On That Strong Buyer Demand Thing…

First, watch the video above. It’s my doppelganger Lawrence Yun, Chief Economist at NAR, explaining the 1.4% drop in June pending home sales. This comes on the heels of bad news about June released several days ago:

June Existing Home Sales down 5.4%

June New Home Sales down 8.4%

And predictably, the media and various pundits are all over these three bad news bears.

I’m more interested, however, in one small fact that Lawrence brings out in the video above:

Lawrence Yun, NAR chief economist, said inventory shortages are a factor. “Buyer interest remains strong but fewer home listings mean fewer contract signing opportunities,” Yun said. “We’ve been seeing a steady decline in the level of housing inventory, which is most pronounced in the lower price ranges popular with first-time buyers and investors.” (Emphasis mine.)

He later says, “Buyer interest remains exceptionally strong,” and says there’s pent-up demand with all the renters out there today. He blames low inventory levels due to banks holding back REO’s from the market.

Can we delve a bit into this “strong buyer interest” piece?

What the Dog Saw… In Minneapolis

Back in May, I participated in the Yun Hahn Swan Con thanks to the Minneapolis Area Association of REALTORS(r). I don’t know if video or transcript of that event exists anywhere, but I listened with fascination at the presentation that Lawrence made about the housing market.

One thing he mentioned really stuck with me. I’m going from memory here, but in essence, what Lawrence said is that if you look at buyer demand over the past year or two, any growth in the market is driven entirely by investor activity. He actually pointed out that “family buyers” — people who are buying to live in the house themselves — are flat or slightly down. But investors, many paying cash, have more than filled the gap.

Even back in June of 2011, investors were accounting for almost a third of all buyers. I should note that NAR’s figures show that in June of 2011, 19% of the buyers were investors (29% were cash buyers) and that remains unchanged in June of 2012 with 19% of the buyers being investors (29% were cash buyers, unchanged year over year). Note also that first time homebuyer activity is more or less unchanged from a year ago: 32% from 31%.

But in places like Southern California, hard-hit by the collapse, it appears that maybe investor activity is far more important:

  • Anecdotally, I hear absolutely nothing about first-timers being a big force in the market.
  • Realtor statistics show that the market share of first-time buyers shrunk to 34% in California during 2011 — below the historical average of 39% and the lowest since 2008.
  • Indications are that first-timer market share probably shrunk further this year, although maybe not by much.
  • For example, absentee home buyers (obviously fitting more the investor profile) rose in Southern California from 25.1% in May 2011 to 27.0% in May this year, according to DataQuick. In the Bay Area, the investor market share dropped a bit but it was still 24.6% this May.
  • Cash buyers, also not necessarily a good fit for first-timers, rose to 31.3% in Southern California from 29.5% during the same time period. The Bay Area experienced a little mini-bounce to 28.1% from 27.4%. (Emphasis added)

However you parse the data, it does seem to me that there’s no way to avoid the conclusion that while low inventory may indeed be a factor in decreased sales, the idea that buyer interest is exceptionally strong needs to be questioned just a tad.

The Investor Mindset != Family Buyer Mindset

Let’s take it as a given that Lawrence is correct that banks are holding REO’s back from the market and dribbling it out to keep prices up. They hope that by constraining supply, they can keep prices high, and slowly liquidate their portfolio of bad loans. Fine.

But it seems to me that the whole supply-and-demand needs to take the different qualities of demand into account. An investor would react differently to high prices than a young couple who just had a baby, especially if the investor believes that the high prices are due to artificial manipulation of the market by banks. Unlike the young happy family, the investor doesn’t need to buy a house.

For the investor, buying a property is a strictly financial play. Does this asset yield better returns than that other asset? Am I putting money into this house for diversification purposes? Is it an inflation hedge? What is the prevailing rents? What sort of vacancy risk am I looking at? How much to repair and maintain? So on and so forth. An investor, by definition, does not fall in love with a property because it’s the perfect place to raise li’l Johnny and li’l Jane.

Which means that there is no sector of “buyer demand” that is as volatile as an investor. If rates go up a smidgeon, a family buyer might suck it up because it’s their home; an investor might decide that the property no longer pencils at 4% although it did at 3.75%. If prices tick up some more, they can easily decide to sit on the sidelines and see what happens. If the local city council starts debating rent control regulations, they can just cut their losses and dump the property. If, if, if — and all the ifs matter to an investor. After all, they don’t have to live there.

But the most important factor is that an investor can just afford to sit there and do nothing. Again, if they come to believe that the reason why prices aren’t another 20% lower is that the banks are manipulating supply, then the smart money would just sit on the sidelines or put the cash elsewhere.

The Good News?

I suppose there is a silver lining of sorts, if you work with a lot of investors. Given how crappy this economy is under the leadership of our moral and intellectual betters, with 53% of college graduates not having real jobs while carrying ever-higher student debt loads, the future is bright for landlords. (Just watch out for the do-gooders from the government who want to help those poor low-income college grad renters.)

Couple that with the stated policy of the United States to devalue the dollar and investor interest in tangible things like gold, silver, bricks and mortar should remain strong. Once again, many thanks to our moral and intellectual betters at The Fed.

And I get to pat myself on the back for calling Renter Nation two years ago. Yay? Cuz speaking as an American, I’d much rather have a healthy growing economy. Then again, that’s why I’m a Texan today…

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Rob Hahn

Managing Partner of 7DS Associates, and the grand poobah of this here blog. Once called "a revolutionary in a really nice suit", people often wonder what I do for a living because I have the temerity to not talk about my clients and my work for clients. Suffice to say that I do strategy work for some of the largest organizations and companies in real estate, as well as some of the smallest startups and agent teams, but usually only on projects that interest me with big implications for reforming this wonderful, crazy, lovable yet frustrating real estate industry of ours.

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