In this article we explore the health of real estate for January 2009 in La Jolla, Coronado, Downtown, Del Mar, Solana Beach and Encinitias
Over the last 12 years, La Jolla (defined for the purpose of this analysis as all attached and detached residential properties listed with the San Diego Multiple Listing Service for the 92037 zip codes) has seen its inventory (or the daily average number of properties listed for sale) rise and fall, mostly due to seasonality. However, only in the last 2 years has La Jolla set record inventory highs (Chart A). Typically, La Jolla’s inventory levels would fluctuate between 300 and 450 properties. Over the last 2 years, inventory levels have been fluctuating between 450 and 600 properties, creating almost an entirely different market.
Compounding the additional supply has been a reduction in demand (or the number of properties sold). Over this same 12-year period, monthly sales have typically fluctuated between 60 and 80 properties. However, over the last 2 years, monthly sales have dropped to between 40 and 60 properties. This divergence of demand and supply exasperates the over-supply condition. Neither variable means much alone. They must be analyzed in respect to the other. If inventory rises proportionally to the rise in sales, values are supported. It is when one or both of these variables become dislocated from the other that values are susceptible to change. Over the last 2 years, La Jolla has seen both variables move away from one another, as well as set new individual extremes. This is exemplified by the ratio of inventory over sales. Historically, this ratio has been about 6 listing per sale. Over the last 2 years this ratio has doubled.
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However, before we throw the baby out with the bath water, there is some positive news to consider, if we look closer and depending on whether you are a buyer or seller. While inventory levels have been fluctuating between 450 – 600 properties (higher than the historical norm of 300 – 450), over the last 4 months inventory has come down to approximately 450 properties. Not only that, but if we look at individual price tiers within La Jolla, some are in better shape than others from a supply/demand perspective. Remember, an overall ZIP code statistic represents the subpopulations within that ZIP. It is a mistake to presume they look like each other, just like it is a mistake to presume a ZIP looks like its county.
For example, we segmented La Jolla real estate into 3 price tiers by original listing price: 1) Properties less than $750,000; 2) Properties greater than or equal to $750,000 and less than $1,750,000; and 3) Properties greater than or equal to $1,750,000. Immediately, we can see that the inventory of properties with an original listing price of less than $750,000 has been trending down significantly (Chart B). When we compare the first 10 months of 2008 to the same period of 2007, inventory has declined 25%. Not only that, but new listings have decreased, sales have increased, and marketing times have become shorter for this price tier (Chart C). Albeit, median price has declined 8%; nevertheless, this price tier has made tremendous headway towards establishing normal market conditions.
On the other hand, the two upper price tiers have not made such a steady inventory decline (Chart B). Only since summer has the middle tier reduced its inventory, most likely the result of seasonality, and the upper price tier is still at record levels with relatively no change since last year. With sales down nearly 30% from last year for this upper price tier, and marketing times nearly 40% higher, this subpopulation appears the most vulnerable to the supply/demand dislocation occurring in La Jolla. While the middle tier still appears to be soft, it also looks like it is further along with correcting itself. Prices have come down, accelerating closings and helping to maintain year-over-year demand.
Going forward it will be important to keep an eye on the overall supply and demand trends cited above, particularly with respect to properties above $750,000. However, at the same time, it would be unreasonable to expect to fully reach historical norms. As we all know, going forward, credit or underwriting guidelines will be tighter than before…and rightfully so. Consequently, fewer will be eligible to purchase a home. Less eligibility means fewer potential buyers, thus fewer sales. Fewer sales, means less turnover or flipping due to artificial appreciation. The end result will be lower historical norms; however, a much more stable and accurately priced market.
Coincidentally, when we look at the historical inventory or the daily average number of properties listed for sale over the last 12 years for Solana Beach/Encinitas (defined for the purpose of this analysis as all attached and detached residential properties listed with the San Diego Multiple Listing Service for 92075 and 92024 zip codes, respectively), it looks a lot like La Jolla. Historically, inventory has trended between 200 – 450 properties. However, like La Jolla, over the last 2 years Solana Beach/Encinitas inventory has veered off its historical trend, creating higher lows and highs (Chart D). (This is not a global phenomenon within the county. For example, Rancho Santa Fe, the neighbor of Solana Beach and Encinitas, has not broken out of its historical inventory trend levels. See the November 2008 edition of this editorial.)
The positive news is that these new higher inventory levels have not been increasing over the last 2 years. They initially spiked 2 years ago, pushing inventory levels around 650 properties. Since then, inventory has been fluctuating in a downward direction, but never dropping below 400 properties: a number that was once near the ceiling of the historical trend, not the floor.
However, even though inventory levels have been trending down off their highs from two years ago (Chart E), it probably does not feel like it to the Solana Beach/Encinitas real estate market. As we mentioned above, in the La Jolla segment, what the market “feels” is not the absolute inventory level, but the ratio of inventory-to-sales, or supply-to-demand. What this ratio represents is the number of properties available for sale per every property sold. Historically, monthly sales have had a mean trend between 80 – 100 properties. Towards the end of 2004, sales have been trending down. The last 12-month sale trend has been between 40 – 60 properties. Consequently, even though inventory has been declining from its 2-year high, sales have been declining faster, resulting in an increasing supply/demand ratio. To the average Solana Beach/Encinitas buyer and seller, the trend continues to be more homes available for sale per home sold.
When we segment the market into price tiers and look at how the supply/demand ratio has been trending for each tier since January 2007, we see some disparity between the tiers. For this analysis, we segmented Solana Beach/Encinitas real estate into 3 groups by original listing price: 1) Properties less than $750,000; 2) Properties greater than or equal to $750,000 and less than $1.3 million; and 3) Properties greater than or equal to $1.3 million. Like the overall population, the two upper-price tiers have been trending upward since 2007, essentially doubling the number of properties available for sale per every property sold. From an absolute perspective, the highest tier, properties with an original listing price greater than $1.3 million, has the largest current supply/demand ratio, then the middle tier, and finally the lower tier. The lower tier, properties with an original listing price less than $750,000, is the only tier to have essentially same supply/demand ratio today when compared to January 2007. Part way between January 2007 and November 2008 it rose like the other two tiers, but it was the only price tier to come down and correct itself back to January 2007 levels.
It is important to realize that even though the lower tier has corrected itself to January 2007 supply/demand levels, these levels are still on the high side of historical norms. However, this tier is at least within range of historical norms, yet it only represents one subpopulation of the Solana Beach/Encinitas real estate market. Going forward, properties with an original listing price greater than $750,000 still have unprecedented excess supply relative to demand, leaving them exposed to further valuation deterioration or at least more so than the bottom price tier.
Over the last 12 years, Coronado (defined for the purpose of this analysis as all attached and detached residential properties listed with the San Diego Multiple Listing Service for the 92118 zip code) has seen its inventory (or the daily average number of properties listed for sale) fluctuate. However, only in the last 2 years has Coronado set record inventory highs (Chart G). Prior to 2 years ago, the highest inventory level reached was in 1997 with 200 properties available for sale. Since then, inventory declined and ultimately leveled out at 150 properties on average. Today, inventory is bouncing around 250-300. That’s an 80% increase in inventory.
Unfortunately, sales have not been keeping up with this rise in inventory. Actually, they have declined. While inventory levels are at record highs, sales are at record lows. From 1997 to 2007, the average number of sales for the first 11 months of each year has been approximately 270, compared to 161 for the first 11 months of 2008. That’s a 40% decline in sales juxtaposed against an 80% increase in inventory. If we plot average daily inventory per month by the number of sales each month, we can see that ratio has been increasing over the last 2 years (Chart H). The ratio of ‘Inventory/Sales’ has gone from a historical trend of 6 to now 17 (with some sharp periodic upward spikes over the last 2 years). Essentially, what this means is that historically for every house sold 6 were for sale. Over the last 2 years, that number has averaged 17 and climbing, nearly a 200% increase.
That’s the macro picture, but, when we look at the micro picture, we see that some subpopulations in Coronado are behaving better than others. We segmented Coronado real estate into 3 groups by original listing price: 1) Properties less than $1.5 million; 2) Properties greater than or equal to $1.5 million and less than $2.4 million; and 3) Properties greater than or equal to $2.4 million. For each of these price groups, we compared their performance in the first 11 months of 2007 to the same period of 2008. The difference in inventory behavior was particularly evident (Chart I). The inventory of properties with an original listing price less than $1.5 million grew 22.5%, while the inventory of properties above $1.5 million contracted slightly. Not surprisingly, median price changes reflected this inventory situation. Properties with an original listing price less than $1.5 million witnessed a 9.1% median price decline, while those above $1.5 million either stayed flat or increased nominally (Chart J).
Consequently, of the three subpopulations, the bottom tier looks the most vulnerable to price weakness going forward, due to its excess inventory. However, this does not mean the two upper tiers are out of the woods. If we go back to our macro inventory analysis, we estimated historical mean inventory levels around 150 properties and current mean levels around 250. Even if the inventory level of properties with an original listing price less than $1.5 million corrects back to its January 2007 level, that is only a total market reduction of 50 properties, 130 – 80 (Chart I). That still leaves the market with an excess of 50 properties on average above historical mean levels. Also, given that sales probably will not be as active under more stringent lending guidelines, inventory will have to further adjust from historical levels, pushing total inventory market reduction beyond the 50 properties. However, all-in-all, given their relative inventory levels to Coronado’s macro real estate market, properties with an original listing price greater than $1.5 million look the best positioned for this future correction.
Downtown San Diego
If anyone has any doubts about the growth of Downtown San Diego (defined for the purpose of this analysis as all residential properties in the 92101 zip code) over the last 12 years, just look at Chart K. This chart depicts how residential inventory or the daily average number of properties listed for sale has grown, since 1997. At first sight, this chart is rather ominous, especially when we have been discussing excess inventory. However, remember, inventory is only half of the story.
As we have detailed in previous editorials, downtown’s inventory has grown dramatically because of the addition of new, large luxury condominium buildings now flanking its shore line. Higher inventory is not a problem, if there is a proportionate increase in sales or demand to accompany the growing inventory. These new buildings did just that. Chart L shows that listed sales have in fact grown too. However, to assess whether sales of grown enough to keep up with the growing supply, we need to compare Inventory to Sales. One way to do this is by watching how the ratio of Inventory over Sales changes with time. As we saw when analyzing Coronado, this ratio essentially tells us how many properties are for sale given every property sold.
When we plot ‘Inventory/Sales’ for all listed properties and sales, we get Chart M. Interestingly, unlike the other areas we have covered, Downtown San Diego already had an excess supply situation. Between 2001 and 2003, Downtown San Diego watched its Inventory to Sales ratio go from below 5 to in the 20s, then back down below 5. If we look at the Inventory for that period (Chart K), we see there was a growth in inventory during that period. This was the effect of new supply from condominium construction increasing inventory faster than sales. However, as we can see from Chart M, this excess inventory was eventually absorbed to where inventory and sales once again reached equilibrium.
Since then, a new excess supply condition has been created (Chart M). It started back in 2005, peaked in 2007, and has since been declining. Currently, it is about at mid-level compared to the 2001-2003 condition. Essentially, for every listed property sold, there are 10 available. This is about twice the level where the 2001-2003 condition bottomed out at and about twice the normal condition of Coronado, its neighbor across the bridge. However, given that turnover is higher with condominiums, normal levels might turn out to be slightly higher than the 2001-2003 bottom.
Frankly, Downtown’s situation looks better than expected. Equally promising is that we can see from 2001-2003 that Downtown has experienced and corrected itself once before from a similar Inventory/Sales scenario. Furthermore, it looks well on its way to correcting itself once again. Even when we look at inventory at the micro level we can see that inventory has either remained relatively flat or declined (Chart N). We segmented Downtown San Diego real estate into 3 groups by original listing price: 1) Properties less than $500,000; 2) Properties greater than or equal to $500,000 and less than $700,000; and 3) Properties greater than or equal to $700,000. When we look at how inventory has changed from 2007 for these three groups, we can see that properties with an original listing price greater than or equal to $500,000 and less than $700,000 have drastically reduced their inventory nearly 50%, while the other two subpopulations have remained relatively flat. Given the longstanding worries many have had about an inevitable inventory glut due to new construction, Downtown San Diego looks no different than other high-end areas that had relatively little new construction over the last 5 years.
Written by Linda and Tom Sansone
Willis Allen Real Estate
Phone (858) 775-6356