Inventory Overhand Will Stifle Significant Real Estate Price Upside – Friday, May 24, 2013

A new report from Zillow shows that 25%, or 13 million out of about 52 million, of all mortgage-holders are upside down on their mortgages.  Another 9 million, or 17%, don’t have enough equity to be able to afford to sell their house and move.  While home prices have shown some upside in recent months, these 22 million or 42% of all mortgage-holders, a large number of whom would like to sell if they could, will present a huge challenge to any significant price increase for real estate.

While every market in real estate is local, the dispersion of underwater mortgage-holders is fairly consistent throughout most communities and most states, those areas like Santa Barbara that had the largest increases during the boom, have larger concentrations of underwater mortgages.   As prices rise and negative equity values decrease, more and more of these underwater mortgage-holders will be able to sell.  Inventories will rise as prices increase, slowing or potentially stagnating price increases.

With so many current mortgage-holders desperate to get out from under the obligation of an upside down mortgage on a property for which they clearly grossly overpaid, it is unlikely that we will see any sizable price increases for several years, despite historically low interest rates.   One significant challenge to come in the years ahead will be rising interest rates.  The Fed has been holding rates artificially low with its QE3 bond buying program.  These bond purchases will certainly begin to tapper off by the end of this year, and perhaps as early as next month.  Without the Fed making these massive purchases every month, bond prices will begin to fall, driving yields higher.  Higher interest rates are not good for real estate prices as they make mortgages more expensive.  Rising rates will lengthen the process of wading through the inventory overhang of underwater mortgages even further.  To clear out all of these mortgages will take years, again preventing any sizable price increases for real estate.

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