Even as the Fed floods the market with $400 billion in four months, with stocks at record highs, and reality pooh-pooed as irrelevant. What’s different this time?
By Wolf Richter. This is the transcript from my podcast last Sunday, THE WOLF STREET REPORT:
The stock market is at all-time highs. The Nasdaq has skyrocketed even more than the S&P 500, and housing in San Francisco and Silicon Valley, historically, has been closely tied to the fortunes of the Nasdaq. When the Nasdaq surges, home prices surge. And when the Nasdaq plunges, home prices head lower. That’s how it usually works.
And San Francisco now has more billionaires per capita than any other major city in the world, according to the “Billionaires Census.” According to this illustrious report, which came out last year, San Francisco has one billionaire per 11,600 residents.
At the same time, about 1% of the population in San Francisco is homeless – so that would be one homeless person per 100 residents.
And early last year, the real estate industry was able to get the media to publish a lot of hype about how the startup millionaires that were shacked up with six other people in some apartment would all head out after their glorious IPOs and buy a house or condo, and splurge recklessly, and that this wild buying pressure would send already sky-high prices even higher.
It’s true, prices were sky-high, but instead of heading even higher since that hype emerged, prices have dropped.
And how they’ve dropped is interesting. They have not plunged. In San Francisco and in Silicon Valley, they’ve zigzagged lower, in a very volatile manner, after having bumped twice into a ceiling, the first time in early 2018, and the second time in early to mid-2019. And they have since dropped 16-18%.
In San Francisco, prices have bumped into this same ceiling in early 2018 and then again in early to mid-2019, with the median price of single-family houses hitting about $1.75 million each time.
“Median price” means that half of the houses were sold at a higher price, and the other half of the houses were sold at a lower price. So this is the middle, not the average. This median price in San Francisco buys a small-ish so-so affair in a decent neighborhood, but not some kind of palace on top of Pacific Heights, where a house can cost over ten times as much.
In San Francisco, the median price has now dropped from those price spikes in 2018 and 2019 by nearly 18%, to $1.45 million in December. In dollar terms, the median price has dropped by over $300,000.
Where are those startup millionaires when you need them?
Similar scenario in San Mateo County, the northern part of Silicon Valley: House prices also hit the ceiling twice, first in April 2018, then again in May 2019. That ceiling both times was at around $1.77 million. And the median price has since plunged nearly 17%. In dollar terms that drop was close to $300,000.
And in Santa Clara County, the southern part of Silicon Valley that includes the city of San Jose, Palo Alto and others, the median price of single-family houses has dropped 16% in December from their peak in March 2018, to $1.2 million. That’s a $230,000 drop.
There was also a double-peak in Santa Clara County, but it was not nearly as pronounced as in San Francisco and San Mateo. They happened in May 2018 and in June 2019, but with June 2019 already being way lower than the prior peak.
But prices are not going to heck in a straight line. They’ve been unusually volatile, trying to go higher, and so they hit that ceiling, and in San Francisco and San Mateo County, they hit that ceiling twice, only to get beaten down again, and brutally so.
So what happened?
A year ago, it was part of the standard theme in the media and in conversations in San Francisco and Silicon Valley that the wave of mega-IPOs in 2019 – including the mangled IPOs of Lyft and Uber, and the now many scuttled IPOs, would cause the Bay Area to suddenly be awash in IPO millionaires that would then suddenly move out of their shared apartments and buy homes, and they would splurge and throw this IPO money around, and they would cause the housing market to suddenly inflate by a whole lot more.
But pros in the real estate business here who have been through these cycles shook their heads. They remembered what happened toward the end of the last two waves of IPOs that had come with the same hype of huge home price inflation: they were followed not by further home price inflation but by housing busts.
Those two events were the IPO boom that lasted into early 2000, and the IPO boom that lasted into 2007. Both ended in housing busts.
But this time it’s different. Well, not in essence. In essence, it’s never different. But it’s different in the timing.
There has been no sudden event. Nothing has collapsed or crashed. Stocks are still at record highs, with ridiculous valuations. Startups are still getting funded, though some are starting to lay off people because they’re running out of funds. Corporate America is still buying startups for huge super-inflated multi-billion-dollar valuations, paying for them with their super-inflated shares.
Money is about as easy as it ever was. IPOs are still getting pushed out the IPO window, though with mitigated results. Companies are still encouraged to lose tons of money and are richly rewarded for it. Unemployment in San Francisco and Silicon Valley is minuscule. These are still the good times. Reality still doesn’t matter. In fact, reality is widely being pooh-poohed as irrelevant.
And yet home prices in San Francisco and Silicon Valley are sagging. In the canon of real-estate hype, this isn’t how it was supposed to work.
The hype was based on the assumption that an equity event, such as an IPO or a corporate buyout, such as by Apple or Microsoft, will “suddenly” create billions of dollars of real wealth out of nothing.
But that’s not how it works. Before their IPO or buyout, these companies already have huge valuations, and people who own equity are already immensely wealthy before the IPO, and they benefit from their equity-ownership long before the IPO. They can go out and use the value of this equity to buy homes. In other words, they already bought their homes long before the IPO.
These employees can monetize their not-publicly-traded equity in several ways:
One, some startups have programs under which they buy back shares from employees who want to cash out some of their equity wealth.
Two, during fund raising rounds, employees can often sell their shares or convertible notes to the new investors.
Three, in San Francisco and Silicon Valley and other tech centers, some banks have entire departments that specialize in lending to wealthy startup employees whose equity ownership is still illiquid.
Four, there is a secondary market for non-publicly traded startup shares, and many employees have been able to sell some of their shares that way and cash out some of their equity.
In other words, startup billionaires and millionaires have been billionaires and millionaires for years. And this startup money has been circulating for years. It doesn’t have to wait for the IPO. And many of these folks have already bought their dream-home years ago. And this was responsible for the gigantic run-up in home prices in San Francisco and Silicon Valley in the past few years.
And then there is another issue: Home prices in San Francisco and Silicon Valley are so ludicrously high and out of whack with reality that potential buyers with plenty of money to buy, ask themselves, if they even want to blow one-and-a-half million bucks on a median so-so home whose value may drop and take hundreds of thousands of dollars with it.
There just isn’t a whole lot of incentive to do that.
So what’s different this time is that the housing market in San Francisco and Silicon Valley has hit a ceiling, and has done so twice, and has zigzagged lower in a highly volatile manner even as the loosey-goosey money persists, and even as the Fed has flooded the market with $400 billion in liquidity in four months, and even as stocks are at record highs, and even as reality is still irrelevant, and even as nothing around here has crashed to tear into the housing market.
And that’s what’s different this time. And the factors that took down prior housing markets in San Francisco and Silicon Valley, including a nasty startup crash, a stock market down turn, large-scale layoffs in the startup and tech sectors, and what not… those things are still out there in the future.
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