Home Price Analysis for Austin, TX

With home prices rising strongly in most parts of the country, there has been widespread media coverage on the possibility of a housing market bust. A thorough analysis of the Austin-Round Rock metro market, as detailed below, reveals that there is very little danger of this. In fact, the local housing market is in good shape with a potential for significant housing equity gains, particularly for homebuyers who plan to remain in their house for the long run.

The Austin market has very favorable home price-to-income ratio and even better mortgage servicing cost-to-income ratio. The latter ratio is currently below the local historical average. It implies no widespread financial overstretching to purchase a home in the region. Any respectable gains in the local job market will translate into substantial home price gains.

A higher usage of interest only loans (14%) and ARMS (22%) places a greater exposure risk to interest rate changes. But the risks are mitigated from recent job additions of more than 14,000 in the past 12 months. Also a strong inflow of new residents helps support the local market.

Price Activity

The current price of $166,800 is 20% below the national average.

The median home price declined in 2003 and 2004, albeit very modestly. The price increase of 6% in the past three years makes it one of the slower appreciating areas in the country.

Price declines in the middle of the 1980s are associated with the Savings and Loans scandal and the collapse in the oil prices that impacted the Texas economy.

Among the large populated centers with a relatively high educated workforce, Austin is one of the most affordable places to live.

Affordability

Affordability conditions are one of the best in the country. The price to income ratio has been remarkably stable in the past 15 years. It has, in fact, has been declining in the past three years.

Mortgage rates declining to 45-year lows have been a major force in boosting home prices in recent years. Lower rates allow homebuyers obtain a larger loan without necessarily increasing monthly mortgage payments.

A more relevant measure for assessing the risk of a home price bubble is the median mortgage servicing cost relative to the median income. This ratio is well below the local historical average. It implies no widespread financial overstretching to purchase a home in the region. It in fact implies a capacity for a robust rise in home prices.

Local Fundamentals

Jobs took a hit in the recent recession. But, the situation is improving as 14,200 jobs were added in the past 12 months. Many new job holders seek their own housing units.

The region added an estimated 69,000 new housing units of which 48,000 were single-family units in the past five years.

The ratio of five-year job gains to five-year new home construction shows the "hangover" impact of the housing shortage, or housing surplus. In our case, the local market is oversupplied as the ratio is below one. But this ratio is largely a reflection of the job losses that occurred in 2002 to 2003. This ratio will strengthen once jobs are created on a consistent basis.

Other Factors

Interest-only loans accounted for 14% of all loans, while ARMS accounted for 22% in 2004 in the local region. Some homeowners, therefore, will feel the pinch of higher rates over time.

But due to the fact that only 21% of the loans have loan-to-value ratios above 90%, the foreclosure risk is minimal. (That is, prices would have to decline by more than 10% to have a measurable impact on foreclosure rates.)

The baby boomers are in their peak earning years and have been active in purchasing second homes, which many consider as their future retirement homes. The baby boomer impact will continue for another 10 to 15 years.

With many top southern retirement destinations becoming unaffordable in the past five years, some retirees may turn to more affordable regions of the country. Perhaps, the local region might see a slight lift as a result.

Stress Test

Price declines in the local market are unlikely according to our stress test.

The local housing market will experience a price decline of 5% only under extreme unlikely scenarios of much higher mortgage rates. For example, mortgage rates rising to 16% in combination with local job losses totaling 37,000 could lead to a price decline.

The local market is more likely to appreciate at an above-normal rate because of the resurgence in the technology industry and the accompanying strong job growth. The region is also very affordable in relation to other large metro markets with highly educated workforce.

Additional Discussion Points

Home price declines are very rare. In fact, the national median home price has not declined since the Great Depression of the 1930s. Stock market collapses, the OPEC oil crunch, economic recessions, and even wars have not negatively impacted national home prices since the 1930s.

There have been few times when local prices declined. In nearly all these cases, the price declines were accompanied by sharp prolonged job losses. It is difficult to foresee a price decline in a job creating economy.

Homes trade far less frequently than financial assets
(about one home sale every 7 to 10 years for most homeowners). There are also larger transaction costs associated with selling a home due to the lengthy careful examination demanded by home buyers and sellers. Therefore, home prices are not prone to fluctuations as in the stock market. There are neither panic sells nor margin calls associated with homes.

Many non-quantifiable factors could be important for this metro market in determining home prices. Access to cultural life, the quality of museums, nearby local and national parks, water views, exclusive neighborhoods, weather, the international airport, city vibrancy, restaurants, and a host of other non-quantifiable factors could have an important influence on the overall pricing.

There are immense tax benefits to owning a home. These tax considerations were not considered in the analysis. For example, the 1998 law permitting primary owner occupants to trade down without having tax consequences. Also most home sales results in no capital gains tax. In addition, long-term capital gains tax rates were reduced in 2003, thereby providing higher return for home investors. These positive benefits, if accounted for in the analysis, would have shown an even stronger case for housing fundamentals in supporting home prices.

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