How much is a house worth? Of course prices fluctuate, but somehow there should be a standard way to determine the real value of a house. Like anything else, it’s determined by the benefits its owner receives. It’s not just the house that sets the price, or homes in Virginia wouldn’t command a higher price than homes in Wisconsin. To a large degree, it’s related to availability of jobs. People will move to where there are good paying jobs. Their salary determines how much home they can afford. Even within a metropolitan area, homes near employment centers are worth more than those in outlying areas. Logically, there should be a way to calculate a home’s value based on its location. Economists have come up with such a formula, and it turns out that prices do tend to move in the direction of the correct value over time.
If this is true, we should be able to do the math and go out and buy a home for its actual value? Right? Not exactly. In the short term prices fluctuate according to other factors, such as lending practices and consumer optimism. A few years ago lenders were making a lot of subprime loans. Anyone who could qualify at the teaser rate based on stated income could buy a house. The increase in demand drove prices up above the realistic values. No one worried about what would happen when the rate increased. They assumed that prices would continue to rise and mortgage financing would be available. But of course artificially inflated prices can’t last forever. When mortgage payments on those subprime loans increased, it all started crashing down.
A market correction was definitely in order, but as we often see, it went too far. Lenders didn’t just stop lending to buyers who can’t afford the payments. They made the requirements so stringent that even buyers who could qualify during ‘normal’ times couldn’t get a loan.And a flood of distressed properties and forclosures drove prices well below their values.Now buyers are waiting until they’re sure that prices have hit the bottom. But when will that be?
As it has in the past, the market will overcorrect. Just as optimism and easy lending drove prices too high, fear will drive prices too low. When will it stop? A few savvy buyers will realize that the prices can’t go much lower, and they won’t be able to resist the bargains any longer.If you are able to buy something for less than it’s worth, you come out ahead – even if someone else gets the same thing for a little less the next day. Once it starts, an avalanche of buyers will join in and prices will rise. Most of us won’t know that has happened until months after the fact.
Economists are starting to tell us that residential real estate is undervalued in many, but not all, cities. Which markets, you ask? The areas that saw unrealistically huge price increases are now suffering the largest declines. In a review of Southern California real estate prices, Global Insight said that real estate in Los Angeles is 6.4% undervalued, Orange County real estate is 10.9% undervalued, homes in Riverside-San Bernardino are 15.7% undervalued, and San Diego homes are 21.2% undervalued.
Does that mean you should rush out and buy a home in San Diego or Riverside? It depends.Even within a geographic area, conditions differ in various price ranges. Currently there are still a lot of foreclosure properties on the market, mostly starter homes. Meanwhile, move up and higher end homes are in short supply. If you’re looking for a condo, you might want to wait a little longer. If you’re looking for a larger home, there are some deals available. And now interest rates are phenominally low and there are great tax incentives available to first time buyers and new home buyers.
