What’s Down With Real Estate?
Kurt Brouwer September 23rd, 2009
Home prices are way down, but an uptick may be underway. However, commercial real estate — office buildings, malls, warehouses, hotels, theaters — is still heading south.
Let’s start with home prices. This chart shows the decline in home prices as shown by the S&P / Case-Shiller home price data versus the owners’ equivalent rent line (OER), tracked by the Federal government.
Owners’ equivalent rent attempts to measure the market value of homes in terms of rental income. Without going into the details, I believe OER constitutes a good benchmark for evaluating whether or not homes are overvalued, undervalued or fairly-priced.
As you can see, we are getting back to a reasonable valuation level for homes. However, markets typically overshoot on the downside of fair valuation just as they often overshoot on the upside. If that’s the case, more trouble is ahead.
According to this data, home prices peaked in early 2006 and have slid ever since, except for a modest uptick in prices recently. We do not know whether or not the bottom has been reached, but we believe we are quite close. However, even if a bottom has been reached, real estate activity - sales of existing homes, new construction, remodeling - will remain at low levels for some time to come.
Commercial Real Estate: Commercial real estate has also fallen hard although the downturn started later than that of residential. Unfortunately, the decline and fall of commercial property has been very quick indeed. This chart compares the decline in residential with that of commercial. The blue-gray bars denote periods of recession. The blue is residential and the red line is commercial.
Source: Calculated Risk
As you can see, commercial real estate took longer to begin falling, but the downturn has been steeper. Now, both real estate markets are off considerably from the highs.
With falling prices for homes, those who provided residential mortgages have been the big losers. And, unfortunately, the government is the ultimate deep pocket when it comes to home mortgages through takeovers of Fannie Mae, Freddie Mac and the possible takeover of FHA.
With falling prices for commercial real estate, those mortgages are under extreme pressure also. But, commercial mortgages are typically held by regional and local banks. Those institutions are now struggling and we have seen a rash of bank failures as a result. In a way though, the Federal government is the ultimate guarantor for banks too through FDIC guarantees.
For more on bank loans, see Bank Problem Loans Keep Growing.
- Business , Economy , Money , Personal Finance , debt , real estate
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