I have heard some anecdotal reports from folks in Miami that they may be seeing what looks like the beginnings of a criticality in the condo market.

One of my commenters reported on what could be a criticality in parts of Seattle and its suburbs.

From Bill McBride, there are also reports of what could be the inklings criticality

Jon Lansner at the O.C. Register has some comments from Orange County broker Steve Thomas on inventory: Fewest O.C. homes for sale since 2005

"Turn back the clocks to August 2005 to find a lower inventory. At the very beginning of the year, the active listing inventory stood at 8,114 homes. It was a good beginning compared to 2011 with nearly 1,900 fewer listings on the market. There was a subtle sense that something was different right after bringing in the New Year. Since then, the market has shed 925 homes and now stands at 7,189, 33% fewer than last year. To shed homes during this time of year is totally unprecedented during this downturn. It is much more of what we would see during a hot, appreciating market, reminiscent of 2004 and 2005. ATTENTION SELLERS: that does NOT mean that we are looking at 2004 and 2005 all over again. Let’s be perfectly clear, there is still an enormous back log of distressed homes that have not yet hit the market."

The sharp decline in inventory is happening just about everywhere. Some of this is because there are fewer foreclosures listed for sale, and some is probably because many potential sellers are "waiting for a better market".

All of this is preliminary. For a true criticality it has to be that the actions of one buyer trip the actions of more than one potential buyer.

This could just be some odd dynamics having to do with the flow of distressed homes. We are watching for a criticality because the time is ripe for a criticality.

The fundamentals of housing are pushing through various fundamental value points. Not only are there not enough units, but now the discounted present value of the pure rental stream looks high.

That implies that housing is being held back by collateral, liquidity and capital gains concerns. Basically both banks and owners are worried about price declines. However, that is obviously a highly self-referential mechanism. Rising prices mean less worry over price declines by both banks and owners.

Thus you set the stage for a criticality.

It the pure example, we are imagining real estate investors who are watching the owner-occupied market tumble. At some point they will want to swoop in. However, swoop too late and there is nothing left. Swoop to early and you end up suffering a capital loss, or at least for a time huge collateral costs as the value of your property goes down. This is true even if your rents are rising and you know you will make profits overall.

So you wait. Once the prices hit you personal threshold you move, buying up a property. For the first investors this will just be a singular event based on their individual liquidity and risk preferences.

As the number of investors slowly moves in, however, they begin to alter the collateral constraints and the capital loss time horizon for other investors, brining them in. As that happens the collateral constraints are altered even faster, bringing more investors in.

At some point you hit the point where each investor drags in more than one additional investor. That’s a criticality and the whole system suddenly explodes.

A rush or criticality in my terminology is different than multiple equilibria in that it can be an event about which no perturbation will cause a regime shift. It can not only be deterministic but non-stochastic. In principle it can be utterly foreseeable down to the date and time. However, because of interlocking pay-off functions, most players simply will not move until other players move. If there is some differentiation in players they will slowly dribble out, again until you cross the point where one dribble triggers more than one additional dribble and then she goes.

Now, in housing this can’t really happen because its not just the investors who are differentiated, its also the houses. And, there are huge transactions costs. And, the collateral constraints are not smooth functions of one another. Just, because other houses are rising in appraised value doesn’t transition one-to-one for your house.

So, you can’t get a true burst. However, in dense markets dominated by well known condo developments you should see the closest thing. That’s why we are keeping a heavy eye on Miami and Brickell in particular. If any market, anywhere should go critical, it should be Brickell.

I should also note, the criticality if does happen will happen primarily in sales and inventory adjustment. It doesn’t necessarily predict rising prices, though that is of course possible. You just need price declines not to be so step that the collateral, liquidity and capital loss constraints bind.

Fundamentally though, the criticality concept predicts a flurry of sales that winds up moving homes from their current low value uses to higher value uses.

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