This article grapples with a recent report which predicted an imminent housing recovery, instead arguing the market has not yet reached its bottom in pricing.
In recent news
A recent study by The Demand Institute heralded the arrival of rock bottom for real estate pricing. The study identified 2012 as the year in which the nation’s housing market will begin its recovery process, as prices rise from 2012 to 2017.
This study predicts the housing recovery will be accomplished in two phases:
- first, an increase in rental demand; then
- an increase in the demand for single-family residences (SFRs).
As homeownership rates decline, buy-to-let investors are seizing the opportunity to acquire income property earnings by purchasing multifamily residences and SFRs to supply the increasing tenant demand for rental housing. The increase in SFR purchases (whether by investors or homeowners) will stabilize real estate pricing, building lender confidence in the profitability of home loans.
Increased lender confidence will loosen currently strict lending policies, allowing those with sizeable debts and still-weak incomes to borrow money. Even if their incomes will not support the burden of a home loan, Americans will respond to stabilized housing prices and easy loan terms with eagerness and begin to buy in order to realize the American Dream of homeownership.
The Demand Institute predicted an improved housing market beginning this year, but admitted its prediction assumed no negative developments in Europe’s economy or future, “unforeseen events” which would significantly impact the American economy.
They missed most of the tea leaves, as is becoming the trait of those who fail to observe the evidence about:
- zero-bound interest rates with only an upward rate trajectory possible when we finally escape from this Lesser Depression;
- essentially no job growth sufficient to build buyer confidence;
- speculators making up half the demand for housing units, which means the properties they purchase will be thrown back on the market when anticipated gains fail to materialize;
- a world in which all major economies are struggling;
- holders of currencies all around the world running fast to invest in U.S. real estate, artificially running interest rates down and barely supporting current home prices which are still too high; and
- today’s Lesser Depression following a similar decade-long trajectory of extended recovery.
This list is nowhere near exhaustive.
We have at least four more years before home prices will move upward without abatement.
All this evidence suggests we have at least four more years before home prices will move upward without abatement, and then move only at the rate of consumer inflation.
Why can’t they see all this clearly?
Speculators vs. owner-occupants
Of most concern in this report is the manner in which it predicts the housing market will rebound. Purchasing prices will stabilize — but not as a result of buyer income or job stability. Instead, the increase will be in response to an artificially “healthy” market based on the wealth of investors – speculators? What is needed to resuscitate housing market is owner-occupants to buy SFRs, not wealthy investors.
More home loans will be originated not because more borrowers will be financially capable of repaying the loan amounts, but because lenders will loosen their underwriting standards to gain more profits.
These kinds of “positive” developments are not what residential real estate is all about. Worse, many of those rushing to buy property at the present are not long-term investors, but fix-and-flip speculators. These conditions are precisely those that created the housing bubble from which California is still recovering.
Fortunately, the likelihood of lenders dramatically lowering underwriting standards for home loans in the near future is not great. The introduction of a standard qualified residential mortgage (QRM) seems to be one of the many real estate factors The Demand Institute failed to include in its calculations. Adherence to QRM mandates requires greater caution in loan originations, not less.
first tuesday’s recovery forecast
While a 2012 landing of the housing market sounds irrationally dreamy, first tuesday forecasts the California market has not yet reached its bottom in pricing. Prices have yet to dip below the mean price on the equilibrium pricing trendline.
The California market has not yet reached its bottom in pricing. Prices have yet to dip below the mean price on the equilibrium pricing trendline.
Prices are only likely to rise after this occurs, as any historical analysis of tiered real estate pricing will tell you. Thus, prices will not rise until sales volume rises. This will not occur until additional California jobs in the 350,000-400,000 annual range exist for two years running, a circumstances which is still a couple of years away.
2016 is a more reasonable expectation for sales volume to measurably and sustainably increase. And since volume must first rise, 2017 is likely to be the first year prices will rise, and then rise at the rate of consumer inflation as they face two to three decades of rising interest rates, a total reversal of the past 30-year experience. Any premature indication to the contrary is only evidence of real estate’s bumpy plateau of recovery, as real estate sales volume continues an alternating rise-and-fall pattern.
Following these events, a period of rising interest rates will occur, driven both by a rise in demand for purchase-assist financing and the Federal Reserve’s (the Fed) upward adjustment of interest rates to pull out excess supplies of cash and limit asset price inflation in the real estate market, thus preventing a repeat of the reckless lending, buying and selling seen during the Millennium Boom.
So, while prices will rise with an organic jobs recovery and result in increased demand, rising interest rates will hold prices down, keeping this current roller coaster ride of the past four years going for quite some time.