My take since I deal with this every day, much to my consternation right now.
Real estate is very much regional/market specific. There are decent markets, and there are markets that are bad beyond belief. Portland, Seattle, and Salt Lake are actually decent real estate markets right now, and have been for the past 1-1/2 years. Miami, San Diego, Las Vegas, Phoenix are bad by historic proportions.
Housing starts have fallen nationwide from 2,000,000 in 2005 to a projected 850,000 this year, and potentially even less than that. Nationally home prices have fallen on average to 2005 levels, and continue to fall.
What got us to this point? There is one simple reason. The Alan Greenspan led Federal Reserve cut the Fed Funds rate to 1% and then increased rates at much too slow of a pace of 0.25% every 6 weeks until they reached 5.25%. This incredible amount of cheap money needed to find a place to go, and housing is where it went. By only raising rates at such a slow pace, they extended the cheap money source for way to long.
As this money flowed into the market, it drove speculative buying. All manner of new mortgage instruments were created, and ARM's, and interest only loans were made available at very low rates, which increased the pool of potential buyers significantly. As demand increased faster than supply, prices increased. As prices increased, more homes were supplied, and new mortgage instruments were created to take advantage of the new supply, and more buyers were now able to buy homes, which increased demand which pushed prices higher, which in turn increased supply even more. Suddenly a home was the best investment you could have, as it was appreciating at 10-20% a year, far better returns than the stock market.
This lead to speculation, using some exotic mortgage instrument, which further drove the process. The expectation was that with ever increasing home prices, you could refinance your mortgage, and the appraised value was now 20%-40% higher than you purchased at, which would allow you to move from subprime to prime, with a better rate etc. Eventually though there was a day of reckoning, when your ARM reset 3-4% higher, or your interest only loan required a balloon payment and a new mortgage. Some people could not pull it off because they didn't get 20% to 40% appreciation, and they had to double their monthly payment or they would default. Many defaulted, which suddenly changed the landscape.
Supply was now higher than demand, and when that is the case prices fall. As prices fell, appraisals for comparable homes also fell, which caused more people who were needing refinance to find out that they were still subprime, and they could not afford the new mortgage payment, resulting in a default. As more and more homeowners defaulted, this led to significant problems in the market for mortgage backed securities. Portions of these bundled mortgages were now in default, so these securities were now worth less. As more and more defaults happened these securities became worth less and less. Eventually the credit ratings agencies needed to down grade these securities, forcing the holders of the paper to write them down. This has led to billions and billions of $ written off. This has also dried up the secondary market for mortgage backed securities. The result is now it is incredibly hard to buy a home, because you cannot get financing. This reduces demand, and if supply remains the same while demand falls, prices will fall. As prices fall, then appraised values become less than the price of the home, meaning that it will move even prime borrowers into subprime.
We are not yet at the bottom of the housing mess, not by a long shot. Presently there a large number of US Banks that have taken huge write downs, same with a number of Canadian, British, German, French, Swiss, and Aussie banks. The first big melt down in August was because of Canadian, British and Swiss banks took huge write downs. Who is missing in all of these write downs? Who are two of the largest holders of US$? China and Japan. The Chinese have huge amounts of US$, and yet not a single Chinese bank has yet announced any write downs of mortgage backed securities. Do you all believe that China has only been buying US Treasuries, and no US$ commercial paper??? Of course not. They have a lot of these mortgage backed securities, and since their bankings system is not as transparent as ours we have no idea how much and how bad the debt is. They have had massive fiscal stimulus going on in China for 8 years, much of it driven by the Beijing Olympics, which is this year. That $80 billion fiscal stimulus is going to end. Same with much of the other infrastructure investment that China has been spending. At some point this huge flow will slow, and this bad commercial paper will flow to the top. When it does there will be a big correction in China. If the Chinese are no longer as willing to invest in mortgage backed paper, then there will be less money available to finance US housing, and demand and prices will change again.
