The definition of a bubble in this context is "an unsustainable price". If you think about the term price sustainability," you sooner or later have to consider the implication of debt.

That is because if there is no debt against an asset, it's likely that, once established, the price of the asset is likely to continue within a narrow trading range. That range will be affected by supply and demand factors that also (normally) operate in a narrow range.

The term burst" implies an overwhelming change to supply or demand factors. In a stable economy i.e., in the absence of war, the daily changes to market pressures on supply and demand are minor. So prices of assets are expected to move slowly in one direction or another, which is not suggestive that a bursting" of price is possible.

That situation is materially different, however, when there is a debt against an asset.

In my view, to answer the question, Will house prices burst?" requires a study of the debt markets. In that regard, I have said that the current cycle of rising house prices will terminate, causing a reversal of trend, when short-term bond yields increase causing mortgage rates to rise into a zone where people are uncomfortable with the debt service obligations.

But a bursting" will not occur until some later point, when yields and rates increase past the tipping point where bank foreclosures grow to a point it sops up demand for houses that are priced by solvent home owners.

That situation happens maybe once in 15 or 20 years. But, if my assessment of debt markets, and the mortgage market, is anywhere close to being accurate, I think house prices will burst in those local markets where high debt has been used to buy the majority of houses in the past two to five years.

That's because rising rates and yields are starting to be problematic.

I once asked a realtor why office rents in the Nassau Bahamas financial district had not changed in twenty years, and was told that they couldn't go down because there was no debt against any of the buildings. And they were not rising because enough new construction was in place to meet any increase in demand.

I recently asked a homeowner in Freeport Bahamas why he believed house prices in his area would remain strong, and he gave a similar answer: Because everybody here owns their home outright. There is very little debt in this market."

In most jurisdictions, the housing market is more complex, but my point here today is that interest rates, and not other supply and demand factors, will be the ultimate cause for bursting the price bubble.

I call it a bubble because rates are rising, and house prices are rising, and as long as rates continue to rise, then the rising house price trend is unsustainable, and lower prices are inevitable.

On the other hand, should rates fall again, that would be a sign of economic stagnation or contraction, which would negatively affect demand. Supply then would readjust, and prices would stop going higher, but would likely remain flat, and not burst.

So, if rates fall, we all have to stop calling this a bubble. Got it?

And if rates continue to rise, we all should be expecting to hear the sound Pop!"

So, let's have a look at the short-term bond market to get a sense of the interest rate picture. Note that as Lehman 1-3 year bond prices fall, the yields are rising.

This chart (Lehman 1-3 year bonds, which trades as AMEX: SHY) reflects that the bonds reached a high point in the 1Q04, but the rising price cycle had broken down to start the 4Q04, and 2005 has seen a falling bond market, i.e., rising yield scenario.

Yesterday the 2-year U.S. Treasury Notes were yielding 4.14 pct, up from 4.09 pct on Friday, and 3.75 pct a month ago, and under 3.50 pct just four months ago.

I suspect a 4.50 pct yield on the 2-year U.S. Treasury Note would be tough for many to swallow. Hence, I recommend that traders keep their eye on these rates and yields at Yahoo Finance every couple days from this point forward.

I do not expect that anything reported today (2:15 pm ET) from the FOMC will alter this picture significantly.