Cautious Buyers Squeeze Rental Markets
Darren Keast and his wife, both 32, would like to move out of their one-bedroom apartment in San Francisco, buy a bigger home in the suburbs, and start a family. But they won't do it anytime soon.
"I have never heard anyone say that it's a good time to buy right now," says Keast, an English professor. "You need to have some very compelling reason, like you just got an inheritance or something."
Like many potential first-time home buyers these days, Keast says he is waiting to see how the national housing slowdown, the local market bubble, and problems in the subprime lending industry pan out before committing to a mortgage. In cities such as San Francisco and New York, would-be buyers fear the market is inflated as prices rise even while properties take longer to sell or home sales slow. In other parts of the country, people are waiting for falling home prices to stabilize before they take the plunge and buy.
Tighter Lending Standards at Play
The national picture looks like this: Fewer homes are selling and rents are on the rise. It's a big change from just a few years ago, when home prices were appreciating like mad and everyone wanted to benefit.
"During the housing boom, the 'rent vs. buy' decision became a 'buy,'" says Manhattan real estate appraiser Jonathan Miller of Miller Samuels. "Now, nationally, the pendulum is swinging the other way." As a result, there are fewer vacancies and increased demand for apartments, allowing landlords to raise their fees. Tighter lending standards are also playing a part by locking more people out of home ownership and increasing competition for rentals, Miller says.
According to New York-based real estate firm Reis, the average U.S. asking rent rose 1.1% in the second quarter of 2007, to $1,002, 7.74% higher than it was two years ago. The national vacancy rate fell to 5.8% in the second quarter, from 6% in the first.
Metropolitan-Area Homes Out of Reach for Many
At the same time, home sales are still slipping. At 5.99 million, the May rate of existing-home sales was 10.3% lower than it was a year earlier and 0.3% below April's pace, according to the National Association of Realtors. "I think psychological factors are currently the biggest drag on the housing market," said NAR senior economist Lawrence Yun in a statement. "It appears some buyers are simply waiting for more stability before they get serious about getting into the market."
In the past three months, the average rent in San Francisco jumped 3%, to $1,757, the biggest increase reported among the country's major apartment markets. In May, Bay Area existing-home sales volume was down 17.4% year-over-year, according to DataQuick Information Systems, based in La Jolla, Calif.
To begin with, affordability is an issue in markets where home prices are elevated. "There's this huge barrier to home ownership entry in a lot of these places, including San Francisco, New York, Orange County, even Oakland, particularly if you're a younger family," says Sam Chandan, chief economist at Reis. "Where do you come up with $100,000 for a down payment?"
Giving the Monthly Bite to a Landlord
As price appreciation slows down, renters are deciding that they can afford to put off buying. "Two years ago someone in New York or San Francisco might have said, 'I'm willing to stretch to buy that studio apartment even though it means I'm going to have to allocate a disproportionate amount of my income to housing costs," says Chandan. "Where we find ourselves now, even in some of these best markets, that sense of urgency has dissipated."
To be sure, home sales aren't falling everywhere that rents are rising—rents are up 2% in both New York and Seattle, where sales have remained strong this year. And rents aren't rising everywhere—many "bubble" markets are actually seeing the opposite happen as more owners choose to rent out their homes. "For the carpenters and nurses that were quitting their jobs and flipping properties, the market cooled off, they can't afford one-year ARMs rising, and now they are all competing to rent out their property," says Miller.
This seems to be the case in Palm Beach, where rents declined 0.5% in the second quarter. "In Florida, so many apartment buildings were converted to condos over the course of the housing boom that there's now a large shadow inventory, or shadow market [of condos being rented out]," says Chandan.
Waiting for the Tipping Point
How long will renting remain a more appealing option than buying? Right now, there are still many unknowns, despite widespread predictions that the market will turn around early next year. On July 10, credit-rating agencies Moody's Investors Service (MCO) and Standard & Poor's (like BusinessWeek.com, S&P is a unit of the McGraw-Hill Companies (MHP)) said that the subprime situation could get worse as many adjustable rate mortgages reset between September and June and borrowers consequently default (see BusinessWeek.com, 7/12/07, "More Subprime Woes to Come").
But if rents keep rising and prices keep falling (and the NAR says the national median existing-home price will slip 1.4% this year, to $218,800), fearful buyers could slowly become bargain hunters.
"When negative news comes out, from a consumer's point of view they just see 'housing is bad,'" says Yun. "But that just doesn't make sense in all markets. Eventually, renters will say, 'I'm tired of putting my rental payment into some landlord's pocket—I want to build equity.'"
Click here to see the U.S. cities where rental rates are rising fastest.