When will housing prices stop falling?

John W. Schoen • Profile • E-mail

Last week's news that housing prices have fallen for the 12th consecutive month has many readers wondering when prices are going start going back up again. And just what will it take to turn them around?

When will the drop in housing prices stop? And how?
— Alex J., El Dorado Hills, Calif.

Forecasting the long-term direction of any market — stocks, bonds or housing — is a perilous endeavor.  But it seems pretty clear that the housing market has not yet hit bottom.

The recent slide in housing prices has been very moderate, but it’s only just begun — at least according to most widely watched data on both new and existing homes. As recently as the second quarter of this year, home prices were still up 3.2 percent from a year ago nationwide, according to Office of Federal Housing Enterprise Oversight. And after years of double-digit gains in many markets, home prices nationwide are down less than 1 percent, according to the National Association of Realtors. 

But there’s evidence that prices are falling faster than the numbers indicate. Many builders are adding “free” improvements like fancier kitchens and bathrooms to avoid cutting their asking price. Sellers of existing homes are offering incentives — like paying the cost of repairs.

If the slump continues, it’s going to be harder for sellers to get their original asking price. For one thing, the wave of foreclosures is forcing banks and other lenders to put hundreds of thousands of homes on the market priced for quick sale — usually at below-market prices. Those sales then become “comparables” — used by appraisers and future buyers to determine how much a similar house is worth. That puts further pressure on sellers to mark down the price.

Each local housing market is different, and each transaction is unique. But there’s ample evidence that many sellers haven’t yet cut prices enough to attract buyers. The most telling sign is the level of unsold homes on the market, which as of July was more than double what is was when the market was roaring ahead.

That backlog is probably one of the best indicators of a market turnaround: As that number comes down, it’s a sign that prices have reached a point where buyers are coming back into the market in big enough numbers to clear the unsold inventory.

But that may take some time. One big reason is that many would-be sellers are sitting out the slump and waiting for a turnaround. If they see signs of the market stabilizing and list their homes all at once, the backlog of unsold homes could shoot up again — putting more pressure on prices.

No one can say how long this will take to play out. During the last two major housing slumps — in the early 1980s and the early 1990s — it took several years before prices and sales recovered. Earlier this year, some housing market watchers had been looking for an upturn by the middle of next year. But after the recent turmoil in the mortgage market and monthly data showing foreclosures still rising, some of those forecasts have been pushed back to a recovery in 2009.

A lot depends on whether the housing slump spills over to the broader economy and brings on a recession. Though the housing industry is clearly in recession now, the overall pace of job and income growth, and the level of consumer spending, has many economists believing that a “soft landing” is still likely.

But any such forecast is based on a very fluid set of conditions. The mortgage market is still not back to normal. The Fed may or may not cut interest rates. Congress is considering a series of measures to help those facing foreclosure keep their homes.

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