Real Estate’s Coming Death Rattle

by Justin Weinger on May 8, 2007

Lately there’s been rampant speculation on where the housing market will go from here; you’ve got the optimists who say that we’ve hit the price floor and the market will only go up from here, you’ve got the pessimists (like me) who say that the worst is yet to come, and you’ve got a whole lot of people in between that are just going a long for the ride.

The one thing that we can all agree upon is the fact that the housing boom is over.

If you were to look at rest estate as a business, you would probably see something that you would never invest your money in: the number of homes for sale continues to increase (in business terms, this means rising inventory), while the prices for the homes that are selling continue to fall (in business terms, this would mean decreasing revenues).

In looking at the real estate market this way, I think you’d be hard pressed to say that this would be a business that was in good shape, and more than likely you’d say that this business was on the verge of imploding.

And on that note, here’s what I see happening in the real estate market over the next three to five years. Keep in mind, I’m certainly no expert but I don’t think it takes an expert to see what’s coming:

Because the economy is beginning to show major signs of slowing (economic growth rate is down, unemployment is beginning to rise, etc.) the Federal Reserve at some point in the not too distant future – probably within the next six to 12 months – will gradually lower the prime interest rate. In turn, this will cause the real estate market to show a plateau in prices or, quite possibly, a slight rebound (less than a few percentage points).

However this will be short lived for two main reasons:

  1. Because of the inflationary pressures brought about by the ever increasing energy costs (face it, energy prices are NEVER going to go down) the Fed will be unable to keep prime low, and will be forced to raise the rates to help ease inflation
  2. Because the dollar continues to fall, the Fed will have to raise interest rates in order to keep foreign investors from dumping our currency.

So, when the Fed realizes it has to raise interest rates, look out below. Real estate prices will resume their decline due to the fact that “cheap” (low interest rate) mortgages will be a thing of the past and people won’t be able to afford mortgages at the substantially higher rates. This will cause housing prices to fall to levels that people will actually be able to comfortably afford at significantly higher interest rates.

Putting this all together, I don’t think it’s unrealistic to see another 10% to 15% drop in home values over the next couple of years.

Will the market eventually bottom for good? Absolutely. At some point we will return to our typical 2.5% to 3% annual increase. Unfortunately, I don’t think this is going to happen for quite some time.

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{ 3 comments }

Doug May 9, 2007 at 4:42 am

Grab your cat and your girlfriend (optional) and run for the hills. The world is going to end!

Head out to the golf course and grab a hot dog and a few beers and you’ll forget you even own a house…for a few hours at least.

Brian Carr May 9, 2007 at 4:59 am

I think I’m one of the fortunate ones that happens to be positioned pretty well if the housing market continues to dump, but I think there are a lot of people who are going to be in pretty bad situations if I’m right about where real estate is headed.

Craig May 9, 2007 at 11:46 am

I completely agree with the points made here. The market is doing badly right now and its going to stay that way for a while. I’ve noticed prices fall heavily here in Los Angeles, which is a big deal since some of the prices being asked for are very high. Just wanted to ask have you guys heard of Bought & Sold on HGTV? It’s a show about the inner workings of the real estate business. It basically shows 12 different agents trying to show houses and close the deal. It gives you huge insight into the way homes are marketed and how price levels are decided upon in the Northern New Jersey market, which is one of the toughest in the country. You can check out a preview – http://web.hgtv.com/webhgtv/images/pac/59889/start_at_home.html?section=boughtsold,panel=videos – It’s on Sundays at 10PM e/p time on HGTV. I work with them so I have the inside scoop. Definitely highly recommended and worth checking out. By the way, how long do you think it will be before we return to the 5% – 8% annual increase, year-wise?

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