It’s not easy wading through the muck of real estate misinformation. We pick apart two erroneous charts form a well-respected publication in order to draw the right pricing picture for you.
A tale of two charts
Oh, Wall Street Journal. You sell yourself as a paragon of financial analysis, but you’ve done so wrong.
We don’t waste too much of our time digesting the other journal. But this time it’s about home price charts — a topic dear to our hearts.
A recent article written by established WSJ real estate correspondent Nick Timiraos claims the current picture of housing affordability (his word, not ours) depends on how you chart it. In one view, housing prices nationwide are once again entering bubble territory. Here, the median U.S. home price is compared to median household income.
As you can see, the price-to-income ratio rides at about 3 to 1 in the years preceding the bubble, balloons over 4 to 1 during the bubble and looks to be approaching that ratio again today. The 3 to 1 ratio is close to the historical average and does provide some indication of sustainability in home prices.
But the above chart does not consider the cost of financing. Interest rates need to be considered when discussing “affordability” since they determine how much of a home a buyer can finance.
Enter another chart from NAR. This one looks at monthly payments of mortgage principal and interest on a median priced home as a share of household income. Prices are not approaching another bubble and actually appear to be a good deal, according to this chart.
This chart is so off base, so misleading, it’s really egregious. No surprise coming from the trade association. But perhaps a disappointment coming from “the journal.”
First, for the sake of argument, let’s do away with the unreliability of median numbers in general. Really, it is impossible to conceive of a median home price in the U.S. The average cost of a single family residence (SFR) in the California’s Bay Area bears no resemblance to that of the average SFR in Dayton, Ohio. Nor do the median incomes.
So, right from the start, NAR’s use of a median home value across the entire country washes out anything like a reliable result. Instead, they ought to be using tiered pricing at least, such as is available from Case-Shiller (our choice for pricing data).
But the real problem lies in the obvious unreliability of the results. Are we to understand from this chart that today’s homebuyer is paying a mere 15% of their monthly income on their mortgage payment? If this chart is accurate, homebuyers were paying less than 30% of their gross monthly income on their mortgage payment at the absolute height of the Millennium Boom. If that were accurate, why did millions default?
The chart defies logic. Lenders have always qualified borrowers at 31% of their gross monthly income. And buyers, dear reader, spend every dime they qualify for. When home prices fluctuate, the percentage of a buyer’s monthly income spent on their mortgage payment rarely changes, the buyer simply gets less home for their money.
Two metrics that matter
First, in order to determine if prices are sustainable, the data need to be more local — at least statewide. Then they need to be tiered. After that one must consider two metrics: historical price movement and buyer purchasing power. Here’s one of our tiered pricing charts that shows the scale of today’s pricing bubble relative to the Millennium Boom and the historical mean price, in California of course:
Currently, purchasing power is severely negative due to stagnant wages and rising interest rates. The mean price of California real estate remains well above the historical average, as determined by consumer inflation. Further, the velocity of month-over-month price inflation, especially in the major metro regions of California, is indicative of a mini-bubble.
Of course prices have not increased to levels comparable with the Millennium Boom. In the mid 2000s, an unprecedented confluence of speculator activity existed in tandem with millions of renters prematurely thrown into the real estate market via subprime lending. Now, we’ve got a lopsided bubble, fueled only by speculators with nary an end user in sight.
Check out our new interactive timeline to see how this drama is going to play out over the next several years. In the meantime, we recommend sticking with first tuesday if you’re interested in getting an accurate picture of the data that drives your livelihood.