NEW YORK (
) -- Rising home prices will draw more sellers to the market, increasing supply and deflating the risk of a bubble, according to
economist Sam Khater.
In the latest Market Pulse report, Khater argues that the dramatic rise in home prices witnessed in the last few months has been triggered by an "invisible lid" on supply of existing homes.
While in a normal market, increased demand should lead to increased supply, this time around, supply has not been responsive to increasing demand.
One frequently cited reason is the large number of underwater borrowers -- those who owe more on their mortgage than their homes are worth. Underwater homeowners are in many ways trapped in their homes as they cannot meet their debt obligations with the proceeds of the sale. A recent study by Zillow found 44% of homeowners with a mortgage had either negative equity or too little equity in their homes, preventing them from selling.
The other reason that is not often discussed, according to Khater, is the "reservation price" of the seller -- the lowest price at which an owner is willing to sell.
In recent years, sellers with positive equity have still been reluctant to sell because the market rate is still below what they consider attractive. In other words, sellers have been holding out for higher prices, curbing supply.
But the rapid increase in home prices in states such as Nevada, Arizona and California might help unlock the supply.
Rising prices have helped lift 2.4 million borrowers from underwater since the last quarter of 2011. These borrowers now have the option of selling.
Khater estimates that in Arizona and California, the rapid recovery has meant that home prices are now "close to their fundamental long-term real price trends" and that many homeowners with positive equity are close to or above their reservation price.
This means that supply should begin responding to demand. In these states, it already has. Khater notes the current January to April increase in the supply of existing homes is the third largest in 30 years, "a strong indication that the invisible lid that has been on supply is in the process of being removed."
The increase in supply, combined with a check on demand due to still-tight underwriting standards, should ensure that home prices will cool off from here, according to Khater.
-- Written by Shanthi Bharatwaj in New York.