The Good and Bad of Higher Home Prices

Home prices have been rapidly advancing this year which has led many home buyers to move quickly to make a purchase. While this is sparking purchase activity, there is still the good and bad of higher home prices.

According to Corelogic, a data analysis firm, home prices rose 2.6% in May which is the most in seven years. This was also 12.2% higher than May of last year. Excluding distressed sales, home prices increased 11.6% on a yearly basis. In other data, the National Association of Realtors (NAR) latest report shows that home prices for May rose 15.4% from last year which was the 6th straight month of double digit gains. NAR data also indicates that the price reduction for short sales and foreclosures has also come down.

The reason for the rapid home price increase has been blamed on the lack of inventory. While some inventory has been bought up by corporate investors, much of it remains held by banks in the shadows, also known as shadow inventory. According to the National Association of Realtors, while 15 to 20% of foreclosed homes appeared on the market in 2008 and 2009, 80 to 85% were bought back and are still held by banks.

Regardless of the type of market that is currently in place, home buyers are purchasing homes. According to the Mortgage Banker's Association, the Purchase Application Index was down 3% on a seasonally adjusted basis for the week ending June 28th. However, it was still 12% higher than for the same week a year ago. This drop was most likely due to the rapid rise in mortgage rates for that took place last week. Interest rates have come down since then and are somewhat more stabilized. Any major increase in rates, along with the rapid increases in home prices, is likely to affect home affordability especially in high cost areas where jumbo loans are frequently required for financing. Even FHA mortgages, which are intended for low to moderate income households, will be more difficult to obtain since the increase in FHA insurance fees. In addition, tight lending will continue as long as lenders remain uncertain about regulations.

On the good side of rising home prices, it will be easier for homeowners to refinance if rates remain stable. Increasing loan to values are always a perk for those refinancing as it reduces a lender's risk and increases a borrower's chance of loan approval. While rising rates kept many refinance applications on hold for the week ending June 28th, according to the MBAA, HARP applications saw a burst of activity. The Refinance Index was down 16%, but applications for HARP refinances rose to 34% of total refinance activity. Many eligible homeowners are taking another shot at HARP as home prices improve. HARP loans are often cheaper and do not require the extensive paperwork that is needed for regular refinances.

If home prices continue to increase at a much faster pace than incomes, affordability will inevitably diminish. There will be less pressure if mortgage rates remain stabilized and low. However, there continues to be a lot of uncertainty surrounding housing and whether another bubble is evolving. This is something that only time will tell.

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