The real estate market is now coasting upward like a 4th of July rocket. You know how that even though the fuel has run out, the rocket keeps going up, at least for a little while? That is what is happening to the housing market now.

The National Association of Realtors is right, the market IS still going up.

However, the fuel; home buyers, has run out. I, like many market observers thought it would be rising interest rates that would bring the market crashing down, but I was wrong!

The housing market expanded so fast and so far that it became a victim of its own success. California, although not alone, is indicative of what happened. Prices have soared so high that only 15% of Californians can afford a typical middle-class house. You have to make about $135,000 a year to afford an "average" house.

New, exotic mortgages, even those that increase the amount owed with every payment, or with 50 year terms, no longer work. Prices have gotten so high that there are few people of any means that can afford to buy.

Home affordability across the nation is at record lows. In the New York Metropolitan area, it requires 53% of the average person’s income to pay housing expenses.

Exacerbating the drastic drop off in the number of buyers, is the build up in housing inventory, or unsold homes on the market. There are actually more homes on the market than ever before in the nation’s history.

What’s more, new houses are on the way, many more. In Philadelphia, 3 years worth of homes will be added before this year is out.

In South Florida, 10 years worth of condos will be coming on the market in the next 2 years. Nevada, Phoenix and all of Southern California sport waving fields of for sale signs. Home building, which certainly responds to classical economic theory, has been a boom business, with margins of 30-40% or more, so builders build more houses.

Unfortunately, they don’t know when to stop. Even though there are fewer and fewer buyers, the builders keep building. Investors cannot continue to buy because the prices are so high that it is impossible to find people who can pay rents high enough for investors to make their mortgage payments, let alone make a profit. So investor buyers have pulled out, too.

Foreclosures are up, double digits from last year, adding more inventory, but are just really getting started. Between this year and next, nearly $2 Trillion worth of adjustable rate mortgages will “reset” to market rates. This will saddle millions of people with mortgage payments they cannot afford. Because so many of these people bought recently with little or no down payment, they have little or no equity in their homes. This equates to little or no incentive to fight to hold onto their home. Result? Foreclosure Tsunami!

This glut of houses will be seen as the trip wire for the coming housing crash.

As you saw, sales of new and existing homes are way off. You can see why.

What you may not realize is what this does to the value of your house, even though you may have no plan to sell it.

The value of your home is valued by the Sale of nearby homes.

If there are no sales, there is no appreciation, by definition. If there are no sales in your neighborhood, there is no appreciation of your house!

Worse, a foreclosure in the neighborhood can reduce nearby property values by 25% or more.

Lenders, becoming alarmed at the growing foreclosure glut and facing difficulty in selling those foreclosed houses are now slamming the barn doors shut. The appreciation that allowed them to justify their insane lending practices that has heretofore bailed them out, has come to a screeching halt. The lack of appreciation also means that troubled borrowers cannot refinance their way out of financial trouble or even sell their homes to avoid a bank repossession.

Each foreclosure decreases the bank’s ability to make new loans, thus worsening the ability for new buyers to get financing, which means fewer sales, which means more unsold homes on the market, which means, well, you get the picture. Lenders are canceling their exotic, “sub-prime” loan products and tightening up borrowing requirements across the board, thereby reducing the number of buyers even further.

What happens, boys and girls when supply outstrips demand? Altogether now; prices go down! Because of all the factors we talked about gathering steam and coming together in the next few years, I am confident predicting residential real estate prices will plummet 20-40% in the coming 2-3 years!

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