Prices of single-family homes in Los Angeles County have increased more than 500 percent in the past 25 years, from a median price of $80,000 in 1979 to $409,000 in October 2004. Based on those figures, Prakash Dheeriya, professor of finance and quantitative systems, recently completed a research project analyzing whether the county is in the midst of a real estate bubble. Business Week turned to him as an expert on the subject, quoting him in an August story, and we return to him for answers on whether the prices will continue to rise and if that means it’s a good time to buy, sell, or both.  

On the real estate bubble
For a bubble to exist, the prices have to be irrational or not based on economic principles. There’s no bubble here, because the trends we’ve seen are based on the basics of supply and demand. Simply put, there’s a very limited amount of supply – there’s just no new houses coming to the market.  

On the period of price increases
Generally, prices go up over a short time period and then stabilize. This expansion period has lasted three years, which is longer than normal. Now, we’re to the point where most of the people who wanted to sell already did so. As a result, not many people are offering their houses up for sale.  

On dirty bombs and unemployment
For the prices to really come down, we’d have to see people leaving L.A. in droves. Negative events like a dirty bomb, or massive unemployment, or very poor school scores might lead to this migration, but there are no indicators that anything like this will happen. Even so, we had the terrorist attack in New York City, and prices still didn’t come down there.  
 

On selling now
The problem with selling is where you are going to go after you sell your house? If you are willing to take a step down in the type of house, or you are going to move to places like Las Vegas or Arizona where it’s cheaper, then it’s worth selling. The problem if you plan to stay in Los Angeles is that the home you are going to buy will have appreciated just like the house you plan to sell. Taking that into consideration, it’s a good time to sell – it’s a sellers’ market. If you wait, you may get a higher price, but you may not. 

On buying now
People may be waiting on the sidelines, thinking the prices will eventually come down, but it’s very unlikely that prices will come down drastically. If you’re thinking about living in this area long-term, buy now. You can deduct the mortgage interest and property taxes from your taxable income. Plus, you can’t live “in” your other investments like stocks like you can with a residential real estate investment. I just don’t see prices crashing down from here as people are predicting.  

On the lowest interest rates in a generation
The other reason to buy now is that interest rates are so low. I don’t think we’ll see interest rates like this in the next generation or beyond. That’s allowed people who previously couldn’t buy a house to do so – lenders look at a monthly mortgage payment versus your take home salary in determining if they’ll give you a loan, so with interest rates so low, that has reduced monthly mortgage payments. Thus, lenders will give you a loan now where three to four years ago, you wouldn’t be able to afford the same house. That has also led to the shortage in supply because so many people who previously couldn’t afford to buy have now bought homes.  

On speculation of a rash of foreclosures
Lenders have also gotten very creative by offering adjustable rate and interest-only loans. If I was buying a home for the long-term in this very low interest rate environment, I’d be wary of getting into an adjustable rate mortgage because the monthly payment will go up as interest rates go up. That may lead to some homebuyers not being able to afford their homes anymore and having to foreclose. Some speculate there will be a rash of such foreclosures when interest rates go up, but I think the rates would have to go up very quickly to create such a panic.