The 'Bubble' Question

By Dave Fratello | October 10th, 2013

We see prices soaring, bidding wars, peaks last hit in 2006-2007 being hit or exceeded in new sales, even $3M becoming a "normal" price among Tree Section listings...

This mix keeps posing the question: Is this a new real estate bubble?

You wouldn't be the first to wonder if Manhattan Beach, or real estate generally, has gone mad all over again.

But how to answer that? It has something to do with how you define a bubble. More on that in a moment.

First, let's stipulate that no one really knows what's next.

However, expectations of future price increases can certainly drive higher values in the near term. That's how frenzies get started.

The computers at Zillow project that Manhattan Beach real estate prices have higher to go. Look at any MB property and there's a caption down below: "Zillow predicts 90266 home values will rise 12.9% next year." (There's another prediction to check!)

Zillow's bullish on other CA markets, too. Random examples: Corona (+17.7%), Hayward (+10.7%), Palo Alto (+7.5%) and Indio (+18.9%).

The California Association of Realtors issued a new forecast this week. Focusing on the big picture, they say: "The California median home price is forecast to increase 6 percent to $432,800 in 2014."

Hey, if the statewide number jumps 6%, it's not implausible that MB would jump more. That would make your $1.7M house this year a $1.9M house next year (using Zillow's projection).

Oh, here's a question: How did CAR's 2013 forecast pan out?

Last year, CAR projected a 5.7% increase in the median price statewide in 2013. Right now, they project that the year-end median price jump will actually be 28% in 2013.

OK, so they shot low by 22%. Could happen to anyone.

And of course there's the Case-Shiller index to tell us what's going on. In "Recording the Rise" back in March, MBC took note of how crazily the Case-Shiller index had flipped nationwide. All the crashed markets nationally seemed to be up steeply year over year (Phoenix +23%, Las Vegas +15%). Those trends which have only solidified as the year has gone on.

Case-Shiller's index for the Los Angeles area shows a 20% increase year-over-year, from June 2012-June 2013. Case-Shiller doesn't traffic in projections, though.

Do rising prices mean a bubble is inflating?

To her credit, CAR's chief economist said this week "never say never," but still said today's market dynamics are very different than the 2003-2006 period – mainly because financing rules are stricter. 

Similarly, back in April, Redfin published their thoughts on the "bubble" question, saying, "For now, the answer is no." (We mentioned that in "Bubble? Redfin Says No, and Maybe.")

And now, guess who's taking on the "bubble" question? Yale's Robert Shiller, half of the Case-Shiller duo.

In his recent New York Times essay, Shiller makes all the expected notes about rising prices, but focuses on why people are buying – and paying higher prices – and even more so, on what they are thinking when they do.

Based on surveys of home buyers, Shiller and his team do not (yet) detect a "bubble mentality" among the market's most active participants. Buyers "aren’t showing 'irrational exuberance' about home investing to the degree they did in the past, at least not yet."

Buyers did tell surveyors that they expect prices to go up next year (by about 6%), but have modest long-term expectations, about 4.2% per year over 10 years. 

So the computers say prices are going to keep going up, and the experts can't call it a bubble... yet. Shiller comes closest to summarizing the reason why not: Buyers are not making "irrational" decisions during this upward swing in prices.

Shiller does say that there are "troubling signs that we may be heading toward" a bubble. But he can't say we're in it.

If you define a bubble as just steeply rising prices, you've already got your answer. We're there. And we could be really over-inflated next year.

If you need other elements to your definition of a bubble – crazy financing, buyer irrationality, unreasonable expectations of future price increases, etc. – then you have a harder time making your case today.

It's quite a situation to behold. Everyone knows something is up, besides merely prices, but it's impossible to describe it – yet. The rational expectation is a continued uptick, until something changes.

Let's look back at this question down the road.

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