3 Reasons Why We Need Higher Home Prices

There is a lot of fear that the rise in real estate values could be another bubble and could price buyers out of the market, but here's why higher prices will do more good than harm.

Apr 27, 2014 at 1:00PM

Since early 2012, the housing market in the U.S. has been on a tear, with the median home selling price up almost 30%.


As a result, there has been a lot of media coverage saying how younger people are going to be priced out of the market if these gains continue, and the real estate bubble of the mid-2000's is coming back. However, nothing could be further from the truth: higher home prices are good for both the real estate market and the economy as a whole, and here's why.

Foreclosures matter less, especially to banks
When home values are higher, banks don't care as much about foreclosures, because rising prices make foreclosed homes much less of a "bad asset".

For example, let's say a home that was purchased for $300,000 in 2005 and a bank foreclosed on it with an unpaid balance of $250,000. If the home's market value fell to $200,000, the bank stands to lose $50,000 by unloading the house, giving it very little incentive to hurry the process along. On the other hand, if the home's value rebounds to $260,000, the bank now actually has equity in the house and now has much more of a reason to sell the house and get it off the books.

This could help the banks tremendously by mitigating potential losses and getting the pending foreclosures sold and off the books quickly. According to data from SNL Financial, the 20 largest banks by pending foreclosures had more than $65 billion worth of loans in the process as of the end of 2013.

Snl Foreclosure Data
Source: SNL Financial

Low home prices were a major contributing factor to the high bank losses and backed-up inventory of foreclosed homes after the crisis. Hopefully we'll see the opposite going forward!

How many homeowners are still underwater?
Perhaps higher home values' biggest boost to real estate will be the increased equity current homeowners have. According to Zillow's data, 19.6% of homeowners with a mortgage still had negative equity in their homes as of the fourth quarter of 2013.

As home prices rise, that figure will drop, and has already come a long way since peaking at 31.4% in March 2012. Homeowners with negative equity are often unable to sell their homes and buy new ones, cannot borrow against their home for repairs and other purchases, and can have trouble financing other major purchases such as a new car. As more homeowners regain positive equity, it will not only help the real estate market, but the U.S. economy as a whole.

Younger people will still be able to buy houses
The reality most people won't admit is not everyone should be able to buy a house. If you don't have a lot of cash for a down payment, don't have a stable job, or don't have good enough credit to obtain a decent interest rate, you're probably better off renting.

With good credit and 20% down, however, it is actually cheaper to buy than rent in many parts of the country, even after the price gains. Mortgage rates are still historically low, the tax benefits are still excellent, and there is an abundance of "starter homes" on the market in most areas.

Since the highs of the mid-2000's and the low point reached in 2011, the market has been struggling to find its equilibrium point. Once it gets there, even if it means higher prices, everyone will be much better off.

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4 in 5 Americans Are Ignoring Buffett's Warning

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Jun 12, 2015 at 5:01PM

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David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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