Give Me A Home Where The Affluent Roam, And I’ll Show You A Supply And
Demand Imbalance
By Mark Cohen

The free enterprise system is alive and well in Southern California. Homes are bought and sold with few, if any, governmental restrictions. Sellers ask any price they wish, and buyers offer whatever price they are willing to pay. The dearth of available homes for sale in desirable areas,
coupled with a growing demand from both domestic and foreign buyers seeking lifestyle above all else, continue to drive bidding wars and home appreciation. It’s Economics 101, but the subject still deserves further explanation.

During a sellers' market, homes sell quickly and sellers have a lot of pricing power. As a result, prices rise more rapidly than at other times. During a buyers' market, homes may sit on the market longer before selling. Sellers become more flexible and may even drop their prices. The market is fully determined by supply and demand.

In the real estate industry, the relationship between supply and demand is calculated as “available inventory.” Here’s how the real estate industry measures inventory: At the current sales pace, how long would it take to sell the total number of houses available on the market? Value increases as more and more people compete for the available housing. The relative
scarcity of housing, the ability to pay, and population growth can all affect the value of a home.

Inventory is measured in weeks and months: Longer inventory times are associated with buyers' markets; shorter inventory periods are associated with sellers' markets. But the real estate market does not necessarily move in tandem with the stock market or with the economy as a whole. Part of the reason is interest rates.

After a bloated 2004 summer and fall, the inventory of homes for sale in the Los Angeles area slimmed down to the point that multiple offers were once again common occurrences. Sluggish supply could trigger a spring 2005 season of accelerated price increases after six months of relative flatness.

The Southern California region continues to be a magnet for well-heeled foreign homebuyers. The value of the Euro in relationship to a depreciated US dollar has made LA-area homes a bargain relative to homes in other parts of the world. Keeping in mind the supply and demand imbalance, foreign investment—coupled with interest rates that remain near their lowest in 35
years—will keep home prices and values at an all-time high.

Luxury homes in Los Angeles County posted their largest-ever gains in appreciation last year according to the California Association of Realtors. The average price of a luxury home in LA––those worth more than $1million—rose nearly 28 percent to a record $1.97 million. The region’s rapid price increase outperformed high-end markets in San Diego and San Francisco,
where appreciation came in at 16.4 percent and 13.7 percent, respectively.

The record gains in 2004 follow five years of already robust growth. Luxury prices rose 14.9 percent in 2003, 3.6 percent in 2002, and 9.4 percent in 2001. Since December 2000, the average luxury home in Los Angeles County has increased more than $600,000 in value.

There's a downside, however. According to a just-released report by the California Association of Realtors (CAR), the percentage of households in the state able to afford a median-priced home stood at only 18 percent in January, a five percentage-point decrease compared with the same period a year ago.

In a study written by the UCLA Anderson Forecast, issued March 15, 2005, researchers noted, “California’s hot real estate market is destined to cool down—and when it does, the state’s economic recovery could be over.” Meanwhile, property values in the last four years have swelled to $1.7 trillion, the equivalent of about 35% of the total personal income since 2001.

The study also cites the sharp increase in home equity as responsible for the up-tick in consumer spending that has fueled economic growth. “We have an economy that’s rolling along on the basis of a false sense of wealth.”

But, is the sky really falling? Thirty-year fixed interest rates averaged just 5.71 percent in January 2005—unchanged from January 2004. Given a finite supply of desirable, upscale homes for sale and an ever-increasing domestic and foreign demand, home appreciation and prices are headed in only one direction: Up.

That’s excellent news both for high-end buyers and sellers. Luxury homes in exclusive areas, such as Beverly Hills, Bel-Air, Brentwood, Santa Monica and Pacific Palisades, will continue to sell at premium prices. And buyers able to pay a premium price will continue to enjoy the quiet, natural setting of a large estate; the social fulfillment of an exclusive address; the proximity to desirable schools; and the adjacency of luxury shopping and fine dining.

On the Westside, it's how our economy works.

Mark Cohen is president of Beverly Hills-based Cohen Financial Group, rated the “#1 Mortgage Broker in California” for eight years in a row by Mortgage Originator magazine and “Best of LA” by Los Angeles magazine.

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