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10 Years After the Bubble, Home Prices Are Hitting New Highs

But This Time It’s Different (Really)

David Stiff    |    Housing Trends

This July marks the 10-year anniversary of the U.S. home price bubble. The national CoreLogic Case-Shiller Home Price Index peaked in July 2006 and then dropped 27 percent over the next six years. Nearly a decade later, the national index still remains 4 percent below its peak nominal value.[1]

Many local markets have already fully recovered from the bubble collapse. In fact, in 40 percent of metro areas prices are at new peaks and another 30 percent are within 10 percent of their previous peak. Nationally, we will likely hit or surpass 2006 levels by next spring or summer. Both mortgage default rates and foreclosure inventories have fallen to their lowest levels in eight years, and the economy is generating about 2.5 million new jobs per year.

Since the last housing market crash nearly took down the U.S. financial system and led to the most severe recession since the Great Depression, it’s natural to be concerned as U.S. home prices move toward new record highs. Could we be headed for another housing market crash? The short answer is most likely no, because the current run-up in prices is being driven almost entirely by fundamentals – solid job growth boosting housing demand and limits on supply as new home construction slowly drifts upward from record-low levels – and not by easy credit and investor frenzy.

The pre-bubble housing market was very different. Although job growth was strong during the housing bubble years, much of it was driven directly or indirectly by real estate speculation. In many markets, such as the Inland Empire in Southern California, the drivers of economic growth were housing construction, real estate brokerage, mortgage finance, and retail sales associated with home purchases (e.g., home improvement, furniture, and appliances). Think of it as a real estate perpetual motion machine in which housing became the proverbial tail wagging the economy. Unfortunately, there is no such thing as a perpetual motion machine and eventually reality in the form of economic fundamentals took hold. Speculation morphed into fear, and the housing market and, to a lesser extent, the job market gave back nearly all of their bubble-era gains.

The current rebound in housing markets, on the other hand, is mostly a story of solid jobs gains driving the rebound in home sales and price appreciation. Figure 1 lists ten large metro areas in which home prices have increased the most compared to their previous peak. Employment growth in all of these metro areas, with the exception of Pittsburgh, has been strong, exceeding the 9.6% national growth rate. (Pittsburgh is one of the few markets in the U.S. that escaped the home price bubble, so its current peak price level reflects steady price increases over the past twenty years.)

Another difference, this time around, is underwriting. Gone are the affordability mortgage products—think pay option ARMs and no income, no asset verifications—that fueled speculation.

Despite the fact that the economic dog is now wagging the housing market tail, it is likely that home price appreciation will weaken going forward. The May jobs report was disappointing, and some markets continue to experience slow recoveries from the Great Recession (e.g., Philadelphia: 6 percent employment growth since March 2011, home prices still 9 percent below peak). But there is very little speculation occurring in most housing markets, so the downside risk to prices is most likely limited to any potential weakness in the job market.



1 In inflation-adjusted terms, the March 2016 value of the national Case-Shiller index was 18 percent below its peak value.

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