Wednesday, 28 November 2007

US Home Prices continue to fall everywhere

The graph above shows the year over year changes in house prices as measured by the Case Shiller Home price index for 10 major cities. For the month of September home prices fell 5.5% year over year for the 10 city index whilst the 20 city index saw declines of 4.9% from the year ago period.

Home prices fell in all 20 cities of the Case Shiller survey. The decline in the 10 city index is the biggest since 1991. Whilst it is interesting to ponder how deep the price declines can go, more importantly is for how long they will persist.

From the graph you can see the last time home price falls peaked quickly but still fell, except for a brief period 3 month period in early 1992, for 3 years following the peak. Cumulatively home prices fell for almost 5 years between 1989 - 1994. If we consider that the latest housing bubble is probably the biggest in history, home prices could easily continue to fall for at least the next 3 - 5 years.

This graph above comes courtesy of Calculated Risk and shows in real terms (inflation adjusted) home prices back to 1987. It gives you an idea of the massive bubble in prices and how far it may yet have to fall. From Calculated Risk:

The second graph probably provides a better first estimate of how far prices still need to fall (for the Case-Shiller universe). If prices fall to 120 (in real terms) that is about another 25% from the current level.

This could happen with falling nominal prices, or from several years of inflation, or a combination of both. Say nominal prices fall 15% over the next three years, with a 2% per year inflation rate, then real prices would fall to about 130 on the Case-Shiller index.

This suggests to me that price declines have just started, and that the process will last several years. It's important to remember that different areas will see different percentage price declines - the bubble areas will see the largest declines - and the time frames for each location will be different.

Again this is not going to work itself out in a couple of months or even quarters, the deflation of home prices will most likely be a slow decline spanning several years.