Morgan Stanley Sees Home Prices Declining in 2011

What will U.S. home prices do in 2011? It’s a common question, as we wrap up yet another painful year for housing. Property values have fallen considerably since the crisis began in 2008. And a recent prediction suggests they may have further to fall.

It’s good news for home buyers, and bad news for homeowners. Financial services firm Morgan Stanley expects home prices to decline by as much as 11 percent through 2011 and into 2012. Many had hoped the market would hit ‘bottom’ next year. But that may not be in the cards after all, if Morgan Stanley’s predictions are accurate.

To what do their financial analysts attribute this gloomy forecast? Supply and demand, of course. They feel that rising inventory and weak demand will push the current housing-market slump all the way into 2012. This jives with the consensus reached in our housing predict-o-meter, which shows that 2011 could be a lot like 2010.

Translation: Home prices will likely continue to decline in many parts of the U.S. next year, and possibly into 2012.

The Morgan Stanley analysts, led by Oliver Chang, said that tightened lending standards will continue to hamper home sales next year. “We see the trough occurring in 2012 instead of our previous call of 2011,” Chang told Bloomberg news, during a phone interview recently.

Indeed, it is harder to qualify for a home loan today than it was before the housing collapse. During the boom, nearly anyone with a steady paycheck could qualify for a mortgage. But things have changed dramatically since then. Today, risk-averse mortgage lenders require higher credit scores, more documentation proof of income, and lower debt levels. This shrinks the pool of qualified home buyers, weakening the demand side of the housing equation.

Also restricting demand is the fear of falling prices. For decades, we operated under the assumption that home values would always go up. This was viewed as an unshakeable truth. Now we know better. Just look at California, Florida and Arizona, the states hit hardest by the housing crash. Real estate values plummeted in those markets, and are falling still. This puts hear in the hearts of would-be home buyers. It’s a legitimate concern. Who wants to spend hundreds of thousands of dollars on an asset, only to see it depreciate from day one?

We have problems on the supply side as well. Millions of foreclosure properties flooded the market after the crash. There is not nearly enough demand to absorb them all. It’s the kind of situation that is measured in years, not months. What’s worse, these distressed properties are often sold for less than market value. This puts downward pressure on property values across the board, even for non-distressed homes.

Of course, none of this comes as news to the folks at Morgan Stanley. They are intimately familiar with the many woes of housing. It’s what led to their bleak predictions for next year.

Some markets will take longer to recover than others. We are seeing this even now, as the level of depreciation lessens in some markets and worsens in others. Speaking broadly, however, I would not expect to see a national rebound in home prices until mid 2012, at the earliest.

Morgan Stanley is a financial services firm that was founded in 1935. They offer a variety of investment banking, securities and wealth management services. They are headquartered in New York and serve clients worldwide.