By Diana Olick, CNBC Real Estate Reporter
NEW YORK ( CNBC) -- This week brought a lot of positive news on the home sales front, with contracts signed for existing homes in December up 2 percent month-to-month and sales of newly built homes up over 17 percent month-to-month. It has a lot of housing watchers confused as to why the other big report of the week, the S&P/Case-Shiller Home Price Index, still showed prices falling. The bottom line is that reporting home sales is far easier and far more basic than figuring out home prices.
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Standard and Poors gave me a very helpful explanation of how foreclosures figure into the S&P/Case-Shiller report: "When a house is foreclosed, there are typically two transactions: 1) Bank repossession of the property, 2) Sale of the bank-owned property. Transaction #1 is not a candidate to be included in the S&P/Case-Shiller indices, but transaction #2 can be included.
I would note here that this is a big deal because banks, FHA and Fannie and Freddie have huge and growing inventories of foreclosed properties. Before a bank repossesses a house, it will usually hold an auction on the courthouse steps. In nearly all cases, the minimum bid is at least equal to the outstanding mortgage balance. Since most foreclosed homes have substantial negative equity when they are auctioned, in the vast majority of cases, if there is a bid, it is too low to meet the minimum. After the auction fails, transactions #1 and #2 take place. But if the auction is successful, this transaction is a candidate to be included in an S&P/Case-Shiller index. Short sales are also candidates to be included in the indices. So the investor purchases of Freddie and Fannie-owned properties could be included in the indices if they can be paired with a previous arms-length transaction. A successful courthouse auction could also be included." It's hard to say, though, if big bulk purchases (as in Miami condos) could be compared, property to property, with a "previous arms-length transaction." My guess is no. And don't forget many foreclosures are of new construction, where there was no previous owner. Meanwhile, FHFA numbers are taken only from sales of homes with Fannie and Freddie loans, so a lot of higher-priced properties are left out. Suffice it to say there is currently so much noise in the pricing numbers, thanks to the home buyer tax credit last year that completely and artificially skewed sales, that it's very hard to tell where we are. Home sales appear to be improving slightly, albeit from very low volumes. Home prices always lag sales. They did during the crash as well. Even as sales were falling, prices kept rising (I remember saying over and over on CNBC "these prices are unsustainable," and they were). Many experts believe that a flood of foreclosed properties onto the market, as banks reinstate robo-foreclosures, will put additional downward pressure on home prices in 2011 before price recovery. I tend to believe them. The foreclosure pipelines are huge, and they are an equally huge impediment to price recovery. Sales should rise this spring, as the economy strengthens and consumer confidence returns, but it will take home prices longer to rebound. And as always, the story of pricing will become ever more local. -- Written by Diana Olick of CNBC