FORECAST - It looks like it's time to saddle up the horses and ride. The dramatic decline in the home prices has reduced the gap between the cost of renting and the cost of owning to levels typical of an active real estate market. At this writing, the number of months of inventory has dropped in the Yuba-Sutter area to 9.1 months and to 7.1 months in Yuba City. Given these still relatively high inventory numbers, it is likely that prices will continue falling in the near term. However, further price declines will probably be met with increased buyer activity.

Here are some of the major factors we believe are now having or are likely to have an impact on the real estate market.

1. Buyer activity is up dramatically from previous months.

2. California's population increases by about 500,000 people per year. This results in between 230,000 and 250,000 new households being formed each year in California. There were only 112,000 new housing units built in 2007. That is not nearly enough to meet the demand.

3. California has an extremely slow planning process. It takes about two to three years of studies and planning to get approval for a new subdivision. It won't be possible to create new building lots over night when the market starts to turn around.

4. Government fees continue to increase and will limit new home construction. These fees are being collected to pay for sewer and water connections, building permits, new parks, fire stations, police stations, schools and levee repairs. Builders are even being charged a fee that goes into a special fund for “affordable” housing. Forcing builders to pay higher fees will squeeze their profits even further and discourages new home construction.

5. The Federal Reserve has done a good job managing interest rates. Interest rates the last five years have been at their lowest levels in at least 35 years.

6. Some experts predict that a booming Chinese economy will generate enormous wealth and that much of this money will be invested in real estate in other Pacific Rim Countries. If this happens, it will be similar to what we saw in the early 1990's when the Japanese economy was surging.

1. There is currently a 9.1 month supply of homes for sale in the Yuba-Sutter area and a 7.1 month supply in Yuba City.

2. Builders are still sitting on a large quantity of land. History has shown that most builders will reduce prices in order to maintain sales volume in a declining real estate market. Expect a steady stream of new homes to be built in the near term while builders use up their existing land.

3. Some prospective buyers are choosing to rent instead of purchase. Their logic is simple. Renting, in most cases, is still cheaper than owning so why buy a home while prices are still declining?

4. Current home prices are still keeping most investors out of the market.

5. Problems in the mortgage market do not appear to be over. Declining real estate values combined with home owners having problems making their payments will likely force even more homes onto the market either as short sales or foreclosures. However they start out, most of these will eventually end up as foreclosures since over 85% of short sale attempts locally are unsuccessful.

A report in the Wall Street Journal (November 24, 2007) pointed to a Bank of America study that indicated that most of the foreclosures at that point were due to defaults on loans that should never have been made and were not, as had been widely reported in the news media, the result of adjustable interest rate mortgages (ARM's) "resetting." The BofA study went on to say that large numbers of ARM loans had started to reset but that the peak of the resetting activity will not take place until the second quarter of 2008. Locally, we are already seeing a big increase in the number of foreclosures.

In today's climate, lenders will not normally begin a foreclosure unless the borrower is at least four to six months behind in their payments. The foreclosure process is approximately four months long. Combined with the information about ARM loans resetting, this would indicate that we will likely see high levels of foreclosure activity through 2008 and into into 2009. This process may be hastened by borrowers defaulting on their payments before their loans reset.

6. Many lenders have been forced out of business. Most of the remaining lenders have tightened credit standards and have raised interest rates on their non-conventional loans. These tightening credit standards are keeping some prospective buyers out of the market.

There are also some factors that are difficult to predict. The four most significant questions are about the economy, interest rates, lenders rewriting existing loans and possible government action.

There is widespread disagreement on whether we are in a recession, headed for a recession or are likely to avoid a recession. People bullish on the economy will acknowledge that the housing and financial sectors have been hit hard but point out that other sectors such as technologies and commodities (oil, metals, agricultural products and etc.) are doing well and should continue to do well as economies in countries like China, India and Russia continue to expand.

The future of interest rates is also in some doubt. Production costs in China, India and other countries are rising because of increased labor and commodity costs. The Federal Reserve's continued cutting of the Discount Rate and Federal Funds Rate is causing weakness in the Dollar. Higher production costs combined with a weakening Dollar could spark serious fears of inflation and lead to higher mortgage interest rates.

There has been much talk about lenders rewriting loans to avoid having loan interest rates "reset." This is a truly complicated issue since most of the loans in question have been sold to investors or have been used as collateral for bonds issued against them. That means that the companies that service these loan have only limited ability to make changes to their terms.

Finally, there is Congress. Never underestimate the ability of government to take a bad situation and make it worse. Some of the proposals that we have heard coming out of Washington could have a severe long term negative impact on the housing market. Especially troubling is the "Emergency Home Equity Protection Act" which is working it's way through the House of Representatives. It contains a provision that will allow bankruptcy judges to rewrite existing real estate loan interest rates and terms. If enacted, this will raise lenders' risk and will cause them to raise interest rates on new loans to compensate for the extra perceived risk.

A recession or markedly higher interest rates could dramatically lengthen the current real estate market recession.

It could have a very positive effect if lenders are able to significantly rewrite loans to help borrowers through the next five to seven year period.

Congressional action could go either way depending on what they do.

While we continue to forecast lower home prices, we are definitely turning more bullish in our recommendations to home buyers. Our market forecast is also consistent with the most recent real estate market forecast released by the California Association of Realtors.

You can see the latest real estate market charts in our most recent Real Estate Market Newsletter.

So, is now a good time to buy or sell?