Saturday, September 11, 2004

Is the Housing Boom Over?

Home Prices Have Gone Up For So Long That People Think They'll Never Drop

For years the debate has been raging: Is it a bubble or isn't it? Two years ago FORTUNE looked at the housing market and saw reasons to be concerned. While home prices nationally were only 5% to 10% overvalued, we said, some frothy markets, mainly on the coasts, were more than 20% above historical norms. Our conclusion: While the trends were worrisome, "for the nation as a whole, no housing bubble exists ... we're not there yet."

Two years later it looks like "there" is finally here. The housing market is rapidly losing touch with reality. Fueled by interest rates that have remained near record lows, prices have continued to soar, and the gap between home values and the underlying fundamentals such as personal income and job growth is greater than ever. The most alarming development, though, is the change in psychology. "The market isn't acting rationally," says Christopher Thornberg, an economist at UCLA. "It's now an emotion-driven market where people are buying on the expectation of future appreciation." Increasingly Americans view houses not primarily as places to live but as foolproof, can't-lose investments. The passionate faith that money poured into real estate will magically multiply is creating a self-fulfilling speculative frenzy that's bound to end badly.


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