HAPPY NEW YEAR!!!  Now, what does that mean for Orange County real estate?

First, let’s look back at what happened in 2019 in terms of the inventory, demand, luxury properties, and Expected Market Time.

Active Inventory: After starting the year with the highest number of homes on the market since 2012, the active inventory plunged after peaking in July.

The year started with an active inventory of 5,829 homes, the highest level to begin a year since 2012. The 7,900 homes start to 2012 may have been initially high, but it continuously dropped throughout the year as the housing market had just began its recovery from the depths of the great recession.

The elevated start to 2019 was entirely due to a buildup of homes in the second half of 2018. That’s when interest rates climbed all the way to 5%, its highest level since March of 2011. The higher rates muffled demand. Values had risen continuously from 2012 through the first half of 2018. As potential buyers looked at a 20% increase in payments from the start to end of 2018, they opted to sit on the fence and wait to purchase. The lack of home affordability was the main issue driving the housing market. As a result, many sellers who placed their homes on the market in the second half of the year did not find success. With fewer successful sellers, the active listing inventory continued to grow until peaking just before Thanksgiving. 2018 finished with an elevated inventory; thus, the start to 2019 was elevated as well.

2018 was the year that major cracks emerged, and it was entirely due to higher mortgage rates. Yet, 2019 was quite a different year with interest rates dropping continuously. The year started with 4.5% interest rates. They dropped to 4% by the end of May, and then dipped all the way to 3.5% by September. The year ended with rates at 3.75%. This unprecedented drop slowly translated to more and more buyer demand.

The “cracks” of 2018 were replaced with “green shoots” in 2019. Typically, the active inventory peaks somewhere between July and August, right before the kids go back to school and the market transitions to the Autumn Market. The 2019 peak occurred at the end of July at 7,601 homes, the highest since 2014. But it was a normal time to peak, unlike 2018 when it peaked in November.

Another green shoot emerged in September, when the active inventory was less than the previous year for the first time in 16 months. For nearly a year-and-a-half, the active inventory was more than the prior year. That changed in September and is a trend that will continue for some time. By the end of the year, there were 1,780 fewer homes on the market compared to last year, 31% less.

The most significant green shoot of 2019 occurred when the active inventory made an unprecedented drop, shedding 3,552 homes, or 47%, from July through the end of the year. It was the largest drop since 2006. That will translate to an extremely low supply to start 2020. From 2012 through the first half of 2018, the housing market was plagued with a supply problem. In 2018, that evolved to a demand problem with higher mortgage rates. With rates back down to historically low levels, the storyline once again has evolved, the supply problem is back. There are not enough homes on the market.

Demand: With falling interest rates, demand thawed and then picked up steam as 2019 progressed.

Demand for Orange County homes (the number of pending sales over the prior month) followed a normal strong housing pattern; yet, picked up steam during the second half of the year. In terms of demand, the Spring Market was the hottest, followed by the Summer Market, then the Autumn Market, and, finally, the Holiday Market.

The start to 2019 was plagued with demand levels that dated back to 2008. Nobody was talking about the supply problem, there were finally plenty of homes for buyers to choose from. Instead, there was a definite demand problem. Homes were unaffordable due to higher mortgage rates and massive home value appreciation since 2012. But mortgage rates dropped at an unprecedented rate. The demand problem slowly but surely faded as rates became more attractive, dipping below 4% at the end of May. After ringing in a New Year, demand was off by 21% compared to the prior year. That difference weakened and in May demand was off by only 3%. In September, when rates dropped to 3.5%, demand was 17% higher than the prior year. Today, it is 22% higher than the end of December 2018.

Even though the median sales price has far surpassed 2007 record levels, homes are still much more affordable due to favorable interest rates. That advantage took a beating last year as rates rose to 5%. Today’s 3.75% mortgage rates have reignited the housing market and it is the rocket fuel that will heat up the market in 2020. For proper perspective, in 1990 the interest rate was at 10%. In 2000, it was 8%. And, just prior to the Great Recession, interest rates were at 6.4%. A $700,000 mortgage at 3.75% has a payment of $3,242. Compare that to a payment of $4,379 at 6.4%. It is no wonder that buyers are still flocking to purchase even with home values rising to record levels. Low interest rates are facilitating affordability and propping up demand.

Within the past two weeks, demand dropped by 359 pending sales, or 18%, and now sits at 1,590 pending sales, the lowest reading since January. Last year at this time, demand was at 1,303, or 18% fewer pending sales.

Luxury EndLuxury homes dramatically improved in the second half of 2019.

2018 was a record-setting year for the most sales ever above $1.25 million. There were 3.5% more than 2017 and that year was a record-setting year as well. In 2019, Orange County set yet another record, up less than 1% over 2018. There were 4,000 closed luxury sales compared to 3,973 in 2018. This record was achieved after a dismal start to 2019 during the first half of the year. The second half of the year was a green shoot that very few experts have talked about.

The Orange County luxury home market started off extremely sluggish. In the first quarter of 2019, there were 15% fewer luxury sales year over year. Luxury sales were only off by 2% in the second quarter of 2019. They were up by 4% during the third quarter, and up 16% during the fourth quarter. Luxury improved during the last four months of the year when mortgage rates dropped considerably, and Wall Street reached record levels. That’s a recipe for a stronger luxury housing market.

Like the rest of the housing market, the luxury market was weak during the first half of the year and looked a whole lot better during the second half of the year. In January, the luxury inventory was up by 31% year over year, and demand was off by 50%. By July, the inventory was up by 16% and demand was 1% higher. At the end of 2019, the inventory was down by 12% and demand was 39% higher year over year.

The lower supply and increased demand at the end of the year translates to a much better start to the luxury market in 2020.

In the past two weeks, demand for homes above $1.25 million decreased from 284 to 245 pending sales, down 14%. The luxury home inventory decreased from 1,695 homes to 1,575, a 7% drop in the past two-weeks.

Expected Market Time: As rates improved, the market shifted from a slight Buyer’s Market, to a Balanced market, and finally to a slight Seller’s Market.

The Expected Market Time, the amount of time it would take to place a home listed today into escrow down the road (based upon current supply and demand) remained above 120 days, a Buyer’s Market, during the month of January. In February, Orange County housing evolved to a Balanced Market (between 90 to 120 days). During the Spring Market, housing reached a slight Seller’s Market (between 60 to 90 days). The market felt extremely sluggish compared to a normal Spring Market. That’s because the market had achieved a HOT Seller’s Market (below 60 days) during spring from 2012 through 2018, seven consecutive years. 2019 was the slowest Spring Market since 2010. However, as the inventory fell during the second half of the year and demand remained consistent and strong with dropping mortgage rates, the Expected Market Time actually improved. It dropped to its lowest point of the year in November at 68 days. The last time the Expected Market Time reached a low this late in the year was in 2012. Typically, it reaches a low during the Spring Market, between March and April.

Buyers have felt the change in the housing market. With a diminished supply of homes and demand that has remained relatively strong, buyers have been bumping into each other and competing to purchase. Surprisingly, this is occurring during the Autumn and Holiday Markets, foreshadowing a much stronger Spring Market in 2020.

The expected market time for all of Orange County grew from 70 days two-weeks ago to 76 days today. The start to 2020 is going to be a lot hotter than many anticipate.

The 2020 Forecast: A stronger year.

Despite the tremendous focus on the “trade war,” the international slowdown, impeachment, Brexit, and stock market volatility, the U.S. economy was strong throughout 2019. Unemployment reached 50-year lows. The GDP was up considerably more than many forecasted. Long-term interest rates dropped from 4.5% to 3.5% before climbing slightly to 3.75% by year’s end. Wall Street had a tumultuous ride, yet ended the year at record levels. The trade war took center stage and became a headwind for the overall economy. Finally, new home sales have turned around after a sluggish start to the year. The overall economy is strong, and the low interest rate environment is a tailwind that will keep the economy running on all cylinders. As a result, the local housing market is going to look a lot better in 2020. Here is the forecast:

  • Active Inventory – the year will begin with around 3,750 homes, the third lowest start in the last decade behind 2013 and 2018. That will translate to a very hot start for housing. The theme for 2020 will be not enough homes on the market. For buyers that equates to not enough choices. Expect the active inventory to peak around July between 6,750 to 7,250 homes.
  • Demand – with an anemic inventory and buyers reenergized by historically low rates, demand will be strong throughout the Spring and Summer Markets. Buyers will be willing to stretch slightly in price compared to the most recent sale; so, expect appreciation around 3 to 4% for the year. Demand will be strongest, and most appreciation will occur, from March through July, and then will downshift during the Autumn and Holiday Markets.
  • Housing Cycle – the housing market will follow a normal housing cycle. The strongest demand coupled with plenty of fresh inventory will occur during the Spring Market. This will be followed by slightly less demand and a continued new supply of homes in the Summer Market. From there, demand will drop further along with fewer homes entering the fray in the Autumn Market. Finally, all the distractions of the Holiday Market will be punctuated with the lowest demand of the year and few homeowners opting to sell.
  • Closed Sales – the number of successful, closed sales will increase 3 to 5% compared to 2019 (2019 was up 2% compared to 2018), around 30,000.
  • Luxury Market – luxury sales will increase from 2019’s record by about 10%. The Spring Market will be the strongest for luxury, and the second half of the year will be especially sluggish.
  • Interest Rates – look for mortgage rates to hover between 3.5% to 4.5%. Long term rates are driven by economic fundamentals and headline risks. The “trade war,” Brexit, the upcoming presidential election, global growth or slowdown, all drive mortgage rates up or down. If the economy continues to improve, rates could rise into the 4’s. With more negative news, rates could drop further. Currently, mortgage rates are hovering around 3.75%. Do not expect them to change much as 2020 unfolds.
  • Distressed Inventory – in 2019, distressed sales, foreclosures and short sales combined, only accounted for 0.9% of all closed sales, 250 total. Do not expect the level of distressed sales to change much at all.

The bottom line: 2020 will shift back to a much hotter market. Expect a HOT Seller’s Market during the spring with slowly rising values. Multiple offers will be the norm for homes priced below $1 million. Once again, the market will heavily favor sellers and buyers will have to pack their patience in order to isolate their piece of the American Dream. For the second half of the year, the market will evolve into a slight Seller’s Market, where sellers still get to call more of the shots, but home values do not change as much. Pricing will still be very important all year long as buyers do not want to overpay. They will stretch slightly during the spring, but sellers who overprice will kick themselves down the road.

Happy New Year!