Housing to dog Wall St despite some optimism

NEW YORK (Reuters) - Recent data pointing to a healthy job market and strength in consumer spending has helped deflate Wall Street's concerns that the housing slowdown would send the economy into an abrupt downturn.

But after benchmark bond yields topped 5 percent last week, strategists speaking the Reuters Investment Outlook Summit in New York said the damage from the bursting of the real estate bubble could worsen as borrowing costs rise.

"Housing was weak when rates were below 5 percent. If rates go up 75 basis points it will create new pressure on housing and collateral value," said Abhijit Chakrabortti, JPMorgan global equity strategist.

He said as adjustable-rate mortgages reset to higher interest rates, many borrowers, particularly in the subprime mortgage market, could be forced to default, raising worries about foreclosures.

"The rollovers will be to much higher rates. That surely must create some problems" in terms of foreclosures," he said.

This week's mortgage rates climbed for the fifth straight week, skyrocketing to 6.74 percent on a 30-year mortgage, the highest level in nearly a year, according to a weekly survey released by finance company Freddie Mac (FRE.N: Quote, Profile, Research, Stock Buzz) on Thursday.

The outlook for housing is crucial since home values have served as a key source of extra income for American consumers, whose spending accounts for two-thirds of U.S. economic activity.

"I think the worst is yet to come," said independent investor and author Dennis Gartman.

"There still has not been enough pressure put on speculators. Housing downturns last between 18 and 36 months ... so right now I think we are just through the first 18 months."

Even so, Jack Malvey, Lehman Brothers' chief global fixed-income strategist, said while the effects of the U.S. housing market downturn could linger for years, the slowdown didn't pose a major risk to the overall economy.

"The subprime saga will not be sufficient to derail the U.S. and world economy," he told the summit.

Still, Malvey said U.S. housing prices could fall into 2009 to 2011 by an average of the mid- to high single-digits, returning to levels last seen in early 2005.

"This issue will continue to shadow markets," he said, adding the prolonged downturn "so far doesn't seem to be the stuff of a significant recession in the making."