santa Clara County. If you are considering selling or buying, it is important to evaluate specific real estate market data for your individual transaction based on price range, geographic area, and type of real estate you are purchasing or selling. Just contact us for this customized information. 

Conclusion - We consider the market fundamentals to be; supply (inventory), demand (initiated sales) and supply/demand ratio (DUI). Until mid-November 2004, these market fundamentals had been very similar to their 1999 levels. Inventory is now at 171% of the 2000 level. Many agents are still claiming that there is no inventory despite it being 71% above the 2000 levels. Sales are at 122% of the 2000 level. Remember, although 2004 turned into a record volume year it did not start out that way. The most important factor, DUI is at 140% of the 2000 level. (graphic) This indicates that the 2005 market is cooler than the 2000 market with significantly more inventory, somewhat offset by more sales but on balance a higher DUI, which indicates a slow market.

These three market fundamentals began duplicating a previous year's pattern in the Fall 2003 by duplicating the Fall of 1998. As 2004 arrived, market conditions continued repeating the past by duplicating the 1999 market conditions. Then starting November 12, 2004 there was a sharp departure from this established  pattern. We think that this means SCC will see less than the 33% appreciation that 2000 experience, which is actually good. We would be somewhat surprised if the market achieves the 15.7% that 2004 experienced, but it be will close. Currently the market is still stronger than 2004 the market conditions and following the 2004 trends.

There is little doubt the real estate market slowed for the third time in the second half of January 2005. Even if most others don't recognize the slow-down it was real. February looks like sale volume is recovering but we remain concerned. The market conditions are still strong and now holding their own. Will the slowing return for a fourth period? Will a fourth slow-down be long enough to reach a balanced or buyer's market?

In 1999, the median Sold price increased from $353,350 in February to $398,000 in April 1999 or 12.6%. The 2004 economy was weaker than 1999 which should have translated into a cooler real estate market. Because of the stronger Buyer demand, 2004 appreciation reached 15.7%, as the median Sold price reached $647,000 on July 9th, before dipping to $625,000 on September 3rd before increasing and reaching $660,000 on December 16, 2004 and had been relatively flat since but did increase to $679,500 on January 26th before dropping back to $660,000 for the last three weeks. We would expect these increasing prices to continue into early 2005. The median List price increases will likely cause a steeper increase in the median Sold price in March. It looks like Valentine's Day saw an increase in both activity and price. We are still recommending a purchase ASAP, as we are expecting additional price appreciation early in 2005. The real question is how much and how long into 2005 will this appreciation continue?

The median Sold price in 2000 increased from $420,000 to $560,000 or 33.3%. This would indicate a median Sold price of $848K IF the market continued to duplicate the past. We do NOT expect that level, especially after the November 12, 2004 change. It will be interesting to see how the market fundamentals behave in early 2005 compared with early 2000. We believe that this will determine the actual prices for 2005. If the market appreciates the same as it did in 1999 and 2004 then the median Sold price would be about $728K. Because of the November 12th change, we currently believe that this is slightly too optimistic. We believe, the result should be a peak of $720-750K with a drop off of about $20-25K.

The signs of weakening market showed in January 2005 have been replaced with a flat to slightly improving market in February. 2005 remains the second strongest year since 1999. Sellers should continue to wait but should be ready to go on the market, as the market may change rapidly. Sellers should watch the market for signs of strength or weakness and act accordingly. With the current trend being flat to improving, we think there is a good chance that waiting until about April 15th would be good. HOWEVER, if the market shows signs of weaken again this target day will move forward by as much as 30-days. This did happen very early in 2001 and might happen again but becoming very unlikely based on recent market activity. Buyers should move forward ASAP while being careful not to overpay too much or settle too much as the price increase in early 2005 is currently expected to be substantial (10-15%) but not huge (33%). This means buyers need to exercise some caution in the bidding frenzies that are so common. Buyers need to be willing to compete, but not go crazy. 

Inventory – 1160; inventory is higher than 2000 (171%), but lower than 1999, 2001-2002, 2004 (59-81%) and significantly lower than 2003 at only 37%. The gradual elimination of this surplus inventory during 2004 likely is going to cause a shortage of inventory in 2005 and was contributing to our belief that 2005 would likely be similar to or stronger than 1999. Since November 12th, inventory has been growing significantly when compared to 1999/2000. This indicates that there are more sellers ready to sell. The general perception of limited inventory is aiding the current price firming even as inventory is really growing and potentially getting ready to normalize the real estate market.

Days of Unsold Inventory – 27.2; The balance between supply and demand is the most important factor in a free economy. We measure this balance using Days of Unsold the Inventory (DUI). Most areas in the nation use "months of unsold inventory." With the arrival of October, DUI finally started its annual Fall decline. There has been an unexpected hiccup in DUI as a result of the November 12th change that was initially masked by Thanksgiving. DUI has turned the post-holiday corner and is starting to drop. It now seems likely that DUI will reach the pre-holiday level of 25.

Many areas such as South County (it is unusual to see this area on the fast moving list), Santa Teresa, Evergreen, East Valley, North Valley, Milpitas, Santa Clara, South San Jose, Blossom Valley, Almaden Valley, Cambrian, Campbell, Cupertino, Sunnyvale, and Mt. View are leading the way in Santa Clara County with 13 to 26 DUI. The DUI for these fast areas is 22. This puts much of Santa Clara County squarely in a Seller's market. Other areas such as Saratoga and Los Gatos, which are almost always the slowest areas, are lagging behind with 60 to 76 DUI.

It is also important to note that the different price ranges have significantly different DUI and therefore different market conditions. These price ranges should be considered the low, middle and high price ranges in any given real estate market area opposed to the set price ranges. So, in the more expensive areas the prices that represent low, middle and high are higher. The low priced homes (those under $600,000) only have 14 DUI. Homes between $600,000 and $1,000,000 have only 21 DUI. Clearly, both of these markets are hot. Even the high-end had started to improve and entered a balanced market before slowing again. Currently, homes between $1.0 Million and $2.5 M have 43 DUI (that's not even 1.5 months); homes between $2.5M and 5.0 M have just over 5 months of unsold inventory and homes over $5 Million have just over 3-years. 

Median List Price - $699,000 Represents a $50,000 (7.7%) increase in just the past 3-weeks. Median List price reached $616,000 back on April 16, 2004. Subsequently the median List price dipped five times. On December 23, 2004, the median List price increased to $663,500. It is surprising, but not unheard of, to set a new record high for List price in December. The price stayed flat through February 3, 2005 and then jumped upward. It seems that the consumers anticipated the price increase that we were expecting to happen early in 2005. This caused the prices to increase during the end of 2004 and for them to be stable at the beginning of 2005 before resuming their climb. This is what also happened in the Fall of 1999 and Fall of 2000. With the current shift in the market that started November 12, 2004, we are now questioning the amount and duration of the 2005 increase, although the current market trends are currently favorable.

Number of initiated Sales per day – 42.7 This represents a 43% increase in just the past 3-weeks, so the buyers are coming back. The all time record high level of 66.7 was reached just prior to Memorial Day 2004 and will likely remain the record for years to come. The previous record was 54.8 sales per day also reached just prior to Memorial Day but back in 1999.

It will likely take years of growth before SCC beats the record of sales (2,337) set on May 29, 2004. Sales dropped to 1,885 on July 23, 2004. This means that 20% of the sales volume disappeared in under 2 months. This initial radical drop in sales leveled off. Initiated sales have been basically flat at 1,854 until September 6, 2004. As Labor Day sales entered the data sales volume dropped to 1,681. On October 6, 2004, as the Labor Day sales are leaving the data, initiated sales increased to 1,768. There was a second radical drop in sales starting November 12, 2004 when sales dropped from 49.3 sales/day to only 38.3 sales/day. This represents a second 20% drop in 3-weeks but during a period when sales started to drop significantly because of the annual holidays. Sales volume continued to drop from their reduced levels as we would expect because of the holidays. The 2004 slow-down appears to be the most significant reduction in sales volume even when expressed in terms of a percentage of the peak. Clearly, this reduction is more than the seasonal slow-down. Fortunately, buyers seem to have returned to the market place.

Percentage of normal sales initiated – 108.7%. The all time record of 154% was set just prior to Memorial Day 2004. This is a seasonally adjusted data point and therefore very difficult to predict. Sales had been dropping faster than the past 6-years. This explains the drop from 154% to 132%. In August and early September sales were dropping at the normal rate causing the percentage to level off at about 132%. Between November 10th and December 16th, there was a second drop from 132.7% to 114.3%. A third drop from 114% to 96% occurred during the second half of January 2005. The big unanswered question is why the reduction in sales volume? Remember this is not adjusted for any growth over the past ten years. Therefore, 108.7% is likely exactly normal.

Median Sold price – $680,000. Ties the record high of $679,500 set on January 26, 2005. With the recent jump in median List price, we expect that the median Sold price will also jump but will likely take 2 more weeks before doing so. There is a chance this may actually increase February's median sold price will approach $700K.

With the arrival of Valentines Day 2004, SCC experienced significant upward pressure on prices. It appears the same thing is happening in 2005. The question is will 2005 repeat 2004 when the passage of Easter prices leveled off. Then with the passage of both Memorial Day and July 4th 2004 prices dropped slightly. But then in 2004, prices started to increase to $630,000 for September, $636,000 for October, $649,000 for November and $661,000 for December's median Sold price. We believe that this was pulling some of 2005's appreciation forward into late 2004. Mother's Day was the true market peak for 2004. Our current thoughts are with the weakness in the market shown in January we believe that the peak for 2005 market might happen earlier. It will really depend on what happens next. IF SCC experiences a 4th drop in volume that could trigger an early termination of the appreciation and therefore determine the peak of the 2005. As always, time will tell.  

An interesting footnote, November has been a year-to-date record only 3 times since 1984. These were 1988, 1999, and 2000. In all three cases this was followed by some significant price declines. June 1989 ($235,000) to Oct 1990 ($216,000); April 2000 ($560,000) to September 2000 ($505,000) and January 2001 ($577,500) to October 2001 ($481,000). Only time will tell.

Average Sold price to List price ratio – 103.0% This means on average Sellers are getting more than they are asking at the time the offer is accepted. This had been relatively flat since August 20. 2004 until February. This recent increase has pushed the ratio above the recent record of 102.0% set on May 7, 2004. SCC hasn't experienced this level since back in 2000. We consider 98.5% a normal real estate market. This is based on the asking price at the time the offer is accepted not the original asking price and reflects market conditions 25 to 95 days ago because of the length of escrow and how this data is collected. This is one of the few times where an average is more useful than the median. The median ratio would almost always be 100%. 

Percentage of completed Sales where Sold price is greater than List price – 65.3% Overbidding had been increasing more or less at a constant rate between Valentines Day 2003 to Valentines Day 2004. From Valentines Day 2004 to mid-June 2004 the increase was much more significant and pretty constant. Then there was a reversal mid-June 2004 through September 2004 where the amount of overbidding actually decreased. Then overbidding increased in October and November 2004. Before dipping for December and January. February 20004 has seen the amount of overbidding increase again. Currently about 2 out of every 3 sellers are getting more than their asking price, at the time the offers accepted. It could be less than the seller's initial asking price, but is more than the price at the time the offer is accepted. It is like we are in 1999 all over again despite a weaker economic conditions. It is no surprise that the dips in overbidding follow the dips in volume of sales because overbidding is a measure of the amount of unsatisfied buyer demand.

Median DOM for completed sales – 12 days. Not currently very interesting because the MLS is allowing DOM to revert to zero.

How are the other Counties doing? SZC is on fire and MTY remains strong. Based on the moving monthly data published weekly, SMC median List price is now $799,444 off $25,000 from their new record high set on February 17, 2005. SMC median Sold price is $805,000 down $5,000 from the record high of $810,000 set December 23, 2004. The SCC median List price set a new record high of $699,000 on February 24, 2005. The median Sold price at $680,000 is a new record established on February 24, 2005. With the new record high List price it is just a matter of time before additional new records are set. SZC's median List price at $725,000 is off $14,000 from their record high just set on February 17th. SZC's median Sold price increased to $735,000 establishing a new record high on February 24, 2005. MTY median List price at $635,000 continues to break or nearly match their previous record of $642,000 and Monterey's median Sold price of $627,000 sets a new record high on February 24, 2005. The other three Counties continue to out appreciate SCC.

Additional background information