It's starting to look like a bubble to me, or at least a bubble-in-waiting. I'm talking about real-estate prices. Buyers are willing to pay almost anything just to own their first home or a bigger home than they have now.

Not only did median home prices soar this spring, they rose at a faster rate than they had before. Signs abound that investors nervous about stocks are socking their money into real estate instead.

In this year's first quarter, the median price of existing homes rose by 4.6 percent compared with the same period last year, according to the National Association of Realtors.

In the second quarter, buyers got even more excited pushing price gains to 6.4 percent. In June alone, they spurted by 8.8 percent. Demand is strong and there's not a huge inventory of homes for sale, said NAR Chief Economist David Lereah.

In 35 metro areas, prices have risen at double-digit rates led by Sacramento (up 23.9 percent). Those are huge returns on the small down payments that buyers generally make.

Banks are fueling the fire by giving outsize loans. Many will lend most or all of the value of the house. Sellers know from the get-go that buyers will be able to raise the money they need.

You can often borrow even more on a home-equity line of credit. Among large banks, one in five will lend 20 percent more than the house is worth, according to the Consumer Bankers Association in Washington.

Gambling on appreciation

When buyers take outsize loans, they wind up with little or no equity in their homes. The same is true for many people who refinance.

They don't care because they think prices will rise. They'll gain future profits by magic, just as they expected to gain them in stocks.

How smart is it to takes loans against most of the value of your home?

So far, consumers have largely escaped the substantial business-sector recession that's currently going on. Real incomes aren't rising very fast. But thanks to lower interest rates, homes have remained affordable for the average buyer.

As long as prices keep rising, people will feel reasonably wealthy despite the drop in stocks.

But ask yourself how good would you feel if you borrowed to the hilt and house prices didn't rise? With little or no home equity, you couldn't afford to sell and pay off your loan.

Prev

For reprint and licensing requests for this article, CLICK HERE.