Is A Real Estate Bubble Forming in South Florida?
By Roy D. Oppenheim, Esquire
Connie Lewin
As interest and mortgages rates begin to steadily rise,
economic analysts are reviving a debate of whether a
bubble is looming over the real estate (or housing) market.
A bubble, in real estate terms, is the point where home
prices are no longer sustainable, indicating that the
market is headed dramatically downward, usually at least
10 percent.i
The bubble argument rests on two main suppositions:
the decline in interest rates by the Federal Reserve
inflated the housing bubble, and subsequently, rising
interest rates will most likely burst the bubbleii
; the other argument is that real estate speculation,
driven by low mortgage rates, has created an artificial
demand and home prices are thus poised for a decline.iii
Forecasting whether a bubble exists and if it does,
when the bubble will burst is near impossible. Even so,
the overheated South Florida real estate market is raising
concerns that the market mania is reaching the unprecedented
rise and subsequent precipitous decline of tech stocks
at the turn of the millennium.
Demand is still at an all-time high. According to the
Florida Association of Realtors, South Florida’s
home prices rose strongly over a 12-month period. Home
prices increased a whopping 26.8% in Fort Lauderdale
from $220,000 to $279,000; 25.8% in Miami from $216,000.00
to $271,900.00 and 25.8% in Palm Beach County from $233,600.00
to $294,100.00. The figures are based on the number of
second quarter median sales in the area from April 2003
to April 2004. Real estate professionals are crediting
low mortgage rates to the heated rise of home prices,
driving would-be buyers to deciding and biding quickly
and furiously.
Real estate is also a hot market for investors as well.
The downturn in stock values has prompted investors to
literally bank on the robust real estate market for high
returns. Both local brokers and brokers from Latin America
are attracting potential investors to South Florida with
preconstruction investing into condominiums with the
promise of returns as high as 100% per year…sometimes
more.
Indeed, many of these investors have no intention of
ever living in the units they buy; instead, they look
for rental income or are more likely to resell their
units for a profit.iv Both the New York Times
and Associated Press have noted the increasing trend
in house flipping, investors solely buying homes that
they can “flip” for a quick sale and a big
profit.
It is these speculative buyers that analysts accuse
of being culprits since they are creating an artificial
demand for condominiums and homes that will quickly vanish
as soon as mortgage rates and interest rates increase.
Many of these buyers and investors are buying simply
due to rising prices instead of for intrinsic value,
such as one’s desire to use the property for oneself.
Secondly, the high price jumps of homes have risen faster
than incomes. In a recently released report from HSBC,
entitled The U.S. Housing Bubble — The case for
a home-brewed hangover, HSBC chief U.S. economist Ian
Morris found that house prices relative to income, rent,
replacement-cost and home-equity is reaching record highs.
Home prices, he warned, could decline by 5 percent to
10 percent nationally over the next five years. “Expectations
of future house price appreciation are spectacularly,
and unrealistically high,” he said.v
The decline in rent-to-price ratio also signals to some
economists that a bubble is looming. Dean Baker, co-director
of the Center for Economic and Policy Research, argues
that if home prices are at a higher rate than rental
prices and inflation, a bubble must be looming. If a
growing population and a limited supply of homes are
causing the increase in home prices, rental prices should
also be roughly the same amount as home prices. Rental
prices, however, are at a standstill and are not appreciating
at the same rate as home prices.vi
Rising mortgage rates can also impact the housing market
since they make homes less affordable, which can hurt
selling prices. Analysts at Business Week Online found
that if 30-year fixed-rate mortgages rise just one percentage
point, to 7.2% from their current 6.2% -- well within
the range of forecasts -- house prices would have to
fall 11% to keep new buyers' monthly mortgage payments
from rising. If fixed rates went to 8%, prices would
need to fall 20% to keep payments level.vii
Mortgage debt has also risen faster than home values
since 2000, according to Federal Reserve data. Many analysts
argue that it is the relationship between interest and
mortgage rates that inflate and deflate the real estate
bubble.
If the real estate bubble exists, experts argue, its
explosion could also greatly impact the economy. Goldman
Sachs economist Jan Hatzius argues that a decline in
housing reduces consumer spending at least as twice as
much as a same-sized loss in the stock market.viii
Optimists of the real estate market, on the other hand,
downplay the danger of a bubble, by pointing to the fact
that despite the increase in interest rates, mortgage
rates remain at a record low and the tight supply of
homes for sale has helped to boost demand. Some economists
also argue that rising interest rates are an indicator
of the health of our economy.
"The reason interest rates are higher is that we
are in a growing economy," said NAR chief economist
David Lereah in a recent release. The opinion is that
rising salaries and stock market returns can create enough
wealth to offset the negative effects of rising mortgage
rates.ix
Optimists of the real estate market also point to the
government’s campaign to boost the rate of home
ownership. The government introduced initiatives to boost
the rate of house ownership with tax incentives and the
private sector has responded too, with increased competition
in mortgage lending in the past decade.x
Economists at the Federal Reserve have also disputed
the bubble theory. A recent 12-page report titled, “Are
Home Prices the Next ‘Bubble’?” by
Jonathan McCarthy, a senior economist, and Richard W.
Peach, a vice-president, at the Federal Reserve Bank
of New York, reached the conclusion that “the most
widely cited evidence of a bubble is not persuasive because
it fails to account for developments in the housing market
over the past decade. In particular, significant declines
in nominal mortgage interest rates and demographic forces
have supported housing demand, home construction, and
home values during this period. Taking these factors
into account, we argue that market fundamentals are sufficiently
strong to explain the recent path of home prices and
support our view that a bubble does not exist."xi
The report attributes the rise in home prices to inflation,
but more significantly to the changing demands and tastes
of home buyers. In addition, mortgage rates are still
at a record low. It is demand that is causing rising
home rates.
According to Freddie Mac, a federal mortgage corporation,
fear of a real estate bubble is unwarranted because the
housing market does not exhibit the boom and bust traits
of an economic bubble. Amy Crew Cutts, deputy economist
at Freddie Mac, points to the fact that housing costs
are high, holding time is quite long, and most people
buy homes for consumption, not investment. Cutts argues
that prices in the real estate market are rational since
they reflect current economic conditions.xii
For South Florida, then, the real estate market reflects
both investor enthusiasm and enthusiasm for home ownership
with new demands coming from the climatic and multicultural
attributes of the region. There remains an unwavering
demand for South Florida housing, with unprecedented
growth in Palm Beach County and steady growth in both
Fort Lauderdale and Miami. South Florida continues to
attract new residents from Canada, the Northeastern U.S.,
Latin America and Europe, and that high demand is outpacing
new construction, creating unbelievably a housing shortage.
Although there are many buyers seeking to flip homes
for high returns, there are equally as many South Florida
buyers looking for places to live and are taking advantage
of the currently low mortgage rates.
Therefore, while experts are split on whether a housing
bubble exists in the United States, for South Florida
the soaring demand and drop in inventory suggests that
home prices will continue to remain strong. Prices may
dip or not continue their immediate escalation, one thing
is certain, that long-term, real estate is still your
best investment. According to the Florida Association
of Realtors, the median price of a resale home in Florida
has jumped more than 51% over the past five years.xiii
Demand might cool with rate increases, but buyers are
still willing to shell out for the high prices of homes.
Advice for new buyers is to spend only what you can
afford, use home equity with care and do not plan to
buy a house if you do not plan to live there for a few
years. If you are a “Flipper,” be ready to
close on the property and rent out the place for a few
years if you are unable to sell. Otherwise, be ready
to walk away from your Real Estate Deposit.
Real estate investing is really just like musical chairs;
when the music stops, and it will, because it always
does, will you be left standing out in the cold?
Roy D. Oppenheim, a well respected Real Estate attorney
and consumer advocate, is President of Weston Title and
Escrow, Inc. Mr. Oppenheim actively invests in Real Estate
and represents clients concerning their Real Estate investments.
Connie Lewin is a senior at Princeton
University majoring in Comparative Political Systems
and is an active member of the Whig-Cliosophic Society.
Copyright Weston Title & Escrow
2004
i http://www.nctimes.com/articles/2004/08/15/news/californian/20_21_148_14_04.txt
ii http://www.businessweek.com/magazine/content/04_29/b3892064_mz011.htm
iii http://quote.bloomberg.com/apps/news?pid=10000039&refer=columnist_wasik&sid=aDX8ADXYd6iE
iv http://www.miami.com/mld/miamiherald/business/8405214.htm
v Reuters. “HSBC, unlike Fed, sees U.S.
housing bubble.” USATODAY.COM. 25 June 2004.
< http://www.usatoday.com/money/economy/housing/2004-06-25-housing-bubble_x.htm>
vi Baker, Dean. “Who to Blame When the
Next Bubble Bursts.”
<http://www.cepr.net/columns/baker/next_bubble_bursts.htm>
vii http://www.businessweek.com/magazine/content/04_29/b3892064_mz011.htm
viii http://biz.yahoo.com/bizwk/040709/b3892064mz011_1.html
ix Max, Sarah. “What do rising rates
mean for housing?” CNNMoney.com. 27 July 2004,
< http://money.cnn.com/2004/07/13/real_estate/buying_selling/risingrates/>
x Croke, Hilary. “The Run-Up in Housing
Prices is Not a Bubble.” Center for Economic and
Policy Research. <http://www.cepr.net/columns/housing_bubble/no_housing
bubble.htm>
xi McCarthy, Jonathan and Richard W. Peach.
“Are Home Prices the Next ‘Bubble”?”
FRBNY Economic
Review/Forthcoming. < http://www.ny.frb.org/research/epr/forthcoming/mccarthy.pdf>
xii “Freddie Mac: No Housing Bubble”
http://www.fool.com/news/commentary/2004/commentary04073003.htm
xiii “Freddie Mac: No Housing Bubble”
http://www.fool.com/news/commentary/2004/commentary04073003.htm
|
