How it will burst

130 F-9 Estes Drive

I don't have enough data to definitively prove that the appreciation seen in Chapel Hill during the bubble years was driven by the exotic loans and the subsequent self-reinforcing euphoria over home ownership (and in particular, mortgage equity withdrawl -- MEW). What I have is this: a simple argument that appreciation is due to changes in the desirability of an area (and not simply its desirability), and a pretty short list of things that have changed about Chapel Hill in the last 10 years.

I also have evidence of a significant real estate bubble that happened during the same period and its subsequent burst in many metropolitan areas. I have two dots that are not very far apart and I see how one could draw the line. We have rampant appreciation in Chapel Hill occurring at the same time as rampant appreciation took place in the rest of the country. The bubble burst elsewhere, it's going to burst in Chapel Hill.

How will it happen?

Sales volume will dry up across the board. Foreclosures will represent a majority those sales that do take place. Volume at the bottom of the market will return, but the mid- and high-end properties will languish. These sales will be to new home buyers and investors, but the move-up buyer (the buyer that in normal times makes up 80% of the market) will be stuck in the homes due to depreciation. Eventually, the debt-riddled mid- to high-end properties will succumb to foreclosure. Once a neighborhood has been overtaken by 3 or 4 foreclosure sales -- or even sales reflecting mild depreciation, they define the selling price for the neighborhood; no sales are possible at the previous "value."

This last point is subtle but important. A bank will only loan 80% of the appraised value of a house. If a buyer wants a loan on a house that's asking $300K and has $60K ready for a down payment, then if the bank appraises the house at $250K, they will only loan $200K. The buyer has to come up with the remaining $40K for a total downpayment of $100K, or the sale falls through. (Incidentally, the National Association of Realtors has been complaining loudly about appraisals not coming in high enough.)

I exaggerate when I say no sales are possible at the previous value; they are, but they require buyers with enormous down payments. The number of such buyers are few, and, given that they're frugal enough to have saved up in a time when everyone else was digging their debt hole deeper and deeper*, they're probably smart enough to know that time is on their side.

(*some such buyers merely cashed out on the bubble and may not be the clever buyer I'm envisioning)

What have we seen in Chapel Hill so far?

Volume is down: first quarter closings dropped 42% relative to first quarter 2008. Volume in 2008, mind you, was down 29% from 2007.

Meanwhile, the average price is up 11% from last year. WTF?

So far, it doesn't seem like many foreclosures have come through Chapel Hill. That's the next step.

Today's property:

130 F-9 Estes Drive, $71/sqft, $49,900.

I believe this property is a foreclosure as it matches the free data I found here and the complete lack of effort by the realtor in the listing supports my belief. (I'm not ready to pay $40/month for the foreclosure.com subscription service.)

This property sold for $58.5K in 2008 after being sold at $65.5 in 2007. That's 23% off 2007 pricing.

This looks like price weakening at the bottom of the market...