California's Identity Crisis

The once high-flying California housing sector has endured a hard correction--and it’s not over. The outlook is starting to diverge between the hopeful coast and the struggling inland areas. Which will be the face of the state’s future?

 

Mortgage Banking

March 2012

 

By Robert Stowe England

 

 

Can beleaguered California make a comeback?

 

The vibrant state economy that for decades led the nation in growth, creativity and innovation is playing an unaccustomed role as a laggard--even when measured up against the nation’s tepid recovery. Further, prospects the state can emerge from its also-ran status any time soon seem slim.

 

Given the state of the economy, it’s no surprise that the state’s housing sector is stuck in a rut.

 

“All in all, it’s kind of a bumpy ride in California, down and up a little each month. There’s no trend either way,” says Greg Paquin, founder and president of The Gregory Group, Folsom, California, a consultant to home builders. He adds only a meagerly hopeful note. “Morbid as it may be to say it, we’re not the worst market in America.”

 

Some views of the state’s predicament are downright grim. “California is a zombie state,” says William Watkins, executive director of the Center for Economic Research and Forecasting (CERF) at California Lutheran University in Thousands Oaks. By that, he means its economy is not dead--but neither is it vibrant. The outlook is for more of the same, he explains.

 

The Golden State--long characterized by a very large and thriving middle class--is slowly seeing its demographic profile be transformed. The new look features a large and privileged wealthy class, a declining middle class and a rising share of the poor, according to Watkins.

 

Thanks to prevailing anti-business, anti-economic-growth attitudes and policies at the state level, California finds it hard to retain or create the kinds of jobs that can sustain and grow a significant middle class. For this reason, economic growth will remain subpar, Watkins contends.

 

California’s unemployment rate was 11.1 percent in December--“remarkably high and a good extent higher than the national rate,” Watkins notes. “We don’t see that 30 percent premium falling significantly,” he says, meaning that the unemployment rate in California is likely to remain 30 percent higher than the national average.

 

There’s domestic outmigration, meaning Californians are moving elsewhere in the United States--many of them young people with good prospects looking for better opportunities, according to Watkins. The pace of the outmigration has slowed in the last year, possibly due to homeowners being trapped upside-down in a mortgage worth more than their home, he adds.

 

Immigrants, both legal and illegal, continue to come to California, although the state’s share of the nation’s arriving illegals has fallen from 40 percent to 25 percent, even as the overall inbound flow of illegals has declined, according to Watkins.

 

There’s rising anecdotal evidence that some within the state’s large population of illegal immigrants are returning back to their home countries.

 

Mexico has become something of a magnet for its expatriates, with a comparatively attractive unemployment rate of 6 percent. By contrast, unemployment in some counties in the increasingly bleak Central Valley region is as high as 35 percent and 40 percent, Watkins points out.

 

There is national data to support the anecdotal evidence within the state. The number of new foreign-born households in the United States between 2007 and 2010 has not been increasing, according to Daniel McCue  research manager at the Joint Center for Housing Studies at Harvard University, Cambridge, Massachusetts.

 

While 200,000 immigrant households arrived each year during that time span, there was a countervailing trend with the number of households headed by illegal immigrants declining by 200,000 each of those years. The result: no net new household formation from new immigrant households to push up demand for housing.

 

By contrast, in the three years from 2004 to 2006, the number of new foreign-born households was rising by 400,000 a year--a mix of 200,000 from legal immigrants and 200,000 from illegal immigrants.

 

Overpriced housing and political dysfunction

 

Housing remains a weak sector of the state’s slow economy. Prices for existing homes have fallen very low in the inland areas and homes are “remarkably cheap,” Watkins says. But in the coastal areas, prices remain too high to be of any benefit to the economy in terms of making the homes affordable to median-income households, he adds.

 

“In coastal Ventura County [north of Los Angeles], there are 20,000 farm workers and the median income is $55,000,” Watkins says. “That’s not enough to afford the median-price home.” In November 2011, the median home price in Ventura County was $410,530, according to the California Association of Realtors® (CAR), Los Angeles.

 

“You can go to any tract development in Southern California at 6:00 a.m. on Sunday and the driveways are full of cars, with more cars parked on the lawns,” Watkins says. “There are a lot of people living in the [same] house.”

 

A key challenge for the state’s economy is a dysfunctional political class in state government, according to Watkins.

 

“The will to address the lack of economic growth is just not there in Sacramento,” he says. “There is not a sense that economic development and job growth should be a priority.”

 

Recently Watkins was in Sacramento talking to a member of the state legislature, who told him, “It doesn’t matter what we do in this building, California will always bounce back.”

 

That’s simply not true, Watkins warns. “You can price a state out of being competitive. And that’s where we are.”

 

On its present path, California is gradually become a society where “there’s a ruling class that’s awesome and then there’s everybody else,” Watkins warns.

 

Two different economies

 

The view is rosier from Santa Clara County, home of the city of San Jose and the high-tech sector. “There are really two economies going on,” says Stephen Levy, director and senior economist at the Center for Continuing Study of the California Economy (CCSCE) in Palo Alto.

 

”When you add them together, the total is that California is once again adding more jobs than anybody else and is adding them at a somewhat faster rate than the nation. And the trend is almost certain to continue going forward,” he adds.

 

The job growth in California, however, is “almost exclusively in the Bay Area [of San Francisco], San Diego and the high-tech center of the state,” Levy says. Job growth in Silicon Valley is the fastest in the nation at more than 3 percent annually in late 2011. “This place is surging,” Levy says.

 

“Meanwhile, in Sacramento, Modesto, the Inland Empire, San Bernardino, the needle hasn’t moved at all--there’s no uptick,” Levy adds.

 

Places like Los Angeles are in the middle in terms of economic growth somewhere between the strong high-tech areas and the moribund interior, Levy says.

 

California still has some very important advantages, according to Levy. “We are developing products and services that have immense worldwide appeal. The products range from Apple’s iPads® and iPhones® to Facebook and the other companies in the social media, nearly all of them in Silicon Valley,” he says.

 

Initial public offerings (IPOs) of companies in Santa Clara County, such as LinkedIn Corporation, Mountain View, “have put a lot of money into the hands of employees,” and these employees are thus able to buy homes in the area, Levy notes. An IPO for Facebook this year is expected to create a whole new crop of wealthy employees.

 

The Bay Area receives 40 percent of the nation’s venture capital, with the rest of California getting another 10 percent--putting half of this important source of seed money for new businesses into the Golden State, according to Levy.

 

Another plus for California is its geographic advantage in the global economy. “We’re on the right coast generally, the way the world is going,” says Levy, referring to the location of California on the Pacific Ocean facing the stronger Asian economies, as opposed to being on the Atlantic Coast facing the weakening economies in Europe.

 

As for the interior of California, it has some economic growth but the growth is much too weak, according to Levy. “I think they are at a period of very, very small job growth,” he says, referring to central California.

 

“You can be not in recession and still struggling. And they’re struggling,” he explains. “They need an upturn in the U.S. economy.”

 

Coastal vs. inland housing markets

 

Not surprisingly, the outlook for the housing sector also differs between the coastal and inland regions of the state. Generally, home prices, which had an uptick in 2010 in some areas, are heading down across the state, except for the San Jose metropolitan area.

 

“The coast and interior are two very different places and are affected in two very different ways,” explains Stuart Gabriel, director of the University of California at Los Angeles (UCLA) Richard S. Ziman Center for Real Estate, and chairman and professor of finance at the UCLA Anderson School of Management.

 

“The interior was characterized by extensive overbuilding, a high prevalence of subprime lending, very elastic supply of housing and no regulatory restraint on housing,” says Gabriel. “The local economies were driven significantly by the housing boom. Those economies have crashed. Those housing markets have retrenched,” he says.

 

Home prices in the Central Valley, for example, have fallen by 60 percent.

 

“There doesn’t seem to be a prospect for a significant near-term resurgence in economic activity [from housing] in those areas,” Gabriel says. “That’s not to say there isn’t any sign of investor interest; there is. [And that] is not to say we are not clearing the decks with respect to foreclosures. We are.”

 

Indeed, one bright spot across the state for California is its progress in clearing a lot of its inventory of foreclosed homes. Starting with one of the highest percentages of underwater mortgages, California now has 23 percent of homeowners with mortgages that are underwater, according to Gabriel. This compares with 60 percent in Nevada and 50 percent in Florida, two other major bubble markets, he notes.

 

California is a non-judicial state, which generally means lenders can foreclose on properties without going to court. “The states faring poorly are the judicial foreclosure states,” Gabriel says. “In California we are able to clear the decks more expeditiously.”

 

After rising in 2010, home prices fell in 2011. The price declines have not been limited to inland areas but also have afflicted the coastal counties, reflecting the fact those markets are still “characterized by weakness,” according to Gabriel. “It is difficult to anticipate that those markets are going to strengthen in a significant manner in the near term,” he says.

 

“These [coastal] markets were characterized by very different fundamentals” from the inland areas, Gabriel explains. “There was almost no subprime lending. There is severe constraint on construction, [including] regulatory, environmental and zoning” restrictions that, during the boom, prevented high levels of new-home construction. Further, the coastal counties “are largely in areas where economies are better diversified and stronger,” Gabriel says. “These markets are significantly healthier.”

 

Markets move in lockstep during boom

 

Historically, the housing markets in inland California were not in sync with the coastal counties. Yet, during the boom, they began to perform more like a single market, according to Gabriel. To back up his view, he cites a November 2011study he co-authored that examines the degree to which housing markets across the United States and within California have become more integrated and more susceptible to national trends.

 

The study, Integration and Contagion in U.S. Housing Markets, is authored by Gabriel, John Cotter and Richard Roll. Cotter is associate professor and director of the Centre for Financial Markets at University College Dublin (UCD) Quinn School of Business in Dublin, Ireland; and Roll is a professor of finance at the UCLA Anderson School of Management.

 

The study looks at median home-price trends for “geographic correlations” among the metropolitan statistical areas (MSAs) in the United States, Gabriel explains. The paper found that “over the prior decade--the 2000s, during the boom and leading up to the boom--there was much more integration of [housing] markets.”

 

What was causing the integration? “Housing markets, to a very significant percent . . . increasingly were responding to national fundamentals and moving in lockstep,” Gabriel says. “This was out of character with historic trends.”

 

The study relied on the Federal Housing Finance Agency (FHFA) house-price, repeat-sales indexes for 384 metropolitan areas in the nation. In the study’s model of the average level of integration in pricing trends, the researchers tracked immediate jumps and lags in house-price returns, along with the degree to which price increases spread outwardly from one geographic area to adjoining areas--an effect known as contagion.

 

The study found the average level of integration rose from 0.70 in 2000 to 0.83 by 2010 in the nation’s metropolitan areas. The higher the fraction, the greater the level of integration, with 1.00 representing complete integration.

 

“Neither analysts on Wall Street, regulators in Washington, D.C., nor most academic economists anticipated the magnitude of the house-price cycles, its geographic reach or related housing-market contagion,” states the UCLA Anderson School of Management finance working paper published last fall.

 

The study also separately examines home prices in California’s 28 MSAs and found a more startling trend where integration in house-price trends rose from only 0.55 in 1997 to 0.95 in 2008--turning a market more disparate than the nation into one almost completely integrated. “In the period of 2005, 2006 and 2007, the boom years prior to the bust, you could have almost said California was one market,” Gabriel says.

 

“If you drew a line down the Central Valley from Northern California through Sacramento, down to Stockton, Merced, Tracy, Turlock, Fresno, Bakersfield, and then Lancaster and Palmdale, and then if you turn a little east there into the Inland Empire, San Bernardino, Riverside, and then go down toward Temecula and the bottom of the state, you could almost describe every one of those cities that I have mentioned as being the same city statistically,” Gabriel explains.

 

“They are almost indistinguishable in the way their house prices moved up and down over the cycle,” he says.

 

The move toward integration, however, has reversed itself now during the housing bust. “Starting in 2008, 2009 and 2010, the coast disassociated itself from the interior on the downside of the cycle,” Gabriel says, “so that the interior really crashed, and the coast to a much lesser degree.”

 

The fact that California’s extremely diverse housing markets could overcome all their local conditions and move in near-lockstep during the boom “argues for the role of national fundamentals or national perspectives on housing investment returns, as opposed to the role of local factors,” Gabriel says.

 

Housing as an investment

 

The increasing nationalization and integration of housing markets during the boom is one reason that the structure of mortgage securitizations failed to hold up during the crisis, according to Gabriel.

 

“All these subprime CDOs [collateralized debt obligations] and subprime MBS [mortgage-backed securities], as well as alt-A or even conforming or whatever--all of these securitizations were based on the principle that not everything across the board can go bad at once,” Gabriel explains.

 

“If you built a subprime CDO and it was all based on triple-B subordinated pieces of subprime MBS from very disparate geographies, the idea was that you could re-tranche and re-rate 75 percent of that triple-A in a CDO because you couldn’t imagine a situation where losses would exceed 25 percent on that pool,” he says.

 

“What our paper shows is that indeed that presumption [that not all geographies go bad at once] was wrong,” Gabriel says.

 

“There was a lot of evidence that no one else has shown before, that [there are] correlations in these geographies and the fact that indeed these very disparate geographies moved more or less in lockstep up and down with the cycle,” Gabriel says.

 

What drove this integration of housing markets nationally? For one thing, “Housing, over this boom period, moved much more in the direction of an investment good, relative to a consumption good,” Gabriel says. By that, he means more and more decisions to purchase homes were based on the expectation it would be a good investment and yield a good return, and not simply to provide shelter.

 

The low cost of financing was also a factor favoring increasing integration of housing markets. As Gabriel explains, “Topography is local but monetary policy is national. The pricing of mortgages off of [former Fed Chairman Alan] Greenspan’s monetary policy that was associated with very low interest rates for a very long time could have been a common factor that was very important to housing activity in a lot of areas.”

 

Gabriel thinks that “housing fever” was also a factor in the integration of housing markets nationally. Not only were people looking at housing as an investment, but it reached a fever pitch on the part of both lenders and buyers. “And that fever was contagious, and it spread over areas where typically housing wasn’t even viewed as an investment good,” he says.

 

The headwinds of tight credit

 

Will tight integration of the nation’s housing markets continue to be a factor in the future? And what does that mean on the ground?

 

Gabriel expects that common national influences will remain an important factor. Partly driving this is the fact that 95 percent of all mortgage originations are done through U.S. government housing finance programs, either through Fannie Mae and Freddie Mac or through the Federal Housing Administration (FHA) or the Department of Veterans Affairs (VA).

 

Yet, the ability of national trends to erase local geographic market identities has declined during the current housing bust. Indeed, the return of two broad housing markets in California reflects a declining national influence on housing markets, Gabriel explains.

 

“In other words, the local factors that created weakness in the interior and relative strength on the coast kicked back in for California,” Gabriel says.

 

The housing bust economy is significantly different from the housing boom economy. For one, there is now “obviously a black-and-white, day-and-night difference in our housing finance system,” says Gabriel. In essence, there is no real private market, with the exception of jumbo prime mortgages held in portfolio by banks, he adds.

 

“Part of what allowed the interior of the state of California to rise up and then fall back down was access to financial instruments that are no longer available and will not be available in the future, because, in the future, certainly any U.S. guarantee is going to be associated with a very safe and secure mortgage,” Gabriel says.

 

But what if the future is not just safe and secure, but excessively safe and secure--as appears to be the direction Washington is taking with its proposed definition of Qualified Residential Mortgages (QRMs)? And how would that affect California?

 

It will be a considerable impediment for the housing recovery, according to Gabriel.

 

“The way I describe housing credit in today’s world, as well as credit more generally, is that credit is cheap but tight. Those two words [cheap and tight] don’t usually come in the same sentence. Credit’s usually cheap and loose or it’s expensive and tight. It’s almost never cheap and tight,” he says.

 

The cheap credit has benefited some mortgage refinancing, but the tight credit has held back the pace of home purchases, according to Gabriel.

 

“The combination of loan-size limitations [in government loan programs] and the tightness of underwriting have taken a toll on the west side of L.A., no question,” says Gabriel, who believes it is one reason prices in the coastal areas resumed their decline in 2011.

 

State of the housing market

 

Partly because it has been able to move foreclosed properties relatively more quickly to resolution, California has seen steeper median home declines earlier in the bust cycle.

 

The peak in the state’s median price hit a whopping $594,530 in May 2007, according to CAR. The median price fell to $245,230 in February 2009. That’s a 59 percent decline peak-to-trough on a monthly basis.

 

CAR is forecasting the number of home sales to rise by 1 percent in 2012 to 496,200. The association attributes the lower-than-expected sales to the faltering recovery last year, says Robert Kleinhenz, formerly deputy chief economist at CAR and now chief economist at the Los Angeles County Economic Development Corporation (LAEDC) in Los Angeles.

 

Under normal conditions, California should have sales volume between 500,000 and 550,000 a year, he says.

 

“I think the sales levels that we are seeing are not bad. They are actually pretty decent compared [to] what we think is normal. They are just slightly below normal,” Kleinhenz says.

 

Current and recent existing-home sales are well above the low point reached in September and October of 2007, when volume fell to 250,000 on an annualized basis.

 

The sharp decline in the fall of 2007 was the result of the collapse of the jumbo mortgage market. “At the time, over 50 percent of the market consisted of jumbo [loans],” Kleinhenz says. “When that dried up, that basically brought the housing market to a standstill.”

 

The current relatively good sales volume during difficult economic times is reassuring. “It’s a sign the market has the ability to do its job, which is to work through the distressed properties,” Kleinhenz suggests.

 

The peak-to-trough median home price in California fell 51 percent on an annualized basis, from $560,270 in 2007 to $274,960 in 2009.

 

“That’s a huge adjustment that has realigned home prices relative to incomes,” says Kleinhenz.

 

Median home prices remain low, having declined in December 2011 to around $285,920, compared to $304,770 in December 2010--a 6.2 percent year-over-year decline on a monthly basis.

 

Prices still dropping, defying forecasts

 

On an annualized basis, the median home price in California was expected to come in at $291,000 for 2011, down from $303,100 in 2010. CAR had forecast a 2 percent gain for 2011, but the existing-home prices instead fell by 4 percent on an annualized basis.

 

Prices for 2011 were lower, in part because 2010 prices were boosted by federal tax credits for first-time homebuyers. Those tax credits pushed California’s median price to $324,000 in May 2010, just before the credits expired.

 

Lower home prices during the housing bust “pushed up affordability [in California] to its highest level ever” in June 2009, Kleinhenz says.

 

CAR’s housing affordability index hit 55 percent in the first quarter of 2009 before falling back in 2010. In the third quarter of 2011--the latest calculation available--the affordability index rose to 52 percent from 46 percent for the same quarter a year earlier.

 

California still lags the nation’s affordability index level--as it traditionally has. Nationally, the National Association of Realtors’ affordability index hit 69 percent in the third quarter of 2011, up from 64 percent a year earlier.

 

Like Gabriel, Kleinhenz sees tougher underwriting standards as “an impediment” to more home sales.

 

California’s urban housing markets hit a bottom in prices in 2009, according to CAR, and the price declines have been steep, even in coastal markets.

 

For example, the Los Angeles metropolitan area, which has a population of 10 million and includes both Santa Monica on the Pacific Ocean side and the Greater Antelope Area that tracks inland markets, saw its median price peak in September 2007 at $625,810 and reached a bottom of $248,850 in May 2009, according to CAR. That’s a decline of 60 percent.

 

Southern California’s high-income, coastal Orange County saw its median price fall 40 percent, while another southern coastal county, Ventura, fell 49.4 percent. By contrast, the Inland Empire of Riverside-San Bernardino saw a median home-price decline of 61.3 percent.

 

In Northern California, even in coastal Santa Clara County, home to Silicon Valley, home prices fell 49 percent peak to trough from 2007 to 2009. In Sacramento, prices fell 59 percent peak to trough from 2005 to $162,820 in December 2011 – and is still falling.

 

First-time homebuyers

 

The prior peak in housing affordability was 44 percent in the second quarter of 1997, according to the affordability index. Higher mortgage rates in the 1990s kept the index lower than today. Also, home prices fell less then--25 percent peak-to-trough in the 1990s. That is nowhere near the 59 percent in the current cycle, according to Kleinhenz.

 

Importantly, first-time homebuyers in 1992, 1993 and 1994 represented about 50 percent of the buyers of existing homes, based on annual surveys done by CAR, says Kleinhenz. A 2011 CAR survey found that first-time homebuyers represented only 34 percent of buyers.

 

Why is the first-time homebuyer not jumping at the prospect of lower prices and very low interest rates? Kleinhenz cites three key reasons: underwriting standards are tighter; higher down payments are required; and “the sense of economic uncertainty is much, much greater than it was” in the prior recovery in the 1990s, he says.

 

There is also higher unemployment this time around. In the 1990s, unemployment in the state of California just barely hit 10 percent for a short time. “During much of 2010 and 2011, unemployment exceeded 12 percent on a sustained basis,” Kleinhenz notes.

 

In the deep recession in the 1990s in California, “one of the reasons the unemployment rate did not go as high as this time around, is we had a significant exodus of population and workers” back then, Kleinhenz recalls.

 

As bad as things were in the state of California in the 1990s, they were better in the adjacent states and elsewhere around the country. “So, we lost population by hundreds of thousands over a couple of years time,” he adds. The exodus of workers, in effect, “put a lid on the unemployment rate in the 1990s,” Kleinhenz says.

 

Because of the lack of opportunities elsewhere, “more people are staying put in California, and that, in part, explains why we have seen this unemployment rate push so high,” Kleinhenz adds.

 

Shadow inventory

 

California is not burdened by the very high levels of unsold inventory and shadow inventory that plague some other states.

 

The state’s unsold inventory index, which is the number of listings from the multiple listing service (MLS) divided by the number of sales, has averaged about 7.4 months for the period from the 1980s to the present, according to Kleinhenz. In 2007, the unsold inventory index jumped to 9.2 months. Since then, with the tax credits helping to drain off properties, the inventory level fell to 4.6 months in 2009 and 4.9 months in 2010.

 

In 2011, the inventory averaged 5.4 months, according to CAR. “This is a lean inventory by historical standards,” Kleinhenz says.

 

Normally when inventory levels fall below seven months in California, the median price tends to rise. So, today’s falling prices suggest there is sufficient shadow inventory in the foreclosure pipeline to keep prices low.

 

Distressed sales represent a large, but slowly declining, share of existing-home sales. About 55 percent of the MLS sales in 2011 were non-distressed--that is, they were not foreclosures or short sales.

 

The distressed sales for 2011 included a 31 percent share for real estate-owned (REO) properties and 24 percent for short sales, according to Kleinhenz.

 

CAR expected the share of short sales in overall sales of MLS properties to grow during 2011. “We thought that with a stabilizing marketplace, short sales would be more attractive to banks because they typically fetch a higher price than an REO,” Kleinhenz says. Instead of approaching a 30 percent share of sales by the end of 2011, as anticipated, the share for short sales held steady throughout the year.

 

The slow pace of short sales is reflected in that fact that at the end of 2011, the unsold short-sale inventory index was seven months--higher than the other categories.

 

CAR relies on ForeclosureRadar.com, Discovery Bay, California, to measure the number of homes in the foreclosure pipeline.

 

The pipeline as of December 2011consists of nearly 100,000 near the tail end of the foreclosure pipeline, which represents 2.4 months of supply when annual sales are around 500,000--enough to boost the supply of homes above the 7 percent level and, thus, keep prices from rising, according to Kleinhenz.

 

There are another 100,000 in the middle of the pipeline and another 100,000 in the early stages of foreclosure. Given that it takes roughly 18 months for properties to move from the beginning to the end of the foreclosure pipeline, there will be a steady supply of foreclosed properties coming onto the market for a year and a half, according to Kleinhenz

 

Kleinhenz sees some “welcome news” for California in the settlement between the attorneys general and the largest mortgage servicers announced in February.

 

“With these settlements, there is an opportunity to finally tie up some of the legal loose ends that continue to be a part of this ongoing story,” says Kleinhenz. “It will help the housing market by helping to clear things up in the mortgage sector.”

 

To be sure, mortgage servicers are facing a tough challenge of managing their huge inventory of delinquent borrowers. “A huge percent of people are way behind on their payments and have not been foreclosed,” according to Bruce Norris, president of The Norris Group, a real estate investment firm in Riverside, California.

 

The low share of first-time homebuyers in California is also holding the market back, says Norris. “You usually only get to a 34 percent share of first-time homebuyers when people are priced out of the markets, like they were in 2004, 2005, and 2006,” he says.

 

“Now, mortgage payments are cheaper than rent. It speaks to the fear of owning real estate and the difficulty of qualifying for finance,” Norris adds. “Without the participation of the first-time homebuyer, it’s hard to have the volume necessary to create any type of price support.”

 

Norris also blasts the 20 percent down-payment requirement in the proposed QRM definition. This virtually ensures that most existing homeowners cannot sell their home and buy another one, he says. “Right now people are netting the least they have ever when they sell a home into a cash-driven market,” he says. This argues for a new national no-down-payment mortgage using the qualifying process employed by the VA’s successful program, Norris argues.

 

Norris recently made a presentation on his no-down-payment idea in Washington, D.C., to Raphael Bostic, assistant secretary for policy development and research at the Department of Housing and Urban Development (HUD). Bostic said he was interested in the idea but that it would face stiff opposition in Congress, according to Norris.

 

No recovery until 2026?

 

The home-price decline in the state and nationally is far from over, according to Michael Carney, professor of finance and real estate at the College of Business Administration at California State Polytechnic University, Pomona, California.

 

“I believe there is still strong downward pressure on home prices. I believe it will continue for a lot longer than most people believe,” Carney says. In 2006 he predicted that “it will take an entire generation, 20 years or until 2026,” for the return of a full recovery in the housing market in California. He stands by that prediction.

 

Why so long? “There is a generational aspect to this,” Carney explains. “A lot of homeowners have been burned. A lot of people who bought mortgage-backed securities [MBS] have been burned,” he says.

 

As a result, a large segment of the population no longer believes that home prices will always keep up with inflation, Carney contends.

 

Markets are also unlikely to see any home-price appreciation any time soon that might tempt those who have lost faith in homeownership. Home prices are going to continue downward because government interference at the federal and state level is preventing markets from reaching a bottom. “These efforts are dragging out the agony,” he says.

 

By not allowing bad loans to clear out of the system and not allowing the private sector to rebound, according to Carney, federal mortgage policies are preventing the housing markets from hitting bottom and beginning a recovery.

 

“I believe we would have a vibrant market in home loans if the government gets out” and lets a resilient and vibrant private sector emerge to turn home prices around, Carney says.

 

If federal policies were to change, Carney would revise his 2026 recovery date forward. “If the federal government would get out of the home loan market and never back or guarantee home loans or mortgage-backed securities, we’d have a rough go of it for a while, but we’d be out of the problem and the market would pick up,” he says.

 

Home building

 

The home-construction industry also continues to languish and is a shadow of its former self, says the Gregory Group’s Paquin.

 

During the boom years, the number of building permits peaked at 213,000 in 2004 followed by 209,000 in 2005. In 2011, there were just 45,000 permits issued.

 

“A lot of [home builders] have shrunk in size. A lot of offices have been closed. A fair amount have gone out of business, delaying any activity until things get better,” Paquin adds.

 

Home construction in the near term is happening mostly on smaller parcels of land, including foreclosed parcels, according to Paquin. In the Sacramento area, there are a number of builders erecting new homes on parcels of eight lots or less.

 

Investors today are also looking at acquiring large parcels of land--5,000 acres or more--at “rock-bottom” prices so they will have the land for new construction when the housing market comes back, according to Paquin.

 

Large parcels of land are so cheap currently that farmers are buying them back from developers at deep discounts, low enough to make farming on the land profitable, Paquin says.

 

Golden State still golden?

 

So, the prospects for California are decidedly mixed.

 

Levy thinks that the state’s high-tech sector is likely to provide a considerable boost to the state’s economy, as the overall American and global economies recover. That might return the state’s economic growth rate to something close to the national growth rate.

 

But Sacramento’s policies will continue to be a drag as employers leave the state and the pace of new business formation lags. That portends economic growth in California will trail the nation’s, says Watkins.

 

UCLA Anderson School of Management’s Gabriel sums up the prospects this way: “A lot of colleagues here at Anderson, I think, would agree with me that I don’t think anyone has seen a better time to buy real estate in California in recent memory” if you can afford such real estate, he says.

 

“I don’t think it’s wise to predict the demise of California. Most people who have done that in the past have been wrong,” says Gabriel.

 

“All of us here in California, none of us really want to move. We like it a lot here. Most days we wake up and think we’re living in paradise. So, California will weather the storm. California is a heartland of innovation and entrepreneurial activity in the United States. And it’s very different from other areas in that respect, both north and south,” he says.

 

“Just like Italy, what needs to happen here is economic growth, job creation, income creation and tax-revenue creation--that’s what we need,” says Gabriel.

 

Are you listening, Sacramento? MB

 

 

bio: Robert Stowe England is a freelance writer based in Arlington, Virginia, and author of Black Box Casino: How Wall Street’s Risky Shadow Banking Crashed Global Finance, published by Praeger and available at Amazon.com. He can be reached at This email address is being protected from spambots. You need JavaScript enabled to view it..

 

 

Copyright © 2012 Mortgage Banking Magazine

Reprinted with Permission

 

 

Robert Stowe England is an author and financial journalist who has specialized in writing about financial institutions, financial markets, retirement income issues, and the financial impact of population aging.

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