How Low Can House Prices Go? Estimating a Conservative Lower Bound

29 Pages Posted: 20 May 2015

See all articles by Alexander Bogin

Alexander Bogin

Federal Housing Finance Agency

Stephen Bruestle

Pennsylvania State University

William M. Doerner

Federal Housing Finance Agency

Date Written: May 14, 2015

Abstract

We develop a theoretically-based statistical technique to identify a conservative lower bound for house prices. Leveraging a model based upon consumer and investor incentives, we are able to explain the depth of housing market downturns at both the national and state level over a variety of market environments. This approach performs well in several historical back tests and has strong out-of-sample predictive ability. When back-tested, our estimation approach does not understate house price declines in any state over the 1987 to 2001 housing cycle and only understates declines in three states during the most recent financial crisis. This latter result is particularly noteworthy given that the post-2001 estimates are performed out of-sample. Our measure of a conservative lower bound is attractive because it (1) provides a leading indicator of the severity of future downturns and (2) allows trough estimates to dynamically adjust as markets conditions change. This estimation technique could prove particularly helpful in measuring the credit risk associated with portfolios of mortgage assets as part of evaluating static stress tests or designing dynamic stress tests.

Keywords: house prices, trough, lower bound, trend, financial stress testing

JEL Classification: G21, C58, R31

Suggested Citation

Bogin, Alexander and Bruestle, Stephen and Doerner, William M., How Low Can House Prices Go? Estimating a Conservative Lower Bound (May 14, 2015). Available at SSRN: https://ssrn.com/abstract=2608042 or http://dx.doi.org/10.2139/ssrn.2608042

Alexander Bogin (Contact Author)

Federal Housing Finance Agency ( email )

Stephen Bruestle

Pennsylvania State University

University Park
State College, PA 16802
United States

William M. Doerner

Federal Housing Finance Agency ( email )

400 7th Street, SW
Washington, DC 20219
United States
202-649-3218 (Phone)
202-649-2816 (Fax)

HOME PAGE: http://www.fhfa.gov

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