Positive Housing Market Trends

Mortgage rates have hit record lows, which means housing affordability is at an all-time high. But are home buyers taking advantage of this opportunity? The latest real estate news suggests that potential home buyers are becoming actual home owners.
According to the National Association of Realtors (NAR), pending home sales for November increased 7.3 percent to the highest level in 19 months. The Pending Home Sales Index assesses the health of the real estate market by evaluating housing contract activity. An index of 100 is considered healthy; the November index sits at 100.1, up from the previous year’s November index of 94.5. The index hasn’t been this high since April 2010, when the then-upcoming deadline for the home buyer tax credit created an increased demand in the housing market. In today’s market, there might not be a tax credit incentivizing buyers, but there are record-low mortgage rates. Potential buyers who have been waiting on the sidelines for the market to improve are finally signing contracts to take advantage of a 30-year fixed-rate mortgage below 4 percent.

The Supply of Homes on the Market Decreased
The total housing inventory for November fell 5.8 percent. By the end of the month, 2.58 million existing homes were available for sale. Of those homes, 29 percent were foreclosures and short sales, down from 33 percent a year ago; while still high, this is movement in the right direction.

Construction Spending Increased
The improving real estate market is also boosting the construction trade. According to the U.S. Census Bureau of the Department of Commerce, construction spending rose 1.2 percent in November, due in large part to a 2 percent increase in residential construction spending.

Residential construction spending is up, foreclosures are down and more real estate contracts are being signed. Unfortunately, not all of those contracts will make it to closing. According to NAR, around 33 percent of its members reported contract failures, on track with October numbers but far above the reported 9 percent of contract failures a year ago. The possible reasons for these contract failures are varied; declined mortgage applications, failed home inspections, and low appraisals can all sink a deal. NAR economists believe that the number of existing home contracts that make it to closing should increase in the months ahead.

Are You Ready to Buy?
If you’re looking to purchase a home, take every precaution to ensure your deal isn’t one of the 33 percent. Secure your financing before placing an offer on a home, and seek a second appraisal if the first is too low. If your first deal falls through, don’t be afraid to make an offer on another home. Based on the latest real estate news, it’s a good time to buy.

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Real Estate: It’s time to buy again

Forget stocks. Don’t bet on gold. After four years of plunging home prices, the most attractive asset class in America is housing.

The talking heads who are down on real estate will hate to hear this, but America needs to build a lot more houses. And in most markets the price of new homes are going to rise, not fall.

Metro study covers 19 states, or around 65% of the U.S. housing market, including all the ones hardest hit by the crash: Florida, California, Arizona, and Nevada. The company’s client list includes virtually every major homebuilder and bank — from Pulte (PHM) and KB Home (KBH) to Bank of America (BAC) and Wells Fargo (WFC).

The key figures that Metro study collects, and that those clients prize, are the number of homes that are vacant and for sale in each city, and the number of months it takes to sell all of them. Together those figures measure inventory — the key metric in determining whether a market has a surplus or a shortage of new housing.

Today we are witnessing an extraordinary reversal of the new-home glut that helped sink prices just a few years ago. In the 41 cities Metro study covers, a total of 78,000 houses are now either vacant and for sale, or under construction. That’s less than one-fourth of the 343,000 units in those two categories at the peak of the frenzy in mid-2006, and well below the level of a decade ago. If we had anything like normal levels of buying, those houses would sell in 2½ months. We’d see an incredible shortage. And that’s where we’re heading.

If all the noise you’re hearing about housing has you totally confused, join the crowd. One day you’ll read that owning a home has never been more affordable. The next day you’ll see news that housing starts have plunged to nearly their lowest level in half a century, as headlines announced in March. After four years of falling prices and surging foreclosures, it’s hard to know what to think. A far brighter view is that the lack of new home building is a huge help that a lot of people are ignoring. People think I’m crazy to be optimistic, but housing is looking like the little engine that could.

To see where real estate is truly headed, it’s critical to keep your eye firmly on the fundamentals that, over time, always determine the course of prices and construction. During the last decade’s historic run-up in prices, Fortune repeatedly warned that things were moving too fast. In a cover story titled “Is the Housing Boom Over? The analysis found that the basic forces that govern the market — the cost of owning vs. renting and the level of new construction — were in bubble territory. Eventually reality set in, and prices plummeted. Our current view focuses on those same fundamentals — only now they’re pointing in the opposite direction.

So let’s state it simply and forcibly: Housing is back.

Two basic factors are laying the foundation for dramatic recovery in residential real estate. The first is the historic drop in new construction that so amazes me. The second is a steep decline in prices, on the order of 30% nationwide since 2006, and as much as 55% in the hardest-hit markets. The story of this downturn has been an astonishing flight from the traditional American approach of buying new houses to an embrace of renting. But the new affordability will gradually lure Americans back to buying homes. And the return of the homeowner will start raising prices in many markets this year.

Of course, home prices are low and home construction is weak for a reason: incredibly low demand. For our scenario to play out, America will need a decent economy, with job creation and consumer confidence continuing to claw their way back to normal.

One big fear is that today’s tight credit standards will chill the market. But we’re really returning to the standards that prevailed before the craze, and those requirements didn’t stop prices and homebuilding from rising in a good economy. The credit standards are now at about historical levels, excluding the bubble period. We saw prices rising with fundamentals in those periods, and it will happen again.

To see why, let’s examine the remarkable shift in home affordability. A new study by Deutsche Bank measures affordability in two ways: first, the share of income Americans are paying to own a home. And second, the cost of owning vs. renting. On the first metric, the analysis finds that homeowners now pay just 9.8% of their income in after-tax mortgage, tax, and insurance payments. That’s down from 17.2% at the bubble’s peak in 2007, and by far the lowest number in the Deutsche Bank database, going back to 1999. The second measure, the cost of owning compared with renting, should also inspire potential buyers. In 28 out of 54 major markets, it’s now cheaper to pay a mortgage and other major costs than to rent the same house. What’s most compelling is that in all of the distressed markets, owning now wins by a wide margin — a stunning reversal from four years ago. Not all markets will bounce back equally, of course. Housing resembles the weather: The exact conditions are different in every city. But in general the big U.S. markets fall into two different climate zones right now. We’ll call them the “nondistressed markets” and the “foreclosure markets.” A more detailed look shows why the forecast for both is favorable.

Nondistressed markets: Ready for launch

No cities went untouched by the collapse in prices over the past few years. But some markets held up reasonably well. In those areas prices spiked far less than in bubble cities — the foreclosure markets, we’ll get to shortly — chiefly because they didn’t get nearly as many speculators who thought they could flip the homes or rent them to snowbirds.

The nondistressed markets will be able to get prices rising and construction growing far faster than the harder-hit areas for a simple reason: Although some of these markets are still suffering from foreclosures, they don’t need to work through the big overhang haunting some of these areas. The number of new homes for sale or in the pipeline is extraordinarily low in nondistressed markets. The challenge for these cities is to generate enough demand to reduce inventories of existing, or resale, homes. In the entire country the resale supply stands at 3.5 million houses and condos. That’s a fairly high number, since it would take more than eight months to sell those properties; seven months or below is the threshold for a strong market.

But in the nondistressed cities, the existing home inventory is lower, closer to seven months on average. So a modest increase in demand will translate into strong gains in both prices and new construction. That should happen quickly, because most of those markets are now showing good job growth.

Moody’s Analytics expects that prices will rise three to four points faster than inflation for the next few years in virtually all of the nondistressed markets. The view is that prices will increase in line with rents, which are now growing briskly because apartments are in short supply. Those higher rents will encourage buyers to cross the street from an apartment to a home of their own.

Buying is better than renting. The main reason? Buying has simply become a far better deal than renting. The market got completely inflated, then it crashed, so prices are coming back to where they should be. As people watched prices fall, they have also watched the rent on their apartment spiral upward. They calculate that they should be able to purchase a townhouse for between $100,000 and $200,000 and pay less per month for a mortgage.

The nondistressed markets will also lead the way in construction. I predict that for the nation as a whole, single-family housing “starts” — measured when a builder pours a foundation for a new home — will rise from 470,000 in 2010 to as much as 700,000 this year. A large portion of that activity will happen in nondistressed markets where a tightening supply of resale houses will start making new homes look like a good deal. The main competition for new construction is from resales. The prices of those homes have stayed so low, because of low demand, that it’s hampered the ability of builders to sell new houses.

But many would-be buyers simply prefer a brand-new house. Eventually they’ll move from renters to buyers, and the trend will accelerate now that prices are no longer dropping.

Foreclosure markets: The outlook is brightening

The true disaster areas for housing since the bubble burst have been in places that boasted great job and population growth in the mid-2000s, only to suffer a housing crash that swamped them with empty homes and condos and crushed their economies. But people always want to live in those sunny locales, and their job markets are starting to recover, albeit slowly. In foreclosure markets the inventory problem is far greater because it includes not just traditional resale homes but millions of distressed properties. Fortunately those houses are now such a screaming deal that investors, including lots of mom-and-pop buyers, are purchasing them at a rapid pace. To be sure, some foreclosure markets won’t rebound for years because they’re both vastly overbuilt and far from big job centers.

But the outlook is brightening for these areas. A big positive is the tiny supply of new homes entering the market. The big test in these cities is absorbing the steady stream of distressed properties. The foreclosures put downward pressure on the market far out of proportion to their numbers because of markdown pricing. We had levels of inventory even higher than this in 1990 and 1991. But they were traditional listings, not foreclosures, so they didn’t create the big discounts you get with foreclosures.

We may see a flow of around 1 million foreclosures a year, at a fairly even pace, from now through 2013. That figure is frequently cited as evidence that the market is doomed for years in most foreclosure markets. Not so. The reason is that the vast bulk of those units, probably over 600,000, are being converted to rentals either by investors or their current owners. Those properties are finding plenty of renters, since the rental market is still extremely strong across the country. Remember, the millions who lost their homes to foreclosure still need somewhere to live.

Individual investors and investment funds are entering the game. Investors have no trouble renting the houses they buy. The “cap rate,” or return on investment after all expenses, is between 8% and 10% — twice the rate on 10-year Treasuries. Investors rent to people who lost their homes but are reliable renters. A lot of people can’t be buyers because their credit got hurt.

Even with investors jumping in, buying activity in foreclosure markets hasn’t yet increased enough to bring inventories down. It will soon. I think prices will fall a couple of percentage points lower in the distressed markets in the short run. But that will be overshooting. It’s like an elastic band. If prices do drop this year, they will need to bounce back because they’ll be far too low compared with rents and replacement cost. Renters will come off the sidelines to purchase homes in the years ahead, precisely the opposite trend of the past few years.

This recovery will look like all the others: It will bring a severe shortage of housing. We’ll get a big surge in demand and the drywall companies will take a long time to ramp up, and it will take years to get new lots approved. Buyers will show up looking for a house in a subdivision, and all the houses will be sold. The builders will tell them it will take six months to deliver a house.” But those folks, will be set on buying a place. And they’ll want it so bad they’ll bid the prices up! In other words: Beat the crowd.

It’s a Great Time to Buy a House