Blog : Market Cycle

Traps

Traps

There are things that I dislike about this business. You know this. I dislike the lack of respect that plagues this career, even while I understand it. I dislike the compensation model, as surprising as that might seem since that model continually supplies softened butter for my warmed bread. But mostly I dislike the markets themselves. I dislike the cycles, the ups and downs, the product that ebbs and flows, and the traps that it all creates.  The problem with these traps is that they always exist, in the good times and in bad. They exist here, there, and in every market in the world. I dislike these traps, and while I understand them I find extreme frustration in my inability to warn everyone against them. Perhaps when I do quit this job I’ll just write a blog wherein I identify market traps, because that would be fun. It would be like a devastating Zestimate, but instead of pushing a secret algorithm I’d actually explain the market and why that particular house, or condominium, or piece of dirt is nothing but a market trap.

Alas, I can’t do that now but I can do some further explaining of how to avoid these traps. I’ve written about this before, but after a couple of million words, at some point everything will be redundant. This morning I perused the new MLS listings and didn’t think much of them. A new ranch here, another condo there. But in the middle of it all, sticking out like a painfully sore thumb, there it was. The trap.  Do I possess some otherworldly knowledge of the real estate market? Of course I do, but that knowledge isn’t important when determining the location and description of these traps.

These traps exist on the lake, just as they exist in the country, but they are difficult to identify in those markets. Why? Because those are nuanced markets that fluctuate based on the whim of the wealthy. This is why you can see a lakefront house listed for a price that doesn’t make any sense, then a few months later you can watch it close. Then, while still in your befuddled state, you can see that house meet the wrecking ball. Lakefront markets often won’t make sense, just as high end off-water vacation home markets won’t.  In the same way, is a house in West Palm Beach worth $135,000,000? Is a spec house in Beverly Hills worth $200,000,000? The answer is not really, until someone buys it.

That’s why we’re ignoring the vacation home or otherwise wealth influenced markets and we’re focusing on neighborhoods where primary homeowners live. These neighborhoods can be in Williams Bay or Wheaton, Elkhorn or Elk Grove Village. For that matter they can be in  Toledo or Topeka. A primary home market that operates without the influence of extreme wealth typically follows the same rules, no matter the geography. The housing traps exist in hot and stagnant markets alike, but they’re far more likely in hot markets. There’s a simple reason for this.

Developers, be they professional or hobbyists, are increasingly challenged to find adequate inventory inside an accelerating market. Knowing this, they look to fringe locations, fringe neighborhoods, areas that aren’t quite there, but certainly might be next. In larger cities, this sort of thing does exist, it’s called gentrification. But in primary markets that are existing without the promise of Google or Amazon moving in down the road, these fringe areas are likely to remain fringe areas for lengthy periods of time. Developers know this, but they’re counting on low inventory to trick you into not knowing it.

There’s a neighborhood you like. There’s even a house you like. But after you looked at the house and before you could get your offer in, that house sold. You made the decision to move, to upgrade. Your loan approval was in place, and you started the mental exercise of moving, but then your house was no longer available. No worries, you’ll look around a bit more and find something else. After some time, there isn’t anything else. Nothing in that neighborhood, nothing nearby. But Zillow showed you a new idea, this one of a similar home in a different neighborhood. Sure, that neighborhood typically sells for $250k and this house is $450k, but in the good neighborhood that house would be $500k. You like the “discount”, and you pursue the new home. Congratulations, you’ve just fallen into a trap that is going to bury you when the markets calm, or worse, reverse.

Today in Walworth County, with limited inventory and a still-vibrant primary housing market, these traps exist in every single municipality. Want to walk into a huge mistake in Williams Bay? That’s possible.  Want to bury yourself in a terrible and lasting mistake in Linn Township? Welcome Home!  I’m guessing the situation is the same in your town, no matter where it might be. What to do to avoid these mistakes?  First off, work with an agent that wants you to find the right house more than he/she wants to make a sale. Once that’s done, question everything. Why should I pay $300k for this vinyl ranch when the three vinyl ranches down the road are $225k?  Most importantly, if you’re in the market for a primary home and you’ve been noticing a tempting home that appears to be overpriced for the neighborhood, just settle down and watch it. If it sells, congratulate the sucker who bought it. If it doesn’t sell, congratulate yourself for avoiding the trap.

Market Test

Market Test

By now, we all know the last two decades of market conditions at Lake Geneva. We understand the cycle. The market rose steadily from 1997 through 2008. Then the market fell from early 2009 through mid 2012. Today, we know we’re in year four or five of the latest bull market run. How long this run lasts is something we cannot yet know. I’ll let you know when it’s over. For now, we know the history and we understand it, but the biggest test for the market is beginning now.  Not now in terms of September 2017, not now in terms of Autumn.

Every market runs in these cycles. Some cycles are longer. Some are shorter. Some are less aggressive on the way up and less considerate on the way down. What lies ahead is the interesting bit.  I can guesstimate the percentages of appreciation and decline, with relative accuracy. I can tell you that at the bottom of our market cycle in 2011/2012, lakefront prices were off around 30% from their prior peak highs (2007/2008). I can tell you that since the market bottom we’ve regained perhaps 20% of those losses. In some cases, properties today are worth more than their 2008 market highs.  Try telling that to a lakefront home languishing on market in the Highlands for a price that’s not dissimilar from what it would have fetched in 2012. This is the anomaly of Lake Geneva. The market does not rise and fall with uniformity.

But that’s not the test. That’s just the set up. The real test is in the actual prices paid for properties that sold perhaps at the prior market peak, then again at the market bottom, and now again in 2017.  Today Lake Geneva is testing itself. It’s self inflicted, like volunteering to take a difficult exam even though the teacher is on vacation and the other students are still catching up on their week old homework.  The test is to prove, not with my theoretical statistics, or with some silly Price Per Foot averaging game, just how far the market has come since 2012. The only way to really know is the look to the lakefront houses that sold in 2012 and see what they’re selling for in 2017.

We know there have been some resales that roughly align with this timing already. I’ve sold a few homes in the last few years that sold during the market bottom once and then again as the market improved. Many of these have sold under unique circumstances. I sold a home on Folly Lane several years ago at the market bottom that has since resold. But the property resold at a higher price to a  neighbor because the neighbor had to have it. In the same way, the lakefront sale from last fall on the south shore of Fontana. The house that Matthew McConaughey was rumored to have bought (he didn’t). That home sold for a fat premium just one year after it originally sold. Was that a sign of the market appreciation? No, it was just an interested party pursuing a specific property. That sale looks nice in the MLS, but it isn’t a sign of broad market interest, nor does the PPF mean anything.

In order to really look at the gains since 2012, we need sales that have occurred at an arm’s length, under normal marketing conditions. We need an average sale. Moreover, we need several of these sales if we’re going to consider the outcome to be representative of the market. Thankfully, there are a few such sales, but for the sake of our concept, we’re going to need to cast a wider net. Let’s look at lakefront properties that have sold in the past 12 months that also sold between 2010 and mid 2013. In a low volume environment, which Geneva is in good times and bad, we’ll need to open the view to capture a larger sample size. Those MLS sales that match the stated criteria are as follows:

These are the handful of sales that follow our pattern.  The sales are not exact, since transfer prices can fluctuate based on allowances for furniture and other personal property, and the sales are not particularly equal since a sale in 2010 was of a property that likely still depreciated through 2012. Additionally, at least one of these properties was remodeled and updated in between sale dates (1014 S Lakeshore). But this is all we have to base our estimates on. These sales point to an average increase of just 10%.

Is that it? Is that the answer to the question? Well, not really. This is just a small sample size. We sell on average around 23 houses a year on Geneva Lake and this is just a snapshot of five of those sales. I would guess the market gains across the board have been somewhere around 20% since our market bottom of 2011/12. The market hasn’t yet printed enough volume to draw attention to that gain, but that’s my estimate and my eye is fairly keen. The market today is testing that 20% theory with several current listings that had previously sold during that recent market bottom. On average, these sellers are seeking 30% or more over the prior sale prices. The test today is to see if a market that is as robust and active as our lakefront market can indeed support that large increase over such a short period of time.

Do we know the answer to that question? Nope, but the good news is that the question has been asked and the market will answer soon.