Home Prices Still Dropping - Just Not as Fast

February Data for the S&P Case-Shiller Index was released today. Prices are still falling, and quickly. Each of the 20 major metro areas measured by the index showed another a month-over-month decline, for the fifth month in a row. The Composite 20 Index is now off 31% from its peak, reached in July 2006. It fell another 2.2% from January to February. 15 of the 20 metro areas showed a greater than 10% fall in prices versus last year and one city, Phoenix, has now fallen over 50% from its peak. (More detail by metro area in the table below.)

(Click to enlarge chart in new window.)

Despite the government’s efforts to put a floor under house prices—printing money to buy MBS in order to hold down interest rates, acting as lender of last resort via Fannie/Freddie/FHA—prices continue to fall. This is bad news for bank balance sheets and existing homeowners, but good news (sort of) for the rest of us who’d like to purchase a home one day at a reasonable cost. Unfortunately, as home prices continue to fall, even renters are put at risk. Everyone who keeps their savings in banks and/or is employed by someone that does, is put at risk as the collateral supporting bank balance sheets continues to deteriorate. Even prime borrowers are defaulting in much greater numbers as house prices fall. This is because negative equity is a better predictor of default than a borrower’s credit rating.

Incidentally, there are those who argue now is the time to buy since interest rates are so low and house prices have declined. I disagree. If you’re planning to live in the house for many years, you have to consider that mortgage rates are likely to increase while you’re still in the house. If incomes don’t increase as well, then the monthly payment an average buyer will be able to afford will stay the same. Same monthly payment + higher interest rates = lower home values. (Click to enlarge.)

In other words, with higher rates, the interest component of the monthly payment will be higher. To compensate, house prices will have to fall farther. Higher incomes could support higher house prices, but my feeling is interest rates are likely to head higher before incomes do.

This gets us back to the cheap credit “trap” being set by the Fed. It can’t raise rates, even when the economy returns to “normal.” If it does it will blow a bigger hole in bank balance sheets as the values of interest-rate sensitive assets decline.

Getting back to the data, I’ve added a column at right that shows the decline from the peak for each metro area. The Comp 20 peak was reached in July 2006, but individual metro areas peaked at different times. Boston, for instance, peaked in September 2005 while Charlotte peaked in August 2007.

More analysis of the Case-Shiller data at WSJ.

Comments

[Andrew Butter:]

40% Peak to trough - mark my words to market

Apr 28 03:35 PM

[johnnybigsp...:]

CS is also delayed by a month... with the March run-up on the DOW i would expect an even slower rate of decline (if not positive increase) in March.

I personally don't think that prices today are sustainable yet, but I wouldn't expect it to be as simple as straight down or straight up... there will also be a bumpy period.

Apr 28 07:17 PM

[Between The...:]

However, lending standards were relaxed at a rate much greater than the increase in interest rates. The ability to pull equity out of a home and creative products like Option ARMs (thus "OptionARMageddon" is upon us) juiced the markets for housing way more than interest rate changes could. Now that we have reverted to an environment of sane lending practices, interest rates and the ability of the purchaser to repay (crazy standards, I know) will go back to being a significant component of housing prices in aggregate.

On Apr 28 03:33 PM Cetin Hakimoglu wrote:

> This is not necessarily true. The fed was able to raise rates beginning
> of 2004, but the housing boom continued for another three years.

Apr 28 08:07 PM

[conceptwizard:]

to much inventory yet at 12.1 months, unemployment still climbing, variable rate mortgages resetting until 2011. what makes anyone think this is going to slow? We are looking at that line dropping under the 2000 level. Banks are sitting on $600,000 foreclosures not on MLS according to Realtrac, thus controling the price drop, and pre-foreclousures are climbing. Credit is tighter so qualifications are stricter.

Apr 28 08:35 PM

[Tony Petroski:]

Sales activity in my neck of the woods is picking up rapidly. That has to have an impact on prices and it's not all buyers of the DVD "How to Make a Million Buying Forclosures." I think a lot of the activity is first-time homebuyers taking advantage of the $8000 government subsidy.

Apr 28 09:46 PM

[Celcius:]

In the last 100 years housing bubbles have always given up their gains and reestablished their historical rate of appreciation which is the rate of inflation.

The Economist magazine has published multiple research articles over the past 5 - 10 years on housing bubbles that are worth reading.

Apr 28 11:49 PM

[mlimberg:]

It's all in the data folks:

Unemployment is increasing.
Home values are falling.
Loan requirements are stiffening.
Personal income is falling.
Interest rates are Low, and their next move will be higher.
Credit Card Debt and interest rates on card debt is increasing.
Foreclosures are increasing.
Foreclosures in the future are expected in increase in numbers.
Property Taxes and insurance are rising.
HOA's are Bankrupt.
Your Federal Income Tax Rate will increase in the near future.
State income tax rates will likely raise.

But, almost all Realtors want you to believe that now is the best time to buy.... It's not. Three years from now, real estate will be much cheaper.

Apr 29 07:05 AM

[evergreen16:]

Everybody wants to buy at the bottom and sell at the peak. But it is our own psychological and emotional volatility that creates this market volatility. Because of that we create the booms and busts, and for the same reason, we always miss the high and low points.
This is why those few that go against the chatter, become ultra rich and the rest got nothing.
And by the way, as you said, when economical activity increases, so will interest rates. And if you didn't make the choice by then, you'll end up paying much more. Higher price + higher interest + you'll be competing with other people trying to affordable housing before it's too late, again. So good luck to you all!

Apr 29 01:01 PM