A raft of bad news is roiling the financial markets, mostly over housing and mortgage financing fears brought on by the subprime meltdown. Can consumer lack of confidence trickle down turn into a torrent? More homes, fewer qualified buyers suggests that housing likely has further to fall.
Back in June 2004, Realty Times published "The Perfect Real Estate Storm." "Rising consumer debt, rising interest rates, inflation, low job and wage growth and many other factors are swirling together to form a housing slowdown. But there a few other factors that are adding to the winds that could create the perfect storm -- the largest housing recession in modern history. Homebuyers in 2004 are facing a set of conditions that previous generations have never had before in the aggregate. National news, economic conditions, lending and borrowing conditions, and buyers' expectations, and much more are creating a perfect storm of conditions that separately and combined could flatten the existing housing market, and impact new homes as well."
In a followup article, "The Perfect Real Estate Storm Gathers More Wind," Realty Times wrote, "The credit bubble is an effervescent symptom of something else fizzing in our national psyche, and that is a strong sense of entitlement. Relaxed credit guidelines, including a proliferation in adjustable rate, interest-only, and other easy-to-get loans, has helped put over 68 percent of the population into homes of their own as well as fueled speculative real estate acquisition."
The housing frenzy reached its fifth year of record gains in sales and prices in 2005, and began to soften in 2006, with a shocking acceleration when gas prices reached an all-time high in the summer. Interest rates drifted down again in the fall and winter, and 2006 managed to equal the record-setting pace of 2003. Sales were forecast to soften further in 2007, driven by higher mortgage interest rates, higher home prices, higher gas prices, higher inflation, and slower appreciation. Homebuyers felt the cold water. The financial press called it a bubble that was due to burst, and warned of dire consequences for expectant homebuyers. And without home price gains to cushion the rising costs of high-risk loans that ignored the establishment and building of home equity, subprime borrowers went into higher rates of delinquencies and default.
The Mortgage Bankers Association just reported that fourth quarter delinquencies and foreclosures were on the rise. This suggests that the next delinquency and foreclosure report will also be unfavorable, which could add more pressure to the housing market. Rising inventories, exacerbated by as many as 200,000 (NAR estimate) to 500,000 or more defaults, could impact sellers to lower their prices even further.
As bad as that sounds, the MBA testified in a congressional hearing last month that 18 percent of homeowners are in adjustable rate products, and only 6 percent of homeowners are nonprime borrowers with adjustable rate loans.
The MBA said that about one percent of all loans are in the foreclosure process, and that three out of four will not conclude the bankruptcy process because the owner will work out a payment plan with the lender or sell the home. The number one cause of delinquencies and foreclosures is job related.
About $1.1 trillion to $1.5 trillion ARMs could reset in 2007. Of those, approximately $600 billion will refinance and the remaining $500 to $800 million will reset. On a positive note, interest rates have dropped recently to year-ago levels which could provide some ARM borrowers the opportunity to refinance to a fixed rate loan.
The prop that's been removed for homeowners is equity-building. With home prices stagnant to the point that they are unlikely to outpace inflation for the year, and sales slowing, homeowners can no longer count on accelerated appreciation to liquidate their homes at a profit, or to refinance them to pay down consumer debt.
It didn't help that former Federal Reserve Chairman Alan Greenspan, still basking in the spotlight, says that the subprime loan problems for consumers and their lenders were "not a small issue," suggesting that as much as 10 percent of mortgage originations could be impacted by such things as lender defaults and tightened credit policies that will limit the shoehorning of many subprime borrowers into homes. Resetting loans to higher rates and home prices that aren't appreciating will limit cash-out refis which will in turn put a dent into consumer spending.
Consumer debt, excluding homes, is a problem. For two years running, the nation has spent more than it has earned. The average American household has more than $9,000 in credit card debt and shells out more than $1,300 a year in interest rates. According to a report by The Boston Globe, "Debtor's Hell," one in 11 Americans is behind 90 days or more on at least one credit card (Experian.)
Inflation is always worth watching. Consumer prices, driven by higher food and energy costs, rose in February by 0.4 percent. Core consumer prices, excluding food and energy, rose 0.2 percent. Wholesale inflation, that at the producer level, rose 1.3 percent in February. Collectively, they erode hopes that the Federal Reserve will cut short-term interest rates to stimulate the economy.
Even the bright spot of the slew of bad news, that 97,000 jobs were added in February, despite significant losses in manufacturing and construction, was dampened by fears that rising wages would spark inflation, even though the wage gains were the weakest showing in two years. Wages were up to $17.16 hourly, up 0.4 percent from January, illustrating that the race is in a dead heat between inflation and workers' earnings.
Bad news presents a brief window of opportunity for buyers and sellers. Consumer spending declines coupled with subprime mortgage fears could drive mortgage interest rates temporarily lower, if predictions come true.
The National Association of Realtors forecasts that 30-year fixed-rate mortgage are expected to rise to 6.7 percent by the end of the year, says Lereah. Currently they're at about 6.14 percent.
Meanwhile, the bad news drove up bond prices, lowering yields, to which long-term lending is tied. That means that mortgage interest rates could lower further still, providing some incentive for homebuyers to buy and ARM holders to refinance.
Home prices could dip temporarily as skittish buyers increase demands to builders and existing home sellers. A window with lower interest rates, higher inventory and motivated sellers may not last long if the national median existing-home price is projected to rise 1.2 percent to $224,500 this year. That's tepid growth, but it could mean most of the price gains will take place in the latter part of the year.
The median new-home price should grow 1.7 percent to $249,600 in 2007, following a 1.9 percent increase last year. Stronger gains are probable in 2008, with existing-home prices rising 3.1 percent and new-home prices growing 3.0 percent, says the NAR.
Barring worse news, other wild cards are the unemployment rate. While it's at 4.5 percent today, it's expected to rise to 4.7 percent this year. Inflation, as measured by the Consumer Price Index, is forecast at 2.1 percent in 2007, down from 3.2 percent last year, while growth in the U.S. gross domestic product is seen at 2.5 percent this year, compared with 3.3 percent in 2006. These mean the economy is slowing, which will translate into eventual lower interest rates if inflation can be kept under control.
Also positive is that inflation-adjusted disposable personal income is expected to rise 3.1 percent in 2007, up from a gain of 2.6 percent last year, says the NAR. Buyers with more income to spend in markets with lots of housing inventory to choose from are in an ideal position to secure a better property at a better price than they could this time last year or the year before.
That means the time to buy is now, while other buyers are skittish and sellers are fearful of prices falling further. Buyers aren't likely to buy at the lowest low in home prices, but if prices go back up again, they'll be situated in a more desirable property that will have a better chance of rising in value than lesser homes.
