California Housing Affordability Eases in First Quarter 2023

We have been waiting on the edge of our seats for the California Association of Realtors quarterly Housing Affordability Index (HAI) number release.

In short, the number has improved statewide, which is a positive for the California home market but I hope you read further below.

As many readers know, I am committed to reporting on this number as historically, the HAI has been one of the best barometers of future home prices.

The Q1 numbers are a positive surprise, however, I am not optimistic when I look further into the details. The marketplace is still extremely expensive in the state and even more so in the South Bay.

For a healthy market, we really need better affordability. In my opinion, the only way to see a healthier affordability number is falling interest rates or prices – or maybe a little bit of both.

That said, the South Bay market is truly strong, despite low affordability thanks to a strict supply of homes for sale and homeowners with low interest rates that act as golden handcuffs.

Understanding the C.A.R. Affordability Index

This section is a copy/paste from my last blog post for new readers or to refresh the memory of current readers…

C.A.R.’s Housing Affordability Index is an important metric as it aims to figure how many statewide households can afford the typical home in California.

The index considers the current median-price of existing homes in California, and assuming a buyer has 20% down, it calculates the overhead (mortgage, taxes, and insurance) to own that home and how many CA residents can afford that home based on income data.

So, a HAI number of 50 means 50% of the population can afford the median-priced home under current conditions.

A HAI number of 35 would mean 35% of the population can afford a home, a number of 64 would mean 64% of the population, and so on and so forth.

What history has shown is when more residents that can afford a home, the more home prices can move higher. Conversely, the fewer the residents that can afford homes in the state, which can indicate times of plateau and even a pullback in prices.

For example, past California housing corrections have occurred right around 17% affordability. Right before the Great Recession in 2005, affordability hit 17% (like other CA peaks) and dropped to as low as 11% in 2007 (the lowest number ever) thanks to liar loans that fueled a real estate bubble.

On the flip side, in 2010 – 2012 when the CA market bottomed, affordability in the state averaged 50% and went as high as 56% affordability. Looking back 10 years, which proved to be a time with the greatest upside and the HAI number gave clues to the future.

In a nutshell, history within the C.A.R.’s Housing Affordability Index has suggested:

• Buy confidently when the index hits the 30s (buy with both hands in the 40s & 50s)
• Sell when the index hits the high teens (bubbles occur in the low teens)

For the past nine years, the index has been range-bound between 23 and 36.

Just 21 months ago, I wrote a blog post about the Housing Affordability Index “Might Be Flashing Warning Signs” when the index hit 23 in the Q2 of 2021.

Now a year ago, we saw the 2022 Q1 affordability number tick up to 24%, but that was just as interest rates were beginning their march higher. Today’s Q1 number is lower, albeit not as lower as it was previous.

Still Concern Q3 Affordability Number

Now knowing the background of the Housing Affordability Index number, let’s get to the latest release form the California Association of Realtors.

• 2021 Q1 – 27%
• 2021 Q2 – 23% (my “might be flashing red” blog)
• 2021 Q3 – 24%
• 2021 Q4 – 25%
• 2022 Q1 – 24%
• 2022 Q2 – 16% (warning is officially here)
• 2022 Q3 – 18% (concerning, if doesn’t rise)
• 2022 Q4 – 17% (historically not sustainable)
• 2023 Q1 – 20%

As you can see, the 2022 Q2, Q3, and Q4 numbers were scary and really not sustainable.

Thankfully, I have highlighted in yellow that the start of 2023 is showcasing a better number. Would I prefer the number higher for a healthier market? Absolutely, but this is a great baby step in the right direction.

All that said, I want to dive deeper into the numbers as it is not all butterflies and roses with affordability easing in Q1.

Breaking Down the Numbers

Why the rise in affordability?

To begin with, the state has seen median prices fall year-over-year which obviously makes a positive impact.

What’s more, the effective composite interest rate used to calculate mortgage payments fell as well to 6.48% in the first quarter.

Those two factors offered a double whammy to the affordability calculation.

Since C.A.R. delays this release, we knew months ago that prices were down in Q1 and avid readers know that Manhattan Beach, Palos Verdes, Redondo and Hermosa Beach were all down year-over-year in quarter one, even if it didn’t feel like it as a buyer.

In my humble opinion (I am far from a professional economist), we have seen fewer deals made on the high-end thanks to the slow down, but median price and entry-level homes have still been a battle for South Bay buyers.

Is median price slipping because of fewer high dollar sales? Potentially.

And can interest rates tick up next quarter? That is a potential outcome as well.

While a measure of 20 in Q123 is far better than 17 last quarter of Q422, it is still significantly lower year-over-year than Q122 at 24.

Furthermore, if we look at L.A. County, which is a better barometer since it includes the South Bay, we see that just 17% of the population can afford the median price home compared to year-over-year of 20%.

Quarter to quarter is short-term, but the longer-term trend is still heading lower both statewide and countywide.

My reading is prices came down due to fewer luxury sales and interest rates could easily move back up next quarter while many middle range, first-time buyers, etc. will still feel the affordability squeeze in a big way.

Let’s highlight some additional numbers in the report:

• Prices are trending lower.
• Buyers need to earn $188,400 to afford $760k median prices.
• Payments are now at $4,710/mo with 20% down.

More interesting facts from the report:

• Los Angeles County is still less affordable than the Bay Area.
• Nationwide, the U.S affordability rate sits at 40%.
• Orange County saw affordability worsen to just 12%.

C.A.R. announced that it revised its 2023 Housing Market Forecast (lol – considering we are approaching the halfway mark of the year) and they expect sales to fall by 18.2% and prices to decrease 5.6%.

This may help keep the affordability number in the 20s, but interest rates will truly be the wildcard factor.

Final Thoughts

This quarter’s Housing Affordability Index number is a welcome relief from the past three quarters. Numbers do not lie, so I have no complaints.

With that said, you clearly see my opinion above that the drop in median price may be attributable to the higher end completing fewer transactions.

The drop in interest rates from Q1 is fabulous, however, they can always pop higher.

I am pleased with the latest affordability number, but we need to see the statewide market hit 20 or above for a few more quarters, and perhaps stabilizing to declining interest rates, before we can trust this newly affordable number.

This is a step in the right direction and while I am skeptical of the new number in this post, I think this is a number that can bring optimism around the market.

All in all, I will continue to watch the HAI like a hawk for you and report how the latest information might affect our local South Bay markets.

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