A look back at 2006, and a look ahead.
2006 was a surprisingly good year for local real estate, but it may be remembered as the year that met no one's expectations.
Among the dissatisfied:
That's pretty much everyone.
Most remarkable about the local 2006 market was how unremarkable it was. Home prices went up modestlyvery modestlyin most local cities. Prices stayed flat in all other cities but one. We had a normal annual cycle: prices spiked in the spring, dipped during the summer lull, then came back in early fall when buyers returned from vacation. Panic selling was conspicuous by its absence. The market was friendlier to buyers than in several years but, with one exception, even the slowest local markets weren't true buyer's markets. Most markets were balanced, while a handful still favored sellers. Well-priced, well-presented homes still received multiple offers.
Why was 2006 such a non-event? Local real estate cooled but didn't freeze. Sales fell substantially, but so did inventory. Even so, demand dropped faster than supply for the second straight year in almost all local markets, enough to end the double-digit appreciation of 2004 and 2005 but not enough to drive down prices.
Perhaps the key to the 2006 market was that local sellers weren't pressured, at least in areas where prime financing has been common. Sellers have more control over sales prices when their jobs are still here, not in Boulder or Portland. Can't get your price? Then stay put, or move to a better house and rent out the old one. The landlord business looks more inviting when the local economy is good, the rental market is tightening, rents are going up and real estate has an investment-grade reputation.
A rebounding rental market wasn't the only thing that took pressure off local sellers in 2006. Those stories you may have heard about high inventory dragging down prices don't come from here. Local inventory actually declined, in part because of something I just mentioned: the jobs are coming, not going. And contrary to expectations, foreclosure sales aren't inundating this area, although they may soon become a factor in a small number of neighborhoods.
Inventory may be shrinking for other reasons as well. When everything homeowners read tells them that this is a bad time to sell, not many feel like selling. A market just starting to boom would have more move-up buyers, a prime source of entry-level inventory, but today's prices may have even equity-rich homeowners thinking twice about that bigger home in a better neighborhood, especially if they've factored in the exponentially higher property taxes. And homeowners who bought before the boom of the late 1990s face large capital gains taxes if they sell, even after the $250k/$500k exclusion. So why not stay, remodel and expand?
Low inventory saved home sellers in 2006, but not everything went their way. Homes took longer to sell, up from an average 20 to 27 days. The average home still sold for more than list price but barely, a sign that buyers were less willing to compete, although this varied significantly by market, and even slower markets saw multiple offers. Average demand, measured by sales, was down 17%. Relative demand, measured by the absorption rate (the ratio of homes sold to homes available) slipped 10% on average.
Declines this large normally cause serious problems for sellers, which makes it all the more amazing that the average sales price in this area went up almost 3% in 2006. Prices have been treading water in this slower market for almost two years, since May 2005. What we're watching is either a remarkably well-orchestrated slowdown or a remarkable testament to the stability of real estateor bothor a remarkable piece of luck. Whatever it is, it's all good. At least 2006 wasn't 2001, when lay-offs pulled the rug out from under real estate overnight.
So that's your local 2006 real estate market: not much fireworks, not many surprises. Except that when sales plunge with relatively little trauma, that's big news itself. It's that too-good-to-be-true soft landing we've been hearing about for the last year or so. Usually a slowdown isn't this painless. We're in uncharted territory.
Here's how this article is structured. First I'll give you an overview of the midpeninsula real estate market: Menlo Park west of 101, Palo Alto, Mountain View and Los Altos. Then I'll go into more detail about these cities, and about the cities immediately to the northRedwood City, San Carlos, Belmont and San Mateoand southSunnyvale, Santa Clara, Campbell and Cupertino.
I'll also look at the market in East Palo Alto and neighboring Menlo Park east of 101 (Belle Haven), because the travails of real estate there are a window on much of the rest of the state. As in 2001, Silicon Valley is once again an island, although this time the roles are reversed. This time we're the ones doing fairly well.
Finally, I'll look into my crystal ball for 2007.
Overview
The other day I heard a network television news reporter call 2006 "the worst real estate market ever".
"Worst real estate market ever"? That's a mighty strong statement, one that needs supporting context, especially when it's said on the nightly news program of a major network. "Ever"? Worse than the recession-driven slump of the early 1990s? Worse than the 18%-interest-rate market of the late 1970s? Worse than the 25%-unemploment-rate market of the Great Depression?
I'm still not clear on that. The only detail I got was that "sales are down 10%". She didn't say where, and she didn't say compared to what. She did confess that she didn't know when things would get better. This led to suitably long faces all around the set. And probably at home, I bet.
It was as stunning an example of lightweight hyperbolic real estate reportage as I've seen, and I've seen plenty since the boom began. Sure, 2006 was a tough year in many national markets. But sales prices went up in 71 of the country's 149 largest metropolitan areas and 14 had double-digit increases, according to the National Association of Realtors. In California, 171 of 364 cities showed an increase in median price according to DataQuick and the California Association of Realtors. And while sales are down significantly in many communities, NAR says 2006 was the third-best year for national home sales. "Ever".
But with this kind of alarmist reporting dogging the market since late 2005, it's no surprise that last year people told me they could tell local real estate was in trouble because they were seeing far more For Sale signs than in 2005. But actually there were fewer For Sale signs, because there were fewer homes for sale in 2006 than in 2005, and as the chart below shows, fewer homes for sale in 2006 than in years. For some real estate watchers, the difference between 2005 and 2006 was that in 2006 every For Sale sign was another nail in the coffin.
Local inventory was thin last year, which explains this:
The average sales price of midpeninsula single-family residences has been remarkably stable since 2005, except for the usual seasonal variations, even though sales fell sharply in 2006.
It's much the same story for midpeninsula CID (Common Interest Development), otherwise known as condos and townhouses. Prices rose slightly...
...even as sales dropped...
...because inventory also dropped.
Look at the sales charts again, both for SFRs and for CIDs. What you see is the gradual downward curve of a normal real estate cycle. Not the bursting of a bubble.
In 2006 Palo Alto lived up to its (largely unjustified) reputation as a market unto itself, an island of real estate strength no matter what goes on in other cities. I saw the dot-com meltdown slam Palo Alto as hard as any city in 2001. MLS data tells me the kind of hit Palo Alto took during the slump of the early 1990s. But this time Palo Alto has me believing.
Entry-level Palo Alto SFR was particularly hot, as anyone who tried to buy one last year will attest. 75% of entry-level Palo Alto listings sold (the "absorption rate") in 2006 and if this doesn't impress, consider that this percentage is only slightly less than the 83% absorption achieved during the irrational exuberance days of 2000. In 2006 most other local markets sold in the 60% range.
Even more impressive is that the average entry-level Palo Alto SFR sold with an overbid of almost 4%, while most other markets saw overbids barely above or below zero. And affordable Palo Alto was one of the very few markets with more sales in 2006. Average sales price went up about 4% in 2006, well off the 13.5% pace of 2005 but still a remarkable showing in an uncertain year.
What's going on? There must be plenty of buyers asking themselves this question. Palo Alto is a great place with a great reputation, and the number of people who don't live there but would like to is legion. Some have tried in the past, but settled for "acceptable substitutes" like Fremont and San Jose. But lately homes in their neighborhoods are taking longer to sell, or don't sell at all, and naturally they're thinking that Palo Alto must be slow too. So they descend en masse on Palo Alto just as inventory is shrinking, because this isn't 2001 and not many homeowners have to sell. More demand, less supply: cue that familiar Palo Alto refrain, multiple offers and rising prices. And if that's not enough to guarantee them an uphill battle, most of these buyers are using their Fremont or San Jose agents, which means that if a Palo Alto house has forty-seven offers, as happened last week, they'll come in forty-eighth.
Palo Alto CID (condos and townhouses) also performed strongly in 2006, although sales slipped 16%. Top-end Palo Alto sales dropped 16% as well, and relative demand was down even more, well below that of entry-level Palo Alto, but this pricey sub-market still managed a modest 2% price increase.
Entry-level Menlo Park SFR wasn't as scintillating as entry-level Palo Alto in 2006, but nonetheless gave a solid performance. Absorption was a strong 71%, prices were up about 2% and the average overbid a better-than-average 1.9%. All this despite sales falling 15%.
Sales of Menlo Park CID held steady in 2006, although the percentage of listings sold declined. Buyers were pickier but willing to pay for the right property, and prices rose about 5%. Part of the reason for this strong performance is that Menlo Park's many large townhomes, always popular with down-sizers, are also increasingly attractive to young families looking for space, highly-regarded schools and great neighborhoods.
The top-end Menlo Park market has been remarkably consistent during the ups and downs of the past six years, and in 2006 its strong performance rivaled that of entry-level Palo Alto. Sales were down 18% but so was inventory, and prices gained about 3%. Top-end Menlo Park doesn't have neighboring Palo Alto's history of high overbids, and 2006 was no exception, with homes selling near list price on average.
Mountain View has been one of the hotter cities lately, and both its SFR and sizeable CID markets saw little drop-off in 2006. This assessment may sound unduly optimistic, given that sales plummeted a whopping 23% and 18% respectively, but inventory also nosedived and when you've got less to sell, you sell less. Relative demand slipped just slightly. The Mountain View SFR market is quite small, especially west of El Camino, and just about anything in that sought-after area of good neighborhoods and well-regarded schools sold quickly. CID was equally strong, although in this case the driver was Mountain View's fine downtown. SFR prices were up about 3%, CID prices essentially flat. All in all an instructive performance for anyone wondering if Mountain View can hold its own with established markets. Which suggests it's one of those established markets.
Between remodels and new construction, Los Altos seems to keep most of the local contractors busy (at least the ones not working in Atherton). New spec homes, increasingly grand, have become a factor in the Los Altos market over the past six years, and this trend continued in 2006. New-home sales went up, as did inventory, and relative demand held steady. This may signal that builders are optimistic about the market, or it may just mean they're finishing projects started during the boom days of 2004.
At the other end of the price range, entry-level Los Altos (anything under $2M) continued to wind down from 2004's torrid pace, but stayed as strong as any local market. It's testimony to the desirability of Los Altos, and to the amount of money in this area, that $1.7M fifty-year-old fixers still sell briskly.
CID isn't a big part of the Los Altos market, but sales were up substantially in 2006 and relative demand held steady, while prices crept up on an adjusted basis.
Cupertino is the South Bay's south Palo Alto, a sought-after city known for its schools and comfortable way of life. In fact, Cupertino sells for only slightly less than entry-level Palo Alto, so you might expect Cupertino to sell just as strongly. But overall the Cupertino market turned in one of the poorest performances here. Given its recent history, that's not surprising: Cupertino almost disappeared in 2001.
But that's not the whole picture because, like Palo Alto, the strength of the Cupertino market is in the entry level. Sales under $1M were strong, with an average overbid of about 2%, high for the 408 area code, where a house can get six offers and still sell below list.
What happened to top-end Cupertino? A rising tide raises all ships, but not vice versa. In a hot market, buyers with $1.7M or so find the going slightly easier in Cupertino than in, say, Los Altos or Palo Alto. That's rarified air for Cupertino, and it gets you lots of house. But in a cooling market, buyers think twice before spending that kind of money in a city not known for its top end.
Condos and townhomes are almost an afterthought in Cupertino, but this small market weathered 2006 well. Sales held steady, inventory was up only slightly, and prices rose 2% or so.
The 2006 Sunnyvale SFR market proved that real estate is local. Not just regional-, county- or city-local, but neighborhood-local. Despite a miserable August and sales down a thumping 33%, Sunnyvale's city-wide numbers suggest that it plodded through an undistinguished but decent 2006. That's misleading.
Sunnyvale is a more nuanced market than you might expect, and 2006 was a tale of two Sunnyvales. One was north Sunnyvale, an entry-level area north of Central Expressway, where relative demand plummeted to a level not seen since the bad old days of 2001. Amazingly, prices held, and the average home even sold for slightly above list, although this should be taken with a grain of salt in a neighborhood where seller credits to buyers are common. But north Sunnyvale was the only part of the city where inventory didn't decline dramatically, and when only 56% of homes sell in a market where 79% sold the year before, you wonder if maybe this part of the market will get worse before it gets better.
At the other end of the city (and price range), Sunnyvale neighborhoods with highly-regarded Cupertino schools had a banner year. Absorption fell to 73% but that's still quite good, ten points above the area average and light years ahead of north Sunnyvale. Prices went up by more than 5% and, even more astounding, the average days on market crept up just one day to 16. Sales were down 31% but no one seemed to notice.
Sandwiched between, both geographically and in price, were the neighborhoods west of Central with Sunnyvale schools, including the up-and-coming Cherry Chase area. Sales were way down but absorption hung in at 70%, while prices managed to gain about 4%.
Sunnyvale's large CID market held its own, faring better than north Sunnyvale SFRs but not as well as that city's other SFR markets. Demand was so-so, prices virtually flat. Not a triumph, but not a disaster. In 2006, that's all we asked.
Santa Clara rode out the last big real estate downturn, the dot-com bust of 2001, better than most of the cities we're covering. In fact the Santa Clara CID market and most of its SFR market actually gained value in 2001, while other cities lost 15% or more. This stability was more an indication of what drove the Santa Clara market thenwages, not stock market wealththan a sign of staying power. But Santa Clara also turned in a credible performance in 2006. Both SFR and CID sales fell a whopping 26%, and relative demand fell substantially as well, yet prices ended up 4% higher overall.
But like Sunnyvale, the Santa Clara market is more nuanced than it might appear. Drive its neighborhoods and, except for a small section near the university, all look much the same. But in one corner of Santa Clara, affordable prices and sought-after Cupertino schools create a level of demand that more resembles red-hot entry-level Palo Alto than the usual slow-paced South Bay market. Prices went up almost 5% in 2006, compared to about 3.3% for the rest of the city. Relative demand was blistering by any standards: eight of ten Santa Clara homes for sale in the Cupertino district sold, compared to only six of ten elsewhere in Santa Clara, and they sold almost a week quicker. A school district with buzz makes all the difference.
Relative demand for Campbell CID was brisk until 2006, when fewer than six in ten sold. Although this pace was significantly slower than cities to the north such as Mountain View and Sunnyvale, it was about average for the South Bay.
The same can also said of Campbell SFR, which was never as hot as cities to the north and slowed before they did. Like most of the South Bay, Campbell offers pleasant neighborhoods and solid schools, but "pleasant" and "solid" are mid-pack descriptors and, again like most of the South Bay, Campbell's performance was mid-pack.
It's 2001 all over again: the story in Redwood City was the affordable end of the SFR market, east of El Camino, which got through 2006 better than the higher-priced markets west of El Camino. Sales east of El Camino were almost identical to 2005's numbers, and close to 2004's record pace. That's newsworthy, considering the pounding other affordable SFR markets took last year, both in East Palo Alto and in the South Bay (and in the Central Valley, a market with strong connections to this price range). Prices were up a healthy 4%, although some of this may have gone back to buyers as credits. The one dark cloud was a slight increase in inventory, in contrast to most local markets, and worrisome in a market where 100% financing has been common.
The story was different west of El Camino. Sales dropped almost 17%, and an eye-opening 27% since 2004. Yet prices held, a moral victory in the face of such drastic fall-off in demand. Give an assist to declining inventory, something true of much of Silicon Valley.
The third significant market in Redwood City, condos and townhouses across 101 in Redwood Shores, also gave a plucky performance. Sales were off 15%, and 37%yes, 37%from 2004 but, again, prices refused to budge.
Declining inventory has saved Silicon Valley from most of the downside of caving sales, but leave the Valley's orbit and inventory stays at its 2005 or even swollen 2004 levels. It's yet another amazing aspect of an amazing 2006 that even when inventory refused to go on a diet it had minimal impact on the San Carlos SFR market. In fact, prices rose over 3% on an adjusted basis in 2006 and absorption, while down, was about average for the area. It's not supposed to be this way; San Carlos buyers, I feel your pain.
This won't make you feel any better: sales of San Carlos CID went up, and while inventory did too, relative demand declined almost imperceptibly. Prices were flat.
Like San Carlos, Belmont inventory has held steady since 2004, although here the results are mixed. SFR sales barely slipped in 2006, and relative demand was a strong 71%. Good news for sellers, although prices stayed flat.
Belmont CID is barely a blip on the screen (much of its sales come from one building) but for what it's worth, the numbers were largely unchanged for 2006. That's not as good as it sounds. Demand was down sharply in 2005, and when only six in ten homes listed selltwo years in a rowthat's a slow market. On a more upbeat note, prices didn't go down.
With 444 sales last year, San Mateo CID is much more than a blip on the screen, but its 2006 performance paralleled neighboring Belmont's tiny CID market: slow. And finally we reach a market where prices went down, and by almost 5%. It's no coincidence that this happened in a market where sales were down 10% and inventory up 14%. That a buyer's market, although not biased enough toward buyers to have them breaking out the champagne.
San Mateo's SFR market runs the gamut, from ultra-top end to ultra-affordable, but we'll divide it into two markets demarcated by El Camino. The markets both east and west of El Camino continued a pattern started in late 2005. Sales were down slightly, relative demand down a bit more, and inventory up just slightly. Prices were flat.
East Palo Alto and Menlo Park east of 101 (Belle Haven)
This was the only market in Silicon Valley where those gory stories about the death agonies of real estate came closest to being true. Bubbleheads rejoice.
The problem wasn't plunging sales: they declined just 4%. The problem was inventory, inventory, inventory; more inventory than at any time in recent history. In 2005 there were 291 homes for sale there, down slightly from the year before. 2006 inventory was a staggering 444 homes, a 53% increase in one year, and I'm missing a few homes listed by East Bay brokers who didn't put their listings on our MLS.
What's going on? In talking to scores of agents who regularly work this areaI was trying to sell a Belle Haven listing (and eventually did)I heard many explanations, but the bottom line is that not everyone is benefiting from the upsurge in the local economy. Much depends on which side of 101, or which side of the Altamont Pass, you live. It's a window into other parts of California, particularly the Central Valley, where real estate is reportedly on the ropes.
But that Valley and our Valley differ in two significant ways. First, East Palo Alto isn't overbuilt. Secondand stop me if you've heard this oneprices went up, and by a healthy 5%, although this isn't necessarily a take-it-to-the-bank number in an area where credits to buyers are common.
If you haven't already, check out my report on the 2006 East Palo Alto/Belle Haven market (immediately above). Throw derailing prices into the mix and that's the train wreck many market watchers predicted for every Silicon Valley neighborhood last year. I suspect that many of them, on the periphery of the market, believe it happened. Others are convinced it's only a matter of time. There may even be a few people left who don't care.
Let's deal with foreclosures first, since they're widely seen as the sword hanging over real estate. Foreclosures happen in all neighborhoods, but the foreclosure Web sites confirm that, so far, they're happening far more in neighborhoods like East Palo Alto and Belle Haven. For example, Belle Haven homes are now twelve times as likely to be in some stage of foreclosure as homes elsewhere in Menlo Park. At this rate foreclosure sales may soon reach critical mass in that neighborhood; my Belle Haven seller may have gotten out just in time.
It may seem inevitable that if prices erode at one end of the market, prices in other markets will go down as well. But that's not necessarily true, as this report shows. You've seen that the condo and single-family markets in a city can move in different orbits, and that even the various SFR price ranges in a city can go in different directions. 2001 also confirmed how insulated the various price ranges can be. The top end has been mostly comatose since then, while everything below it has gone from strength to strength. Prices in entry-level SFR markets went up modestly during the dot-com meltdown while they plunged 15 to 40 percent elsewhere.
Finally, my experience working both sides of 101 suggests that few buyers seriously cross-shop these markets, just another indication of how stratified Silicon Valley is. That's why these markets took different paths in 2001, and why I think they'll do so again in 2007. That's not to downplay the real and regrettable human cost in the affected neighborhoods. It is to downplay the effect this is likely to have on real estate prices in other neighborhoods.
There's another factor in play in 2007: Silicon Valley is back. Permit me to blow my own horn: I realized we were back in January 2006, before I saw it in the media or even in the job counts, not because I'm an insider or clairvoyant, but because suddenly an influx of new arrivals was descending on us looking for rentals with an intensity strongly reminiscent of 1995. And even back in the dark days of 2001 I knewor strongly suspected, or maybe just really hopedwe'd be back, because I knew that Silicon Valley wasn't born in 1995. We've weathered five cycles of boom and bust just since 1971 when Silicon Valley got its name; sometimes it pays to be old enough to remember that far back. Our resiliency comes from ideal location and weather, and from infrastructure extremely difficult to replicate. That's why I discount the doomsayersthis is the sixth time in thirty-six years they've been wrong. That's why I think Silicon Valley real estate is a great long-term bet.
The short term doesn't look bad either. In fact, I'm tempted to say that the early returns have sellers aheadagainbut I won't; it's too soon. The numbers indicate that January 2007 was more active than January 2006 in twenty-two of the thirty markets covered here, and results from three other markets are close enough to fall within the margin of error. Nearly all Coldwell Banker offices throughout the region are reporting that sales and open house attendance are up compared to this time last year. It's still early, of course, and only ten of the markets covered here are at or near the boom-market level of activity they saw in January 2005 (although come to think of it, even that's a surprisingly encouraging sign). But usually as January goes so goes the year, and a faster pace suggests Silicon Valley real estate may have bottomed.
The winners this year look to be the usual suspects: Palo Alto, Menlo Park, Mountain View, Redwood Shores, Cupertino, Los Altos, Campbell, Sunnyvale south of Central and the Santa Clara and San Carlos SFR (single-family residence) markets. You'll notice that most of these cities are in Santa Clara County, which weathered 2006 better than San Mateo County. Redwood City and San Mateo SFR west of El Camino are also probably good bets, as is Belmont SFR, although it's off to a very slow start. My guess is that prices will rise modestly again in 2007, a bit more than in 2006 but still in the single digits, although this could be conservative if inventory stays critically tight, especially in high-demand cities like Palo Alto.
Surprised? Amazed? Astounded? Me too, but real estate has been surprising and amazing me since 1998usually in a good way.
I'm less optimistic about the South Bay CID (condo and townhouse) market, and about CID from San Carlos north. They're not doing any worse, by and large, but they're not doing any better either. We've lost many of the first-time entry-level buyers for the moment. They don't have positive experiences with homeownership to neutralize the real estate horror stories they hear, and they're at a stage of life when it's not hard to put off homeownership for another year. Their fear, of course, is that prices will go down as soon as they buy, but the entry-level CID market is one of the least volatile in terms of price. It is, however, one of the more volatile in terms of demand, with buyers leaving early in a downturn, then waiting until well into a recovery before returning en masse. But contrarians are rare in any price range. My guess is that these entry-level CID markets are in for another year of whatever 2006 brought them, usually flat prices and comparatively sluggish activity.
The wildcard here is that real buyers will put their lives on hold for only so long, especially if the market looks like it's stabilizing, and some of them have waited two years.
I'd definitely watch for trouble in East Palo Alto, Belle Haven, north Sunnyvale, and Redwood City and San Mateo SFR east of El Camino. Not all are slumping, but all show red flags of some sort. If prices do go down, we may see investors return to these neighborhoods after a long absence.
The 800-pound gorilla in local real estate, in 2007 and beyond, isn't foreclosures. It's the wave of new arrivals now renting. No two real estate cycles are the same, but 2006 looked a lot like 1995, a year when rentals rebounded sharply and the sales market saw modest gains. By 1998 many new arrivals had decided they liked it here well enough to buy, and the sales market took off like a rocket.
It's happened here many times. I don't know why it won't happen again.
