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Looking ahead: The sky isn't falling for the Puget Sound market
By Elizabeth Rhodes

Seattle Times business reporter

One of this year's biggest residential real-estate topics was the anticipated slowdown in sales and appreciation.

Would the Puget Sound market tank?

Would prices deflate?

Neither of those things occurred locally, although other parts of the country have seen moderate-to-severe downturns this year.

What happened here was a gentler transition in housing activity, from its record 2005 levels to a slower pace by this year's end.

What will 2007 bring? Here's what Seattle real-estate experts are saying.

Last December, The Times noted Seattle real-estate economist Matthew Gardner's prediction that houses would appreciate about 7 percent this year.

But through November, median house prices were up almost 11 percent in the tri-county region (King, Snohomish and Pierce counties), according to the Northwest Multiple Listing Service.

So much for any bubble bursting this year.

Gardner doesn't see that happening next year, either.

"This bubble lunacy is still prevalent, but not in Seattle, and I'll keep saying that," said Gardner, of the land-use economics firm Gardner Johnson. "All the fundamentals are in place for good job growth and in-migration. That, and our limited land availability, means we're protected and will continue to appreciate in value."

Appreciation in 2007 "will vary dramatically" by location, which is normal, he said.

The closer homes are to the major job hubs of Seattle and Bellevue, "the higher appreciation you'll get," Gardner said. "That's because there's intrinsically a value to our time."

He expects closer-in areas to appreciate about 10 percent over the coming year; farther out, 7 percent appreciation will be more the norm for single-family homes and for condominiums.

But forecasting, Gardner stresses, is an inexact science based on the best information at the time — which is why his prediction for this year didn't match the market's performance.

The wild card was interest rates. This time last year, Gardner was among many economists who predicted that mortgage interest rates would climb and put the brakes on housing activity. Rates didn't climb.

His list of possible wild cards that could affect appreciation next year: a sustained jump in inflation, a terrorist incident, a quick increase in oil prices.

We've come off two incredible years — 2004 and 2005 — so what did we have in 2006?

"A more balanced market," said Bill Riss, CEO of Coldwell Banker Bain. That's giving buyers "a little more time to think, plan and write good offers."

Indeed, compared with the fall of 2005, this fall's sales were down and inventory was up — two indicators of a cooling market.

Riss thinks 2007 will probably be a copycat of 2006 in terms of inventory and the number of sales "unless there's something in the condo market that causes oversupply."

There's been some talk of that among local real-estate experts but no consensus that a condo glut is ahead.

Fueling the replay will be wage and job growth, which spur demand, he said.

"[That has] continued to provide an imbalance — more buyers than sellers — even though inventory is up," Riss said.

Riss wouldn't be surprised if spring sales roar to life, causing another feeding frenzy, albeit not at record levels of past years.

One serious factor that could affect it: affordability.

According to the Washington Center for Real Estate Research, median-income buyers are increasingly being priced out of Western Washington counties.

First-time buyers are particularly strapped. Only 40 percent of people in this category can afford a single-family starter home in King County, and only about half can in Pierce and Snohomish counties.

Last December the national average for 30-year, fixed-rate mortgages was 6.39 percent. Now it's 6.18 percent.

A rise in inflation could drive rates up, but that's not a concern now, Frank Nothaft, chief economist for mortgage-money provider Freddie Mac, recently told the Washington Association of Mortgage Brokers.

"Inflation will be tame, and interest rates will not change much in the next six months," Nothaft said. "They may drop after that. We don't see mortgage rates even getting up to 7 percent [by the end of 2007]."

Nothaft expects an 11 percent drop in the number of mortgages written next year. That's because refinances, which peaked in 2003, will continue to decline.

He also anticipates the number of nontraditional loans, such as negative amortization and interest-only, will drop as borrowers choose other mortgage products instead.

The same strong regional economics sustaining the local home-sales market are also fueling apartment demand, said analyst Mike Scott, of Seattle's Dupre + Scott Apartment Advisors.

Logically, strong demand should ramp up apartment construction, but it hasn't worked out that way, Scott said.

A year ago, he forecast 3,600 new units would be built in King, Pierce and Snohomish counties this year. Instead, just under 3,100 opened.

In 2007 Scott anticipates even fewer: just 2,600 new apartments.

"Developers have not been able to bring as many units to the market as they planned because of rising construction and land costs," he explained.

Meanwhile, apartment investors, bullish on the Seattle area's economy, are busy buying up buildings. On average they're paying 15 percent more for them this year than in 2005.

Many owners are planning to renovate their new purchases, Scott reported, and renters should "expect significant rent increases as a result."

Taken together, all these factors will cause apartment rents to jump about 8 percent next year, Scott predicted. Vacancies will fall from their current 4.7 percent to roughly 3.5 percent, he said.

The stealth factor is condominium conversions. While the conventional wisdom is that they take units out of the rental pool, Scott estimates that up to 25 percent of them are bought by investors for continued use as rentals.

"That's true of regular condos, too," Scott said. "All the condo construction in the last few years may have actually provided a hidden supply of rentals."

The national news has been full of stories about homebuilders cutting production and prices as the real-estate market cools. In November, for example, building permits nationwide fell to a nine-year low, according to a government report.

"But that's the national news, not the local news," said Suzanne Britsch, senior analyst for New Home Trends, a construction-analysis and consulting firm in Mill Creek. "We still have job growth and a shortage of lots here, so we have just not had a problem with standing inventory."

But part of that may be because builders cut back on supply, building 3,000 fewer single-family homes this year than they did in 2005 in King, Snohomish, Pierce, Thurston, Kitsap and Skagit counties combined. The total number built in those counties this year: 19,264.

Meanwhile, area-wide condo construction has been booming. In all of 2005, some 8,400 units were built. Through September of this year, 9,583 new units had been built.

"Most of those are in King County, and the majority are presold," Britsch said. "The jump is in high-rises in Seattle and Bellevue. It's a status thing now: Which building do you live in?"

Propelled by strong job growth, buyers will be plentiful next year for new houses and condos, she predicted.

But new construction doesn't come cheap.

In King County, the average price of a new house will be $750,000, she predicted. A big chunk of that expense is the land. The rock-bottom price for a lot in a new King County subdivision is now $250,000.

In Snohomish County, new single-family homes will start at $400,000. And they'll likely be on 3,500-square-foot lots, rather than 6,000 square feet, the norm there until recently.

New condominiums in King County, which is seeing the majority of new condo construction, will be priced at $350,000 or more regardless of their size, she said. Conversions often will be priced lower.

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