Home Prices Have Bottomed, Again

The Case Shiller Home Price Index released yesterday showed a month over month price increase of 1.3% in both the 10 and 20 city composite.

We have seen bounces higher in prices during the 6 year decline that began back in 2006. During every bounce both the media and real estate experts declare that "the bottom is now in." The National Association of Realtors Chief Economist Lawrence Yun said, "he would not be surprised if home prices jumped 10% by June of next year because the market is healing."

There are two things that have created this temporary artificial jump in home prices:

1. The availability of government financed loans at low interest rates
2. Shadow inventory supply held off the market

Let's review the first. The following pie chart shows the dominance of the government in the mortgage market in 2011. The blue area represents the GSE's (Fannie Mae and Freddie Mac) + FHA (government mortgage insurer). They now control 90 percent of the market.

Many of these loans have been the 3.5% down payment FHA products that have allowed a tremendous amount of buyers to purchase homes over the past 4 years.

With almost every loan created today being insured or sent through the GSE's, interest rates have continued to fall month over month to new record lows (mortgage originators know they can immediately offload the toxic loan to the American tax payer). This has been combined with the 3.5% down payment program allowing many people to purchase homes that otherwise would not have been able to; meaning prices would be far lower without this artificial government (tax payer) support in place.

Even with these lax standards in place, more and more people are finding it difficult to qualify. There is the endless line of students leaving college with a mountain of student loans and no jobs to pay for them. There is also the enormous amount of potential buyers that have been hurt due to recent trouble paying mortgages.

Laurie Goodman of Amherst Securities recently reported that since 2007 19% of all borrowers (9 million) have gone 90 days delinquent on their mortgage or have had their mortgage liquidated. This means that about 20% of people that would formally qualify for a mortgage would not today because of this credit blemish.

Taking a look at shadow inventory, Goodman has reported that 2.8 million Americans are currently 12 months or more behind on their mortgages. Not only will these home owners not qualify for a mortgage when they are finally removed from their home, but their home will enter the market as inventory.

This is shadow inventory, which has continued to be held of the market creating an artificial "shortage" of homes. News reports are now popping up everywhere of a new problem in real estate; not enough homes to buy and bidding wars for properties available. This has also temporarily helped the home builders and brought optimism from buyers for the real estate future.

Imagine there are 5 homes on a street. 4 of the homes have people who have not paid their mortgage in over 12 months and the last home is for sale. With only one home available to buy, due to the artificial supply being held off the market, buyers bid up the price of that home. If the 4 homes sitting on the street as shadow inventory are foreclosed on next year the prices for every home on the street will fall including the buyer who successfully won the "bidding war." What a surprise waits for them when they find out at the first bar-b-que that none of their neighbors are paying their mortgage.

In addition to those that have stopped making payments and are living for free there are those that continue to make payments while their mortgage is underwater. Estimates have this number at over 10 million Americans, or close to 20% of every mortgage in the country.

I believe we are closer to the bottom in housing than the top. With artificial government loans and mortgage rates combined with an artificial shortage of home available on the market, perhaps home prices can trend sideways or tick slightly higher over the next year. Anyone who understands what is really happening, however, will be rewarded for their patience.

When the real bottom arrives for home prices you will not read about it in any media outlet in the country. You will hear then how prices will "never recover." You will then know it is safe to enter the water.

For much more on the importance of mortgage rates and shadow inventory see 2012 Real Estate Outlook.

h/t Calculated Risk, Sober Look, The Big Picture