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Big Gains Unlikely as Home Prices at Fair Value

By    |   Thursday, 27 Mar 2014 05:16 PM

Unless the housing market is in a bubble, home prices are determined by average family income and interest rates.

With income growth stalled and interest rates more likely to rise than fall over the next few years, home prices have little upside potential.

In a balanced market, a family making the median income should be able to afford the median-priced home. With low interest rates, that means the typical home would be priced at 3 to 4 times the median income. The current ratio of home price to income is 3.6 at the national level, towards the high side of what the fair-value market price should be.

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Regional variations in income explain a great deal of the variation of home prices. Average incomes in Detroit are lower than they are in Washington, D.C., which is one reason homes sell for so much less in Detroit.

Home prices are more complicated than this simple ratio but average income levels also affect local tax collection and the quality of government services, including education and police protection. Quality-of-life factors like that, which are perceived to drive home values, are simply reinforcing the effect income has on home prices.

In order for home prices to rise, median household income would have to increase or interest rates would need to decrease. Neither seems likely in the short term.

If incomes remain near their current levels, home prices should drop when the Federal Reserve starts raising interest rates. Many Fed officials expect rates to start moving up next year and the housing market could respond to higher rates with lower prices.

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MichaelCarr
Unless the housing market is in a bubble, home prices are determined by average family income and interest rates. With income growth stalled and interest rates more likely to rise than fall over the next few years, home prices have little upside potential.
Home,Prices,Housing,Real Estate
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2014-16-27
Thursday, 27 Mar 2014 05:16 PM
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