Investors in the single-family housing market could create a price floor, locking in higher prices for underwater homeowners who eventually hope to return to positive equity, suggested Elizabeth Duke with the Board of Governors for the Federal Reserve System.

In a recent speech, Duke went over what is already well known in the market: "investors have been attracted to the housing market because of low prices on REO properties," she explained. 

Low purchase prices and the potential for capital gains pulled in both large institutional investors and smaller individual real estate-minded investors.

"This increase in investor demand has supported house prices so far and may continue to provide a floor for them," Duke said.

As for how long the investor roll will last and whether they can lift prices as more REOs hit the market? Duke says, "I think house prices will continue to rise, as the supply of existing homes on the market will remain quite tight. I do not believe that a flood of houses on the market from households that are currently underwater or from bank REO is likely to materialize or to be sufficient to outpace growing demand."

Yet, Duke says investors are hard to predict. If prices rise on homes, investors could conclude that investing in single-family properties is no longer a profitable enterprise.

"Other investors may want to lock in their gains and sell properties," she explained. "The prospect of steady rental income and possible further capital gains, though, will likely continue to be attractive to many investors. In addition, I suspect that the development of large-scale rental of single-family homes as an asset class has gained enough traction with investors to continue in some form."

But housing while on a recovery remains challenged by tight lending conditions and low demand among younger homebuyers.

If pent-up demand eventually hits the market, Duke expects market dynamics to change for the better.

"Between 2006 and 2011, roughly 550,000 new households formed per year, on net, significantly fewer than the 1.35 million per year over the previous five years. Indeed, household formation from 2006 to 2011 appears to have been far lower than in any other five-year period since at least the mid-1960s."

As credit standards ease, Duke expects part of the problem to slowly fade away.

Yet, underwater homeowners are still making it difficult to assess the true direction of the marketplace.

She estimates the nation continues to have 7 to 14 million underwater homeowners who are hesitant to sell their properties in upside-down status.

"As a result, some potential sellers have not responded to the signs of housing market recovery by putting their properties on the market. The number of single-family homes for sale has fallen to its lowest level in a decade, which has likely contributed to the recent house price gains," she explained.

Duke says low mortgage rates continue to aid the recovery, but long-term success will be created by credit availability to households that are coming back on line and strengthening economic conditions that support homeownership.

In other words, an overall recovery comes down to 'if and when' pent-up demand surfaces in the form of new homebuyers.

kpanchuk@housingwire.com