The DataQuick Spin

Last week, DataQuick released three reports on California real estate - one for the state as a whole, one for Southern California, and one for the Bay Area. Overall, compared to a year ago, sales were down slightly but prices rose by about 15 percent.

California October Home Sale Report
Southland home sales, prices still near peak
Continued sales slowdown in Bay Area, appreciation flat

In reading these three reports and looking at the data contained in them, it's not hard to see that there's some spin coming out of DataQuick headquarters - maybe a lot of it. Perhaps having been more interested in the data in recent months, the commentary has not been sufficiently scrutinized - this will have to be watched closely in the months ahead, as the California real estate market continues to react to rising interest rates and changing public perceptions.

Southern California

Regarding Southern California, DataQuick President Marshall Prentice seems particularly intent on shaping public opinion about what the future holds:

"The big question is still whether or not the real estate market will end this cycle with a crash, or with a soft landing. Right now the latter scenario is still the most likely. Home values have doubled in the past four years and almost all, if not all, of those gains are here to stay," said Marshall Prentice, DataQuick president.

So, that second sentence is passable as sound analysis of the current situation - no evidence of anything crashing yet. But that third sentence is really very prescient, no? Divine omniscience? Didn't know that you had that in you Marshall - how else to explain stating as fact that an early 1990s style pull back in price levels is out of the question?

The Bay Area Real Estate Market

On Bay Area real estate, Marshall draws conclusions about the market's strength which seem to contradict both the headline and much of the rest of the article:

"We look at today's market as normalizing. Everybody seems to have gotten used to the records set last year and the year before. The fact is that last month was the third-strongest October since we started keeping records in 1988. It was about twenty percent above average," said Marshall Prentice, DataQuick president.

So just how do you measure a market's strength? Marshall didn't say the third best year-over-year price increase, he said the third-strongest October. And, there's that twenty percent number which lately hasn't appeared in DataQuick reports with near the frequency it used to.

While it's not clear what "It" is in the last sentence or how "It" was twenty percent above average, it does sound nice to hear those words - "twenty percent". Californians have become accustomed to twenty percent gains on their median priced half million-dollar homes - that's $100,000 a year, about double the median income.

Life is good out here.

So let's look at how one might measure a market's strength. The recent year-over-year percent changes for median price and total sales for the month of October appear below (curiously, no data is available for the last few months of 1999, which must have been one of the wildest periods in the history of Bay Area real estate, given what was going on with the internet boom at the time).

Year..Price...Sales
-------------------
2005...17.2...-6.0
2004...17.5...-4.7
2003....9.3...23.8
2002...11.5...20.4
2001...-0.8..-19.6
2000...26.2....0.2

When looking at price changes and sales changes to measure the strength of a market, it really looks like October 2005 places fifth out of the last six (or possibly sixth out of the last seven). In fact, if you simply use the sum of the two numbers as a proxy for strength, then 2002 and 2003 are by far the strongest.

If changes to inventory were included in the strength measure, then surely October 2005 would not look nearly as good as the DataQuick President would like people to believe. As it is, it is accurate to say that October 2005 was third best in the last six years for price appreciation, and second to last in changes to sales volume.

Had Marshall just said, "Last month, prices were up almost twenty percent from a year ago", it wouldn't have been a big deal. As it is, the words that were ultimately chosen are clearly designed to mislead and confuse, and frankly, they sound a little desperate.

Financing the Boom

In the first DataQuick article about real estate trends in California as a whole, the following statement appears - a statement that most people probably think little about.

The typical mortgage payment that home buyers committed themselves to paying last month was $2,081, a new peak. That was up from $2,004 in September, and up from $1,745 for October a year ago.

So, the first thing to notice here is that the "typical mortgage payment" has risen about twenty percent in the last year - that's interesting. But how is this "typical mortgage payment" calculated?

Using any mortgage calculator, it quickly becomes clear that this is the standard twenty percent down, 30-year fixed calculation. In this case, financing $363,200 (eighty percent of the October median price of $454,000) at the October rate of 5.6 percent yields a monthly payment of $2085. Close enough.

The next question to ask is how this perfectly understandable monthly mortgage payment squares with the median income in the state of California - after all, median house price, median family income, median family awareness of how the real estate and lending businesses work today - surely there is something interesting to be learned here.

Let's first finish the PITI calculation (Principle-Interest-Taxes-Insurance). For a the median priced $454,000 home, taxes at 1.25 percent per year works out to be $473 per month. To this add another $60 per month for basic homeowners insurance, and you get a grand total of $2614 per month for basic housing expenses.

According to the Census Bureau, the three-year-average median household income in California for the years 2002 through 2004 was $49,894. Making allowances for modest wage gains in the last two years, that would put the median household income at around $52,500 today.

So, during the month of October, as a percent of gross monthly income, the typical California home buying family has committed to paying 60 percent of their gross monthly income to basic housing expenses?

By now everyone surely knows the answer to this - it just seems funny that DataQuick and other news reporting agencies continue to report this 20 percent down, 30-year fixed calculation. This is the same calculation that is used to figure the affordability index which last month came in at 15 percent.

Why the Boom Goes On

Obviously, the average homebuyer is not paying sixty percent of their gross income towards PITI, so there must be some other explanation. Where would one look to find the answer? Let's start with Yahoo!


Click to enlarge

Just using the numbers shown here, the picture becomes clearer -$160,000 for $633 per month yields a mortgage payment of $1437 for the above example, which when combined with the fixed costs for taxes and insurance brings the new lower total to $1970 per month - 45 percent of gross monthly income.

This still seems high, and it still assumes a 20 percent downpayment. Not too many years ago lenders would limit PITI to 28 percent of gross income and total debt to 42 percent of gross income.

Wow, things have really loosened up, huh?

So what kind of loan buys $160,000 of house for only $633 per month?

Through Bankrate.com, it is very easy to find Amerisave.com where answers are quickly revealed - the most important answer relating to a particularly poor choice of the word "buy" in the previous question.


Click to enlarge

There are one or two other combinations, but the obvious one here is the one circled in red above - the 3 year fixed, interest only ARM. Not really a way to "buy" a house - more like a way to rent a place while gambling that home prices will continue to go up and make you rich.

This seems to be the weapon of choice for Californians - a state where well over half of all new home loans are interest only and forty percent of all first time buyers put no money down.

Note the option ARM monthly payment quoted above - why would they not put that in the Yahoo ad? Certainly that would attract more people. That must have been an interesting meeting to attend, where someone stood up and said, "That's crossing the line - we can offer that product, but we can't use that monthly payment to attract people to our website".

So, this is the foundation for what DataQuick President Marshall Prentice calls a strong market?

With loan terms and debt to income levels like these, we should expect that "almost all, if not all, of these gains are here to stay"?

In the months ahead, in addition to the statistics that DataQuick publishes, Marshall's commentary will be greatly anticipated.