Forget coffee when it's time to sober up. Instead, check out the real estate listings in New York or Los Angeles.
There buyers pay $1 million for a property that might fetch half that elsewhere. The disparity illustrates how affordability has been spiraling out of control in places on the East and West coasts.
For example, in the first quarter of 2001, 42.3 percent of homes sold in Los Angeles were available to the median earning household. But in the first quarter of 2007, only 3 percent of homes sold there were affordable to those households earning the median income. This is based on data from the National Association of Home Builders (NAHB) and Wells Fargo that assumes a 10 percent down payment, a 6.1 percent mortgage, and tax and insurance costs calculated by the Federal Housing Finance Board.
Given those numbers, it's no surprise that Los Angeles tops our list of the nation's least affordable real estate markets. We determined our ranking by combining the NAHB/Wells-Fargo index with our rating of home price to earnings, which measures how many years of gross income it would take to buy a home at the median sales price. The lower the number, the more affordable a house is for the median home buyer.
Ten years ago, San Francisco was the only city above a 4.5. Today, there are 13. The more out of whack prices are with income, the more buyers are forced to rely on credit to make up for the market's unaffordability. That could mean trouble down the line. Look no further than the current tightening of credit standards; it's expected to create problems for markets trying to recover from a slump.
That's because without a strong influx of new buyers it's difficult for a market to grow. Homes sit on the market longer, and prices go down. This should in turn make markets more affordable, but that won't do much good if median-income families have too many barriers to getting a loan.
"The credit barrier affects all strata, but it's more critical at the lower end," said Jonathan Miller, president of Miller Samuel, a New York-based real estate appraisal and consultancy firm. He points out that recent bank struggles with subprime lending have resulted in tighter lending standards. "And the success of the market's lower strata is critical to recovery of the whole market."
Also contributing to an area's unaffordability are local policies that jack up the cost of building new homes. This increases price pressure.
"A lot of it has to do with regulations and zoning," said Robert Bruegmann, a history and urban planning professor at the University of Illinois at Chicago. "The higher cost of doing business -- and the uncertainly of business -- in places like California drives up home prices. The cost of building isn't that different in Houston versus Los Angeles, yet L.A. prices are so much higher. ... One of the few variables you can look at is regulatory burden."
Affordability also has a great deal to do with where a city is in its growth cycle. Five years ago Las Vegas was one of the nation's most affordable cities, thanks to a rash of development. Today, growth has slowed enough that less than 20 percent of home sales last quarter were available to households at the median income level.
Unaffordability is also relative. Few residents of Sacramento and Seattle can afford homes in the areas, but property there is still reasonable by regional standards. Both cities are experiencing strong growth and immigration patterns, in large part due to the fact that they're less costly than West Coast cities like San Francisco, San Diego or Los Angeles.
Nationwide, what's interesting about the fall-off in affordability is that it doesn't directly correlate to home price increases. Since 2000, Boston area home prices have risen 16.7 percent. Median-income buyers who make up 50 percent of the buying pool in 2000 now represent only 28 percent of it. By contrast, in Raleigh, N.C., home prices have grown by 37 percent in that time period, and the share of median-income earners buying homes has dropped by only 3 percent.
This explanation is especially pronounced given that seven of the 10 least affordable cities have negative domestic migration, meaning more people are leaving than coming in. Affordability drops, therefore, cannot be attributed to an increase in demand.
Rounding out the Top 10 least affordable markets are San Diego, New York, Miami, Sacramento, Las Vegas, Seattle, Boston and Orlando.