Federal Reserve Report: Expect Mild Housing Price Decline

There’s often one immediate question on the minds of hopeful buyers: What’s the state of national home prices?

As previously reported, these figures have dropped a bit recently - and a recent Federal Reserve paper suggests the trend won’t be stopping completely any time soon.

Based on an analysis of housing futures and options and derivatives of housing-related company shares, “market participants expect home prices to decelerate sharply or actually decline a little within the next year,” wrote J. Benson Durham, an economist with the Fed’s monetary affairs division.

However, the anticipated drop in prices “is mild compared to some estimates of the purported overvaluation of the housing market,” he added. Translation: it’s a good time to seek a regular or bad credit mortgage because prices are low. But they won’t be dropping too much lower in the near future.

Mr. Durham cautioned that deep and liquid markets needed to signal future home price trends don’t fully exist and that housing futures and options have only been trading on the Chicago Mercantile Exchange since May 22. The Wall Steet Journal online had the report.

Mr. Durham also examined options on shares of certain homebuilders to gauge whether investors see upside or downside risks to home prices. Those options “are only marginally negatively skewed at the present time,” he wrote.

“This suggests that market participants do not, in fact, view the risks to home prices or, perhaps more accurately, to the broader housing sector as especially tilted to the downside.”

The paper’s conclusions seem in line with the thinking of Fed officials that the sector will slow substantially through the rest of 2006 and into 2007, but is unlikely to derail the economic expansion. It seems more likely that demand for home loans will return as the market at least stabilizes.