Home Prices Seen Falling in Some Areas as Rates Increase

Home prices are climbing too fast relative to buyer incomes, signaling that property values may fall in some U.S. cities once mortgage rates rise and reduce affordability, according to a study by Zillow Inc.

Driven in part by borrowing costs close to historic lows, buyers spent three times their annual incomes on homes at the end of last year, up from a 2.6 multiple from 1985 to 1999, Zillow said in a statement today. That means properties were almost 15 percent pricier relative to incomes than before the housing bubble of the mid-2000s, according to the Seattle-based real estate research firm.

“The days of historically high levels of housing affordability are numbered,” Stan Humphries, Zillow’s chief economist, said in the statement. When interest rates rise, property prices “will have to either remain stagnant while incomes catch up or, quite possibly, home values will have to fall in some markets. This will especially be the case in some markets that have seen strong home-value appreciation.”

Median wages aren’t keeping pace with home prices, which are rising as low borrowing costs drive demand for a tight supply of properties. Prices climbed 10.2 percent in February from a year earlier, the biggest gain since March 2006, according to CoreLogic Inc. Phoenix had the largest increase among major metropolitan areas, with single-family home values rising 21 percent, the Irvine, California-based firm said.

Record Low

The average rate for a 30-year fixed mortgage dropped to a record 3.31 percent in November, and was 3.54 percent last week. That compares with a 9 percent average from 1985 to 1999, according to Freddie Mac data compiled by Bloomberg.

Rates may rise to about 4 percent by the end of this year, and 4.5 percent by late 2014, Keith Gumbinger, vice president of HSH.com, a Riverdale, New Jersey-based mortgage-information website, said in a telephone interview.

The economic growth and wage inflation that should accompany higher rates will help offset the negative effect of rising borrowing costs on the housing market, Philip Weingord, chief executive officer of New York-based Seer Capital Management LP, said today in an interview on “Bloomberg Surveillance” with Tom Keene.

“We’re just in the beginning of real estate prices starting to come back,” Weingord said. “We expect to see real estate prices continue to go up over the next several years.”

Homebuyers in 24 of the 30 largest metro areas tracked by Zillow paid more in the fourth quarter relative to regional median income than in 1985 to 1999, Zillow said. The areas where price-to-income ratios rose the most from their pre-bubble levels included San Jose, California; Los Angeles; Portland, Oregon; San Diego and Denver.

Only Cincinnati, Chicago, Cleveland, Atlanta, Las Vegas and Detroit had ratios lower than historic norms, Zillow said.