Top Housing Expert Calls Housing Bottom

An important story got buried under the avalanche of news about the fate of Lehman Brothers (LEH) today.

A top housing expert just called the bottom of the housing crisis. He says, get this, we are nearing the bottom now.

I am reprinting here in its entirety a piece by one of the best business journalists in the country, Justin Lahart of The Wall Street Journal. Read on:

Wellesley College economist Karl Case, the "Case" in the widely followed S&P/Case-Shiller index of U.S. housing prices, thinks that the housing market may be near a bottom. If he's right, financial firms may be able to breathe a sigh of relief.

At its most recent reading for June, the Case-Shiller index was 19% below its July 2006 peak, and many observers believe the decline is far from over. The inventory of unsold homes on the market is still very high, they point out, and until that excess is absorbed it's a buyers' market. What's more, with financial firms, hobbled by mortgage debt gone bad, are trying to rebuild cash reserves, making them less willing to extend loans to would-be buyers.

Finally the combined effects of the housing and credit crises have damaged many household's balance sheets and credit worthiness, giving them a high hurdle to buying a new home. Yale University professor Robert Shiller, the co-creator of the Case/Shiller index, is among those who think it will be some time before prices stabilize.

But in a paper presented before the Brookings Institution in Washington, D.C., Thursday, Mr. Case argues that there is cause for optimism. He notes that of the 20 metropolitan areas covered by the Case/Shiller index, nine have shown prices slightly improving in recent months. He also says that the relationship between incomes and home prices has neared a level seen at the end of past housing slumps.

How far home prices fall matters greatly for financial institutions, Goldman Sachs economist Jan Hatzius argued in another paper presented at Brookings. If the Case/Shiller index stays at its June level, total mortgage losses will come to $473 billion, Mr. Hatzius estimates - more than the $400 billion in losses he projected in an earlier study conducted with economists David Greenlaw at Morgan Stanley, Anil Kashyap at the University of Chicago Graduate School of Business and Hyung Song Shin at Princeton University. He estimates that a further 10% decline in home prices would lead to losses of $636 billion and a 20% decline would lead to $868 billion in losses.

Mr. Hatzius used state-level data from the Mortgage Bankers Association between from 1998 through the second quarter of this year to analyze the relationship between home price declines and foreclosures in the current environment. That means that he isn't extrapolating from earlier periods, as he did in his previous study, when lender and borrower behavior may have been different. It also allows him to account for differences in the performance of different types of mortgages.

Under the scenario where home prices fall another 10%, leading to $636 billion in mortgage losses, Mr. Hatzius calculates that lenders will cut the credit they extend to final borrowers by nearly $2 trillion, knocking 1.8% off of gross domestic product growth. While that's sizable, a weak dollar, low overnight rates and fiscal stimulus are helping mitigate the damage Mr. Hatzius points out. The situation would be much direr if Fannie Mae and Freddie Mac cut back on the amount of mortgages they guaranteed. One virtue of the government takeover of the two mortgage giants this week is that that business doesn't look as if it will be curtailed, says Mr. Hatzius.