A brief, but welcome recovery in housing
Activity in the U.S. housing market has bottomed – a huge plus for the economy – but a recovery in prices will not be sustained and the threat from real estate to bank capital remains acute.
We are over the worst, but only because of massive official support, support that will soon ebb. That could lead to a relapse, especially among more expensive houses, but nothing along the lines of what we have suffered so far.
The news has been good.
Newly built homes sold in July at the fastest pace in ten months, up 9.6 percent, in U.S. Commerce Department data on Wednesday. This echoes a fairly good showing in last week’s data on sales of existing homes which are selling at the fastest pace in almost two years.
Miraculous to say, prices now look to be rising, at least as recorded by the Case-Shiller home price index which rose 2.9 percent between the first and second quarters, the biggest jump in close to four years.
This all comes as a huge relief. You can construct an argument that we are now most of the way through the most painful adjustment in house values and sales activity since around the time great clouds of dust blanketed the mid-west in the 1930s.
There is no doubt that a pickup in activity, even from very low levels, will be helpful for the economy and will gently support the services and construction sectors as well as theconsumption of durable goods.
But the supply of housing, though it has dropped, remains high and is probably under-measured given a large “shadow” inventory of both repossessed houses and houses of frustrated sellers which will come back on to market to meet and probably exceed any pickup in demand.
In the more bombed out areas of the U.S. – think Las Vegas and Cleveland – it is easier to come to terms with the idea that prices will now rise.
Demand is coming not just from first time buyers but more importantly from cash investors looking, not to flip as prices rise, but to get a decent income stream from renting. These investors are a healthy part of the process of turning a marginal group of house-owners back into renters.
It is hard to look at the national data, especially at the higher end where inventory in many areas is measured in years of supply not months, and conclude that we will not see any more falls.
“Perhaps a respite is in order, but with the true underlying unsold inventory near 12 months’ supply, which is double what would typify a balanced housing market, it would seem like wishful thinking that we have suddenly achieved a fundamental low in real estate values,” David Rosenberg, of Gluskin, Sheff told clients.
THE GOVERNMENT GIVETH…
The recovery in housing, such as it is, has to be seen in the context of the absolutely heroic support it has received from government.
The Federal Reserve has slashed interest rates to unfathomable lows, and not content with that, also intervened directly in mortgage markets, buying something on the order of $750 billion net of mortgage securities in an attempt to drive down mortgage rates.
The Fed has a 2009 target of buying up to $1.25 trillion of agency mortgage backed securities, $300 billion of Treasuries, and $200 billion of agency debt, all of which is keeping effective borrowing rates 0.5 to 1.0 percentage points lower than they would otherwise be. That program may be extended into next year, but not in size, given a well justified fear by the Fed that such intervention invites tighter political oversight.
So, all things being equal, mortgage rates may rise relative to prevailing rates, unless of course the securitization machine rises from the dead.
An $8,000 tax fillip for first time buyers is definitely a factor behind increased turnover and improving prices, particularly at the lower end. But that program is due to expire November 30.
Like the “cash-for-clunkers” plan for cars these programs partly encourage pent up demand to get off the sidelines but also simply move some activity forward in time. Look for a bit of a slump as the effect, which is now at its height, wears off.
Late paying borrowers are proving far less likely to get back on track than they were in previous cycles, according to a recent report from ratings agency Fitch. This argues for a continuing supply of houses coming back onto the market as foreclosures, especially in light of the poor success of mortgage modification programs.
To be sure, things are better now than they have been and the very steep falls in price make housing less of a one way bet.
The real estate market is usually seasonal, with a spring spurt and a winter freeze. This year we’ve seen the return of the spurt, but the freeze to come may buckle some foundations.
(At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. )