The question is best answered with an example. A hypothetical buyer looks at 24 homes in a strong buyers market.* The market includes eight months of inventory, meaning three of the 24 homes will sell this month. Of the 24 homes, six are of good quality and condition, six are poor quality, and 12 have potential. Two of the six good ones and one of the 12 potentials are priced very competitively and are the three that will sell.

Our buyer recognizes the three as the best available opportunities and decides to offer on one. The other buyers looking in our market also choose these three homes to focus and offer on. The three properties attract multiple offers, and the others are ignored. As a result, the three sell at or above their list (asking) price.

This is a fairly typical scenario. Buyers of any product or service seek quality and value. In the following month, some new homes will come on the market and some will reduce their prices. The three perceived by the market as the best quality and value will sell. There are exceptions to the rule and some buyers will occasionally choose to offer on one of the other properties and buy at a discount. So although we can sometimes buy homes that we don't want at a discount, we usually have to make a strong offer and pay a good price for the ones we want.  Even within a buyers market, it's a sellers market for some homes.

*It is generally agreed that a balanced real estate market includes about four to six months of inventory of homes for sale. A smaller inventory would be considered a sellers market and a larger inventory would be a buyers market.

Pat Paulson,

May 8, 2010

Discussion about real estate markets usually tends to focus on prices. And the Twin Cities market has had encouraging price news this year. After three and one half years of declining prices, we've now had three consecutive months of increases in the median price compared to a year ago. But price trends usually follow supply/demand trends, and while most of us have been talking about prices, an important supply development has taken place.

An important factor leading to the three years of price declines was a multi-year build up in supply of houses for sale. The supply peaked at an unhealthy level in the spring of 2008 and then started a steady decline. Price declines followed and hit their lowest point of the cycle in early 2009. But as supply declined and demand increased during 2009, price declines became smaller, until this year and the stabilization that we now see.

The new development is that in three short months, the two year trend of declining supply has stopped. We now are at a higher supply of houses for sale than a year ago. This is a predictable event, since sellers had been discouraged by poor market conditions and have now been given new hope by the positive price news. New listings are coming on the market at the highest rate since 2007. The increased activity comes from traditional sellers, as opposed to bank owned foreclosures, and is most noticeable in the middle price ranges, from about $120,000 to $250,000.

Markets always change and adapt, and there exists a pent-up desire among many owners to sell, along with many more foreclosures to work through the system. For these reasons, our housing supply is not likely to fall to levels that will put much upward pressure on prices. Now that we've reached a reasonable supply/demand balance and price stability, we may not have significant market movement, up or down, for a while. We will be keeping a close eye on supply/demand trends to see how sellers and buyers respond to the upcoming expiration of the federal homebuyer tax credit.

So the Twin Cities real estate market has finally posted a year over year price increase for the first time in 41 months this January. Certainly good news but let’s not break out the champagne yet. The recovery/rebound…whatever you want to call it, is a long process and this is just another sign that we are going in the right direction as opposed to a destination we’ve been seeking.

The price increase means that the median price of this January’s sales was higher than last January. Key point: this year’s sales are different houses than last year’s sales. 2009 started with a huge number of lender owned, foreclosed properties on the market. At bargain basement prices, they sold in huge numbers, reducing the inventory by 62% in one year. With all the demand for and sales of lender owned properties, 2009 was a year with a large increase in sales and a large decrease in median or average price. Median and average prices are not entirely an indicator of changes in value, but also indicative of what is selling.

January 2010 included a large increase in sales of (higher priced) traditional homes and short sales, and a huge decrease in sales of (lower priced) lender owned properties. So while much attention is given to our price increase, it really has more to do with what is selling rather than an actual increase in value.

That said, I find other data in the January numbers to be more revealing of where we are in the process. The large increase in traditional pending sales (28%), and pending short sales (115%), is a very positive sign that buyers are moving into those markets. This is a much needed step in the right direction. But with the median price of traditional sales down 8% from last year, it is clear that we have a ways to go.

A surprise to me as I have taken a larger leadership role in our local Realtor association is that I can get a message out without saying anything. The following quote was written for me: “A lot of progress has been made in the last year,” said MAAR President-Elect, Pat Paulson. “But the recovery

process still isn’t over. There are going to be some more bumps in the road.”

I approved the quote because I agreed with it and it sounded like something I would say. We have a fantastic staff at MAAR, with great skill at not only presenting the data in a meaningful and pleasing way, but they can actually intuit the way that I would describe it. I am impressed.

But if I were to use one word to describe the market in 2010, it would not be recovering, or rebounding. Those words imply that we are recovering something lost, or rebounding back to a place, perhaps the price peak of the last cycle – in 2005 or 2006. We are not heading to a market like that in 2010, or anytime soon. My word for 2010 is stabilizing. Markets always tend towards balance, and ours has been out of balance, swinging back and forth for some time. Some of the 2009 trends will carry over, like low supply and high demand in the lower price ranges. But the January data and other trends indicate to me that the market is stabilizing. There will be more bumps in the road, but we are moving along in the right direction.

A local non profit used the City of Minneapolis ‘First Look' program to purchase one of my foreclosure listings in June. They literally snatched it away from a couple that had made a full price offer on this home in a nice South Minneapolis neighborhood. After letting it grow for six weeks they finally cut the foot tall grass on the vacant property.

First Look is part of the Minneapolis Foreclosure Recovery Plan, the component used to "pursue aggressive property acquisition".  The plan is for the city to purchase for itself and it's Coordinated Development Partners nearly one third (over nine hundred properties per year), of the foreclosures in the city. They have negotiated agreements with the major banks to have a ‘First Look' opportunity to purchase foreclosed properties before they are available to the public market.

As the foreclosure crisis unfolded city officials prepared their response. There were thousands of vacant foreclosed homes creating problems for neighborhoods. But markets can change faster than government can create and implement plans. And the lesson that markets have forever taught yet we never seem to learn is: "Markets always seek balance and thus, will correct imbalances if left alone".

As the media has continued to focus their reporting on next to meaningless price data, the important Supply/Demand Ratio (SDR) has been shrinking. And while the traditional market and median to upper price ranges have continued to be slow, the foreclosure market and lower price ranges are booming. New data fields are now used widely enough to provide reliable SDR data on foreclosures. As of July 27, 2009, the SDR for foreclosures in Minneapolis was a remarkably low 1.41 based on closed sales over the previous month. A balanced SDR is considered somewhere between 4 and 6. Assuming an average listing period of four to six months, there are currently three or more buyers for every foreclosure in the city. We don't need help selling these foreclosures!

The bright side of the foreclosure crisis is that prices have come down so low that there currently exists a window of opportunity for home buyers and investors. Many of the properties are in good condition or have the potential to be good quality homes. The City's intervention threatens to shut this window of opportunity.

Minneapolis and the non profits have a long history of positive influence in our housing markets. Other components of the foreclosure plan are beneficial and ‘First Look' can be, if used sparingly and selectively. The good people of this city wish to take advantage of today's opportunities. Here's a call to the city and the non profits to keep your hands off the good deals!

As we know, the Supply Demand Ratio (SDR), is perhaps the most important leading indicator for predicting future price movement in real estate markets. Sometimes, significant other factors such as foreclosures moving through the market or lack of quality Jumbo financing, can overshadow or diminish the SDR effect, but that's another story for another day.

Unfortunately, there is no formula to determine the exact influence the SDR will have on prices. We know that if it's too low, prices will go up; too high, they will drop; and balanced, prices will be stable. Opinions vary, but most observers consider a range of 4 to 6 months of inventory to be a balanced SDR. We also know that what constitutes balance, or high or low, and how it can affect prices, can change depending on area, price range or time.

Our Twin Cities market can be divided into many submarkets that are vastly different. There are areas with high numbers of lender mediated (foreclosure and short sales) properties, such as Brooklyn Center, representing 67.9% of its inventory. Other areas have low levels, such as Edina, with 5.4%.*   

One recent trend has been the rapid change to a sellers market in the lower price ranges. An analysis of SDR's demonstrates this.

A selection of high foreclosure impacted areas, Brooklyn Center, Brooklyn Park, North Minneapolis, Powderhorn and Camden reveals the activity in the low price range market. The SDR in these areas for properties listed at $80,000 or below is an unusually low 1.35, based on Pendings and Solds with an off market date in the last month (March 28 - April 27, 2009). For properties in these areas with a list price above $150,000, the SDR is 5.81.

A selection of low foreclosure impacted areas, Edina, Eden Prairie, Minnetonka, and Plymouth, reveals similar differences based on price range. In these areas, the SDR for properties listed at $250,000 or below is just 2.55. For properties listed at $400,000 or higher the SDR sits at 9.95.

What this tells us beyond the fact that there are currently distinctly different markets is a matter of interpretation. It appears clear that the bottom of the market will be rising, but we are nowhere near any upward price pressure on the middle or upper price ranges. It also appears that the downward correction has overshot the target in the high impact areas and we'll likely see prices moving towards more balance relative to other markets in the future.

As always, money flows towards quality and value, and future movement in the markets will reflect this.

* Data from www.mplsrealtor.com, Lender Mediated Report, authored by Jeff Allen and Aaron Dickinson.

Question: When is the best time to buy?

Answer: When you are ready.

I was watching a Celtics/Lakers game when a commercial came on for a financial services firm. I was barely paying attention, but then I saw the phrase: "Time; Not Timing". Great advice.

Markets will always cycle up and down and their complexities make the timing difficult to predict.  Real estate has real value, and with inflation engineered into the economy, it is destined to keep pace (upward) over the long term.

A critic once told me that stocks provided a better return than real estate, dating from the 1970's to now.  I responded that "you can't live in your stock certificates".

The concept of "home as investment" is relatively new and not universally accepted in human history and culture. Investment value, if any, is and should be secondary to the primary purpose of a house.  First and foremost, it is your home.

The investment advantages come into play over time. The focus should be on quality. Buy a quality property that will suffice as your home for the long term. Obtain quality financing that you can afford for the long term.

In my marketplace, the Twin Cities, the inventory of homes for sale, peaked about a month ago and is declining. Some say that now is the time to buy. But the best time to buy really is "when you are ready".  

I had the chance to purchase a house for $25,000 in 1976.  My friend decided to sell it to his sister instead.  Three years later it was worth $50,000.  I finally bought a couple of years after, but found myself wishing I had bought a bunch of property "back then".

I was fortunate to carry three properties during the recent boom, but wish I had bought more "back then" in the 1990's.  Many people wish they had bought just one back then.  The good news:  It is back then.  Prices in some areas and for some properties have rolled back seven or more years.

It's not well known, but if you examine statistics over time, you can see that some markets perform better in a "buyers market", while others decline.  And while everyone does well in a sellers market, typically those "other" areas do best.  I call this the "quality effect".

Buyers of any kind of product or service want quality (and value).  During a buyers market, when there is a lot to pick and choose from, the money gravitates to quality, or what the public perceives to be quality.  So those areas and properties that the market perceives as quality do the best, (or suffer the least) during a market like this.  Conversely, during a boom, all real estate is considered a quality investment and money flows to the lower priced areas, causing a boom that can sometimes push prices too high.

This cycle has opened up some tremendous opportunities.  In some of our areas that are not perceived as quality, there are great properties at great values.  Some can be bought at 1990's prices.  Even in some of the "so called quality areas", there are fixer-uppers at bargain prices.

We are about to reach the peak inventory level of this cycle in the Twin Cities market.  Inventory will slowly decline from there on out.  The window of opportunity is wide open to buy at "back then" prices.  Some time in the future a lot of people will be wishing they had bought "back then" in 2008.

The first stage of the rebound is well underway in the Twin Cities real estate market.  How it plays out remains to be seen but history and current trends give us good clues.  Markets are cyclical and excesses, whether up or down, sew seeds bearing the opposite reaction.  The harder the fall, the greater the rebound, be it in strength or length.

Anatomy of a Rebound

Stage one of the rebound is reduced seller activity.  In 1989, listings processed began a ten year decline.  This led to a real estate boom, starting several years later.  In 1999, listings began a seven year incline.  This led to the current down market, which began in late 2005.  Listings peaked in 2006, and are steadily declining.  This first stage of the rebound has been underway for over a year and will lead to the next important stage; reduced inventory.

Inventory will certainly peak this summer if it hasn't already last year.  Active listings in the median to upper price ranges, condos, and non foreclosures are already down.  New construction inventory is down considerably from peak levels.  The all important "supply demand ratios" (SDR) will likely peak soon.  There is a good chance they will be down in year over year comparisons by the end of this year or early next.  The SDR is perhaps the most important leading indicator of where prices are heading.

The third and most important stage of the process will be increased buyer activity.  When and how this occurs is the key statistic to watch.  All eyes should be on year over year comparisons of pending and closed sales late this year and early next.  This will be the first chance to see meaningful comparisons after the "credit crunch" hit in August of 2007.  Sustained growth in buyer activity, combined with a declining SDR, will eventually put upward pressure on prices, the final stage of the rebound process.

Not So Fast

The rebound will be slow and gradual, with spurts and stalls.  For those who see the world in "black or white", "right or wrong", "this way or that", the following concept may be hard to grasp.  Although the rebound is well underway, the market is still declining.  The two conditions overlap each other.  In fact there are always upward and downward pressures acting simultaneously in all markets.  In addition, market conditions are measured in different ways, each one peaking or bottoming out at different times.  Seller activity peaked in 2006, inventory likely in 2007, buyer activity may bottom out this year, and prices this year or next.

But even if conditions consistently improve, we will remain in a buyers market for some time, as the SDR is far from balanced.  For a more detailed explanation see last year's article "The Buyers Market, In it for the Long Haul".  And as soon as there is hint of improved market conditions, sellers will try to jump on the bandwagon.  In addition, there are a number of foreclosures still to come.  So while the rebound will bring us an improved market, there is no sellers market or "boom" on the horizon.

So when is the best time to buy?  That depends.  If you're looking for a good quality property, that inventory peaked last year.  But there still are and will continue to be good options.  If you're looking for something cheap, it can't get much better than now.  In reality, there are good buys in every market.

The best bet is to buy when you are most ready.  Take your time, do your research, and choose quality, in property and financing.  Most importantly, think of it as a long term investment, or better yet, don't think of it as an investment at all.  It is, first and foremost, your home.  And that is worth far more than what can be measured financially.

I was just plugging in addresses for fun to see what Zillow's Zestimate is.  According to the Great Zillow, one property that just sold for $70,000 is worth $176,000.  Another one listed at $159,000 is worth $246,000, and another one that was listed at $242,900 and has sold and closed, is currently listed for $276,000 according to Z.  Not so bright, huh.

Any professional knows that you can't rely on a computer program for an accurate property value.  But not all of the general public knows this, and in fact some otherwise bright young techies think the website is smarter and more trustworthy than us Realtors.

The website is pretty cool, however, and it will continue to improve as it gets more data.  It's in our interest to know what the "Zestimate" is on the properties we're dealing with and to be able to explain why it's close to accurate or way off the mark.  If you haven't heard, "but Zillow says it's worth...", you will soon.  Will your response be intelligent and thoughtful, or will you just say, "Zillow is Stupid"?

The Standard & Poor's/Case Shiller Index was released Tuesday, January 29^th, showing an 8.4% drop in real estate prices in November, 2007 from November 2006.  Case Shiller is a highly reported index that is alleged to be more accurate than the statistics provided by the Realtor associations.

The argument is that the Realtors report the average or median price of all sales from one year to the next, which is a different group of homes each year.  Case Shiller only uses cases where the same home has sold twice, using the apples vs. apples argument.  There is logic to this argument, but there are significant problems.

The first problem is the small statistical sampling. In any given year there may be at most about 5-7% of all homes selling. It's a much smaller group that sells twice in a short period, which is what Case Shiller is looking for. To "keep sample sizes large enough to create meaningful price change averages", they use a "three month moving average algorithm".  I would argue that this is still far too small a sampling.

The index construction methodology uses a weighting of sales pairs with less weight applied to pairs with longer intervals between sales.  Excluded from the calculation are sales less than six months apart, as they are not likely to be arms-length transactions.  The most weight is applied to sales about a year apart.  Now let's think about this: Who sells their home after just one year?  It's often a foreclosure or some other distressed situation.  No wonder the prices are so much lower.  In fact, per Case "Subsequent sales by mortgage lenders of foreclosed properties are included if repeat sales pairs, because they are arms-length transactions".  Right...Ok

Imagine, someone buys a house for $200,000, loses it in foreclosure and the bank sells it for $160,000.  An investor buys it, paints it and sells it for $200,000.  Case Shiller index includes the foreclosure sale because it happened after one year and excludes the investor sale because it took place in less than six months.  According to the index, the property value dropped $40,000.  The point here is that most weight is afforded to sales that may be distress situations.

There are ten main statistical areas in the index plus ten other areas.  Averages from the ten large metropolitan areas are then used to determine the U.S average.  Again, this is another example of a small statistical sampling.

In addition, you have the same problem that exists with all methods of coming up with average sales increases/declines.  What really matters in real estate is the status of a specific property rather than a whole area.  According to Case Shiller, my area, Minneapolis dropped in value 6.6% last year.  The actual drop in average sale price was 1.3%.  But there were great variances within the area.  On area within the metropolitan area dropped 33%, while another increased by 12%.  What's most important to homeowners, sellers and buyers is the status of their neighborhood rather than national or even city averages.

Ultimately, all statistical measurements have their flaws, including Case Shiller.  I give them credit for their creativity and the work involved in constructing their complex algorithm.  But in the end, nothing replaces a good Realtor in understanding the pulse of the market.