Silicon Valley Real Estate and the Inverse GOOG Effect

For years I've written about the function of NASDAQ stock wealth on prime Silicon Valley real estate. I like to summarize with this phrase, "You don't buy a $2 million home in Palo Alto with a $1.8 million sub-prime loan. You buy it with $1.35 million in NASDAQ capital gains and a $650,000 in financing."

That fact has buoyed real estate demand and prices from Saratoga through San Francisco in the past two years - even as the lower end of the market has been pummeled.

Consider this: two companies (and their stocks), Apple (NASDAQ: AAPL) and Google (NASDAQ: GOOG), minted several thousand local millionaires between 2004 and 2007. (The back-of-the-envelope calculation works like this: Of GOOG's 16,000 employees assume 5,000 locals are mostly vested. Assume they collectively own maybe 8% of the company. At GOOG's 2007 peak of $711/share that's $18 billion in local wealth created since 2004. AAPL has a similar scale from an $11 stock in 2004 to $190 peak, spread over maybe 8000 vested local employees, is an additional $13 billion of local capital gains wealth created in the preceding four years.)

Many of those newly wealthy want to buy a home. The result is that simply from Google and Apple you have hundreds or even thousands of buyers at the high-end of the market.

Couple this demand with the peculiar small-supply situation of the local region (limited new construction yields only a handful of available properties) - and you get the recipe for resisting the bursting bubble right up through the first half of 2008.

Local Realtors know that the supply side of the equation is not likely to change drastically. There are simply no homes being added in close-in Silicon Valley unlike, say suburban Phoenix.

Inventory of available single family homes in Palo Alto, CA compared with Paradise Valley, AZ. 90-day rolling averages. Data as of October 3, 2008

So the recipe depends on capital-gains-wealth-driven demand.

And guess what? Year to date for 2008, both GOOG and AAPL are down by half. In the last 9 months or so, $15 billion of local wealth in just those two stocks has evaporated.

The bubble burst has only started to hit us.

[note: I am aware this is an over simplified argument. Home prices do not correlate with the movements of any one stock. We've checked. In some of these markets, they do correlate with movements in the NASDAQ as a whole, and we all know this isn't an isolated dip.]