A Warning About Home Prices Rising Too Far and Too Fast in Some Markets

Fitch Ratings issued the report titled ‘US Residential Recovery Too Fast in Some Local Economies’ showing that the ratings agency now thinks that the recent home price gains have just been too big of gains. Fitch shows that several residential markets are “outpacing improvements in fundamentals and could stall or possibly reverse.”

Speculators and capital inflows are now competing for dwellings. Fitch said, “The supply-demand imbalance is even more pronounced in regional markets that are seeing strong institutional and retail bids for rental properties. The low rate and steep drop in prices, coupled with the decline in homeownership, have attracted an estimated $8-$10 billion of new capital to this sector. Many markets have a large number of buyers vying for a limited number of homes.”

Does it always seem odd that the biggest housing price recoveries are in the areas which were hit the hardest? Many of these local economies with housing price improvements outpacing the fundamentals are in California. Fitch even pointed out that the state has seen price increases of 13% over the last year.

Low housing prices and low interest rates have kept affordability high in many markets, even as fundamentals are improving and unemployment rates continue declining. What Fitch sees as a risk is that some cities never fully unwound the mid-2000s bubble and a rapid price gain is a potential cause for concern.

Fitch spotlighted Los Angeles as one market where prices are up more than 10% in the past year, but that is during a time when the unemployment rate remains above 10% and when real incomes have declined over the past two years. Fitch said, “Prices are now more than 75% above pre-2000 levels.”

Few factors are believed to be capable of bringing long-term support to sustain the recent pace of improvement. Some of the positive factors are limited supply of housing and elevated demand. Fitch said, “The demand is artificially high as borrowers remain on the side lines waiting for prices to stabilize. We believe this level of housing demand is likely to abate once the pent-up demand is satisfied.”

Another issue is that the supply of houses for sale is also artificially low. Foreclosure sales have abated and many underwater borrowers are now hoping that price gains will bail them out.