Housing Is Still Off Balance
You might think the recent uptick in home sales-the second in as many months-would be a sign that the ailing housing market is on its way to recovery in 2007.
But according to economists like Edward Leamer, "you'd be dead wrong."
Despite a prediction of moderate economic growth, a 10 percent increase in the stock market, and as many as three interest-rate cuts by the Federal Reserve Board in the coming year, the director of the UCLA Anderson Forecast says residential real estate will nonetheless be a "moderate to poor" investment in 2007-with median prices for new homes declining from 5 to 10 percent nationally and existing-home prices treading water at best.
"Over the last five years, a home was seen as an investment," says Leamer. "Now it's a just place to live."
It's a sober reality that he and many other economists expect to persist as houses that have become all but unaffordable slowly revert to the 3 to 5 percent annual gain they historically posted before a rush of speculation pushed up prices by 20 percent a year and more in some markets.
In places like Los Angeles County, where only 1 in 20 households can now afford to buy the median-priced $510,000 home, Leamer estimates that the market is overvalued by as much as 50 percent, "so it could take five or 10 years [of flat prices] before things get back to normal." The same goes for areas like Phoenix and Miami, where huge backlogs of unsold houses are likely to sit on the market until sellers finally throw in the towel and lower prices aggressively.
Although inventories of unsold homes have leveled off recently, that could change when the spring selling season lures frustrated sellers to list their homes again. "A lot of people are still hoping their investments turn out," Mark Zandi, chief economist at Moody's Economy.com, says of sellers who opted to pull their homes off the market over the winter rather than lower their price. "It's delayed the correction."
Trouble spots. Of course, markets that didn't see big price increases during the boom-such as Houston and Dallas-don't have the same affordability and oversupply issues and are expected to continue to buck the downward trend. But in economic trouble spots like Detroit, epicenter of the auto industry's demise, house prices could erode even further.
As Leamer predicts, there's a chance that a slumping economy will compel the Fed to lower short-term rates. That could prove to be an opportunity-or, rather, a reprieve-for those with adjustable-rate mortgages.
But few economists expect the housing market to be helped like it was the last time the Fed lowered rates (and helped spark the buying frenzy). While Fed loosening could lower rates on adjustable mortgages somewhat, new, tougher guidelines for banks making such loans should restrain demand.
More scrutiny is also expected in the subprime lending market, where delinquency rates have nearly doubled over the past year to about 8 percent of all loans, according to analysis by UBS. Fewer loan originations from this increasingly important pool of buyers "could make a tough year even tougher," says Zandi, who predicts the market will continue to weaken at least through midyear.
Meanwhile, long-term mortgage rates aren't expected to get much lower than the 6.2 percent lenders now charge for a 30-year fixed loan-not enough to make homes in still pricey markets any more affordable.
That will leave sellers little choice but to make up the difference. "Either they'll have to lower their prices, or they'll have to wait it out," Leamer says.
Perhaps for a very long time.
This story appears in the January 15, 2007 print edition of U.S. News & World Report.
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