On the bubble: when real estate's long haul took a shortcut: a home is often a person's biggest investment. But as home prices began their dramatic appreciation, the stage was set for the once-solid investment strategy to show cracks in the foundation

EconSouth, Fall, 2009 by Ed English

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When housing prices began to fall after the housing bubble burst in 2006, the drop represented more than a loss of wealth to a wide swath of Americans. It was a contradiction of what homeowners assumed was a universal truth: that home ownership was always a good investment. That assumption seemingly had been in place since the passage of the Home Owners Loan Act of 1933, which paved the way for long-term amortized mortgages.

But beginning in 2006, home values began to take an epic fall in many markets. The S&P/Case-Shiller Home Price Index, which reflects home pricing trends by comparing repeat sales of single-family homes in 20 U.S. markets, offers one compelling illustration. In the first 78 quarters tracked by the index created in 1987 by economists Karl Case, Robert Shiller, and Allan Weiss, only 13 quarters (16.6 percent) showed negative growth.

Beginning in the third quarter of 2006, the next 13 quarters all ranked among the lowest 15 quarters in the history of the index. Prior to this span, the index's biggest quarter-to-quarter decrease had been a modest 1.6 percent. That decline was dwarfed by the post-bubble stretch from the fourth quarter of 2007 to the first quarter of 2009, which featured decreases ranging between 5.5 percent and 11.2 percent quarter over quarter. Price declines continued without interruption until the second quarter of 2009, when the Case-Shiller index posted a 3.7 percent increase.

Long-held assumptions rocked

While the stock market and other investments have had highs and lows in the past eight decades, investment in single-family homes generally grew along with their price appreciation. Although some housing bubbles have occurred in the past, none has had the same adverse impact on average home values nationwide as the bursting of this one. Further, the severity of price declines has varied regionally, making it challenging for homeowners to assess the investment performance of their own homes and leaving them searching for an explanation of this investment's sudden fluctuation.

"It's a complicated story," said John S. Adams, author and professor emeritus of geography at the University of Minnesota. "It doesn't make for very good headlines to say that we've got over 300 metro areas in this country, and each one is a separate housing market. When you say that, the audience's eyes start to glaze over because what they really want you to tell them is where to invest money to make a quick buck."

That sort of analysis, filled with nuances and exceptions, runs counter to the common wisdom that Americans could count on their homes for making a buck, even if it wasn't always a quick one.

"People have viewed their house as investments for a very long time. That's part of the mantra of why people own houses," said Kelley Pace, professor of finance and director of Louisiana State University's Real Estate Research Institute. "The difference between now and then is that then houses were long-term investments. They were illiquid. There was really not much people could do with that investment. That was going to be something that was going to help them out later in life, typically."

When renters became owners

In 1920, according to the U.S. Census Bureau, 46 percent of American households were renters. However, a number of factors, both political and economic, eventually transformed the landscape of home ownership in America.

In 1922, future president Herbert Hoover, then serving as President Harding's secretary of commerce, implemented the "Own Your Own Home" program, which encouraged builders to increase residential construction and called for new banking rules allowing nationally chartered banks to increase lending for residential properties.

In addition to passing the Home Owners Loan Act in 1933, Congress created additional institutions during the 1930s to promote home ownership: the Federal Home Loan Bank system to provide a stable source of funds for banks; the Federal Housing Administration (FHA) to insure mortgages; the Federal National Mortgage Association (Fannie Mae) to buy the insured mortgages; and the Federal Savings and Loan Insurance Corp.

Meanwhile, a surplus of savings Americans accumulated during World War II, and assistance from the GI Bill for soldiers returning home, launched a housing boom in the late 1940s that saw the homeownership rate in America rise to 55 percent by 1950, according to the U.S. Census Bureau. That percentage has steadily inched upward, reaching 69 percent in 2005 before receding slightly.

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A place to call home--and invest

During that period of expanding home ownership, the appreciation of home values along with tax incentives made housing an attractive investment for many Americans. In some cases, it wasn't just the best option; it was one of few options because investment opportunities were not as plentiful as today.

"Nowadays, mutual funds are easy to get into," said James Kau, chair of the University of Georgia's Department of Real Estate and cofounder and coeditor of the Journal of Real Estate Finance and Economics. "When I was young, they didn't even exist. It was difficult to get into alternative investments. You had to do things like find a stockbroker. Now there are retirement plans, and a lot of people have both stocks and housing. Housing has been the consumer durable that most people take advantage of. In many cases, it's because of taxes."