What I Think About Home Prices

Today, the Federal Reserve will raise interest rates again, bringing the Federal Funds rate to 2.25%, up significantly (125%) from the beginning of 2004.

While most market watchers, especially real estate analysts, want us to believe that higher interest rates will not have a negative effect on the housing market, we only need to look across the Atlantic Ocean to see what happens when interest rates rise.

Like the Fed, the Bank of England has been raising interest rates too. While the Fed will raise rates again today for the fifth consecutive time here in the U.S., the Bank of England has raised interest rates six consecutive times. Hence, the Federal Reserve is only one rate hike behind the Bank of England.

What I find most interesting is that the housing market in the United Kingdom did not start to react to higher interest rates until between the fifth and sixth rate hike. Here’s what I’m talking about:

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— Asking prices for homes in the U.K. fell 1.7% in October. In August they had dropped 2%.

— There were 40% more homes listed in the U.K. in October 2004 compared to January 2004.

— The annual rate of increases in asking prices for homes in the U.K. has now fallen three consecutive months in a row.

— It’s taking 40% more time to sell a home in the U.K. now as compared to the spring.

— Some regions that experienced strong price appreciation are now experiencing the biggest declines in asking prices. In Wales, asking prices for homes are down 9% from only July 2004.

I’m sure many real estate analysts will tell you these events can’t happen here. But I ask why not? For those who think property prices only go up, please check history and you’ll find many time periods when home prices went down.

The inventory of homes in America is much greater than in the U.K., so it’s not just a supply situation. And while the Dow Jones Industrial Average had been rallying of late, U.S. new- home builder stocks have not. Finally, history has proven there is a direct correlation between interest rates and home prices. Personally, I’m bearish on property prices for 2005.