KB Home (NYSE:KBH) shares dropped sharply today after the homebuilder posted a $772.7 million net loss for the fourth quarter – nine times wider than the loss that analysts expected. In reality, much of the loss was due to a $514 million non-cash charge due to changed accounting for tax purposes. However, many remain convinced that there is much more pain to come in the housing market.

Slow business has led many analysts to speculate that homebuilders will not be profitable until 2009 or 2010 and may face even more write-downs. Notably, deferred tax assets will eventually recover and produce a gain but it could be awhile. Meanwhile, average housing prices dropped 12% in the fourth quarter to $247,800 while supply remains extremely high. Also, more buyers are cancelling their contracts for homes than analysts expected.

The mortgage market isn’t looking any better either. Countrywide (NYSE:CFC) shares were also off sharply yesterday amid speculation that there was a forthcoming negative announcement that many assumed to be a bankruptcy. The mortgage company denied the rumors, but that didn’t stop shares from dropping nearly 30 percent amid falling housing prices and a surge in foreclosures.

Mortgage lenders are still faced with subprime exposure and an increasing number of foreclosures. Additionally, many prime loans granted to the rich may also face defaults as many were financed with adjustable rate mortgages with teaser rates that are due to reset higher over the next months and year. New government lending standards should prove to curb problems in the future, but there is still a lot of work ahead of the mortgage lending industry.

In the end, the housing market still faces an uphill battle due to an increasing supply of homes and an increasing number of buyers defaulting. It could be awhile before this problem turns itself around…

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