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The U.S. Housing Market's Tug-of-War

The following commentary comes from an independent investor or market observer as part of TheStreet's guest contributor program, which is separate from the company's news coverage.

By Mark McCormick

NEW YORK (BBH FX Strategy) -- In the next few weeks we will get the last data reports on the U.S. housing sector for 2011.

Although the housing market has been improving inch by inch over the course of the year, the outlook for housing is likely to be tempered by still moderating prices and weak housing starts due to the excess inventory of distressed property.

As a result, there have been reports that the U.S. government is set to introduce new measures to facilitate the conversion of unsellable properties into rentals to improve market inefficiencies. And once this overhang of inventory is cleared, the housing market looks poised for a potential rebound.

It appears that the U.S. housing market is stuck in a tug-of-war. On the one hand, valuations indicate that homes are much more affordable than they have been in the past decade. Borrowing costs are also at record-low levels, if you can get a loan.

On the other hand, the housing market remains constrained by a glut of excess homes and a pace of foreclosures likely to add to the current stock of housing inventory, undermining the attractiveness of valuation and affordability.

Taken together, while there is light at the end of the tunnel, we suspect that absent a policy response the U.S. housing market is likely to restrain the underlying momentum in the U.S. economy as excess supply weighs on home prices.

Chart 1 shows that home prices have declined in a range of 15%-30% since the peak in 2006, suggesting that home prices appear to be stabilizing but lack impetus for significant move higher.

At the same time, homes no longer appear expensive, at least when compared to renting (Chart 2). In particular, the price-to-rent ratio (which measures the relative cost comparison between renting and owning) has finally returned to its multidecade equilibrium.

As a result, buying a home now looks more affordable than renting. While the range of prices may deviate widely across cities, the price-to-rent ratio suggests that overall home valuations are now in line with the 30-year average.

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