One of the reasons the housing crash was so abrupt was that so many houses, perhaps as many as 5 percent nationwide, were owned by investors. Some bought houses with large mortgages, hoping to “flip” them — to enhance their value in small ways, then sell them quickly. Others owned five to ten houses that they didn’t really live in, hoping to take gains on the appreciation of the property as real estate values crept up over the years. This formed a shadow inventory of houses, not officially counted as being available before the peak, but suddenly dumped on the market as soon as it became clear that housing values were no longer heading up. The influx of this shadow inventory forced a rapid downward adjustment in prices.
There are plenty of stories to indicate that this is happening again — that private investors and hedge funds are betting that the bottom is near in the housing market, and are buying up foreclosed and otherwise distressed properties, especially houses, with the idea of selling them in two or three years. The investors are hoping that the housing market will be operating in a more orderly fashion by then, so that the properties purchased now at distressed prices can be resold at higher prices.
As before, this bit of speculation may not work. The traditional housing market indicators, such as inventory levels, point to a further decline in the coming years. In addition to the active inventory, there is an enormous shadow inventory of houses whose owners want to sell now, but will not be able to sell until they pay down the mortgage further (or prices go up). This shadow inventory is probably between 1 in 7 and 1 in 4 houses, but whatever its actual size, it is much larger than the active inventory of houses, and puts downward pressure on prices. Specifically, any increase in prices will put many houses on the market all at once, and if prices hold steady, these houses will come onto the market gradually as owners’ financial positions improve.
Then there is the shadow inventory of the houses owned by investors. This speculative inventory may again be dumped on the market, potentially millions of houses in a matter of weeks, if a further downward trend in real estate values is seen, adding to that decline. This is always the risk when speculators support a perceived bottom in any market. If the speculators have set their support level too high, prices that seemed to have bottomed may suddenly fall further.
Perversely, then, a recovery in real estate values could lead directly into a new crash. If prices were to go up by 5 percent nationally, that would enable millions of previously stuck homeowners to sell. If the influx of this shadow inventory happened quickly, it could send prices right back down again, and if the downward movement prompted some speculators to cash out, the result could be a new downward spiral.
The more favorable scenario for the economy (though not so favorable for speculators) is that real estate prices continue to edge lower for the foreseeable future until the economy works through the shadow inventory of housing and reduces the official inventory to a more sustainable level. If the housing market can be kept relatively stable, that will provide a higher bottom for real estate than what we are likely to see if there is further governmental or speculative intervention.
