The ever elusive bubble that the media discusses has pretty much yet to evolve. I did some research and found the first mention of over-inflated properties back in 2001 when columnist Broderick Perkins interviewed several real estate bubble watchers to find out their definition of a sellers versus a buyers market.
Simply put, you know you're in a sellers market when the buyers have little or no power in the negotiating arena during the sales process. These bubble watchers were defining a buyers market as a market where there was a certain amount of inventory on the market -- generally upwards to nine months of homes. Some brought it down to as low as three months and others pegged it right in the middle at six months.
I would default to the lower end at three to six months of inventory. At this level, while buyers are not in absolute control of the market, if sellers prepare the house well and price it right, they'll find multiple buyers at the door; however, all things being equal, it will linger on the market and sellers are more willing to provide subsidies and drop prices.
The way you determine this supply of inventory is by dividing the number of homes on the market in a given month by the number of houses sold that same month. Example: 5,000 houses on the market; 2,500 of them sell. This equals a 2 months' supply of homes, meaning that if no other houses come on the market, all the houses will be sold within 2 months.
Generally, here are the characteristics of a sellers' market:
- Booming local economy. Local businesses are hiring at a brisk pace. New companies are opening up shop.
- Low existing housing inventory. More jobs are coming into a market where there's not enough inventory to house all the workers, thus creating financial pressure on local resale units.
- Builders are not producing enough homes to fill the job base. In the Washington, D.C. market, for instance, the local economy is pumping out more than 80,000 jobs in 2005, yet only about 35,000 houses are coming on line during the same period of time.
- Home sales prices are escalating. Over the last several years, the national increase has been in the five to seven percent range. In a seller's market, it's not unusual to experience double digit increases. Some communities could double in price in just a year or two.
- Buyer contracts begin to come in non-contingent. Buyers want to purchase a house, period. They no longer offer under list price, ask to sell their house first before settlement, or try to buy without financing already approved. There is no negotiating for the "perfect" terms. Getting the house, is the perfect term.
- Seller subsidies disappear. While buyers used to ask for some sort of assistance -- lower price, points paid, closing costs -- the buyers must come to the table without any help from the seller.
- High down payments become the norm. Buyers benefit from high appreciation and begin bringing down payments such as 25-plus percent to the transaction.
- Appraisals are no longer needed to qualify for the purchase price. With down payments of $100,000-plus, there's plenty of equity coming to the table to ease the risk factor for most lenders so that the appraised value is not as important as the actual purchasing price. If the appraisal comes in $20,000 less than asking price -- that's okay, because the buyer has enough cash to compensate for the lower value.
When you're looking at the other end of the spectrum, the buyers' market would look like this:
- Job growth eases or turns into job losses. Local companies are closing, a particular sector goes bust (telecom, manufacturing, etc.) and there are no longer enough people in town to support the local housing inventory.
- The above situation creates a higher standing inventory, thus more houses appear on the market as people move out of town to find jobs elsewhere. Builders, who may have been building homes in the tail end of a seller's market, may find that they are now stuck with speculation homes they can't sell.
- Foreclosures increase as the local job market softens. This creates a new venue of market with investors moving in to find good deals.
- Home prices begin to depreciate and some homeowners will find themselves "upside down" in their property -- owing more on the house than what it's worth.
- Some sellers may have to come to the table with money to sell the house instead of reaping a large amount of equity. Meanwhile, other sellers will option for a short sale where they take action to return the property back to the lender instead of filing foreclosure.
- A first-time buyer market emerges as the once high prices drop to a level where some can afford to purchase now. This will bring about the use of low- to no-down payment mortgages in a market where they can negotiate the use of such mortgages.
- Seller subsidies increase. Whereby the buyers once had to turn over first-born children to the sellers, now it's the other way around. Price drops, closing costs assistance, and other seller subsidies become the norm.
If you noticed, interest rates and the prices of houses did not determine a sellers' or buyers' market. Some of the hottest markets in the past existed in high priced and high interest rate environments.
Mr. Carr has covered real estate since 1989. He is the author of Real Estate Investing Made Simple. Got a personal real estate issue? Post your questions and comments at Anthony's blog.