Interesting Analysis of Case-Shiller Home Price Index Data
(Entry originally posted Monday, April 6th and inadvertently erased by the bumbling author.)
An analysis of the publicly available data which constitutes the S&P/Case-Shiller Home Price Index produces some interesting conclusions.
Introduction
During the mid-1990s the Government proactively pursued the goal of increased homeownership for the poor, the credit-challenged, minorities and inner-cities.
Many tools were employed but the primary incremental policies used to achieve this goal were:
- Revisions to the Community Reinvestment Act which directed lenders to make loans to people who could not otherwise qualify for them based on merit
- The reallocation of Fannie Mae’s/Freddie Mac’s expenditures towards subprime loans which constituted a large and recurring supply of capital to fund subprime loans and a huge potential profit opportunity for the fee-based mortgage industry
- Pressure brought to bear on lenders by the GSEs to meet subprime lending goals
- Regulatory influence over the lending industry
Increased access to credit with generous terms caused demand for houses to expand, transaction volumes to rise and inventories of for-sale properties to tighten. As a result, home prices began to rise nationally at an unsustainable pace in 1997.
Framework for Analyzing Case-Shiller Data
Since home prices began to decouple from the fundamentals of value in 1997 it makes sense to analyze current home values relative to the sustainable levels which existed before the Housing Bubble distortion. Analyzing what these values would be today adjusted for inflation provides an interesting perspective on where home prices should be and potentially allows us to project where they are heading.
Housing prices are expected to generally track inflation because it is logical that they should do so (as the cost of inputs including materials, labor and land rise with inflation and excess price appreciation will lead profit-seeking builders to increase supply) and because several hundred years of housing price data clearly establishes this trend.
Analyzing the Data
The Case Shiller figures since January 1997 are interesting.
While the 10 City Price Index has fallen 30.2% from its peak value in June 2006, the index needs to fall an additional 34.4% from current values to reach inflation equilibrium with January 1997.
Eight of the 19 markets analyzed need to fall by in excess of 25% to reach inflation-adjusted, pre-bubble valuations and 10 markets need to decline by more than 20%.
The most overvalued markets continue to be New York and Los Angeles which need to fall an additional 41% from current levels.
Some may draw comfort from the observation that many markets analyzed are approaching inflation-adjusted equilibrium, but this perspective may prove to be optimistic. Most of the factors which determine market prices are far less favorable today than they were in 1997. The supply of houses is excessive, inventories are higher, credit is tighter, expectations for current/future price performance is negative, subprime loans no longer exist, and the primary mechanism which propelled prices to unsustainable heights (affordable mortgages) are no longer available.
Potentially of even greater concern though are those markets which are not currently overvalued relative to 1997.
Detroit and Cleveland are actually trading in real terms at less than prices twelve years ago. These cities have been impacted by rust-belt and auto industry issues and are unique cases. But they may provide insight into what happens to housing prices in economic downturns. Slumping economic activity and high unemployment have depressed housing values. But which one of the remaining 17 markets analyzed isn’t experiencing an economic slowdown and rising unemployment?.
Even more shocking are the markets of Las Vegas and Phoenix. Each has effectively reached equilibrium but both are experiencing rapid price declines which are accelerating. In fact these two were the worst performing markets year-over-year for January with Phoenix down 35.0% and Las Vegas down 32.5%. It seems likely that both markets will trade at substantial discounts to real 1997 prices in the near future. This is amazing as each was a recent boom town, in states with growing populations and without the macro-economic challenges of Ohio and Michigan.
This should scare anyone who hopes that price declines will cease once we return to pre-bubble prices. It appears that the fundamentals which influence value, not the protestations of Washington DC, determine asset prices.
Based on my understanding of the primary causes of the Housing Bubble, my expectations for the Affordable Mortgage Depression and my interpretation of the Case-Shiller data, I expect every market analyzed to see home price index values fall below inflation-adjusted, January 1997 levels.
Categories: Market and Economic Predictions, Housing Market Analysis, AMD Can Not End Before 2013, Focus on Home Prices, Case-Shiller
Spot on. Just as I hav been saying on my blog for a year. You have to love the truth of Case/Schiller.
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How do you stop your analysis of causes in 1997, missing all the interesting stuff in 1999 and this decade that made the bubble a bubble? Shallow doesn't even begin to characterize your analysis of causes. More like completely off the mark. The rest of your analysis (future trend), is by now obvious to all. I will be interested to see what comments you publish on this topic.
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I appreciate your comment. I promise you I have not ignored the fascinating events which occurred from 1999 through 2006 except for the purposes of this one analysis. For a full understanding of my perspective on the exhaustive list of causes you may want to read my 10 part Affordable Mortgage Depression Manifesto featured on this site.
I restricted my focus to housing prices since 1997 for this piece because I am interested in identifying the causes of the Housing Bubble and when it actually began. I admit that hundreds of players were culpable for abuses which contributed to the mania and continue through today.
From my perspective though, events after 2001 are for the most part boring. It was during this time that the Housing Bubble entered the public consciousness. This period was also defined by the ostentatious, in-your-face excesses which have come to define the era and attract attention. I view the tail end of the Bubble as less interesting, though, because those events were both predictable and inevitable given the mortgage environment established during the mid-1990s through 2001.
If we don’t understand why the Housing Bubble, Credit Bubble, Consumer Spending Bubble and Dearth of Savings occurred, how are we supposed to deal with those problems at present and avoid them in the future?
The data doesn’t lie. Housing demand increased materially in the mid-1990s and prices began to appreciate unsustainably and accelerate in 1997. Why?
As for future trends being obvious… It is my perspective that the overwhelming majority of people have no idea what will transpire over the next several years. And since I have been verifiably predicting the collapse of housing prices since 2005 and a Global Depression since 2006, based on my understanding of the causes, I feel I have at least a small amount of credibility.
Whitney
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I see after looking at your manifesto that you do have a much more complete take on things than was apparent in this post, which I found from a link on another site. I am used to a different perspective, much more tied in with the banking collapse, which I think is integral to the housing boom and bust. That's why I thought your take was kind of off mark; the bank policies implemented since 1999 seem to have really driven the boom and bust of housing. But I see you do not ignore these; you just don't seem to assign as much importance to them as I do. I guess I spoke hastily. You have an interesting website.
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Just want to add my 2 cents here. There's other factors you may want to consider. For example, Atlanta market looks like being close to the bottom, which is far from true. Why? Unlike other markets like LA and NY, the supply in Atlanta during the boom has been enormous, meaning a way too much and easy constructions especially around suburban area. So, we may want to consider the fact each market has a corresponding "inflation adjusted index value" to get better analysis.
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I agree with your analysis ofAtlanta
I didn’t comment onAtlanta Atlanta Charlotte , Detroit and Cleveland
And you have hit on the reason why.Atlanta
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Not sure how this plays out in other markets, but it strikes me that at least for Los Angeles you would want to start even farther back (or a couple of years later). By 1997, the market still had not begun to significantly recover from the 1990 bust, so not clear to me that this would be a "sustainable level" (could well be that it still was a bit over-corrected).
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Interesting point. And Los Angeles did see prices declines from 1990 through 1996.
I guess the question is “when were prices sustainable”? At the peak of the 1980s bubble? Or did prices decline for six years because they were overvalued in 1990?
From January 1987 through June 1990 the Los Angeles Home Index appreciated 69%. A pretty impressive gain for only a three and one half year period. And it does not appear that the slump fully erased these dramatic gains.
It looks to me like Los Angeles prices fell because they were overvalued in 1990. I have no idea what year would represent the right sustainable value. Maybe it pre-dates 1987? But given the reasons why prices started to rise nationally in 1997, I am sure that the appropriate value has not been seen since that date.
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