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Sunday, September 3, 2006 - Page updated at 12:00 AM

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Home prices' long rise: Is the end near?

Seattle Times business reporter

Princeton economist Paul Krugman, writing in The New York Times, said: "The long-feared housing bust has arrived."

Nationally speaking, anyway.

If history is any indication, King County may escape it, according to a Seattle Times analysis of single-family-home prices. It shows that appreciation rates have risen and fallen, sometimes precipitously.

But not once since 1985 — through recession years, interest-rate spikes, wars and employment downturns — has the countywide median price of a single-family home fallen, although it's come close.

A federal study, which goes back further, reveals nine months of Seattle-area price declines in the early 1980s that were followed by quick recoveries.

"Seattle has never been a market that's prone to price drops," said economist Matthew Gardner of Gardner Johnson, a Seattle-based land-use-economics firm. "The way it works is, prices climb, plateau, stay there and then climb again. You might see an area where there was a short-term drop but not an across-the-board drop."

Gardner predicts Seattle-area home prices will soften but not sink.

That's seconded by economist Dick Conway, co-author of the Puget Sound Economic Forecaster. He estimates that local appreciation will slow to 2 to 3 percent a year, roughly what it was in the mid-1990s and much different from the double-digit appreciation we've seen in recent years.

But realistically, is there any reason Seattle's prices shouldn't take a dive if that's happening in other cities?

San Diego home prices are already shaky, and the area may not have seen the worst.

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A market-risk index compiled by PMI Mortgage Insurance calculates that San Diego faces nearly a 60 percent chance that home prices will fall in the next two years — the highest for any U.S. city.

Boston, Sacramento, Los Angeles, San Francisco and San Jose all have a 50 percent or greater chance of price dips, PMI says.

Then there's Seattle: about 11 percent.

"When we see declines in prices, it's nearly always driven by a local economic shock first," said Mark Milner, PMI Mortgage's chief risk officer. "So what this index is basically answering is how vulnerable Seattle is to a local economic shock: not nearly as vulnerable as Southern California."

Seattle-area job growth is among the strongest in the country, Milner said, and the local unemployment rate is below its long-term average. Equally important, he said, is that Seattle's housing prices, while high, are still more affordable to local residents than prices in other coastal cities.

The median price of a San Diego-area home is $613,000, according to the National Association of Realtors. That's more than $200,000 above King County's median home price.

When affordability gets seriously out of range, prices generally stall or fall until wages catch up. That's happened repeatedly in San Diego, a city that's long experienced more price volatility than Seattle has.

Beginning in late 1999, San Diego's house prices climbed at least 10 percent a quarter — for 25 consecutive three-month quarters, according to the Office of Federal Housing Enterprise Oversight (OFHEO). Five of those quarterly increases each exceeded 20 percent. Then prices stalled.

San Diego also has a strong history of price depreciation: 24 quarters since 1977. The worst occurred from 1991 to 1995, when a depressed economy caused home prices to dip for 17 consecutive quarters. That's more than four years.

But the story in the Seattle-Bellevue-Everett area has been markedly different. The most recent run-up was seven consecutive quarters of 10 percent appreciation beginning in late 2004, years after San Diego's increase started. And none hit 20 percent.

Downturns in '81, '82

As for downturns, the Seattle area has experienced exactly three quarters when prices actually fell: one in 1981 and two the following year. Those were recession years when mortgage-interest rates hit 16 percent and buyers stayed away.

The worst of the downturn was fall 1982. Home prices in the third quarter of that year slid 7.6 percent, according to OFHEO. But it didn't last. The following autumn they climbed 11.1 percent.

King County's most volatile time occurred between 1989 and 1993. First came the boom years of 1989 and 1990.

"Those were exceptional years for population and job growth," Conway said.

Housing demand, propelled by a strong economy and buyer speculation, pushed prices up 45 percent in two years — a spike that hasn't been duplicated since. This is based on the Times analysis of home sales per square foot, a measure that allows for accurate cost comparisons regardless of house size.

While sellers rejoiced, buyers took it in the pocketbook: The median-priced King County house, which cost $97,500 in 1988, fetched $145,000 two years later.

"Speculation can take several forms," Conway said. "First-time buyers will often jump into a market if they're afraid they'll be priced out in the future. That happened in the '80s."

Real-estate experts said at the time that the stratospheric appreciation of 1989 and 1990 was unsustainable, and they were right.

In 1991 it was as if someone let the air out. The local economy stalled (while the rest of the country experienced a recession), and housing demand died.

Appreciation amounted to a more modest 4.8 percent over the next two years, which meant that the house that was worth $147,000 in 1991 was worth just $7,000 more in 1993.

While countywide prices didn't fall in actual dollar terms in 1991 and 1992, Conway said they rose less than the rate of inflation during those years.

Moreover, in half of King County's neighborhoods, prices indeed fell in absolute terms. The most dramatic dips occurred in areas that had experienced the biggest price run-ups.

Exclusive Madison Park along Lake Washington was one of them. The median price of a 1,500-square-foot house there was $240,450 in 1990 — and $31,000 less the next year.

Still, in most neighborhoods where prices fell, the drop was modest. In West Seattle, for example, the median price of a 1,500-square-foot house was $181,530 in 1990 and $180,120 in 1991 — a 1 percent drop that was soon reversed.

"Some sellers had their house on the market for two or three years, and the market did catch up to them," Redmond appraiser Alan Pope said, so they didn't lose money.

The ones who did lose, he said, were forced to sell quickly because of a job loss or transfer, a divorce or death of a spouse. There were many other neighborhoods — North Beacon Hill, North Greenwood and Vashon among them — where prices continued to rise during the early 1990s downturn.

Could prices fall?

In the past two decades, King County has experienced five years when appreciation has been 9 percent or higher, as it is now. Far more common is annual appreciation of 5 percent or less, and there have been 12 years of that, the Times analysis shows.

We're entering a period where appreciation will return to that lower range, Conway says, but he forecasts that prices in general will not fall.

What would it take for them to fall?

If owners who can't refinance their adjustable-rate mortgages flood the market with for-sale homes, that could do it, some experts say. But a shortage of available homes is what fueled the current price run-up, so it's more likely that such an increase — if it happened — would only moderate prices.

Economist Conway doesn't include the adjustable-rate-loan scenario among the possibilities that could cause a local dip.

"It would take some combination of a recession, a jump in inflation and a jump in mortgage rates to cause a big drop," he said.

If that happened, he's confident the Federal Reserve would take measures to stimulate the economy, allowing Seattle to again escape a sustained decline in home prices.

Elizabeth Rhodes: erhodes@seattletimes.com

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