Daredevil homeowners?

What do homeowners in Orlando, Sacramento, San Diego and Phoenix have in common? PMI Mortgage Insurance Co. and Forbes agree they are invested in the nation's 10 riskiest markets.

We can argue whether you're a daredevil if you are looking to buy in Chicago, Denver, Kansas City or Cincinnati, however. 

What's a little surprising in comparing these lists is how much they diverge. In some sense, we're comparing apples with oranges here.

That's because Forbes looked at the top 40 largest metro areas to determine which are "most vulnerable to future shocks" by assessing markets with the most strained lending conditions and which are most overvalued. PMI's market risk index, on the other hand, ranks the top 50 largest MSAs according to how likely it is that they'll experience price declines in the next two years, by looking at price volatility, the use of adjustable-rate mortgages. trends in appreciation, unemployment, interest rates and affordability.

Having talked to the folks at PMI about their methodology, I would guess their analysis is the more sophisticated of the two. They have specified exactly what it is they are trying to quantify -- the chance of a price decline in two years -- and when they run their numbers, they generate an actual risk score for each MSA.

Forbes is also looking at valid risk factors -- share of ARM loans, loan-to-value ratios, vacancy rates -- plus something they call price-to-earnings ratio, which attempts to measure a homeowner's return on investment. This is done by taking the median home price for a market and dividing it by annual rents minus taxes and insurance for those properties. The idea is to get a better handle on the potential for market slowdowns to hurt prices in already overvalued markets.

PMI not only looks at price acceleration and deceleration -- the change in home-price appreciation from year to year -- but price volatility going back five years. That's one reason Las Vegas -- which doesn't even show up on Forbes' top 10 list -- is judged by PMI to be nearly as risky as Phoenix.

There are several aspects to price trends: whether prices are going up or down, the rate at which they are going up or down, and how much they've gone up or down over the long run. 

Prices were still going up in Phoenix and Las Vegas in the first quarter of 2007, for example, and they were going up even faster in Phoenix (at an annual rate of 4.52 percent per year) than in Las Vegas (1.69 percent). Prices going up, that's good, right?

Well, not necessarily, if you look at what was happening at the same time last year. Prices were going up at an annual rate of 37.33 percent in Phoenix in the first quarter of 2006, and 16.08 percent a year in Las Vegas. That means we've seen quite a bit of price deceleration in the last year.

Price appreciation in these markets had been quite rapid, but market forces hit the brakes hard. Although prices hadn't stopped going up yet earlier this year, the rapid deceleration was a warning that's what will happen next.

But what's been going on in the last year doesn't tell the whole story, so PMI also calculates what it calls a volatility score using the standard deviation of quarterly two-year price appreciation rates for the previous five years. When you take into account the long run of strong price appreciation in Las Vegas for the last five years (and other factors), PMI thinks the city is at a higher risk for price declines than West Palm Beach, for instance, even though West Palm Beach experienced twice as much price deceleration from Q1 2006 to Q1 2007.

So PMI and Forbes are in agreement on four cities. What about the rest?

PMI's risk index pretty much jibes with Forbes on Miami, labeling it as one of 15 MSAs where there's a 50 percent or greater risk of price decline in the next two years. But PMI only sees a 44.5 percent risk of price declines in the San Francisco MSA. According to PMI, cities not even mentioned by Forbes like Boston, Washington D.C., Tampa, and Ft. Lauderdale all have a higher risk of price declines than San Francisco.

If you like PMI's methodology, Forbes also appears off the mark in including Chicago, Denver, Kansas City and Cincinnati on its top 10 list. Those four MSAs were in the lowest two of five risk groups created by PMI, with none judged to have more than a 20 percent risk of price declines.

Of course, there are lots of independent trends within a given MSA so owning property or house hunting in any of these cities doesn't make you a daredevil. But would you have even started reading this without the image of Evil Knievel jumping through a ring of fire?

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