Homeowners in Floridas coastal areas are increasingly factoring in the risks of sea level rise, or SLR, caused by climate change. According to a new paper by Wharton real estate professor Benjamin Keys and Wharton doctoral student Philip Mulder, home sales volumes have declined in at-risk markets, indicating that homebuyers are becoming more worried about SLR. However, home prices remained high even as sales fell, suggesting that sellers were unwilling to cut their prices and may be less inclined to believe that SLR would affect their properties. In addition, mortgage lenders, whose portfolios are protected from flood risk by federally supported flood insurance and securitization, did not tighten their credit standards in SLR-exposed areas. These disconnects between SLR risk and housing markets assume wider importance as 42% of Americans live in a coastal shoreline county, according to the paper, titled Neglected No More: Housing Markets, Mortgage Lending, and Sea Level Rise. The fact that home prices are slow to react new information about SLR risks suggests that continuing polarization around climate science, and the federal programs that insulate lenders from flood risk, could lead to distorted investment into more risky coastal regions, the paper noted. To the extent that the markets do reflect SLR risks, the impact is uneven, disproportionately hurting vulnerable sections of the population. It seems as if the communities that have the highest poverty rates are feeling the effects of this most dramatically and quickly, said Keys. The declines that we observe in transaction volumes and in prices are exacerbated in high poverty areas. Places that have above 15% poverty have had a much larger decline in their prices, said Keys. If Floridas housing markets have to correctly reflect SLR risk, they would show up in lower volumes and prices, and in higher borrowing costs than those in markets without such risks. So, there are some distributional concerns that we have to think about as well, said Keys. If we raise the price of borrowing on the coasts, how do we help the people in low income communities adapt and adjust? More broadly, more than one million properties on the coastal Florida market are at risk of chronic inundation due to SLR, according to projections by the Union of Concerned Scientists that the paper cited. The most liquid parts of Florida in that they are most likely to be underwater by 2100 have increasingly illiquid housing markets, the paper noted. Keys and Mulder studied housing and mortgage market trends in Florida between 2001 and 2020, and found increased recognition of SLR risk after 2013 a period when record-breaking storms and increasingly dire scientific forecasts made SLR risk more salient. Home sales volumes in coastal Florida markets across different levels of SLR exposure followed similar trends over the housing market boom, bust and recovery. It was only in 2013 that volumes in more-SLR-exposed areas began to decline even as their less-exposed counterparts continued to grow. The papers estimates suggest that about 16,500 fewer home transactions took place from 2013-2018 among the 187 census tracts most exposed to SLR. While sales volumes fell, prices took longer to wake up to the SLR risks. In fact, prices in high-risk tracts increased along with those in low-risk tracts until 2016, the study found. In what it described as a lead-lag relationship between volumes and prices, prices in SLR-exposed tracts began to fall only after 2016 for a relative decline of 5%-10% by 2020. Even those price declines are just about a third to a quarter of the size of the decline in volumes, said Keys. Signicantly, lenders do not seem to show sensitivity to changing SLR risks as both all-cash and mortgage-financed home purchases in Florida have similarly contracted, the study found. The government-sponsored enterprises Fannie Mae and Freddie Mac dont price that type of risk, said Keys. (Fannie Mae and Freddie Mac buy home mortgages from lenders and sell them as mortgage-backed securities to investors.) They dont deferentially price regional risk, so the price that you pay for a mortgage in Iowa is the same as the price that you pay for a mortgage in Las Vegas. There is no differential pricing based on which state youre in or whether youre close to the coast or far from the coast. The risks for mortgage lenders in Floridas SLR-prone areas are undeniable. Those places will be exposed to more storm surges and high tide flooding that would inundate roads and infrastructure grids, Keys noted. At some point, there may be more pressure to say it doesnt make sense for us to keep supporting lending, additional development and new construction in these coastal communities that are at risk. We need more data and more modeling to understand the appropriate risk-based price. That appropriate risk-based price would be reflected in higher borrowing costs in these areas for taking on this additional risk. Keys embarked on the study because he was motivated to do research on risk-based pricing. The 2008 financial crisis and its aftermath underscored the importance of such research for him. Coming out of the financial crisis, we had this realization that in many ways, housing markets and mortgage markets were not accurately reflecting the possibility of a downturn, he said. Keys wanted to look at other dimensions of risk, and climate-related risks came to mind, he added. Florida is the place where the rubber meets the road. The state has so much exposed coastline and so many exposed properties that it seemed like a natural place to start to look for evidence of these patterns and trace them out. Prices of Florida homes with SLR risks may not necessarily move in a linear path from today to that future point, Keys noted. If anything, we would think that markets can unravel very quickly, and expectations play a key part in driving prices, he said. A big part of the value today of owning a property is its future value. The question for us was, is the market already reflecting this expectation of some future inundation date, around which theres a lot of uncertainty? The way Floridas housing markets factor in SLR risk is because of the shrinking and eventual departure of market optimists from the market, the paper noted. For supply to equal demand, optimistic sellers and pessimistic buyers would need to agree on how the threat of sea level rise affects the present value of at-risk homes. Among other factors, partisan divides on the risks of climate change and the behavioral forces of myopia and optimism may be causing homeowners in SLR-exposed areas to make irrational assessments of their risk, it added, citing research by others. Yet another factor is a phenomenon of housing markets thats often underappreciated, Keys said in a recent interview with Wharton Business Daily on Sirius XM (Listen to the podcast at the top of this page). Prices are not necessarily the market clearing mechanism in the way [they are with other asset classes] because houses are durable, long-lived goods. If you dont want to sell this year, you can wait. What were seeing [in Floridas SLR-risk markets], I think, is a lot of folks deciding to wait and say, Well, its not the right time to sell. Meanwhile, the lower property values will also eventually show up in a declining tax base in communities with SLR risks, and that will mean reduced ability to invest in infrastructure improvements to mitigate climate risks, he added.

1) If you are a real estate investor in South Florida, how would you classify the sea level rise risk? And why?

2) Which market agents that participate in the market (lenders, sellers, buyers, government) are mispricing this risk and why do you think so?

3) According to the Wharton professor, Benjamin Keys, is the market adjusting to this risk? How?

4) You are a financial advisor in South Florida and a billionaire from Latin America approaches you and ask you for advice about investing in South Florida, what would you suggest to her? Why? Elaborate your answer and include investment advices that you can give her.