California Housing Update: January Sales Slow as Median Prices Rise 15%

* California’s existing single-family home sales decreased 3% in January on a seasonally adjusted basis relative to December. On a year-over-year basis, sales declined 11% to a run-rate of 539,040 units. Sales activity continues to be supported by a large mix of heavily discounted foreclosure re-sales, which accounted for 44.0% of January’s re-sale transactions, according to DataQuick. Notably, this is up modestly from 40.8% last month, but still down substantially from 58.2% of all sales a year ago. On that note, we believe the recent moderation in sales activity can be attributed to: 1) a decline in the pace of foreclosure sales, due to various foreclosure moratoriums and efforts by servicers to modify loans, and 2) more challenging year-ago comparisons. Looking ahead, we believe the extension and expansion of the homebuyer tax credits will play an important role in attracting buyers and keeping inventory at a manageable level as more distressed properties enter the market this spring.

* California median home prices jump 15% y/y to $287,440, its third consecutive y/y increase. Prior to November 2009, California had posted 26 straight months of y/y declines in median home prices. Importantly, however, monthly median prices can be heavily skewed by the mix of homes sold, and we believe part of the upturn in median prices is likely the result of a higher mix of high-end home sales. Early in 2009, we suspect that tightened underwriting standards for jumbo mortgages, higher availability of FHA financing, and interest in the federal and state new home buyer tax credits all helped skew the median price downward. Conversely, seasonal increases in the number of non-distressed sales and jumbo transactions, as well as the effect of fewer bank-owned and other distressed properties hitting the market, have likely helped skew the median price calculation upward in recent months. That said, we have noted for several months now signs of a pricing bottom in California, and recent data from the Case-Shiller Index (measuring repeat sales transactions) continues to support this underlying trend.

* Homes remain affordable as the typical mortgage payment buyers committed themselves to paying in January was $1,064, up from $969 a year ago, according to DataQuick. Adjusted for inflation, January’s monthly payment is 59.6% below the cyclical peak in June 2006. We would highlight that y/y median prices in San Diego (+10%), Los Angeles (+9%), and Sacramento (+3%) increased in January, while price declines in Riverside/San Bernardino (-1%) continued to moderate. Notably, the December seasonally adjusted Case-Shiller index reading for Los Angeles(+1.4%), San Diego (+1.1%), and San Francisco (+1..0%) showed home prices increased in all three cities relative to the prior month. On a year-over-year basis, prices were down 0.1% in Los Angeles, but up 2.7% and 4.8% in San Diego and San Francisco, respectively.

* Sales at higher price points continue to outperform. Entry-level buyers continue to drive overall sales volume; however, on a year-over-year basis sales in the more expensive regions of the state were stronger than more affordable ones. Specifically, sales comparisons in the more expensiveSanta Barbara South Coast (+34% y/y), and Santa Cruz County (+15% y/y) regions outpaced the more affordable Riverside/San Bernardino (-26%), Sacramento (-25%), and High Desert (-30%) regions. That said, the y/y comparisons can be misleading and it is important to note that 77% of all homes sold in January were under $500,000, and the availability of non-conforming jumbo mortgages remains tight.

* As of December 31, more than 2.4 million mortgages were “underwater” in California, of which roughly 1.4 million loans had loan-to-value ratios (LTVs) of 125% or more, according to First American Core Logic. Unfortunately, we believe the staggering number of homes in negative equity combined with weak employment trends (statewide unemployment at 12.4% in December) may result in more foreclosures and/or distressed sales, which, in our view, could prevent home prices from materially appreciating for an extended period of time.

* California single-family listed inventory declined 25% y/y to ~260,500 units, which on the surface represents 5.8 months of supply, down from 7.3 months a year ago. Very importantly though, we believe banks and mortgage servicers have continued to extend the foreclosure process for millions of homeowners. Accordingly, there has not been a material acceleration in property repossessions from the foreclosure backlog. This, in turn, has kept the amount of active real estate-owned (REO) inventory in the market at relatively low levels. Nevertheless, a significant amount of distressed “shadow inventory” (REO homes, seriously delinquent loans, and recent foreclosures) not actively listed in statewide MLS systems continues to conceal the true inventory situation, in our view. For reference, according to Mortgage Bankers Association data, as of December 31, more than 849,100 California mortgages were either in foreclosure or seriously delinquent. Even assuming a 50% workout rate on those loans, we estimate this implies an additional 9.5 months of supply statewide above what is currently being reflected in the realtor data.

* As a percentage of estimated total 2008 unit closing volumes, Standard Pacific, Brookfield, KB Home, Beazer, and Lennar have the largest exposure to the state of California. The tables on the following pages exhibit the top public builders based on California concentration.

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