San Francisco Rents Are Firming Up

Rents in the City appear to be firming up. Take a look at the chart, below, which shows a history of the median asking rent per room in San Francisco.

The chart comes from SFRentStats. Unfortunately, I don't have a free source of actual (contract) rents, but asking rents should provide a reliable proxy.

The Bay Area job market stabilized in the spring of 2009. It's no surprise, therefore, that the rental market is also showing signs of stability. And because prospective home buyers generally make cost comparisons between renting and owning, stability in the rental market tends to foster stability in the purchase market. That's one of the reasons why I don't think home prices will fall appreciably unless the job market takes another dive.

Bay Area Home Prices Are Within 15% of Long-Run Equilibrium

My favorite way to assess 'fair value' for home prices is to compare them to rents. On that basis, Bay Area home prices appear to be about 15% higher than they 'should be'. Take a look at the chart, below, which shows Bay Area home prices, rents, and median household incomes for the period since 1975.

Note: You can find descriptions of the data series here.

After briefly reaching a level consistent with long-run equilibrium, Bay Area home prices began climbing again in the spring of 2009. Prices have increased by about 18% since then, and are now somewhere between 10% and 15% above equilibrium.

In my last post, I said that prices probably won't fall appreciably as long as the unemployment rate holds steady. How is that consistent with prices being 15% above equilibrium?

There are two ways for the relationship between prices and rents to adjust: prices can fall or rents can rise. Historically, rent increases have been the dominant adjustment mechanism. For instance, between 1990 and 1996, the price-to-rent ratio fell by 21 percentage points but price declines were responsible for only 8 percentage points of that adjustment; rent increases accounted for the rest. I expect a similar pattern of adjustments this time around.