How far will prices drop?

Good morning, Armanti Edwards, and happy Labor Day. Here's a quick roundup of what we've seen this morning; we'll file once or twice more today, but otherwise it's a Holiday Schedule at L.A. Land global headquarters.

How far will prices drop? 7%? ... 16%? ... 30%? .... 50%?  Manhattan Beach Confidential rounds up various gloomy predictions (gloomy if you are a seller).

The "Hey, everybody else was doing it," defense: The L.A. Times' Michael Hiltzik reviews the Countrywide saga. It now appears Countrywide's sophisticated public relations response to the mortgage crisis was drafted by a 7-year-old boy: we made a bunch of really foolish loans because, well, everybody else was doing it.

If you are trying to figure out the ramifications of a possible tax break on "phantom income" from a forgiven mortgage debt (this is the income tax that homeowners owe after selling their house in a "short sale," for example), read Kathy Kristof's explainer here.

Lastly, since it is a holiday weekend, a time for leisurely and expansive thinking, we encourage you to comment on yesterday's post about Cashing Out and Leaving California: If you owned a home here outright, would you stay and enjoy L.A.? Or cash out and leave the 405 in your rear-view mirror?

Comments, thoughts, insights and bloviations are always welcome.

Comments

[Gina]

What are the good resources to learn how to buy a short sale? Thanks..

[investorguy]

Randy: But this time the high end of the market is still moving, which holds prices up.

[Jeremy R]

I will tell you exactly how far prices will drop if I knew what the future of credit is.

If most loans must be income verified, 2 years good credit standing, 20% down, and higher interst rates on high mortgages (8.5% for 400k+ loan), then prices will fall about 35-40% overall.

If rates are lower, and only 10% is needed, then maybe 20-25% drop overall.

LA is a difficult beast to understand because its so many different places combined into one.

I would say that if jobs go up and traffic goes up then Ktown, dowtown and hollywood will remain competitive and only drop 10% as more affluent and international buyers buy in. It depends though.

I think the high end luxury market may drop by only 15% (hollywood hills, beverly hills, holmby hills, pacific palisades, malibu) but this depends on the strength of the dollar, and financing options.

I would say the greater westside and the west valley will only drop by 25%. Venice might drop the most sharply, but santa monica, mar vista, culver city, cheviot hills, etc. will remain fairly high due to strong jobs and an increasingly educated population.

The other 70% of LA (The part south of Olympic and east of the 405, and the east valley) will drop DRAMATICALLY. Over 50% drop.

So LA will change after the dust settles. Inner city neighorhoods such as hollywood, city west, and downtown may hold up okay dependig on gentrification, livability, jobs, etc. while other inner city neighorhoods like east LA, boyle heights, South LA, Valley, etc. will drop.

LA is a big market and not all parts are created equal. Traffic, jobs, credit, weather, all play a huge role.

[Jeremy R]

"The entire range of predictions is wrong. I think that people that predict a 10-30% drop are all wrong because such a drop will feed on its self. If the market starts dropping it will drop for years with no end in sight, or it won't drop at all. But it will not drop a little and then stop."

I agree, falling prices snowball just just like rising prices.

5 percent 1st year (we are in the first or so year of the decline).
11 percent (from peak) the next year.
18 (from peak) the year after.
23 after that,
then the low of 30 percent after that. 5 year downward spiral!!!

Then stagnat, stagnant, stagnant for 3 years. (8 total)

then a change in the US dollar, fiscal policy, tax code, interest rates, jobs, or something else causes a recovery.

4 years of recovery, puts the prices back to the peak's totals not including inflation. That is a 12 year cycle! If you corrected for inflation, it could be a 14 year cycle back to the peak. HOW IS THAT UNDERESTIMATING!

Taking 12-14 years to get back to a peak and having a trough of 30% of the peak is NOT a small correction. 30% includes the snowball.

Prices wont fall 30% in one year. Prices always fall slower than rising prices.

[MyLessThanPrimeBeef]

I don't konw how much the prices will drop, but this from investorguy needs to be responded: '50% across-the-board drop... what that would do to the SoCal economy as a whole' - investorguy.

I know what the 200% - 300% across-the-board did to the SoCal and national economy - encouraged speculation, impacted the ability to attract workers, made the region less competitive, masked other problems such as outsourcing of jobs, unfair trading practices and currency manipulation by other nations with short-term, unsustainable, artifical prosperity.

It is only painful now because we are losing something which we have become used to and which we shouldn't have gotten in the first place. And it will be more painful - more of the long-term debilitating kind - if we refuse to face up to it now. BTW, that was the difference between us and Japan in 1989-1990 - we made the S&L's go bankrupt, but emerged strnoger, and the banks in Japan kept their bad loans because they didn't want anyone to suffer. They couldn't get up off the floor for the next decade.

[sheila]

question - didn't anybody use their home equity loans or cash-out re-fis to actually improve their properties, therefore warranting a price increase based on quality/quantity of home? are these homes likely to prop prices up because (gasp) they are actually worth more now, regardless of external circumstances?

or did EVERYONE go buy other crap while their homes deteriorated around them?

[Keith]

Investorguy - just curious how does the price of existing homes drive the local economy?

My understanding is once a home is built most of the economic "drive" is done, sure remodeling and such adds to the drive, but not as much as new home construction. With the inventory of existing homes on the market, do you think new home construction will stay at the same pace? I would guess that the faster housing prices reset and the excess gets soaked up, then your new home construction can kick back into gear. If 50% of the region can afford to buy a home, that's when the economy gets cooking again. The 20%, 35%, 50% price fall does nothing to get it going again, it's all about inventory.

[Westside Bubble]

Over 40% for Los Angeles seems likely from the model I just posted at http://westside-bubble.blogspot.com/2007/09/modelling-prices-and-income.html .

In the 1990s S&P/Case-Shiller showed a 26% drop for Los Angeles. Low-end Santa Monica north-of-Montana houses fell more, over 1/3 (from above $900K in 1989 to below $600K in 1994).