We have heard so much about the positive prospects for housing over the past year, I thought maybe we should pay some attention to the downside case. Michael Panzner provides it, and it hinges mainly on the high supply of shadow inventory and the type of loans being offered these days:

Needless to say, shadow inventory is far greater than it was during the go-go years, when people were happy to remain long despite a booming market. With prices having fallen sharply since then, we now have a situation akin to those seen in other post-collapse markets: Holders can turn seller on a heartbeat as prices move closer to what they paid or owe on their mortgages. Given that more than 20 percent of mortgagees are underwater, that represents a sizable overhang.

The tide of past, present, and future foreclosures—actual and de facto—has also left lenders with substantial holdings of “real estate owned” (REO) properties that will undoubtedly be offered for sale at some point. These are not voluntary investments being held for the long-term; they are unwanted assets that are costing money by the day to finance and maintain. According to HousingWire, nearly half of mortgage giant Fannie Mae’s REO holdings are unable to reach the market at present.

It’s not just about supply, however. Demand is significantly less than it used to be for a variety of reasons, most notably because it is much harder to get financing now than it was when the property market was booming. Despite some recent loosening of credit conditions and ultra-low mortgage rates, anecdotal and other reports make it clear that lenders are generally unwilling to grant loans except on stringent terms to the highest quality borrowers.

Perhaps most important, the current composition of service-sector jobs with low pay and few prospects for advancement puts the group of people usually in position to step up into housing unable to do so. I would add student debt into that equation. We just may never see the type of housing purchase demand that comes with normal household formation. Panzner adds low interest rates fueling downsizing among the elderly, who take money out of their home for the future rather than out of a savings account. And the prevalence of single-parent households or individuals living alone disrupts the market for family homes.

Demographics may play this role in the near future, changing the baseline expectation for housing sales (I actually think this is a good thing; homeownership is not nearly as desirable a goal as it’s made out to be). But this may not carry over into the actual sales statistics. They may be much more affected by what’s propping up the market now – the speculators, the institutional investors scooping up those distressed properties, overpaying for them in fact, to derive the rental revenue streams out of them. Every story Panzner tells could be correct under this scenario, while housing edges up. But that feeds a bubble mentality. Robert Shiller has begun to see this in expectations about long-run home prices, over the next 10 years. People expect much higher appreciation than the fundamentals show. And I think the bubble re-inflation from these speculators plays into that. Which is not exactly a welcome scenario.