The twilight sky shines above model homes at Ladera Canyon in Summerlin. Builders have drawn 13.3 percent fewer permits through July than they did a year ago. Photos by John Locher.
A home is for sale in Summerlin in August. Las Vegas homes are staying on the market longer as the once-booming housing market has cooled.
New homes are shown at the Arlington West Twilight Community in Las Vegas. Two studies claim that homes in Las Vegas are overvalued anywhere from 28 percent to 42 percent.
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When housing values in Las Vegas ballooned 54 percent in 2004, economists couldn't agree: Was the surge a result of basic supply and demand, or was it a speculative bubble destined for a major burst?
Two national analysts say they've now pinpointed exactly how much hot air is in local real estate values.
Ingo Winzer, president of Local Market Monitor in Massachusetts, weighed national and area home prices and the average national and local incomes to generate what he calls the equilibrium home price -- the value at which housing costs are in balance with underlying economic factors.
Winzer's calculations show that Las Vegas has an average home price of $296,500, well above the $231,000 average that he said economic fundamentals warrant. That means Las Vegas is 28 percent overpriced, in Winzer's view.
A joint study from Massachusetts economic consulting firm Global Insight and Ohio bank National City Corp. portrays an even bleaker picture of housing inflation in Las Vegas.
Economists at the companies developed a ratio that assessed housing values between the first quarter of 1985 and the first quarter of 2006. They measured four indicators: household population density, to determine land scarcity; the going interest rate on conventional mortgages, to gauge the effect borrowing costs have on home prices; relative income, based on the premise that higher-income buyers are more likely to spend a larger share of their earnings on housing than are lower-income homeowners; and a "constant" that controls for historical differences in price-to-income ratios that the previous three determinants don't explain.
Their conclusion: Las Vegas home prices, at a median of $282,600, are 41.8 percent higher than they should be. The last time the study's authors say the local market came close to a healthy value was in the first quarter of 2004, when the median was $188,600 and homes were 6.1 percent overvalued.
Neither analysis sits well with local real estate watchers.
"I was looking for the nuances in our market, and I didn't quite see them in that 27-page (Global Insight-National City) report," said Linda Rheinberger, president of the Greater Las Vegas Association of Realtors and owner of One Source Realty and Management. "I found it to be interesting reading, but I didn't see how it pertains to our market."
Rheinberger and other area observers say neither study considers job formation, a key economic barometer linked to housing demand. The latest numbers from the Nevada Department of Employment, Training and Rehabilitation pegged job growth in Las Vegas at 5.6 percent in July, compared with 1.3 percent nationwide. July unemployment in Las Vegas was 4.6 percent, compared with a national rate of 4.8 percent.
And, as Rheinberger noted, for every hotel room built in Southern Nevada, the resort sector adds 2.5 jobs -- a figure that doesn't include expansion of ancillary services for the growing gaming industry and its employees. Local developers plan to add 41,423 hotel rooms through 2010, according to the Las Vegas Convention and Visitors Authority.
Abundant jobs have helped lure a net number of more than 5,000 new residents a month to Las Vegas for at least the past decade, according to the Nevada state demographer. Such growth calls for thousands of new homes every year, said Larry Murphy, president of local real estate research firm SalesTraq.
Said Rheinberger: "I didn't see any allowances in these studies for that (population and economic growth). They didn't show us the particulars that make us stand apart from Naples, Florida, or Phoenix. That puzzled me."
However, Nicolas Retsinas, director of Harvard University's Joint Center for Housing Studies, said real estate markets nationwide are in for a "rocky and rough patch."
"It was fairly clear to most observers that continued years of double-digit appreciation just weren't sustainable," said Retsinas, who noted that he hadn't read either the Global Insight-National City or Local Market Monitor reports. "At some point, you have to leave time for incomes to catch mortgages and housing prices."
Whether the local market might take an extensive breather is up for debate.
Irrational exuberance?
Winzer was traveling and unable to comment on his statistics.
But Richard DeKaser, chief economist at National City, defended his housing-valuation analysis, which found its way into a July 24 Barron's report speculating that deflating home values in Las Vegas could hurt the price of shares in Station Casinos.
DeKaser said his report's population-density benchmark gives Las Vegas "the credit it deserves" for its brisk in-migration, because rising population density is a byproduct of growth.
DeKaser likened local boosters' defense of the market to stock-market bulls' take on overheated share prices in 1999.
The Dow Jones industrial average closed at a high of 11,722 in January 2000, while the Nasdaq reached a high of 5,048 in March 2000. When bearish analysts questioned stock valuations, advocates justified share prices by pointing to low inflation and high worker productivity, DeKaser said.
However, he said, stock prices in 2000 were overcompensating for strong output and weak inflation. By 2002, the Dow had fallen to 7,286, while the Nasdaq had plummeted to 800. Neither exchange has returned to its 2000 peak: The Dow is hovering above the 11,000 mark, while the Nasdaq is languishing at just over 2,000.
DeKaser said similar overvaluation might be playing out in Las Vegas.
Prices spiked in the city because homes were undervalued to begin with, he said.
In the first quarter of 2002, the city's median value was $147,200 -- nearly 10 percent below its optimum at the time. Then, relatively higher prices in California and other coastal markets combined with sustained population growth to propel values beyond reason as thousands of real estate investors swooped down on the city following 2004's double-digit appreciation.
"I am in no way saying that Las Vegas will experience job losses or a decline in population growth," DeKaser said. "Las Vegas has a very strong track record that I personally have no suspicion will end anytime soon. But home prices seem to be more than fully accounting for that reality. When spirits are running high, there's always a rationale for the discrepancy between what things ought to be trading at and what they are (trading at). Sometimes that rationale will hold up to the test of time. Most often, it doesn't."
DeKaser said Las Vegas has higher-than-average rates of unconventional mortgage products, such as interest-only loans and option adjustable-rate mortgages that allow buyers to choose their payments every month. The city also has a higher-than-average share of investors, he said.
Research from Harvard's Joint Center for Housing Studies found that 37 percent of all homes bought in Las Vegas in 2005 went to owners who didn't occupy the properties as primary residences. That's almost three times the rate of secondary buyers in the market five years ago, though Retsinas said the report didn't determine how many buyers of secondary homes were purchasing as investors versus vacation-home owners.
"(Secondary-home buying) is a signal of overbuilding, because you generally want to build enough homes to satisfy demand for the residential population," Retsinas said.
DeKaser pointed to the city's burgeoning housing inventory as another concern.
The number of homes for sale through the Realtors' local Multiple Listing Service reached 20,384 in August, a 32.8 percent increase from the same month in 2005. That roster of listings represents a seven-month to 10-month supply, SalesTraq's Murphy said. Las Vegas also has a two-year supply of condominium conversions and a new-home inventory of four months to six months, Murphy estimated.
Those indicators are "symptoms of speculative elements," DeKaser said, and they could soon conspire to pummel home values in Southern Nevada.
"Because (homes are) financed, they need to be turned over, and that would in time lead to either significantly slower price increases or price declines," DeKaser said.
DeKaser acknowledged his tabulations have their drawbacks.
Most importantly, he said, he can't account for newer price premiums based on evolving markets and consumer tastes. A report that spans 21 years doesn't consider major "qualitative" changes happening today -- for example, retiring baby boomers flocking to coastal markets where land is limited.
Rheinberger said the report's historical horizon is a big hindrance to its effectiveness in forecasting Las Vegas' fate.
In 1985, the valley had a population of 562,280. In 1995, its population was just more than 1 million. Today, the city is closing in on 2 million residents; public entities, including the Regional Transportation Commission and the Lied Institute of Real Estate Studies at the University of Nevada, Las Vegas, quote population projections of more than 3 million by 2020.
"Unlike other metropolitan markets, we are in our adolescent stage," Rheinberger said. "We're still building a community."
DeKaser also noted that National City, which has a core line of business in the mortgage market, has not seen reason to take steps in Las Vegas that it institutes when it detects a "high-risk area." For example, he said, National City hasn't tuned up its local underwriting standards to prevent "sloppy lending." Nor has the bank taken out insurance to protect its area loan portfolio from a downturn.
Local real estate professionals said they don't expect that National City or other banks will have to adjust their lending practices here.
By some measures, the market is correcting itself, they say.
setting the odds
On the inventory front, builders are pulling fewer permits to construct future properties.
SalesTraq's data show that builders have drawn 13.3 percent fewer permits through July than they pulled in the first seven months of 2005. The decline has been especially dramatic in recent months: In May, new permits fell 38.2 percent from May 2005. In June, they dropped 30.8 percent from a year ago. And permits were down 47.7 percent in July from a year earlier. Numbers for August aren't available.
Analysts expect that existing homeowners will also adjust to the current market.
Contrary to DeKaser's contention that financed properties must sell, Realtors said many sellers will simply remove their homes from the Multiple Listing Service rather than slash their asking price. Homeowners looking to cash in or trade up their equity don't have to sell immediately, and are willing to wait for appreciation to trend north noticeably before they sell, she said. And investors could rent out their properties until they can land prices they like.
Plus, Harvard's Retsinas said, interest rates remain historically low: A 30-year, fixed-rate mortgage was commanding less than 6.5 percent in interest on Sept. 8, according to federal mortgage buyer Freddie Mac. A recent report from the National Association of Realtors said interest rates would have to reach 8 percent before they would "create issues in our marketplace," Rheinberger said. And with the Federal Reserve halting a two-year rate-increase streak on Aug. 8, Rheinberger doesn't expect rates to reach 8 percent anytime soon.
Also, Fannie Mae, a federal loan purchaser, is offering new mortgage products that raise the local debt ceiling from 41 percent of gross income to as much as 47 percent of gross income, which should help more buyers qualify for a home.
When asked if relaxing qualifying standards would increase the number of homeowners who are buying more house than they can afford, Rheinberger said Fannie Mae's move reflected an understanding that in areas outside real estate -- for example, utilities and income taxes -- Las Vegas is more affordable than other major markets such as San Francisco, Washington, D.C., and Chicago, so debt burdens can be slightly higher.
"We have a number of positives going for our market, so they're able to relax some of their guidelines and make it more inviting and realistic for people to own homes here," she said.
Finally, Rheinberger argued, though the valley's inventory has more than doubled in the past 12 months, home prices aren't falling. They're stable thus far in 2006, going from a median of $309,000 in January to $312,000 in August, Realtors' association statistics show.
However, DeKaser said, the markets that have headed south in 2006 were steady a year ago when National City's report red-flagged them as being on "very thin ice."
In addition, of the 66 regional price corrections the nation has experienced since 1985, the median degree of overvaluation before the contraction was 34 percent -- well below the 41.8 percent he found in Las Vegas. The median price correction was 17 percent, and adjustments typically took 14 quarters.
Because corrections generally amount to half of the overvaluation, Las Vegas could experience a 21 percent drop in median home price.
DeKaser said such an outcome isn't assured.
Declining job formation or weak employment gains accompanied all corrections in the past two decades. For example, an oil-industry bust and a savings and loan-sector collapse racked Houston in the mid-1980s, when home values fell 21 percent from 1985 to 1987. And a slackening aerospace market and several military-base closures in Southern California took a toll on San Diego, where housing prices fell 11 percent from 1990 to 1996, and Los Angeles, which lost 18 percent of its overall value from 1991 to 1996.
So if the local economy doesn't falter significantly, the chances are "far greater" that home values will carry on unscathed, DeKaser said.
How likely is a price correction?
"We haven't shaken it out to assign probability, but I would say we're talking somewhere in the vicinity of a one-in-three chance or higher," DeKaser said. "It's not something to take lightly."
Retsinas said Southern Nevada's high housing inventory makes it more vulnerable than other markets to a correction, despite relatively positive long-term fundamentals. But he stopped short of agreeing with DeKaser's forecast.
"Twenty percent is a big number," he said.
Murphy said the big drop in local home values that DeKaser foresees is tough to imagine.
"I can see a correction where prices level off or drop 5 percent, but not 20 percent," he said.
"People are going to keep coming here as long as there are jobs here, and I don't see anything on the horizon to indicate job growth will disappear. As long as people keep coming here, we have to have places for them to live. We have to build homes."
How overpriced is Las Vegas?
The conductors of two recent studies say they have determined how inflated home prices are in the Las Vegas Valley. But their numbers show many markets are significantly more overvalued than the Las Vegas Valley's housing sector. Here's a look at their rankings:
Local Market Monitor equilibrium home prices
Market -- Overvaluation rate
1. Santa Barbara-Santa Maria, Calif. -- 80 percent
