Modified 6:30 pm

I am not the typical realtor. Since getting my license last year, I have never said it's a good time to buy a home. I started my real estate life as a housing bubble blogger, trying to convince homeowners to sell, and renters to keep renting. Back in 2005, after I stumbled upon the excellent San Diego housing blog piggington.com, my eyes were opened to the California housing bubble. I researched facts on the internet, wrote reports on the housing bubble and upcoming recession to send to local media and my family, and blogged endlessly on piggington. My husband and I sold our home, pocketed the gains, and became renters. I was on a crusade to teach everyone else how to save their equity: SELL NOW! I blogged on piggington for one year, started my real estate consulting firm (The Berkland Group) in January 2007, and obtained my real estate license in October 2007.

My crusade remains to educate, volunteer for local housing agencies, and arm my buyers and sellers with the most intense San Diego housing data available on the planet. Every buyer hears me say, "have you considered renting?" Buyers get exclusive housing data and ruthless negotiations, to get the best deal in this tough market. I use the power of emotions to prevent emotional buying for my buyers, and encourage emotional buying for my sellers.

It's a game of facts, emotions, and long hours on Friday nights, Saturday nights, and Sunday mornings, midnight, 5am....my colleague is real estate broker Bob Casagrand, with decades of experience turning around manufacturing companies in Europe and the US. We put the same passion and deep respect into our $180K buyers and sellers, as our $ 2.5 mil buyers and sellers. We love what we do: we are your service providers. We expect to work hard for our money. We don't expect easy riches, we have never told anyone to make an offer on a home. We are your consultants, not salespeople. We take any chance we get, to get out in the field for listing presentations and showing homes, because we love what we do, and we want to grow our business.

My forecast: a return to 1999 prices

Now, 2.5 years later, my forecast remains: real estate prices are wildy inflated, and each house in southern California will return to its 1999 price, by 2011 - 2013. This forecast is based on history and economic principles: real estate rises with inflation, and local incomes determine rents and house prices.

Nationally, house prices historically rise with inflation, or about 0.4% in real terms (Robert Shiller). The recent boom in house prices is simply a bubble. The charts below are for San Diego, but I have similar charts for the other southern CA counties, and they are available by request.

High prices have led to an exodus of the equivalent of the city of Poway every year. (Right chart, click to enlarge)
High house prices lead to population decline, vacant homes

San Diego home price/rent ratio shows bubbleReal estate's intrinsic value, as opposed to its market-euphoria-created prices on which appraiser unfortunately base their valuations, is based on two factors: cash flow (rent), and local incomes. For the cash flow factor, investors use a Gross Rent Multiplier (GRM) of 10 - 12 to determine if a property is a good investment. For example, if the rent is $2000/month, the GRM is $200,000 - $ 240,000, and the investor would not pay more than $240,000.  We use rent data to approximate how much to pay for a house, and if it remains overvalued.  Oh boy, are we ever!

The chart above shows the per capita income divided by the monthly rent. Here we even see that rents are overpriced! I expect rents to fall, as the recession and out migration continues. Investors bought homes not for cash flow, but for appreciation. With many now underwater, investors have returned to asking "does it pencil", finding out it does not, and running away from real estate. One-third of San Diego homes for sale are vacant - nobody wants them!  I just checked the MLS again, and we have 6000 vacant homes for sale on the MLS (out of 19,800).  From where will we get the people to buy these homes?  Locals who buy will just leave behind another vacant property.

Rents are closely related to the second factor: incomes. Cities with higher incomes have more demand for land, so both rents and house prices are higher. Cities with lower incomes (think of southern states) have less demand, so land costs less and rents and houses are cheaper. Migration equalizes any imbalances, so we find that high-cost areas see out migration, leading to lower prices (see the move from high-cost coastal CA to lower-cost Arizona and the Inland Empire in recent years). So we see that incomes determine rents and house prices, and that we can use rents to approximate how much to pay for a house. See chart below.

San Diego house prices remain in a bubble: price/income ratio will return to 6

Click on image to enlarge

House value is tied to local incomes: a drop from 13 to 6 requires a 54% price decline, or a median house price of $ 210K today ($35K per capita median income times 6), a big drop from the $ 390K median house price

Median house prices will again revert to 6x per capita income, or about 3x household income.  Inflation matters only in two ways.  Let's not make the mistake of thinking that this must be inflation-adjusted, in a global-economy world with stagnant wages.  If wages rise, then of course house prices will fall less or even rise.  But with our government intent on keeping inflation low by keeping wages low (outsourcing jobs overseas, insourcing jobs by paying below-minimu-wage rates to illegals), I doubt wage inflation will take hold.  Just last week, Dow announed a 20% across the board price increase on all products, but none of that increase flowed to employees.  Everytime employers have some extra money to give employees, it gets absorbed into rising health care premiums.  So wage inflation is unlikely to happen.

Incomes measure how much we are paid, but also what kind of job, if any, we have.  So the job market is a factor we need to consider, although we measure incomes in our charts.  However, we know that if Microsoft would relocate here, of course the higher paying jobs moving here would increase local wages and thus house prices too.  As higher paying jobs are created, and unemployment falls, incomes will rise.  On the other side of the coin,  a recession destroys jobs and the housing market. 

One final factor affects house prices.  Since it's all about the monthly payment, we need to look at mortgages:  interest rates, downpayments needed, tightness of lending.  

The last time real estate in southern California was priced at its intrinsic value, was in 1997. In 1998, the bubble took off. By early 2000, prices had climbed 30% from the summer of 1999.

Based on both the cash-flow and income factors, southern California real estate prices should fall back to 1999 prices. Mortgage payments are still too high compared to rent, and incomes here have barely risen in the past 10 years. For each home, that return to 1999 prices is a different amount of decline. Some homes are much nearer to their correction (San Diego's Chula Vista, inner city), while others have just barely started their downward decline (San Diego's coastal, Carmel Valley, Poway's upper end).

Those who think they are real estate geniuses, just happened to buy a home while a bubble was building. Those who are losing homes to foreclosure, happened to buy while the bubble was at its peak, or ready to burst. Real estate fortunes and fiascoes are more a matter of market timing, than the fact that real estate itself is a stable or lousy investment. Over the long term, real estate values are almost flat, inflation-adjusted.

As the recession that I've been predicting since late 2005 (way too early!) ripples through the economy, job losses will lead to more house sales and lower demand, putting the nail in the coffin of the biggest housing bubble in U.S. history. If you are one of the fortunate to have income when this occurs, you can get a real bargain in the 2011 - 2013 time frame. If however you are one of the unfortunate unemployed, a $900K house coming down to $450K won't do any good. So let's be careful what we wish for: a continued housing downturn will decimate the economy and cause those very job losses that are needed for us to buy a home.