Fed’s Duke Says Recovery Is Sustainable and Will Strengthen

The evidence is clear that the recovery in housing is finally under way, but the question that remains open is whether the positive trends in housing are sustainable, ""Federal Reserve Board"":http://www.federalreserve.gov/ Governor Elizabeth A. Duke said in a speech at the ""Mortgage Bankers Association's"":http://www.mbaa.org/default.htm Mid-Winter Housing Finance Conference.

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In her view, the recovery does appear to be sustainable.

""When I look at the factors driving recent improvement and those that have inhibited housing recovery through the downturn, I conclude that recent gains in the housing market will continue and perhaps even strengthen,"" Duke stated.

According to Duke, home price gains in 2012 were achieved in an environment with ""historically unusual factors"" such as a large number of underwater homeowners, a high share of foreclosure sales, and strong demand from investors.

Moving forward, Duke believes those factors won't hinder the home price recovery as some analysts have projected.

""I do not believe that a flood of houses on the market from households that are currently underwater or from bank REO is likely to materialize or to be sufficient to outpace growing demand,"" she said.

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According to Duke, home price increases of 10 percent or less would be enough to bring about 40 percent of underwater homeowners out of negative equity, which could lead to more homeowners listing their properties during a time when available homes for sale has fallen to the lowest level in a decade.

According to CoreLogic's most recent ""estimate"":http://dsnews.comarticles/corelogic-100k-homeowners-rose-above-of-negative-equity-in-q3-2013-01-17, about 10.7 million mortgages are underwater, and as of the third quarter of 2012, 1.4 million homes have risen out of negative equity.

Even if most of the ""newly above-water"" homeowners decide to sell their home, it is likely that they will also contribute to new demand by seeking to purchase a home in the same market, thus creating supply and demand, Duke explained.

As for shadow inventory, Duke says its impact on prices will depend on the speech at which those loans are resolved. Duke noted the buildup is more concentrated in judicial states, where prices have ""drifted lower"" as inventory accumulated, whereas in non-judicial states, prices have recovered as inventory has cleared.

While investor activity is harder to predict, Duke believes rising prices will cause investor activity to wane as profitably decreases. Although rising prices could cause a decline in purchase activity, some investors may decide to sell their investment. Duke also believes investor activity in the REO-to-rental sector has built enough traction and will continue in some form.

Though, in order for the housing recovery to ""gain true momentum,"" Duke said ""demand for housing among owner-occupiers must increase.""

While Duke expects to see demand from newly formed households, she also expressed concern when considering the current lending environment.

""I also recognize that these households may be the very population that faces especially tight credit conditions,"" she said.