2014 ended with just over 415,000 home sales completed in California. This is 31,000, or 7%, fewer sales than took place in 2013. The single month of December 2014 experienced a 4% increase from a year earlier, not enough to give 2014 the boost it needed to catch up with 2013.

California home sales volume is well below the peak year of 2005 when 753,876 sales closed escrow. Prior to the Millennium Boom, 550,000-600,000 homes closed escrow annually.

Sales volume has been locked in a downward trend experienced since the second half of 2013. This slip is mostly due to the steep increase in home prices occurring in 2012 through Q3 2014, when prices peaked.

first tuesday forecasts year-over-year sales volume will slip a bit in the first half of 2015. Declining mortgage rates and rising employment will bring the sales volume decline to a halt in mid-2015, as both improve buyer purchasing power to pay more for a property. End users of property were pushed out of the market by reduced purchasing power, due to the jump in prices and the mid-2013 increase in mortgage rates.

Other key factors controlling California’s home sales volume follow.

Absentee homebuyers: to hold or to fold?

Absentee homebuyers (speculators, buy-to-let investors and renovation contractors) still make up a significant portion of the resale market, though they are leaving quickly. Absentee homebuyers accounted for 23% of Southern California (SoCal) December sales volume, down slightly from the prior month. December’s absentee homebuyer share is down from 27% one year earlier.

Absentee homebuyers made up 18% of Bay Area homebuyers in December, roughly level with the prior month’s four-year low, and down from 23% a year earlier.

Speculators chase upward price movement, but home prices topped out in Q3 2014 and are beginning to slip. Thus, real estate speculation and absentee buyers are expected to continue their exodus from the market through 2015.

Cash purchases (two-thirds of which are made by speculators) represented 24% of SoCal sales volume in December, the lowest share of cash purchases since January 2009. This follows a steady descent from 29% a year ago. In a normal market, cash purchases represent around 17% of all buyers, comprised mainly of cash-flush end users.

Bay Area cash sales were 19% of home sales in December 2014, the lowest since 2008 and down from 24% a year earlier.

Speculators remain motivated to buy only so long as they believe home prices will rise quickly. When speculators realize they cannot make a short-term profit as anticipated, they will either quickly leave the market or resort to Plan B to hold for another five years. The inventory they dump and return to the market (today’s shadow inventory) will need to be consumed primarily by end users and income property investors who will hold the property for a considerable length of time. However, there aren’t enough of these buyers ready and willing to sustain even the current low sales volume. Thus, expect home prices to continue downward in 2015. As a matter of financial gravity, the more exaggerated the rise in home prices beyond the rate of consumer inflation, the more pronounced the corresponding fall.

Jumbo loans: room at the top

Jumbo loans (loans over $417,000) accounted for 31% of SoCal’s December 2014 sales, up slightly from the prior month and up from 29% a year earlier.

Jumbos financed an astounding 54% of Bay Area sales, down from 56% in the prior month and up from 48% a year earlier.

Jumbo use has risen statewide as sales of high-tier properties accelerated — particularly in the pricey Bay Area with its greater concentration of new wealth. Despite this increase, jumbo use remains below its 2006-2007 peak, when buyer overreaching maxed out.

ARMs: holding lenders at bay

Adjustable rate mortgages (ARMs) made up 12% of all SoCal mortgages in December 2014. This ARM share was roughly level with the prior month and down from 13% a year earlier. While ARM use is over what it was up until mid-2013, it’s still well below the Millennium Boom peak of 78% experienced in mid-2005. ARM use bottomed at 2% of all SoCal sales in April 2009.

ARM use in the Bay Area was 22% in December. This is down from 24% in the prior month and mostly level with a year earlier.

ARM use will remain relatively low statewide until property prices rise more than 5% annually for at least two years. This probably will not happen with today’s price trends. But when it does happen later on this decade, ARM use will increase as agents push homebuyers to overreach on amenity value, appraisers drift away from comparable pricing and, inevitably, lenders relax credit standards. This is unlikely until the next big bubble, expected to occur around 2019-2020.

Re: California December Home Sales from DataQuick