Many of my real estate peers continue to bask in the glory of this continued bull market in Metro Denver. I understand this as both personally and professionally I too am frustrated with the lack of inventory; a marketplace which continues to show a demand side bias seemingly unabated.
Yes I have been accused of being a pessimist. As I advise I have been in this business for 20 plus years AND been a resident of the State of Colorado since 1984. Thus I have been through a few business cycles and was fortunate to purchase the home I just sold back in 1989 as Denver was coming out of a commodities influenced regional recession which was a catalyst for Denver’s now more diversified economy.
This morning, during my scan of the headlines a story came across the wires; this one relates to states with potential real estate bubbles. Posted on AOL Finance the article mentions 8 states in which a real estate bubble may be forming.
Per the article and quoted as follows it is important to understand “Today, most experts agree that, on a national level, we are not in a real estate bubble. The absence of nationwide or statewide housing bubbles doesn’t mean they’re not forming, however, or that they don’t already exist within some states on a more local level.”
The States mentioned in the article are California, Texas, Florida, Washington Tennessee, Colorado Oregon, and Nevada. On the national level due to changes in mortgage requirements and desires for home ownership we have witnessed income to house value ratios increase. Historically from 1950-2000, median home values have been roughly 2.2 times the median income. Today, that number is roughly 3.36 times higher, 50 percent higher than the historical average. Granted there are more choices concerning mortgage instruments and our society in general has collectively accepted the concept and use of leverage. We now know leverage and inflated valuations led to the most recent Great Recession. Unlike the Depression of the 1930’s which was particially caused by a bubble in tradable equities, The Great Recession began with a housing bubble as housing was and continues to be viewed as an investment vehicle and thus being leveraged.
Driving through Cherry Creek North and Downtown and seeing the cranes on the horizon coupled with the frenzied construction activity all along the Front Range from the Foothills to the Plains, I am starting to be concerned. A low-interest rate, high-demand environment must at some point correct, when is the question:
The following is excerpted from the AOL Finance article:
Colorado’s housing market is overvalued, according to Fitch Ratings. But why is overvaluation important to real estate bubbles?
People believe that the asset, often real estate, is going to become more and more valuable in the future. If it becomes more valuable because it produces more income, that is one thing,” said David Reiss, a real estate expert and law professor at Brooklyn Law School. But if it becomes more valuable just because people think it is going to become even more valuable, that is another. At some point, the merry go round stops and the current owners are left with an asset worth less than what they purchased it for.
In Colorado, home prices in major markets like Fort Collins and Boulder are not just overvalued, they’re more overvalued than they had been at their peak during the 2005-2006 housing bubble, hardly an encouraging sign. Making matters worse, incomes are failing to keep up with rising price.
Several Colorado metro areas are seeing price-to-income ratios above both the national level and their historic averages. The median home price in Denver and Fort Collins are roughly five-times the median income. In Boulder, the home price-to-income ratio is even higher at 6.6 and is more than 100 percent higher than the historic average.
To be clear, high home prices don’t necessarily equate to a bubble, said Jeff Shaffer of McKinley Partners, a real estate private equity firm. “A typical bubble starts with high prices causing capital to start flowing quickly into that space because of attractive returns. So high housing prices may spur a bubble down the road, especially in markets like Denver, where you see a lot of new home development in the pipeline to open up,” he said.
According to RealtyTrac, a real estate information company and an online marketplace for foreclosed and defaulted properties, Denver County has the nation’s lowest affordability index as of second quarter 2017, meaning it has the least affordable prices compared to historical averages. Adams County and Arapahoe County, both in the Denver metro area, also rank among the worst for housing affordability.
Personally I am more concerned about the Front Range versus the State of Colorado. Yes our resort communities are very dependent on real estate transactions for transfer taxes and so forth. However I am not seeing the frenzied activity west of the Continental Divide that I see on the Front Range. Thus if a bubble is forming, I believe it may be Front Range specific and while impacting the whole state if it bursts, the damage I believe will be most acute along the I-25 corridor from the Wyoming border to Pueblo.