State’s Housing Markets in a ‘Bubble,’ Report Finds

Housing prices have outstripped incomes by such a wide margin in much of California and some cities in other states that home values in those markets could stagnate or suffer a sharp decline, according to a controversial report that will be released today.

In contrast to the widely held perception that the flourishing national market has yet to overheat, the report is among the first to declare a so-called housing bubble in some regions. The research provoked strong disagreement from other analysts.

San Diego’s housing market has developed into a major bubble, the report says, whereas San Francisco, San Jose, Orange County, Oakland, Sacramento and Los Angeles have smaller ones, according to John Burns, an Irvine consultant to the real estate industry. Boston has the biggest market bubble in the country, he said.

Burns, who conducted the research to estimate market risks for builders, said home prices have reached near record highs in relation to income in California’s top markets, including San Diego and San Francisco. Still, he said, those bubbles are only half as big as they were at the peaks of previous market cycles.

Prices could continue to rise for several more years, he said, but eventually they will stagnate or decline until incomes catch up.

Burns compared historic and current mortgage rates and home prices with household incomes and concluded that 17 of the 44 U.S. cities he studied demonstrate bubble conditions.

Other analysts disputed Burns’ conclusions that there are bubbles, while agreeing that some markets cannot sustain their heated pace indefinitely.

“I just think the analysis is simplistic,” said James Pugash, chairman of Hearthstone, one of the largest providers of capital to the homebuilding industry.

The report overlooked supply and demand factors that could have led to different conclusions, he said.

Sung Won Sohn, chief economist at Wells Fargo & Co., said that the most relevant questions for the future of housing are whether the economy will create more jobs and whether interest rates will move up.

Sohn, who doesn’t believe mortgage rates will rise significantly this year, said borrowing costs and home prices remain balanced.

Burns acknowledged that employment growth, strong luxury- and second-home sales, and other factors could cause home prices to rise for several years. Bubbles will burst, Burns said, when there are more home sellers than home buyers. That could occur when prices rise to such levels that residents and employers are forced out of the area.

Some analysts said that even if they conceded that parts of Southern California were in a small bubble, the risk to the region’s economy probably is insignificant unless prices increase 20% or more over the next few years.

Such a sharp rise would put prices far ahead of incomes, they said.

From that point the market would rise at a much lower rate but still trend upward, they said, citing the dearth of housing in Southern California and expected population growth.

“What is most likely to happen in Southern California is that prices will peak,” said Ingo Winzer, editor of Local Market Monitor, a newsletter that studies housing cycles.