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Is this the right formula for a housing bubble?

Home prices are not the only ingredient

Housing Bubble
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While the housing market is feeling some wobbles right now, leading economists say there is no cause for concern that, one, the market is in a bubble and, two, there is a chance of that bubble popping soon.

The reason for this conclusion is primary due to doubts that there is even a bubble in the first place.

More than 4 million residential property owners regained lost equity in 2013, primarily due to home price gains, but as a result, the market is starting to talk of a bubble, CoreLogic (CLGX) most recent MarketPulse report said.  

However, rising home prices are not the only angle to look at the housing market.

“Because most homeowners use their income to pay for a home mortgage, there is an established relationship between income levels and home prices,” Mark Fleming, chief economist with CoreLogic, said.

“In the long run, home price growth cannot be sustained above income growth because housing would become unaffordable, demand would decline and home price growth would either slow or decline to realign with income levels,” he continued.  

Bubble watching is as much art as it is a science because there is no definitive measure of fundamental value, Jed Kolko, chief economist for Trulia, said in its latest Bubble Watch report.

“We estimate that home prices nationally are 5% undervalued in the first quarter of 2014, which means we are not in a nationwide housing bubble,” Kolko said.

According to Trulia, prices reached a high of 39% overvalued in 2006 first quarter, then dropped to being 15% undervalued in 2011 fourth quarter. One quarter ago quarter prices looked 6% undervalued, and one year ago prices looked 10% undervalued.

However, regionally the housing market paints a different picture, with some areas like California recording a heavy percentage of overvalued markets.

Home pries are above their fundamental value in 19 of the 100 largest metros. Three of the five most overvalued housing markets are in southern California: Orange County, Los Angeles and Riverside-San Bernardino.

But even adjusting for the fact that the number of housing market where prices look overvalued is rising, the number of overvalued markets is still low compared with the longer-term historical view.

In the fourth quarter of 2014, prices were overvalued in 19 of the 100 largest markets, the highest number since the fourth quarter of 2009, Trulia said. This is compared to the height of the bubble, were all 100 were overvalued, and 91 were overvalued by more than 10%.

“Analyzing home price levels relative to fundamental prices leads us to conclude that there is no need to fear a bubble for at least a few years to come, if at all,” Fleming said. 

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