Synopsis on mortgage interest rate vs affordability-Silicon Vally

[Sam Shueh]

Sam Shueh

The Feds finally made up their mind on lending interest rates. With a stronger economy and more job growth it announced an interest hike for the first time in months. Higher interest rates is goodness for financial industry and curb inflation. The low cost of fuel artificially lowered the inflation but it will not remain low when other conditions change. Government toyed with printing paper currency with no gold reserve and make money more available to encourage people to buy homes.

I went to several major lenders and they already jumped on the bandwagon even before the December announcement having mortgage interest rates around 85 basis points higher and start charging points for some products.

This study focuses on different loan programs popular in Silicon Valley, CA.

Conforming loan (PITI-Santa Clara County, CA) vs required gross income

For a conforming purchase loan of $417,000 for a 30 year fixed rate with 20% down $521.25K purchase price

The monthly mortgage(PITI) w/o hoa due and annual income required is:

- 3.8% $2,540 $78K-with an assumed 10K debt 2015

- 4.3% $2,665 $81K 2016 Nov

- 4.8% $2,785 $85K 2017 Mid year

- 5.3% $2,925 $88K 2018?

For each percent of interest increase there is about 10% of monthly payment increase. This first rate change in a long time one will pay almost 10% more on borrower payment on each payment.

Needless to say the $417K conforming loan limit barely gets borrower a two-bed room condo in Silicon Valley where there is another ~$400 HOA fee on top of the mortgage payments(PITI).

Realistically, in Silicon Valley a $1.3 million dollar home often is a remodeled 3-4 br, 2 bath, 40 year old tract 1,300-1,999 sf home on a 5000+ sf lot. Many buyers often put a larger down payment in order to keep their mortgage payment manageable.

For a $1,000,000 mortgage for a 30 year fixed rate jumbo mortgage, the monthly mortgage (PITI) and minimum required annual income needed is:

- 4.15% $6,498 $193K -with an assumed 20K debt 2015

- 4.65% $6,781 $201K 2016 Nov

- 5.15% $7,085 $209K 2017 Mid year

- 5.65 % $7,400 $217K 2018?

For each 1% in interest rate increase it translates into ~10% increase in monthly mortgage payment. To keep same mortgage payment the housing price needs to be 10% lower during each rate change.

It is likely our mortgage interest may increase 2% in the foreseen future. Home prices then needs to be lower by 20%. Local wage increases is probably about 3.5% annually while local housing can absorb a 6.5% price decrease. This steep increase in housing cost has encouraged a generation of high tech workers to become job hoppers bouncing from one company to another since there is no longer a pension favoring longevity or loyalty. People are trying to increase their income to a higher level in order to maintain a balanced quality life.

Housing price is highly proportional to demand and supply and is tied to available jobs. State it differently, the unemployment rate is the single most influential factor affecting home prices. Those with no appreciable income the demand for housing is sluggish thus home prices will fall.

Below illustrates a historical chart on unemployment from 1996 to today. The top line is US average jobless rate(beige color), mid-faint line is California unemployment rate in blue for City of San Jose, CA where many high technology companies in Silicon Valley are located. During the dot com(first shaded) and Great Recession(right shaded years) the City experienced high unemployment. During the Great Recession did not hit the area hard as high tech giants like Google, and Apple were doing a thriving business. Only the service industry was greatly affected. Today, at onlty 3.9 % in metropolitan Silicon Valley area it enjoys a relatively higher employment.

Unemployment Rate -US, California and San Jose City (1996-2012)

The unemployment rate chart can be deceiving. Not every household is making $193,000 annually eligible for a $1,000,000 mortgage. In fact, Santa Clara County which has the highest household income in the nation has a median income of just $100,000. This means only dual-income high skilled couples are eligible for a $1,000,000 mortgage while leaving out many others hopeful home owners. I have physicians who are shocked they do not make enough for the local housing.

Let's learn from the past and predict future-

A city as large as a San Jose, CA consists of many neighborhoods. As a young city matures the neighborhood influence is more homogeneous. Unlike other metropolitan areas there are no ghetto neighborhoods. As a technology center there is a little bit of everything in each neighborhoods, income, even school quality seems to be less divergent. Some neighborhoods may have higher crime incidents (nothing serious) than others. Yet the home price is just as pricey in that area.

Below is a tabulation of SFH prices in Silicon Valley with data going back 14 years. They consist of SFH 3br+ from 1,300 to 2,000 sf only. Age seems to have little effect on home values as the City is relatively new and most have modern updates like newer kitchen, bath and hardwood or tile flooring. The City experienced a 33.5% price erosion between 2007-2009, Should one purchased a typical home at the end of 2010-trough value he gained 7.2% during the next year. By 2015 he would have gained +72.8% at the end of 2015 and gained another +5.7% during 2016.

Year	San Jose City	1300-2000sf- SFH
2002	$515,115
2003	$526,969
2004	$595,914
2005	$705,851
2006	$740,038
2007	$754,189	Baseline-peak year
2008	$597,236
2009	$501,431	66.5% of baseline
2010	$537,658	107.2% of trough value
2011	$512,972	102.3%
2012	$564,182	112.5%
2013	$692,610	138.1%
2014	$770,386	153.6%
2015	$866,250	172.8%
2016	$915,826	182.6%

Below is another neighborhood close to high technology center with similar style home constructions as the rest. While the location close to work seems to suggest higher home prices. School test scores are exceptionally high. Many students are shown on TV as spell bees and high school grads mostly attend four year universities. The household income is 34% over the rest of San Jose metropolitan. In 2007 the average home price was over $1 million dollars. During the Great Recession few residents lost their jobs because big employers like Apple and Google had no layoffs to speak of. It experienced a -12.2% price drop vs. -33.5% (San Jose City). If one bought at trough-bottom price year the percentage of gain attained during 2015 suggests a +76.5% good neighborhood gain while the rest of San Jose has gained more at +82.6%. In fact, it reaffirmed home prices reached a plateau one year ago ( 2015) hinting affordability was already an issue.

Primary Year	Sale Price	1300-2000 sf sfh
2002	$686,075	TOP SCHOOLs
2003	$689,101	Close to hi tech employers
2004	$769,518
2005	$884,541
2006	$934,806
2007	$1,013,077	baseline- peak $
2008	$1,003,061
2009	$889,706	87.82% of 2007- trough
2010	$923,234	103.77%
2011	$899,103	101.06%
2012	$989,135	111.18%
2013	$1,169,271	131.42%
2014	$1,366,612	153.60%
2015	$1,566,678	176.09%
2016	$1,570,988	176.57%

I have studied home prices for several years. During a price rise some neighborhoods recover slightly faster than others but the regional trend remains the same.

East San Jose is worth studying since there are more investment properties. There was an awful lot of foreclosures brought the home prices way down. As much as -45.9% home price erosion was experienced during the disastrous year of 2009. However, the rebound rate is impressive. Many were bought by cash investors and that equity build growth helped a lot. This is one of the few neighborhood homes are still appreciating at faster rate than most expensive neighborhoods!

Year	East San Jose	SFH 1300-2000 sf
2002	$452,659
2003	$466,329
2004	$526,087
2005	$632,257
2006	$687,182	2006 yr -peak
2007	$676,051
2008	$423,796
2009	$357,953	52.1%-trough year
2010	$369,756	103.3%
2011	$365,830	102.4%
2012	$402,113	112.3%
2013	$498,411	139.2%
2014	$574,602	160.5%
2015	$644,608	180.1%
2016	$674,268	188.4%

Your commentaries are appreciated.  Please provide the facts not speculations.

Sam Shueh

Campbell, CA