Year in Review

The DeLeon Insight January 2017 Issue

by Michael Repka, ESQ.

There is no doubt that 2016 was a turbu­lent year for real estate in many prime parts of the Peninsula. The softening of the overheated market that we have experienced over the past few years, cou­pled with uncertainty associated with the unusually divisive presidential campaign and unanticipated election result, caused hesitation on the part of many buyers. Additionally, DeLeon Realty has seen Chinese buyers shift away from large quantities of lower-priced investment properties and towards high-end trophy properties in the $5 million to $20 million range.

While there are some reasons for optimism, we have seen buyers act more pragmatically and less impulsively.

GENERAL MARKET CONDITIONS

Prices have almost doubled over the past seven years in some prime parts of the Peninsula, most notably in top neighbor­hoods of Palo Alto and Atherton. While there were many factors that led to this historic run-up, some of the strongest factors were the federal government’s stimulative policies aimed at bringing the rest of the country out of the severe reces­sion of 2008-2009. While needed in many parts of the country, these policies were like adding fuel to a fire given the robust economy of Silicon Valley.

As the local economy continued to flourish, affluent local and international buyers snapped up prime properties in the most desired neighborhoods. This caused a dramatic increase in prices in these ultra-prime neighborhoods, and a resultant disparity in value between these homes and other viable alternatives. For example, homes in neighborhoods that had traditionally sold for 80 percent of a similar home in Palo Alto began selling for 60 percent as Palo Alto’s appreciation outpaced that of surrounding communi­ties. As a result, in 2016 we began seeing some buyers shift their focus away from the most prime neighborhoods and towards other areas that offered a better value proposition.

Over the past 12 months, we have seen some affluent buyers who began their search in Atherton or Old Palo Alto shift their focus towards other exclusive yet undervalued areas, such as Los Altos Hills and Portola Valley. Similarly, some value-sensitive buyers redirected their focus away from Midtown and South Palo Alto and towards Mountain View and Redwood City. This shift of preferences is one of the reasons we project strong appreciation over the next five years in places like Los Altos Hills and Portola Valley.

PRESIDENTIAL ELECTION

The presidential election had a profound impact on buyers’ confidence, but in ways unlike prior races. In most elections, people have a pretty good idea what will happen under the administration of either party and, as a result, the future impact is relatively easy to predict. This year, however, voters were unsure what to expect in what was perceived to be the very unlikely event that Trump would win.

As the polls began to show that Hillary Clinton was pulling away, we saw the real estate market loosen up and experienced an increase in the number of offers on our listings. When the polls tightened, we saw more hesitation on the part of buy­ers. After all, uncertainty breeds lethargy.

Since the election, we have experi­enced a bifurcated market. The market for homes priced below $2 million has re­mained soft as buyers try to adjust to the idea of a Trump presidency. However, our Platinum listings, those with an anticipat­ed sales price in excess of $5 million, have seen a significant uptick in activity and showings, which is a complete reversal from earlier in the year. While it is too early to ascertain the actual cause, or the sustainability, of this increase in market activity, one hypothesis is that the very wealthy are optimistic that Trump’s brash style will give way to a more measured and traditional approach to governance. If so, the possibility of lower taxes, both at the personal and corporate levels, could significantly impact the economic circumstances of those well-heeled buy­ers who can afford a home of $5 million or more. While a reduction in taxes normally has a positive impact on real estate prices because more buyers are encouraged to invest, it should be noted that a reduc­tion in taxes, specifically capital gains taxes, which include the 3.8 percent tax on “unearned income” that was enacted as part of the Affordable Care Act (a.k.a. Obamacare), could have an unexpected negative impact on sales prices in Silicon Valley. This is because many homeown­ers in Silicon Valley have so much built-in appreciation in their homes that the potential tax bill discourages them from selling. In other words, many longtime homeowners refrain from selling because of how much tax they would have to pay, which keeps the housing inventory low. If the tax rates were lowered, this may cause an increase in the number of homes listed for sale. This would be particularly true if the homeowners believe that the capital gains tax rates would go up again sometime soon.

DEMAND FROM CHINESE BUYERS

Chinese investment in American real estate—specifically in the Bay Area— has declined for a number of reasons. These factors include developments within the Chinese government—perhaps most significant­ly, a stiffened approach to the national monetary outflow policy. Because of these developments, less private Chinese wealth entered the United States, but the motivation for Chinese citizens to move money out of their country intensified.

Nevertheless, in 2016, we saw a dramat­ic increase in the number of purchases made by very affluent Chinese buyers looking to relocate their families to the United States. Many quietly cited con­cerns about the Chinese economy, a de­sire for diversification, and unease about the ever-changing “rules” in China.

IMPORTANCE OF PRICING AND MARKETING

For all of these reasons, DeLeon Realty has seen buyers hesitate to make a move. However, the overall economy, as well as the stock market, has remained very strong in Silicon Valley. In 2016, more than in other years, fear seemed to hold people back. There were fears that the market was going down, fears of reduced demand from Chinese buyers, and fears associated with the election. Neverthe­less, we found that well-priced and heavi­ly marketed homes continued to sell, and at good prices. In our experience, buyers’ fears were alleviated when they realized several other people were interested in the same home.