The headlines are flashing: the housing market is in recovery mode. It isn’t very uncommon to hear that the real estate market in the U.S. economy is hot once again. No doubt, the reasons for all this optimism towards the housing market are pretty strong, as well.
The S&P/Case-Shiller index of home prices in the U.S. economy increased 10.9% from March of 2012 to March of 2013. This was the biggest increase in U.S. home prices since April of 2006. (Source: Woellert, L., “Home Prices in U.S. Rise by Most Since 2006 in March,” Bloomberg, May 28, 2013.) The chart below shows the change in the S&P/Case-Shiller index over the last eight years:
Chart courtesy of www.StockCharts.com
Similarly, the new-home sales data in the U.S. housing market showed better-than-expected results. According to the U.S. Commerce Department, new-home sales in April increased 2.3% to an adjusted annual rate of 454,000, compared to 444,000 in March. From the same period a year ago, new-home sales edged higher by 29% and new home prices increased 15% in April of that year. Economists surveyed by MarketWatch expected the new home sales number to be 430,000. (Source: Goldstein, S., “April new home sales up 2% to 454,000,” MarketWatch, May 23, 2013.)
Moreover, existing home sales in the U.S. economy edged higher by 0.6% in April and registered an adjusted annual rate of 4.97 million, compared to 4.94 million in March. Compared to a year ago, existing-home sales were up 9.7% from April of 2012, when they totaled 4.53 million. (Source: “April Existing-Home Sales Up but Constrained,” National Association of Realtors web site, May 22, 2013.)
On top of all this, the mortgage rates, which may cause trouble in owning a home, are low, as well. According to Freddie Mac, the 30-year fixed mortgage rate in April stood at 3.45%, down from 3.57% in March and 3.91% in April of 2012.
Despite all the good news and improving conditions in the U.S. housing market, investors need to keep in mind that the housing market is still off from where it was prior to the housing crash in 2007. According to the S&P/Case-Shiller Home Price Index, home prices in the U.S. economy are still down roughly 25%. For homeowners who bought at the peak, their homes will have to go up by more than 33% for them to break even—meaning that their home’s value would be the same as the price they paid for it.
Fitch Ratings is also sending a warning signal that prices in some areas of the U.S. housing market are getting ahead of reality—home prices increasing too much can be a concern. The agency mentioned Los Angeles as one example, where home prices are up 10%, but the unemployment is still staggering and real incomes have been falling for the past two years. (Source: “US Residential Recovery Too Fast in Some Local Economies,” Fitch Ratings web site, May 28, 2013.)
Keeping all of this in mind, investors looking to find opportunities in the real estate sector must practice a degree of caution. This doesn’t mean they can’t profit. Rather, it means that investors shouldn’t lose track of possible implications of the Federal Reserve bringing its monetary policy towards normalization, with interest rates going up, resulting in mortgage rates going higher. A shift towards normalization could make homes less affordable and may just result in a decline in home prices.