The past six years have constituted a housing boom in California, and not just any regular boom, but one for the books.

The housing boom that has taken place from 2012-2018 is now the third-largest since consumer price measures began in 1913, according to economist Robert J. Shiller. During this time, the national home price average has increased 53% from trough to peak, as of September 2018.

This means that — nationally — a home that sold for $200,000 in 2012 will have sold for just over $300,000 at the end of 2018. Here in California, this increase has been even more significant. The average home value in California has increased from $300,000 in January 2012 to $557,000 at the end of 2018 — an increase of 86% over just six years, according to Zillow.

This rapid price rise has differed across the state’s varied regions and price points. For example, since January 2012, California home prices have increased on average:

  • 121% in the low tier;
  • 86% in the mid tier; and
  • 70% in the high tier, according to the Standard & Poor’s/Case-Shiller home price index.

While the pace of rise has been more significant here in California than elsewhere in the nation, the past few years have been nothing when considered alongside the price increase seen during the Millennium Boom.

Compare the present boom to the rise that took place during the last boom, when prices rose unabated from January 1997 to June 2006, rising an astonishing:

  • 325% in the low tier;
  • 251% in the mid tier; and
  • 206% in the high tier.

The only other home price boom that exceeds today’s boom occurred in the years immediately following the conclusion of World War II. Then, prices were buoyed on the strength of the post-war baby boom and federal home subsidy programs like the GI Bill.

What’s ahead for home prices

All booms come to an end eventually. The post-WWII boom ended in a somewhat gentle decrescendo, while the Millennium Boom came to its end in a destructive crash. Can we predict what will happen at the conclusion of the current home price boom?

Shiller acknowledges that leading indicators for future home price performance, such as building permits and sales volume, are pointing to a slowdown ahead. However, he points out that since we have so rarely dealt with this magnitude of home price boom in the past, we cannot say with full confidence what will happen.

Attempting to tie home price movement to other economic measures like gross domestic product (GDP), interest rates or federal homeownership policies will leave you empty handed. For instance, while California home prices increased 86% from 2012-2018, the state’s GDP rose comparatively less — just 19% from 2012-2017 (the most recent data available at the time of this writing).

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The interplay between home sales volume, GDP and employment

The unpredictability of home prices may be partially due to what Shiller and fellow economist, George A. Akerlof, coined as animal spirits, or the emotional aspect of individual decision making, which is difficult if not impossible to account for in forecasts. They suggest more government intervention is needed to reduce the unpredictable effects of animal spirits.

Still, even with the unpredictability of human emotions to contend with, we can still make some presumptions about the future of the housing market.

For example, there is an undeniable link between home sales volume and pricing. Typically, consistent sales volume trends influence home prices 12 months hence. Put another way, when more homes sell, prices rise 12 months after the sales volume trend begins to take shape. When fewer homes sell, prices fall back 12 months later, the delay due to sticky pricing notions held by sellers unwilling to immediately accept that their home’s value has decreased.

However, prices have been untethered from this normal trend since 2016, continuing to rise in an unsustainable fashion, even while sales volume has flattened and declined. Meanwhile, mortgage interest rates have increased significantly since 2017, discouraging homebuyers and decreasing their purchasing power, translating to fewer dollars available to spend on their mortgage payments.

Both of these factors — slowing sales and rising interest rates — point toward prices falling back in 2019-2020, as they are unsustainable. first tuesday forecasts the cyclical peak for California home prices already occurred in late-2018.

As prices begin to trend down, they will need to fall further still to be brought in line with homebuyers’ ability to pay. This tendency is reflected in the mean price trendline, which ties home prices to homebuyer incomes.

In 2019, the Federal Reserve is continuing their process of raising interest rates to cool off the economy and induce a business recession, which experts forecast to arrive in 2020. All of this action is expected to continue to pull prices down toward the mean price trendline in 2019 and 2020, likely bottoming in 2021.

Once prices fall from their current peak, the next price peak will occur in the years following 2022 when homebuyers and sellers return to the market in the recovery from the 2020 recession.