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How much will real estate prices drop in the USA?
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Question:I recently found an article on CNNMoney trying to predict how big the declines will be in metropolitan markets. The article had very negative expectations of the future. You can read it here:
Are these numbers realistic?
Answer:The article on CNNMoney looks at the price/ annual rent ratio - which is the inverted capitalization rate - for each area and compares the current factor with the factor over the past 15 years.
This is actually a good idea. People are willing to spend a little more for owning versus renting, but not as much as it has been in some bubble areas lately.
The article even makes a prediction of how much prices will go down and how much rents will go up.
When I looked at the posted numbers of current price to rent ratio, I felt that they were unrealistic.
Let me give some examples of markets that I know.
For San Jose, June 2007 they have a factor of 42.5
That would mean that buying is 42.5 times as expensive as one year's rent.
I know of a house in Almaden, San Jose that is worth $750k, rented instantly for $2500/mo.
$750,000 / (12*$2500) = factor 25
I own a townhouse on the coast, value $700k. It instantly rented for $2100. Possibly I could get $2300 in rent.
$700,000 / (12 * $2100) = factor 28
Another property of mine. Value ~ $750k, maybe $800k (I bought for $720k in 07/2007)
$800,000 / (12 * $3500) = factor 19
As you see, these 3 samples in San Jose and surroundings are nowhere near the posted 42.5
Another market - Salt Lake, they give a factor of 24:
In Salt Lake, the typical run-of-the mill 4/2 in West Valley City costs $170k and ill rent for $1150.
$170,000 / (12 * $1150) = factor 12.
How can they report 24???
It seems to me that Money Magazine has sunk down to the bubble heads and they intentionally came up with some inflated numbers there.
I'm really wondering about San Jose. That would have to be a $1,200,000 house renting for $2350. Or a $750k house renting for $1470. It does not exist. A 2-bedroom apartment is $1800.
CNNMoney is a nice looking site, and they have done their share to fuel the bubble a few years ago. Anyone remember their lists of the areas that will have the best appreciation in the next 12 months? These were self-fulfilling prophecies.
Investors from all over the country read that "Boise will go up", so all these investors go and buy rentals there, and the artificial demand indeed increased prices.
Time will tell if the opposite prognosis will be self-fulfilling as well.
Based on my examples, their numbers are way too negative though. I expect 15% where they say 30% decline. 25% where they say 50%.