Wachovia economist Mark Vitner predicts that the housing market will bottom in the middle of 2009 and 2010, with a peak to trough price decline of between 22% and 29%. This is in line with the current consensus, which moves farther into the future with each passing month.
Vitner compares house prices to both per capita disposable income and Owner’s Equivalent Rent (OER). Both measures are far from perfect, but they offer a useful framework for analysing the extent to which houses were overvalued during the boom, and how far they might fall during the bust.
Vintner begins by comparing median home prices to per capita disposable income. This measure suggests prices are close to a bottom:
Over the entire period, the median sales price has been on average 6.19 times per capita income, on a three-month moving average basis. The ratio reached its peak of 7.34 in October 2005 and its low was hit at 5.55 in December 1990. The previous peak was 7.17 hit back in August 1980… The most recent reading shows housing prices at 5.74 times higher than per capita income in May, or just 0.19 point above the all-time low… Based on a comparison between housing prices and per capita income, there has already been a substantial correction in home prices and this particular measure suggests prices are close to the bottom.
Vintner cautions, however, that the data may be skewed by tax rebates artificially inflating income figures. He continues by saying that if the ongoing bust is similar in magnitude to the preceeding boom, prices will trough at about $189,000 later this year.
Vintner also compares prices to Owner’s Equivalent Rent, which is a measure of what owners would have to pay were they to rent the same property. This measure suggests prices will fall another 10%:
Using the NAR data, the P/E ratio (ratio of home prices to rent) for housing is currently 1.188, which implies that considerable additional declines in home prices will be necessary to bring prices back
in line with their historical norm. If the P/E ratio continues to correct at the same pace that it has since peaking back in October 2005, then the P/E ratio should drop back below 1.0 in the third quarter of 2009 and retest its all-time low sometime around the end of next year.
The OER data suggests that prices still need to fall another 9.1% for a total peak-to-trough decline of 20.3%, which will bottom in late 2009. Vintner concludes:
For all the difficulties involved in projecting a bottom, some reasonable approximations can be developed from the benchmarks we have established. Our number one take away from is that home prices will likely bottom out some time between the middle of 2009 and the middle of 2010. A simple average of all the price measures puts the peak to trough decline in home prices at between 22.2 per cent and 29.2 per cent.