Light at the End of the Tunnel For Housing…

But a Ways to Go to Get There

James Hagerty of the Wall Street Journal once again has written about upcoming speed bumps in the road to recovery in the housing debacle.  (see below following this commentary).

As the housing bubble commences the final–albeit still painful phase of bursting–we see light at the end of the tunnel.  It’s a way off but at least it’s not another train.  But there remains a lot of broken glass yet to walk barefoot over to get there.  One out of every five homes on the market are foreclosures.  The next 18 months includes the resets of Alt A loans (where buyers merely stated their qualifying income rather than having to prove it) and Option Payment ARMS (which are almost all deeply negative amortization and even more underwater than other loans). 

 We face continued high quantities of distressed real estate coming onto the market—and this does not even account for the pent-up supply that will eventually come on as prices recover in the future.  And recovery does not mean immediate return to the record price levels seen in 2007—that will be several years away. 

 So when do prices increase?  What are normal prices?  We are likely bouncing at or near bottom in most markets across the country, but do not expect any significant price recovery for 18 months as we work through this last lump of foreclosures and short sales.

 Since 1987 the Consumer Price Index grew at 2.9 percent on annual rate, while the Case-Shiller Home Price Index showed an annual compound appreciation rate of 3.9 percent. Thus, housing appreciates at the rate of inflation plus 1 percent per year.  The really attractive part of using the Case-Shiller Index rather than the median prices of all housing is that over time, home sizes have changed, which could erroneously lead to the conclusion of a greater than actual appreciation rate.  Since the Case-Shiller Indices are based on resales of the same property, size and other factors are automatically considered.

 If we assume that 2000 prices were normal, then the table below shows actual prices and expected prices since that time.   These data imply that in 2005, existing home prices were 29 percent over-valued, and that current prices are 11 percent undervalued.  Just like a pendulum swinging, the market is over priced on the top and underpriced on the bottom.

Normal Existing Home Prices

Year      CPI*  CPI Percent Change Median Existing Home Price Expected Median Price Actual vs. Expected Percent Difference
’00 172.700   $142,492 $142,492      0%
’01 177.400       2.7% $151,258 $147,794      2%
’02 180.000       1.5% $163,933 $151,439      8%
’03 183.700       2.1% $177,142 $156,066      14%
’04 189.100       2.9% $193,233 $162,214      19%
’05 194.900       3.1% $218,217 $168,812      29%
’06 202.900       4.1% $222,000 $177,429      25%
’07 207.651       2.3% $216,617 $183,358      18%
’08 219.102       5.5% $197,250 $195,303        1%
’09 214.774       -2.0% $172,742 $193,398      -11%

Consumer Price Index for All Urban Consumers: All Items

CPI data are from July of each respective year

Median home price is annual average of the median prices

So when do prices turn upwards?  It is my expectation that we will have minimal price changes (up or down) in the next 18 months (and that is a long time to forecast in these volatile times).  Eighteen to 24 months from now we will see home prices rise more than typical as we return to normal levels and prior to new construction coming back to normal levels.  I believe that builders have another 24 months of tough times ahead.  Where prices head will be a function of the rate of inflation and job growth.  The following table shows projected home prices under several levels of inflation.  And remember, in the short run prices may not change at all.

Assuming that inflation runs 2 percent per year, prices should reach the previous record by 2018.  At 3 percent inflation, prices may recover sometime in 2015.  But at 1.5 percent, reaching the previous price high will not be reached for more than a decade.

Forecast Future Home Prices

Based on Inflation + 1 Percent Annual Premium

            Annual   Inflation   Rate  
Year 0.5%     1.0% 1.5%     2.0%
’09 $172,742    $172,742 $172,742     $172,742
’10 $175,333    $176,197 $177,060     $177,924
’11 $177,963    $179,720 $181,487     $183,262
’12 $180,632    $183,315 $186,024     $188,759
’13 $183,342    $186,981 $190,674     $194,422
’14 $186,092    $190,721 $195,441     $200,255
’15 $188,883    $194,535 $200,327     $206,263
’16 $191,716    $198,426 $205,336     $212,450
’17 $194,592    $202,394 $210,469     $218,824
’18 $197,511    $206,442 $215,731     $225,389
            Annual   Inflation Rate   
Year 2.5%    3.0% 3.5%     4.0%
’09 $172,742    $172,742 $172,742     $172,742
’10 $178,788    $179,651 $180,515     $181,379
’11 $185,045    $186,837 $188,638     $190,448
’12 $191,522    $194,311 $197,127     $199,970
’13 $198,225    $202,083 $205,998     $209,969
’14 $205,163    $210,167 $215,268     $220,467
’15 $212,344    $218,573 $224,955     $231,490
’16 $219,776    $227,316 $235,078     $243,065
’17 $227,468    $236,409 $245,656     $255,218
’18 $235,429    $245,865 $256,711     $267,979

Source: Ted C. Jones, PhD, Senior Vice President-Chief Economist, Stewart Title Guaranty Company

Once again I invoke the TINSTAANREM clause.  (There Is No Such Thing As A National Real Estate Market).  Each real estate market is different, and within those markets, submarkets are likewise diverse.

Yes—there is light at the end of the tunnel—but getting there remains an arduous and uncertain journey.  Remember this is not rocket science.  Home prices rarely move exactly as expected from period to period, but in the long run, they sync up.  At least now we are now seeing the ground.  And any landing you can walk away from is not all that bad. 

Supply of Foreclosed Homes on the Rise Again- WSJ

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