The Home Price / Income chart below has recently been used by a number of bears to point out that US home prices are overvalued. One analyst has even created a 100-year version of this chart.
To conclude that home prices are overvalued using the chart above, you would also have to conclude that mortgage rates don’t matter and mortgage underwriting hasn’t changed. Over the period shown above, mortgage underwriting terms were as follows (I am estimating some of this, since data was not collected):
- Fixed mortgage rates of 8.3% (6.7% if you exclude the 1980s)
- Backend debt to income ratios (the ratio of all of your debt service to your gross income) of 38% (It’s only recently that 40%+ numbers became more prevalent.)
- Down payments of 20% or 10% plus a healthy annual mortgage insurance premium
- 3 months of “rainy day” savings in the bank
Yes, more aggressive and expensive loan programs have always been available, but they were used by a much smaller percentage of borrowers than today.
If you believe mortgage rates will return to 8.3%, backend debt to income ratios will fall to 38%, and that significant down payments and savings will be required going forward, then you should be concluding that housing appears overvalued today. I am not ready to make those assumptions.
However, if you believe mortgage rates and mortgage underwriting are not likely to change much, you would look at the chart below to prognosticate the future of housing. We need rates to rise to 6.0% or prices to rise another 13% nationally to get back to normal affordability ratios.
