Commentary for August 17, 2009

| August 17, 2009

There has been a lot of talk lately about a “bottoming” process in the housing market. Sales have risen as prices have continued to fall across most markets, but this is an expected development as economic principles dictate that falling prices spur demand. That’s basic Economics 101. However, are the fundamentals underlying these “positive” developments in housing supportive of the bottoming thesis? The speculative bubble in real estate that peaked nationwide in 2006 was initially stopped in its tracks by defaults in the subprime market. Interest rate resets on subprime loans spurred the initial wave of losses that drove the rapid decline in the housing market over the past three years. Before a true bottom can be formed, the mortgage rate increases that have fueled the foreclosure firestorm need to be addressed. Are we truly out of the woods in that regard? Let’s take a look at the data:

As you can see, the subprime mountain of resets peaked in late 2008 before dropping off sharply by the middle of this year. However, there is another such reset mountain directly ahead of us, and the bulk of those adjustments will not occur until 2010 and 2011. Thus, it is critical to consider how this next wave of adjustments will impact both the housing market and the overall economy. How can a long-term bottom in real estate be put into place when we are only essentially halfway through this process? Odds are it can not.

It has now been three years since a few insightful analysts such as Bill Gross correctly called the top of the highly speculative real estate market, but when a bubble of that magnitude bursts, it takes much longer than most realize to unwind the excesses that have been built into the system. We have come a long way, but we still have a long way to go.

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Category: Commentary, Market Update

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