Just a month after I posted the first half of this blog, the real estate market turned on a dime.  On a national level, sales activity has picked up sharply while prices remain stagnant.  But, locally in the Bay Area, housing suddenly has turned red hot.  Good properties no longer lingered on the market for weeks or months.  By February, they were snapped up with stunning ferocity, often with dozens of offers far above asking on the first weekend.

In the midst of all this, I found myself as thunderstruck as most other local agents by the strength of housing.  There was no particular news to drive the shift, as unemployment remained high and the government wasn't providing any more incentives.  But, the reality we saw was fierce bidding wars, going in far above asking and often losing out to an all-cash buyer who didn't need to worry about appraisals.

What could explain this sudden stampede?  As with any shifts in herd-mentality, the underlying cause was years in the making.

As discussed in the first half of my blog, when an asset class collapses under the weight of overleveraging, fear pervades throughout the investor pool.  So, when housing collapsed in 2007 and dragged down the economy and the stock market, investors sought relative safety in cash and government backed debt.  This led to record low interest rates for debt instruments, which was compounded by the ineffective efforts of central banks around the world to use monetary policy to fight the inevitable deleveraging.  (China and the developing world weren't as heavily leveraged, since they didn't have that privilege, so their economies responded well to monetary stimulus.)

Of course, when one asset category shoots sky-high, investors immediately looked for ways to offset the perceived increase in risk.  (In hindsight, they were correct to be fearful as the continuing Euro sovereign debt-crisis illustrates.)  So, this fear trade led to all sorts of distortions, principly in commodities as oil, gold, silver, etc. all shot up to record highs.  Even now, they're not far off those records.  Then, once those got very high priced, investors rotated back to depressed equities on the stock market.  Now, we are within shouting distance of the bubble peaks, at least on the broad market basis.

Then, with all these investment categories at or near record highs, the fearful investor has few places to turn.  But, thankfully, housing had been soundly beaten down and until February this year, the pundits were still brow-beating it.  So, prices remained low while rents climbed from a still growing population.

Perhaps it just required the seasonal pickup in homebuyer activity to drive the already eager investor buyers into a frenzy.  In any case, when buyers had to line up for their turn at open houses, the market signal was unmistakeable.  With bids climbing, cash-heavy investors were still in the best position to win deals.  They've done their analysis (or worked with an investment Realtor) and know how much room is left in deals, allowing them to out-bid homebuyers while still making a good return.  With interest rates still being held to record lows, even a 4-5% ROI (30-40% lower than 2011) is attractive.

Meanwhile, credit remains relatively tight so many homebuyers find themselves in the rather unsavory position of having to bid obscene premiums above asking prices to be competitive against investors on prime properties.  Investors for their part have very good credit ratings and can get leveraged returns in the double-digits, justifying ever higher offers.

When will this end?  It's hard to say only because it's so early in the cycle for housing.  We're still far below the price records of 2007.  Many Bay Area condo communities are still 60% below the peaks, making the recent 10-20% price spikes seem trivial.  Plus, much of the price appreciation is being driven by cash or cash-heavy buyers who aren't going to be affected even if interest rates rise.  And, with rental returns still very solid, we may be in the middle of a steep 2-3 year recovery cycle.  While occasional speed-bumps on the path to recovery are unavoidable, the savvy investor or buyer will lock up good deals whenever possible as the housing market makes it way back toward the peaks.