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No housing bubble in expensive regions (like bay area)?
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2010 Sep 29, 4:43pm 11,427 views 46 comments
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SFace
2010 Oct 2, 5:06pm
The original assumption of average salary and average house is flawed.
1) average salary represents sum of Cupertino households
2) average household includes apartments/rentals which is about 33% of Cupertino housing. In San Francisco, your average resident is a renter. In Cupertino 1/3 of the households are renters.
3) Average house price and affordability is quite misleading. Half the homes are purchased before 1989, meaning half the residents already locked in a cost that may be less than 500K equilvalent. Perhaps if you pooled every households debt on their home accounting for when it was purchased, it's probably in the 500K range, not 990K. If you layer in the fact that homeowners make 175K and renters 110K in Cupertino, then salary to cost is not out of whack.
An average salary is not gonna be enough to buy a SFH in Cupertino, that's just the way it is going to be. IMO, it takes about 250K gross income to buy a house and raise a family of 4 in Cupertino. This town attracts plenty of 200K+ households so median salary will be pushed up even in with the great recession.
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I am wondering if there is not much bubble in the regions that have expensive houses (like bay area)? Here is why: expensive houses are owned by people with high income, and they can afford to pay a mortgage that is a higher proportion of their income and still have enough money left to survive. Let's use an example to illustrate:
In Cupertino, CA, median household income in 2006-2008 is 140k, and median house price is 990k. With 20% down, mortgage amount is 5.6x annual income, higher than the 3 ratio suggested by Patrick. However, let's calculate how much money is left every month:
Monthly gross income = 140,000 / 12 = 11666
After 50% income deductions (fed tax, state tax, 401K, ESPP,etc) = 11666 * 0.5 = 5833
30 year mortgage payment (rate 4.75) is 4156 (tax deduction is about the same as property tax)
So every month there are 5833-4156 = 1677 left. With $1000 food+cloth, $300 utilities, and $200 for maintenance, the family can afford the mortgage.
But the same story won't be true if we cut both income and house price by 3:
Gross Income: 140k/3 = 46k
House price: 990k/3 = 330k
Monthly gross income = 46,000 / 12 = 3833
After 30% income deductions = 3833 * 0.7 = 2683
30 year mortgage payment (rate 4.75) is 1371
Now tax deduction is not as much and cannot offset property tax, so add $200 (property tax - interest tax deduction)
Monthly mortgage = 1571
So every month there are 1112 left. After $66 maintenance, $200 utilities, it is hard to cover the food cost alone.
Therefore, the 5.6x annual income is more for the average income families, not for high income families. The above numbers are for illustration, and of course they are very simplified. But my point is that higher income families can afford houses with higher ratio to their income than average income families.
How the house price in Cupertino changes in the past several years also let me think my theory has its merit, because its price drops much smaller than other lower priced region. And since the people buying Cupertino houses are not stretching their ability of paying mortgage, house price in Cupertino will not crash.
Are there flaws in my reasoning? I welcome any critics.
#housing