Home sales are showing signs of revival in some of the nation's most devastated markets. That's good news, for sure. But two big questions remain: Is this flurry of activity sustainable? And is it a sign that prices nationally are at or near a bottom? Unfortunately for homeowners, on both counts there are reasons to be cautious.
Real estate agents say the jump in sales volume has a lot to do with the Federal Reserve-engineered decline in interest rates, which, according to Freddie Mac, (FRE) has brought the national average rate on 30-year fixed-rate loans to just 4.85%. That's the lowest in 38 years of record-keeping, and it's pulling in new home buyers. For people who purchase now, the monthly cost of home- ownership is below the cost of renting in such markets as Los Angeles, Las Vegas, Phoenix, and Tampa, according to John Burns Real Estate Consulting. What's more, the Obama Administration's efforts to prop up housing through loan modifications and other measures will hit full force in the coming months.
Trouble is, the impact of these measures will fade unless the government keeps shoveling out more money. In particular, there's a limit to how much more the Fed can do to pull down mortgage rates without eventually igniting inflation.
As for home prices, the outlook is worrisome. Look past the bidding wars in places such as Las Vegas, and you can't help but notice that heavy burdens continue to weigh on the housing market. One, of course, is the severe recession. Rising unemployment pretty much guarantees that foreclosures will continue to mount in the coming months, holding down prices. In addition, any sign of a real rise in demand will induce homeowners to try to sell houses that they've held off the market, says Ian C. Shepherdson, chief U.S. economist at High Frequency Economics in Valhalla, N.Y. Banks, likewise, may be sitting on as many as 600,000 repossessed homes they're eager to sell, says Rick Sharga, a senior vice-president at RealtyTrac, which lists foreclosed properties.
It may seem as if the bear market in housing that began in 2006 has dragged on for a long time, but in fact the decline has been brief by historical standards. In other countries severe financial crises like this one have usually caused inflation-adjusted house prices to keep declining for more than six years, according to research by Harvard University's Kenneth S. Rogoff and the University of Maryland's Carmen M. Reinhart. Translation: The pain isn't over yet.
How much further could prices fall? Pessimists such as High Frequency's Shepherdson predict an additional 20% decline in the S&P/Case-Shiller 20-City Composite Home Price Index. That's without taking into account the danger of extreme price declines inducing mass defaults. Many people who bought near the peak may be tempted to hand the keys to the bank, find a cheap rental, and put the monthly savings into rebuilding depleted college and retirement savings. Morality aside, the biggest downside to that is it prevents you from getting a mortgage for the seven years or so that the foreclosure remains on your credit record. If the taboo against voluntary default significantly weakens, the flood of foreclosed homes already hitting the market could turn into a tidal wave.
Of course, things could work out better than that. National inventories of new and existing homes are indeed shrinking, which is crucial for a market recovery. But after what we've been through, let's temper the optimism.