By David Stiff, Chief Economist, Fiserv Lending Solutions
During the housing bubble, as home prices appreciated at record rates in many metro areas, housing market activity was pushed outward to distant suburbs and ex-urban areas. Many homebuyers, who could no longer afford to purchase homes close to urban centers, were forced to “drive until you qualify” – trading longer commutes for lower mortgage payments. Others, who could afford smaller homes on smaller lots nearer to downtown neighborhoods, chose to buy larger, more luxurious properties in outlying suburbs, making longer work trips so that they could consume more housing.
Like housing demand, new home construction was also pushed outward in metro areas that experienced large price bubbles. As land prices soared, developers moved their projects to the urban fringe to keep their costs down. Furthermore, developers faced less regulation in these outlying, less densely-settled communities, where residential projects were welcomed by local governments looking to increase their tax bases.
Real estate speculators also boosted housing demand in fringe areas. Within bubble markets, most speculators purchased less expensive homes, based on the idea that first-time homebuyers would provide most of the demand for “flipped” properties. Speculative demand was also pushed outward because investors, although they only expected to hold their properties for a few months, needed to reduce their mortgage costs. For developers, speculators were a new source of demand for their product, so as the bubbles continued to expand, developments in outlying suburbs became even more profitable.
The trends that pushed housing demand toward distant suburbs and rural areas were not sustainable. Although housing in outlying areas was relatively less expensive, a few years of double-digit appreciation quickly made these homes unaffordable for most households, especially after the sub-prime mortgage crisis (which started in August 2007) shut down non-conventional lending. Speculators could only profit from flipping when prices were rapidly increasing. When prices stalled and started to fall in 2006, investor demand for residential properties evaporated, and many speculators left holding unsold properties were forced into foreclosure.
There is also some evidence that household preferences for larger homes may be shifting. In part, this is simply because of sharp increases in commuting costs. During the early years of the housing bubble (2003-2004), the average price of gasoline was US$ 1.70/gallon. Since then, gasoline prices have more than doubled (US$ 3.65/gallon in May 2008), which means that the out-of-pocket costs of commuting for auto drivers have increased by more than 100%. Higher energy prices have also increased heating and cooling expenses, making the monthly costs of owning larger homes jump relative to those for smaller homes.
Because of the reversal in trends that boosted demand for housing in outlying suburbs, since they peaked in 2005 and 2006, home prices have generally fallen more in towns and neighborhoods located farther away from urban centers. Figure 1 shows the change in single-family home prices from their peak until the second half of 2007 in 215 towns and neighborhoods in the Boston and Worcester, MA metro areas.* From its peak in September 2005 through the second half of 2007, the S&P/Case-Shiller index for the Boston metro area dropped by 7.3%. But within the metro area, the price declines have not been uniform – they have been more severe in towns and neighborhoods farther away from Boston’s Financial District (which has the largest concentration of workplaces in the metro area).
In Figure 2, a similar map for the Los Angeles and Oxnard, CA metro areas is displayed for 330 zip codes. Between September 2006 and the second half of 2007, single-family home prices in the Los Angeles metro area dropped by 8.9%, according to the S&P/Case-Shiller index. But, as in Boston, the decline in home prices from their peak has had a very distinct geographic pattern. In Los Angeles, this pattern is more complex because instead of having a single “downtown”, the metro area has more than one large concentration of workplaces.† Home prices have fallen less in neighborhoods near Los Angeles’ two largest employment centers – West Los Angeles and Downtown. Surprisingly, some of the region’s largest home price declines are clustered around another large employment center in Irvine/Orange. But, these two cities are at the epicenter of the sub-prime lending crisis. Irvine/Orange has an extreme concentration of mortgage lending companies, including a few sub-prime lenders that have declared bankruptcy (e.g., New Century Financial) and/or have laid-off many employees.
During market downturns, home prices fall the least in the most desirable areas of a metropolitan region. As housing affordability improves, home buyers who were previously priced out of their preferred towns and neighborhoods will be able purchase properties in these areas. So, even as overall sales volume drops, relatively stronger demand for housing will limit price declines in neighborhoods with shorter work commutes, better schools, and easier access to parks, recreation, and retail centers. Because of sharp increases in gasoline prices, living closer to work has become an even more important consideration in the location decisions of homebuyers. When combined with large inventories of unsold housing on the edges of urban areas, this shift in preferences will mean that prices for homes in outlying neighborhoods will continue their more rapid decline and will be slower to rebound when housing markets finally start to recover.
* These price changes are computed using single-family Case-Shiller indices for individual zip codes. Fiserv Lending Solutions calculates aggregate Case-Shiller indices for more than 3,500 zip codes and price-tier indices for more than 600 of these zip codes.
† Giuliano, G., C. Redfearn, A. Agarwal, C. Li, and D. Zhuang (2005) “Not All Sprawl: Evolution of Employment Concentrations in Los Angeles, 1980-2000”, paper presented at the European Regional Science Association Conference
David Stiff is Chief Economist, Fiserv Lending Solutions, and works in collaboration with Standard & Poor's on the methodology and maintenance of the S&P/Case-Shiller Home Price Indices. .
Figure 1 Changes in Case-Shiller Zip Code Indices from Peak to Second Half of 2007
Boston-Quincy-Cambridge Metro Area Worcester Metro Area
Figure 2 Changes in Case-Shiller Zip Code Indices from Peak to Second Half of 2007
Los Angeles-Long Beach-Santa Ana Metro Area Oxnard-Thousand Oaks-Ventura Metro Area
