Tuesday, August 24, 2010

Home Prices Headed Down

Home Prices Headed Down


The situation is really sad and infuriating at the same time. I think we can all agree that artificially cheap and easy money (i.e. excessive lending) is what got us into this housing bubble (really a debt/lending bubble) mess to begin with. Therefore, it is incredibly foolish and irresponsible that the federal government (and some states such as CA) is trying to "solve" the problem by artificially propping up demand for homes by pushing the banks to lend more, bailing out banks, guaranteeing the trillions (yes TRILLIONS) in losses that will ultimately come from Fannie Mae and Freddie Mac, artificially keeping interest rates low by buying over $1.25 trillion in mortgage securities in order to encourage more borrowing, expanding FHA lending dramatically, giving out $8,000 tax credits to first time home buyers, etc. Homes are still overpriced when compared to incomes (see my personal research below). Keeping homes overpriced by artificially allowing more home buyers into the market and encouraging other home buyers to purchase more expensive homes (because the "money is so cheap") is completely irresponsible. Why should Americans be happy about being forced to overpay for homes (due to having to compete with home buyers who should not be home buyers, but only are do to the "government housing stimulus" described above) - that only leaves less money available for saving, investment, non-debt spending, etc. In short, it makes it harder and harder to get by on their current incomes. The American Dream is being killed by excessively high home prices and our all knowing and caring government is causing this!. Let me say this clearly: YOU CANNOT SOLVE A PROBLEM CAUSED BY TOO MUCH DEBT BY TAKING ON MORE DEBT. It is impossible. Instead, the government should just let home prices fall to where they should naturally be given the current economic situation (i.e. a lot lower than they are right now). The housing market is headed down as soon as the foolish government market propping ends.

There is 0% chance that any market is actually "stabilizing" since that implies an actual free market. "Temporarily Artificially Propped" is a more accurate description of our current real estate market. See my blog post from November 2009 (I correctly detailed the current state of the real estate market and accurately predicted what would happen after the tax credit and other government market propping expired): Our Phony Real Estate Market. Also, see my personal research below.

There is no way that home prices have reached a bottom. I analyzed the data in the NAR Home Affordability Index (HAI) from 1/1989 through 6/2010 and found that the Median of the Ratio of Median Home Price to Family Income is 2.92 and the Average of the Ratio of Median Home Price to Family Income is 3.07. Over this same period, the lowest reading occurred in 12/1990 at 2.654. Therefore, it is safe to say that from an historical perspective the typical price of a median home should be about 3 times the median family income. The 6/2010 reading was over 3 at 3.045 (i.e. over 4% higher than the historical median and about the same as the historical average). The problem is that we are not in a “typical” economic environment – we have record foreclosures that seem to persist and 10% unemployment. Given that the lowest reading of 2.654 occurred in 12/1990 and that our current economic conditions are far worse than 12/1990, it is logical to conclude that the Median Home Price to Family Income Ratio should be below 2.654. If the ratio declines to 2.5, home prices will decline by nearly 22%. If the ratio declines to 2.5 and family incomes decline by 5%, home prices will decline by over 28%. Given that personal incomes are declining and that a 2.5 ratio is probably a bit optimistic, I believe it is very feasible that home prices will decline by an additional 30%. As a result, there will be more short sales and foreclosures. See the graph below for a representation of the Ratio of Median Home Price to Family Income Over Time and how it compares to the Average and Median of that same Ratio.

National Association of REALTORS Home Affordability Index data showing that homes are really not affordable by historical standards.


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