The continuing depreciation of residential property values at the end of last year has made housing look more undervalued relative to income than ever before, according to analysts at the research firm Capital Economics.
Based on the latest Case-Shiller home price index, Capital Economics’ study shows that in the fourth quarter of 2010, housing was 21 percent undervalued when compared with disposable income per capital.
Looking at data included in the index published by the Federal Housing Finance Agency (FHFA), the firm found that housing in Q4 was 15 percent undervalued as measured against individuals’ disposable income.
Capital Economics says its results illustrate “housing is exceptionally undervalued,” and the gap is getting bigger. In its third quarter 2010 report, the research firm pegged the Case-Shiller index readings as 19 percent undervalued and the FHFA index as 14 percent below what would constitute a balanced housing value in relation to income.
The recent fall back in house prices, coupled with low rates, explains why the initial monthly mortgage payment on a median priced house bought with a 20 percent down payment has fallen to a record low of 13 percent of the median income, Capital Economics pointed out in its report.
Home prices in 29 states hit a new cycle low in the fourth quarter of last year, and the research firm says on boththe FHFA and Case-Shiller house price indices, housing now appears close to fair value when set against rents.
Such favorable valuations mean there is plenty of scope for housing to perform well in the medium-term, according to Capital Economics, but over the next year, the firm says the combination of weak demand, high supply, and more forced sales of foreclosed properties will push prices lower.
As Capital Economics pointed out, the sharp fall in the mortgage delinquency rate at the end of last year means there are fewer homes in the foreclosure pipeline, but the elevated number of defaulted properties still in process means home values will continue to be negatively impacted by the presence of distress for some time.
On top of low prices, mortgage rates have fallen back a bit in recent weeks, leaving them even further below the 20-year average of 7 percent, the firm’s analysts wrote. Last week marked the third consecutive week that rates have continued to decline. A national survey conducted by Freddie Mac shows that the average 30-year fixed-rate has dropped to 4.87 percent, while the 15-year fixed-rate has slipped to 4.15 percent.
When you wrap declining home prices and historically low mortgage rates together, Capital Economics says, “The incredibly favorable affordability and valuation environment is the housing market’s one big positive.”
But despite this fact, mortgage applications have remained subdued. While buyer demand is notably weak by conventional standards, Capital Economics says the decrease in mortgage apps of late reflects, at least in part, the prevalence of cash buyers.
The company says the recent “de-valuing” of housing stock appears to be attracting cash buyers and investors back into the market.
They have driven 70 percent of the increase in existing home sales seen since last July, particularly among heavily discounted foreclosed homes, Capital Economics pointed out. Over that same period, first-time buyers have been responsible for just 6 percent of the increase in sales of previously owned homes.