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Still, anyone who has experienced a frothy market like San Francisco may find the fair-value argument difficult to accept. That's because in the past few years the hottest markets have been rebounding from declines in the early 1990s. Measuring from trough to peak will always show unsustainable growth. A better snapshot comes from measuring from peak to peak. Take San Francisco again. The median home price has surged to $482,000 as of the first quarter of this year, from $254,000 in 1995. That's an 11.3% average annual return, double the historical national average. Yet the median Bay-area price in 1989 was $261,000. A typical buyer at that time has seen home values rise just 5.3% a year.
Those who fret about a bubble point out that housing prices did not even hiccup during last year's recession, suggesting that they exist in their own inflated orbit. After all, more than a million jobs were lost, and homes still sold at a record pace. Greenspan was worried enough to study the issue, as have numerous other economists, including Kevin Hassett for his new book, Bubbleology. But like the Fed chief, Hassett concluded that the rise in home prices made sense even through the recession. "A bubble is when there is no right answer," Hassett says. "In this case, there is no mystery."
The single biggest factor for the rise in residential real estate has been mortgage rates at 35-year lows, Hassett asserts. Low rates keep housing affordable despite hefty price increases. He hastens to add, though, that "no bubble" and "no vulnerability" are not the same thing. If mortgage rates jump one-third, "all bets are off" and house prices would be likely to fall.
That concern is widely echoed in economist circles--and widely ignored on Main Street, where millions of people have soured on the stock market and gone sweet on real estate. Even last week's 489-point one-day rally won't do much to change that view. Darren Scheid, 32, and his wife Paula live in a north Dallas suburb in Texas, and last year sold their first home for $80,000, 66% more than they paid for it just three years earlier. The gain prompted the Scheid's to stop sulking over their sunken stocks and focus on building wealth through real estate. They quickly bought two nearby fixer-uppers that they will sell when repairs are complete. "I expect to make, after three years with each house, between $20,000 and $30,000 per house," Darren says with confidence. That translates into an annual return in the high teens, about what many blithely came to expect from stocks just before they tanked.
Edward Leamer, director of economic consultants at UCLA Anderson Forecast, thinks Scheid and others like him will be disappointed. Leamer is a bubble believer who expects rising interest rates to sock anyone with grand plans for double-digit housing gains in coming years. "In buying a home now, people should be acting like there will be no appreciation," Leamer cautions. "Don't be building cockamamy ideas about how this market is going to go up forever at 15% a year."