Supply vs. Demand

Match severely weakened demand due to the sharp rise in mortgage rates with a relentlessly low supply of homes, and the result is a substantial slowdown in housing that still favors sellers.

Even with ultra-low demand, the So Cal housing market lines up in favor of sellers due to the persistent lack of supply.

In the past week there has been a lot of noise about a “housing recession.” It was revealed that closed sales plummeted in July. In Southern California, sales were off by 37% compared to 2021. As a result, proclamations from experts across the nation exclaimed that the housing market is officially in a recession.

Unfortunately, way too many people will jump to the conclusion that values are going to plummet like they did during the Great Recession. The recession that experts are alluding to is a major drop in sales, fewer purchase and refinance loans, and an overall limited number of transactions for all those involved in the real estate industry.

Yet, a recession does not mean that housing is in crisis and that values will plummet. Only two of the last six recessions prompted a drop in home values, the Savings and Loan Scandal of 1991 and the Great Recession, both instigated by the missteps of the housing industry. The other four recessions resulted in an appreciating housing stock.

 

Every recession is different. During the Great Recession unemployment skyrocketed and housing was a huge “house of cards” built on years of subprime loans, pick-a-payment plans, teaser rate adjustable mortgages, and fraudulent lending practices. It was not a shock that housing values sank. This “recession” will be entirely different. Thus far in 2022, the SO CAL housing market has slowed from an Expected Market Time (the time between hammering in the FOR-SALE sign to opening escrow) of 30 days in mid-March to 78 days today, yet the slowing has stopped. In fact, the market time has dropped by one day since climbing to 79 days a month ago. To understand why housing has shifted but is not on the verge of collapse, look no further than to good old-fashioned supply and demand.

 

On the demand side of the equation (a snapshot of the number of new escrows over the prior month), buyer activity has been muted all year. A premature peak was reached at the end of March with 5,524 pending sales, down 18% from last year’s peak of 6,773 pendings. Compared to the 3-year average peak prior to COVID (2017 to 2019) of 6,042, this year

DEMAND

was 9% less. Today, demand sits at 4,278, slightly higher than where it stood a month ago at 4,121. Even with the recent rise, today’s reading is the lowest level for this time of year since tracking began in 2012. The current demand level is typically reserved for the slowest time of the year for real estate, January, with a 3-year average pending sales (2017 to 2019) of 3,417, and December, 3-year average of 3,842. The August 3-year average is 5,504 pending sales, 29% higher than today.

 

Today’s demand levels are significantly muted due to mortgage rates rising from 3.25% at the start of the year to 5.72% where they stand today, according to Mortgage News Daily. The buyer pool has been impacted and reduced by the massive drop in affordability that accompanies such a steep rise in rates.

 

Yet, muted demand is being matched up against a severely muted supply of available homes to purchase. The inventory dropped to a record low level on January 1st of this year with only 4,432 homes.

As a result of diminished demand, the inventory was able to rise to 11,112 homes today, an increase of 427%. Yet, the inventory appears to be reaching a peak within the coming weeks, only rising by 101 homes in the past couple of weeks, only a 1% rise. The rate of increase has slowed dramatically over the past month.

The issue is that the inventory is still far below normal for this time of year. While it may be higher than last year’s 8,702 home mark in mid-August, and 2020’s 10,103 level, it is still the third lowest reading since tracking began in 2012. The 3-year average August inventory (2017 to 2019) was 13,186 homes, 19% higher than today.

 

ACTIVE LISTING INVENTORY

With muted demand, how has the So Cal inventory already reached a peak? The first factor is that demand has reached a cruising altitude, stabilized after slowly dropping since the end of March. The second factor, and more importantly, there are fewer homeowners opting to sell. Fewer homes coming on the market impacts the ability for homes to accumulate on the market and allow the inventory to grow faster. From January to July of this year there have been 12% fewer FOR SALE signs compared to the 3-year average prior to COVID (2017 to 2019), a shocking 7,040 missing signs. In all of 2020, there were 6,142 missing signs, and there were 1,704 in all of 2021. This is a new trend that started in January as mortgage rates were rising.

 

Homeowners are not moving because they simply do not want to sell as they are locked into an incredibly low fixed mortgage rate. 72% of all homeowners have a mortgage rate at 4% or lower. 55% have a rate at 3.5% or lower. 34% have a rate at 3% or lower. If a homeowner sells and opts to purchase a replacement property, they are going to be paying a much higher rate and, most likely, much higher property taxes. Thus, homeowners are staying put. They may not be in love with their home, but they certainly are in love with their loan.

 

Another factor that has contributed to the diminished supply is that many sellers who have been unable to sell have simply decided to pull their homes off the market. For the first couple of weeks of August, the number of homes that have come off the market without success is up 94% compared to the same time last year.

 

The giant drop in demand is being matched up against an extremely anemic supply of available homes. There are fewer buyers participating today, just as there are fewer homeowners participating. This will continue until mortgage rates shift either higher or lower. Until then, the battle between supply and demand continues. 

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