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Has the US housing sector reached a bottom, getting close? This is the big question, and the answer is a bit complicated.

House prices have fallen by 34% in nominal terms, or 41% in real terms (inflation adjusted). In nominal terms, we are back to 2002, and in real terms back to 1999. This is good enough to declare that the bubble years have been fully reversed.  So, back to normal in the US housing sector? Not so fast. There are still open wounds from the bubble era:

  1. Uncertainty about prices bottoming out: The figures above don’t mean that prices are about to jump. Bottoms have already been announced in the past, and many people are wary of buying a house when prices can still fall in their opinion: this is the deadly deflation spiral.
  2. Foreclosures: Bernanke mentioned that without so many foreclosures, the situation would have been better. The foreclosed homes are weighing on prices and making it hard for them to rise and encourage more economic activity.
  3. Legal legacy: Subprime mortgages, robo-signing and other stories from the bubble period have triggered stronger regulation, so making a loan now is much harder.
  4. Economic uncertainty: With the slow recovery, people are less eager to lend money and banks are much more careful will lending money, when all the legal hurdles are passed. This comes despite very low interest rates and a lot of liquidity that banks have.

The result is that existing home sales are still depressed. Activity is very weak and this is a burden on the whole economy.

Yet positive signs can still be seen: housing is turning a page when it comes to new homes, that don’t carry the legacy: Building permits rose to a pace of 0.75 million and pending homes sales recently leaped by 4.1%. The current level in building permits is the highest since September 2008.

Also here, skeptics “blame” the good figures on good weather, that enabled more activity, yet with real prices back to 1999 levels, some probably grab the opportunity.

All in all, the housing sector is at, or very near the bottom. Yet like the economy as a whole, the pace of recovery will probably be slow due to the heavy legacy. The Federal Reserve is worried about the situation, and could direct a potential QE3 towards this market: by buying Mortgage Based Assets (MBAs).

This option, like QE3, remains on the table, yet apart from some recovery in the housing sector and continued growth in the economy as a whole, there’s still a very strong reason not to push through with QE3: inflation – a mandate of the Federal Reserve.

This article is part of the Forex Monthly Outlook for May. You can download it by joining the newsletter in the form below, which appears on any article on  Forex Crunch.