John M. Lee: State of the Real Estate Market

As I read the national press regarding investment and economic information, I saw most experts are calling for a cool down in the real estate market.

The experts cite several reasons for their assessments - rising interest rates, higher-than-normal unemployment rates and home sales prices that have risen too quickly to be sustained. Some even go as far as predicting a bursting real estate bubble, whereby prices drop by a large amount, such as the stock market did a few years ago.

So, where are we on the local level? Our real estate values surely have appreciated among the most in the nation, causing some economists to predict that our prices could drop dramatically.

Historically, the San Francisco real estate cycle runs up for about six or seven years, then goes either flat or slightly down for three to four years. However, we have been in an upward trend since 1995 - a good 10-year run. The only slight downward blip was after the World Trade Center terrorist acts in September of 2001. Prices dropped about 10 percent in the fourth quarter of that year, but recovered immediately the first quarter of 2002. I would not even classify this as a trend because it was a reaction to an event, rather than a price adjustments due to economic factors.

The last real downturn occurred from 1989 to 1995, when our country went into recession. Prior to that, in the early '80s prices went down due to high inflation and interest rates. So, after a 10-year run of appreciating returns, are we in for a price correction?

If January 2005 is any indication, the good news is probably no. Despite the fact that the stock market stumbled in January, the real estate market is still red hot, with multiple offers and properties selling for more than asking prices.

There is still an abundance of buyers and not enough sellers, so the fundamental economics of supply and demand have not reached an equilibrium point. Until we have more sellers than buyers, property values will continue to go up.

If we are going to forecast the direction of the real estate market, we have to examine the conditions by which the buyer pool might dwindle and how likely it is that that might happen.

One obvious event that can occur is rising interest rates. We have been enjoying 30-year-fixed mortgage rates in the high five to low six percent range, a very historically low number. In January, the rates actually dropped.

Most economists are forecasting an upward movement in the interest rates, but to no more than seven percent. With continuing strong demands for housing, that slight movement might eliminate some buyers, but not enough to stop the momentum of the market.

Another event that can negatively impact the market is if the economy weakens substantially again; but we do not see that occurring. Our economy is actually getting stronger and healthier, but if we have another war, natural disaster or a terrorist attack, prices can go down.

However, the possibilities of these events occurring are fairly low and I do not believe these factors will affect real estate prices.

With the probabilities of these factors so low, I believe our real estate market will continue to hum along this year. We will probably not see the double-digit appreciation we have seen in the past few years, but I expect steady price increases throughout the year.

John M. Lee is a top-selling broker at Pacific Union. For questions regarding real estate, call him at (415) 447-6231 or by e-mail at johnlee@isellsf.com.