Home Prices: Do Not Expect a Quick Rebound

Is the housing slump really that bad? After all, the S&P 500 last week fell more in a single day (3.5 percent) than home prices have fallen in the past year nationally (3.1 percent).

Still, it could be years before home prices regain the peaks seen before the current stumble - and even that's optimistic.

"I expect prices and sales to be modestly growing by June in most of the country," said David Lereah, the chief economist for the National Association of Realtors and perhaps the most bullish housing economist. "But we'll have to go into 2008, maybe even 2009 before we get even close to the peaks we saw in late 2005 or early 2006."

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Two big factors could prolong the slump: the glut of homes on the market after a record building boom, and the fact that prices saw unprecedented gains during the white-hot real estate market of the first half of the decade.

Another worry is rising mortgage defaults, especially in the subprime sector, that could lead lenders and regulators to choke off the credit that fed the previous booms.

Celia Chen, director of housing economics for Moody's Economy.com, says she thinks it will take until 2009 for prices nationally to reach the peaks hit in 2005. Take inflation into account, she said, and a full recovery could take more than 7 years.

Hugh Moore, a partner with money manager Guerite Advisors who has been studying home prices, thinks over-supply is the biggest problem.

New homes completed and available for sale reached a record high of 175,000 in January, up 47 percent from a year earlier, according to the Census Bureau. The Realtors' trade group reports existing homes for sale was up 23 percent to 3.5 million.

The glut of new homes has hurt major U.S. builders. New Jersey builder Hovnanian Enterprises (Charts) became the latest to report a loss late Thursday, following operating losses at Pulte Home (Charts), KB Home (Charts) and Centex (Charts).

Don Tomnitz, CEO of No. 1 builder D.R. Horton (Charts), which has stayed in the black, said earlier this week he doesn't expect 2008 to be a great year and added, "'07 is going to suck."

Moore also points to the latest quarterly Census report showing a record 2.1 million empty homes on the market available for sale. That's a jump of 34 percent from a year earlier and the sixth straight quarter of record vacant homes.

"That's a huge run-up in the numbers, that says there's a very big overhang of inventory," Moore said.

He said the vacancies are either the result of investors looking to dump a home on an overbuilt market or someone who lived in the home who has moved despite not being able to find a buyer. Either way, he said, "the way the housing market has dealt with it in the past is a long period of price stagnation."

Moore and others also worry about the growing problems of defaults and delinquencies in mortgages to subprime borrowers.

The problems in the sector are causing lenders to change their standards at the same time that Federal regulators are also proposing a tightening of guidelines.

"People who a year ago could have purchased a house with a subprime mortgage aren't going to be able to purchase a home," said Paul Kasriel, chief economist for Northern Trust in Chicago. "And many people who have subprime mortgages that are now subject to rate reset will not be able to refinance. That means increased foreclosures and more inventory on a market that already has too much."

New Century Financial (Charts), the No. 2 subprime lender, which had previously revealed its auditor had doubts about its ability to continue in business, announced Thursday evening it had stopped taking applications for new mortgages because of trouble raising financing.

And No. 6 subprime lender Fremont General (Charts) said a week ago it would exit the subprime market because of the demands of regulators and market conditions.
One bright spot, according to David Stiff, chief economist of Fiserv Lending Solutions, is that so far there hasn't been a recession or a downturn in the job market, as there was with past housing slumps.

"All previous downturns were caused by economic weakness. This one came about through overbuilding," said Stiff. But even Stiff says that controlled for inflation it could take three to four years to see price gains.

But Dean Baker, the co-director of the Center for Economic and Policy Research and a leading proponent of the theory that there has been a bubble in housing prices, says that he believes it could take five to seven years before prices get back to their highs on a nominal basis.

If prices are adjusted for inflation, he thinks that prices will never recover their recent highs.

"If you look at historical data, home prices have stayed pretty much flat in real terms, maybe being a few percentage points above inflation or income," he said. "That's why the run-up in prices the past eight years was so peculiar. And the run-up is what created the bubble."