08/20/2023
The Silicon Valley real estate market has been crazy and volatile, but some possibilities are emerging that I thought were important to share along with just a general update on the market that's a bit more comprehensive than you may be seeing elsewhere.
Prices bottomed out at the end of December after the correction in May 2022. Theoretically, prices were down around 25% across Silicon Valley, but in reality, it wasn't nearly that extreme for more desirable areas/homes, because it was a surprisingly low inventory correction. Most of the listings that would come up were mediocre or bad, so nicer homes/locations were rare and had much smaller discounts. There also wasn't any of that fear and panic that I clearly remember from our 2018 correction when in December 2018 realtors were starting to look for new jobs in anticipation of "the end" :-/
In the beginning of 2023, I was so sure a recession was imminent. I thought we'd have our typical increasing prices in the beginning of the year (like we do every single year), but come-March, things would turn back, stock market would drop, and we'd have a double dip correction, because of the recession. Obviously, I was quite wrong - the recession didn't materialize and instead the stock market took off into a new bull market. So with that, after the initial increases in early spring, came more increases, and then more increases. Now prices are up about 25% from the beginning of the year - still technically not at the all-time peaks of April 2022, but not far and getting closer. This is despite the continued big increases in rates, and horrendous affordability.
While everyone knows affordability is bad, people don't necessarily realize just how terrible it is. Affordability is actually at ALL-TIME historic lows. The combination of rates, prices, and incomes when you use median numbers are actually tied with the 1981 affordability when interest rates were the crazy high double digits. So the current situation is definitely not sustainable and something will need to change. Either rates go back down, prices drop, or incomes go up (or some combination of the three). The easiest one of course would be rates, so that's the safest bet.
The reason for the price increases seems to be pretty simple. Inventory is at historic lows by a wide margin. You can check out the red line on the inventory chart for active homes on the market. The August numbers are all very rough approximations, but the trends are clear. With inventory so low, and the stock market coming back up, tech employees have money again and can handle the higher prices. Their incomes are also 2x-3x that of the median, which is what continues to allow them to buy. Demand is less because of rates, but you wouldn't know it relative to supply, since there's still very much more demand than supply. A year ago no one was expecting low inventory, but again in retrospect it's so clear and simple. Sellers have such low rates locked in, that selling is just not logical (or possible in some cases). If I wanted to upgrade my home, not only would I be buying a more expensive home, I'd give up my 1.875% rate, for what's now a 6.75% ARM ... it's quite a jump. So sellers that don't have to sell are staying put and waiting as long as they can.
You may not know that our real estate seasonality is extremely consistent. Beginning of the year always has price increases - without exception. Even 2009 started with price increases before things fell off a cliff. Then the second half of the year is usually flat (in nicer areas) or slightly down on average across all parts of Silicon Valley. There have been only two years that have defied this trend - 2017 and 2021, where prices continued to increase after June and stayed strong through the end of the year. Both of these years were followed by corrections in 2018 and 2022. Now we seem to be having another such anomaly year. It's too soon to say definitively of course, but if nothing changes, and prices stay strong and continue to increase (once that's confirmed in a few months), I would say there's going to be a very high likelihood of a real estate correction again next year. As always it should happen around April/May 2024 since every year starts with price increases. For now I'd give it a 60% likelihood, but by December we can either increase that to 85% or drop it significantly. News stories will not be talking about this - they never do.
If the odds increase by December, the next question is the economy.
If we are truly not having a recession, then there's nothing to fear. The correction will be similar to 2022, but with a more marginal price drop. Then the recovery will be swift like this year's has been.
If the recession is still to come, and if something breaks in the economy that forces the Fed to drop rates to 0 to bring things on track, that is the big concern, that could cause what I'm calling a "flash crash".
The lower rates will allow sellers to sell who are patiently waiting for an opportunity, it will dramatically increase inventory at the worst possible time and this could be a much bigger correction that people will think is a crash.
Of course a counter argument is the low rates will spike demand which will overwhelm supply, but that's not likely in this scenario as there wouldn't be a flash crash without 0 rates, and there wouldn't be 0 rates without a recession and real fear/panic. Also the stock market will be dropping so while most buyers SHOULD be buying, they will be too scared.
Even in the worst case scenario, it still won't be a real crash like 2009 because overall inventory will still not be anywhere near those high levels, but relative to what it is now, it might be double or even more. The big difference with 2009 is the size of the drop and the recovery will again be swift (assuming the economy isn't collapsing).
For now this is all just a possibility and not an actual forecast, but if the correction is confirmed in a few months and IF things with the economy are looking worse instead of better, it becomes a much more plausible scenario that you should consider at that point.
To be fair, it's also possible that the real estate market finally turns and prices decline slightly this year (doesn't need to be much). If that happens, correction should be off the table and flash crash most certainly will not be a possibility. Unfortunately we have not had a year where prices turned negative after July ... so that's why I was already saying a 60% likelihood of correction. We'll see in December.
At this point there's still zero visibility or reason to expect a 2009-like crash in our residential real estate. The only hypothetical predictor would be if rates stay high indefinitely (no recession, and inflation comes back, which I don't think is likely at this point), because once the 2% ARM's start adjusting in 2026-2028, it could be a problem. This seems much less likely at this point and we're so far away from it, that there's no sense in even thinking about the hypothetical.
So what should you do?
If you're a buyer - you might finally have a huge (but brief) buying opportunity next year if the bad scenario materializes and you have sufficient funds/income, because I would expect a speedy recovery in 2025/2026 that will also catch people off guard who will consider it a real crash. If the bad scenario doesn't materialize, all you can do is stay patient and do your best to keep from making a terrible purchase because options are so slim.
If you're an owner - if you're happy with the home, it makes sense to just hold it and wait through possible volatility. If you aren't happy, and if the correction becomes more certain by the end of the year, then selling in March 2024 should be a consideration in December this year - once we have more visibility (if it's bad news).
March 2024 will be all-time highs for prices, I can already say with high certainty. The rest is much less certain.
