(FORTUNE Magazine) – It's primal, traditional, part of an American's birthright -- ownership of a home whose value appreciates forever. Yet if there was one support beam * undergirding the American standard of living that you might have thought would have rotted away in the past half dozen years, it was faith in the financial wisdom of homeownership. Not only did the bottom fall out of many housing markets in the late 1980s and early 1990s, but the biggest crashes came in places that get lots of public attention. In Los Angeles, values in pricey neighborhoods are down 30% from their 1990 peak. New Yorkarea prices are off significantly as well. If you bought a typical house in suburban Stamford, Connecticut, in the spring of 1991, for example, you paid $512,000. If you sold it a year later, you took a $35,000 loss. Some who assumed that the dizzy mid-1980s rise in home prices would go on forever feel pretty chastened now. Serves you right, says Wall Street, if you still buy into the belief that owning a home is a good investment. Compilations by securities firms such as Salomon Brothers and Morgan Stanley show that the return on housing has lagged well behind that of stocks and bonds during the past decade. Far more unsettling is the possibility that the worst still isn't over, that the value of your house could fall -- or keep falling -- for the next decade. That's a message some researchers read in the demographics of the baby bust: Demand will dry up as the relatively smaller population of folks born in the mid-1960s to mid-1970s becomes the dominant market force, and in the face of that drought, prices will shrivel. Then when baby-boomers retire and try to unload their houses all at once, the market could take yet another hit. As if the woeful past and potentially dire future aren't enough, the doomsayers have plenty of recent negatives to point to: Mortgage rates have spurted two percentage points in the past year, home sales are off, and consumer confidence has been softening. And there's always the possibility that revenue hungry politicians will look to cut back the mortgage-interest deduction.

BUT AMID these snowdrifts of gloom, buds of optimism are beginning to push their way upward. Prices are recovering in markets that crashed, affordability of housing is good, and even the dreaded demographic trends hold some signs of hope. Most important is the enduring faith of the American homebuyer. Despite the market traumas of the past six years, the share of households that own is 63.8%, about the same as it was before prices plunged on the two coasts. A survey this year by Fannie Mae, the big supplier of mortgage funds, found that 86% of people still believe owning is better than renting, and the same percentage say owning is a good investment. Even when people suffer a real estate trauma firsthand, they remain resilient: Laurie Fallon is trying to sell a property in Maine for $50,000 less than she paid for it. Meanwhile, she and her husband recently purchased a $535,000 house in Winchester, Massachusetts, a Boston suburb. Boston! Isn't that one of those places where real estate values dematerialized a few years ago? It is, but Ms. Fallon remains undeterred. "If you hang on in Winchester, you will do fine," she says. More and more experts believe she's right. Despite the strong case against a big rally in home prices this decade, most market analysts believe price increases virtually everywhere will at least match the expected inflation rate of 3% to 4%. If that seems less than thrilling, consider that the purchase is highly leveraged and provides significant tax advantages -- constituting the biggest tax deduction, in fact, for most people. One important reason Americans continue to take heart in homeownership is that most have not been mauled as badly as headlines of the past few years would have you believe. Far from the klieg lights of southern California, the scene is hardly tragic. Case Shiller Weiss, a real estate consulting firm in Cambridge, Massachusetts, says Columbus, Ohio, typifies the country's experience in the past three years -- home prices went up 3.8% annually on average, nearly a percentage point better than overall inflation. But there are other positive dynamics at work. The economic expansion -- more income and greater job security -- obviously buoyed real estate, as did the fall in interest rates through 1993. Even with the recent rise in mortgage rates, the after-tax cash cost of operating a starter home (including mortgage payments, property taxes, maintenance costs, etc.) is about 31% of income, down from 37% on average during the last decade, calculates the Joint Center for Housing Studies at Harvard University. A National Association of Realtors index shows that for all buyers, houses are more affordable now than at any time from the mid-1970s to late 1992. Mortgage rates in the Eighties rarely got as low as today's 9%, and many economists believe long-term rates have already peaked out. Inevitably, though, another recession will come, putting the kibosh on job and income growth and a damper on home prices. But it won't turn home equity into financial sawdust. In Columbus, home prices did edge down 1% during the last recession, but then immediately bounced up nearly 3% in the spring of 1991 as the economy flickered to life. In short, conclude most experts, the natural direction of home prices continues to be up. Susan Wachter, a professor at the University of Pennsylvania's Wharton Real Estate Center, argues that outside of severe economic downturns, home prices drop sharply only when a bubble bursts. Right now, it's tough to discern any seriously overstretched markets -- like the oil-boom bubble in Houston in the first part of the 1980s or the frenzied bidding bubbles in the Northeast and California in the latter 1980s. What they had in common was a swarm of buyers willing -- nay, eager -- to project recent price surges into the future. These locales were also characterized by heavy dependence on one or two industries that were flying high and then crashed. The Oil Patch was a classic. In 1984, as oil prices topped $30 per barrel, Gary Shoesmith went to tiny Bartlesville, Oklahoma, to work for Phillips Petroleum. Not only did oil prices subsequently plunge by some 65% over the next 18 months, but Phillips slashed employment to fend off two takeover attempts. Shoesmith moved out in 1986, selling his home for a third less than he paid for it. The stock market crash loomed large in the ensuing New York real estate slump -- Wall Streeters were making 10% of the region's income in 1987, the year of the Dow's tumble -- while the minicomputer demise and defense cuts seriously hurt Boston. The military builddown also lashed California, where defense payrolls accounted for 7% of total income. For a closer view of the defense devastation, gaze on the cratered market of New London, Connecticut, where the economy depended heavily on submarine building. An average home that sold for $160,000 in 1988 can now be had for around $100,000. The lesson is not that buying a home is an act fraught with danger. It's that a region that relies on a single company or industry is an economically risky place to live. Gary Shoesmith is now a happy homeowner, but this time in the more well-balanced economy of North Carolina, where he is a business school professor at Wake Forest University in Winston-Salem. "This is a good time to buy a house in North Carolina -- job growth is strong, mortgage rates may have peaked, prices will continue to appreciate," says an optimistic Shoesmith.

^ EVEN IN PLACES where real estate did get ravaged, the shakeouts are largely over. New York and Los Angeles prices are bumping along a bottom and in some neighborhoods have begun to recover. The Stamford, Connecticut, home that dropped $35,000 in one year is back to its 1991 peak of $512,000. Though still below their 1988 highs, prices in northern New Jersey and Long Island have been rising too. In hard-hit Beverly Hills, prices rose nearly 7% in the second quarter, the first gain since early 1991, says Nelson Pedrozo, a UCLA economist who specializes in California housing. Values in Los Angeles' lower-priced neighborhoods are only holding steady, but then they didn't fall as much as higher-priced homes during the bust. Overall, Pedrozo says, L.A.'s prospects are now improving -- prices should rise in line with inflation -- because employment has stopped falling and prices are back to commanding a more modest premium to the national average.

ONE FACTOR supporting metropolitan-area recoveries is the sudden surge in demand from older baby-boomers. This fortysomething crowd bought a decade or more ago, postponed moving up in the early 1990s because of the recession, but then were able to sell their old homes when interest rates subsequently came down. Despite the slump, they still realized large capital gains, which they are now using to trade up to nicer habitations. This trend is especially strong in places like Boston. Prices in the region fell 15% from late 1988 to early 1992. Since then they've recovered by 10%, according to Case Shiller Weiss. But Karl Case, a Wellesley College economics professor and principal at the firm, says that number masks a two-tier market: While the lower end of the market is still off 10% or more, upscale suburban towns such as Wellesley and Newton have exceeded their earlier peaks. Case himself has been part of that trend. He bought in 1976 for $56,000 and sold in 1991 for $229,000, using the proceeds to finance a trade-up purchase. Says he: "People can now afford towns they couldn't afford previously, even if they 'lost' money by not selling at some theoretical peak." While yesterday's burst bubbles are slowly recovering, new centers of popularity are emerging, but not at the same reckless pace that characterized the coasts in the late Eighties. If new bubbles do appear, key candidates would be the hot markets of the Mountain states, where home values soared 12.5% during the past year. But Mark Zandi, chief economist at Regional Financial Associates, a West Chester, Pennsylvania, consulting firm, says such increases are justified: Construction is not outpacing the strong growth in jobs, and household formation is rising fast, fed by companies moving in for lower costs and people seeking more pleasant lifestyles. Californians, in particular, have pushed up values in places like Salt Lake City, Boise, and Spokane. They arrive laden with cash proceeds from the sale of their California homes, and the local market seems cheap to them. As the California economy improves, migration to other states may slow, but that should merely crimp appreciation, not kill it. The biggest regional worry is Boise, where Zandi estimates that household formation, though robust, has been outstripped by unbridled construction, which has already created sufficient new housing to meet demand through the end of 1995. Salt Lake City, on the other hand, is an example of why hot spots are less likely to become bubbles. Prices there leaped over 25% in the past two years, but job and population growth have also been torrid. What's more, prices rose from a low base, "so it was no bubble -- we were playing catch-up," says Jeff Thredgold, who lives in the area and is an economist at KeyCorp, the nation's tenth-largest bank.

GREGORY CROPPER showed his faith in continued appreciation by buying a house (pictured above) this year in one of Salt Lake's older neighborhoods for $256,000 from people who had paid $230,000 a year before. An attorney specializing in commercial real estate at Jones, Waldo, Holbrook & McDonough, he anticipates the value of his new home might increase another $30,000 this year, and then slow to the $20,000 annual range in following years. "A lot of people from California and New York are moving here to get away from the hassle,I'm going to stop correcting caps here in that I may be doing it wrong myself" says Cropper. "They don't look at it as a strange place anymore -- they see they can make a living here and can be on the ski slopes in half an hour." The rising cost of development is another factor supporting bull markets in Western cities like Salt Lake. "Because land prices have exploded in the past few years, it's hard for a builder to put up a house here for less than $90,000," says Thredgold. Even where land is available, cities are imposing increasingly costly restrictions -- such as minimum lot sizes or new environmental codes -- that drive prices up. Such zoning regulations are a big reason home prices in Portland, Oregon, have jumped so much. In some areas, for instance, the city limits road improvements to curtail development. But for each rapidly rising market, there are many others growing at a more measured pace. Prosperous economies in the Southeast -- like Atlanta, Charlotte, and Raleigh -- often attract less well-heeled residents from the Midwest and Northeast, so the demand for upscale homes is fairly tame. Moreover, land in the Southeast is relatively unencumbered by restrictions, so a construction boom there has kept appreciation down around 3% to 4% a year. Across the nation, one potential threat to the home-price recoveries in major metropolitan areas is the increasingly widespread use of networked PCs and electronic mail. If lots of people could commute electronically from their Manhattan, Kansas, homes to their midtown Manhattan offices in New York, that would reduce the premium people now pay for houses in the New York area. But the experts who study work-at-home trends don't foresee the demise of urban concentrations. Link Resources, a market research firm that for five years has conducted surveys in this field, estimates there are 36 million households with at least one person who does some work from home. That's enormous -- more than a third of all U.S. households. And it's up 6.5% from 1993. But some eight million of this group are telecommuters who come into the office frequently, and another eight million are regular corporate employees who work at home in the evening. The remaining 20 million are self-employed and so, in theory, could live anywhere. But Link analyst Abhijeet Rane says they choose to live in major metropolitan areas because that's where their customers are. Moreover, home workers often have spouses who must trudge into the office every day. Rane sees virtually no effect yet of working at home on residential living patterns, though he allows that perhaps improved video and document conferencing after the year 2000 will have "some" effect. Perhaps the biggest threat to the continuing recovery is the ever present possibility that Washington could make a grab for the big cache of revenue that is denied it by the mortgage-interest tax deduction. Not only is it worth more than $50 billion a year in lost revenue, a third goes to people making over $75,000. Yet no broad-based attack is under way, says Linda Goold, tax counsel for the National Association of Realtors. Referring to the late 1980s bust in the apartment and office markets, Goold says, "If we learned anything from the 1986 legislation, it's that taking away a deduction causes an immediate decline in property values. The same would happen on the residential side." Even putting a dent in the deduction is politically risky. Says James Johnson, chairman of Fannie Mae and a former Carter White House official: "It's the middle class on the two coasts that benefit from this deduction, and they vote."

THE MOST troublesome specter haunting the housing market is demographics -- a.k.a. the baby bust, people born from 1965 to 1976, or perhaps more appropriately those not born during those years. There are so few of this generation -- some 40 million, vs. 75 million in the baby boom -- that when the many boomers try to sell their starter homes to the fewer number of busters, home prices will come crashing down. That, at least, was the scenario painted in the late 1980s by two Harvard researchers who contended that under the weight of demographics, home prices adjusted for inflation could fall 47% from 1987 to 2007. The study, by Gregory Mankiw and David Weil, not only caused a stir when it was released, it continues to be the centerpiece of debate on where home prices are heading. Weil, now at Brown University, steadfastly maintains his bearish view. Says he: "We believe we called the beginning of a trend in real home prices. We've had low mortgage rates in recent years and home prices came back, but not much. There will be another recession, and home prices will fall." But many academics and business economists now disagree. David Berson, chief economist at Fannie Mae, notes that since the Mankiw-Weil study was done, the Census Bureau has lifted its projections of population growth because of increases in U.S. fertility rates and longevity, and especially immigration. The number of new immigrants coming to the U.S. this decade -- nine million -- will rival the inflow in the early decades of the century. Obviously, many immigrants won't be able to afford homes soon. But some will: Those who came here in the 1980s will buy in the 1990s, and more will be ready and able to buy in the next decade. Research shows that immigrants have a strong drive to own -- particularly Asians, whose ownership rates rival those of native-born whites. "The latest Census projections put the Mankiw-Weil thesis to rest," says Berson. "The demographics are not as good as in the 1970s -- especially if you look just at potential first-time buyers -- but with population growth of 27 million this decade, they are better than in the Eighties." Berson predicts home prices will rise a percentage point above inflation over the foreseeable future. The aging of the baby boom should also prove a plus for homeownership because as people get older they are more likely to own than rent. True, the biggest jump in ownership occurs as people hit their late 20s and 30s. But the rate rises noticeably for those in their 40s and 50s and keeps edging higher through the early 70s. The trend toward rising ownership rates for older groups may hold in spades in coming years: In contrast to their parents who were able to afford homes in their 20s, many boomer renters in their 30s and 40s have been priced out of the market and are taking longer to save the investment nut needed up front. Many are also at a different stage in the life cycle than their parents were, having taken awhile to marry and have children. For others, the family is starting to outgrow the apartment. Robert Webb and his wife, Mary, both in their early 30s, moved out of a rental unit this year into a home in suburban Boston. "We didn't buy it because we expected its price to skyrocket -- it's an investment for our children," says Webb, who has two young daughters and a newborn son. The Joint Center for Housing Studies at Harvard figures that two million households headed by people under 45 were shut out of the housing market in the 1980s by steep real interest rates and high prices relative to income. The improvement in affordability in the Nineties will give many people in early middle age a good shot. "All my friends are buying single-family homes," says Janet Pride, a 34-year-old software product manager who bought this year in Needham, Massachusetts, and intends to start a family with husband John, a money manager. Janet is confident prices will hold up even though she just broke even on a house in Arlington, a more urban town near Boston, and her husband is looking at a $30,000 paper loss on a condo in Boston. "Homes are more affordable than they used to be, there's little inventory in Needham, and more people will enter the market because they're not buying condos anymore," she says.

THE DEVELOPING DRAG on prices from the baby bust is not a complete mirage, however. Kenneth Rosen, chairman of Berkeley's Center for Real Estate, forecasts that appreciation of starter homes will be sluggish relative to trade-up homes. Nonetheless, the effect will not be strong enough to undermine the market. "What pushes prices up is net new households, and we'll have about 1.2 million of those a year in the Nineties," Rosen says. "There will be a lot of strength in the trade-up market, and one of the most explosive demographic phenomena will be demand from retirees." A model that focuses on total population growth, developed by James Follain of Syracuse University, forecasts that home prices will beat inflation by about half a percentage point per year this decade. Sellers won't fill their coffers as their parents did or as they themselves did in their dreams, but most won't lose money either. The market could even hold some upside surprises. Says Bill Stevens, price analyst at Freddie Mac, another big provider of mortgage money: "People who traditionally had not been homebuyers are buying -- adults living together, single people, some immigrants, people without kids -- and if starter home prices lag, that will attract more nontraditionals." It's possible that the nation's home ownership rate could reach 67% by the decade's end, up from that 63.8% now, according to the Harvard housing center. Fannie Mae is trying to make that happen by launching an advertising program to tell low-income immigrants, minorities, and others that ownership might be within their reach. The company plans to contact some five million renters by the year 2000. Many of those contacted are expected to buy. Chairman Johnson says success of this program could lift the overall ownership rate to as high as 68%. Fannie Mae also plans to reduce the up-front burden for borrowers through its recently unveiled software that lowers the cost of mortgage processing by $1,000 per loan. This saving to banks and mortgage brokers will be passed on to borrowers, Johnson believes, because of fierce competition among lenders.

BUT THEN there is always the unexpected to worry about. "Neither theory nor data support the notion of an impending 'bust' in ((California)) housing prices." That from a Federal Reserve Bank of San Francisco report issued in January 1991, even as California home prices were already sliding into infamy. It would be folly to assert unequivocally that the value of housing will never crack in our lifetime. But for now, the foundation looks comfortably solid.

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