by Calculated Risk on 5/16/2006 04:39:00 PM

CNNMoney reports: Housing slowdown to be widely felt

You don't need to be in the market to buy or sell a home to be affected by the cooling housing market.

Economists, investors and the Federal Reserve are watching home building and home sales carefully because the sector has reached so far throughout the economy in recent years, lifting all manner of consumer spending and economic activity.

Now that the housing "bust" has started, the questions are: 1) How quickly will housing sales and prices fall? and 2) What will be the impact on the US and World economies? I will give my views in future posts - here is more from the CNNMoney article:

Even those who believe that real estate prices are not in any danger of collapsing agree ... that the reach of real estate extends far beyond those actually building, buying or selling homes.

"Housing accounts for between a fourth and a fifth of the GDP (gross domestic product)," said Walter Molony, spokesman for the National Association of Realtors, referring to the broad measure of the nation's economic activity. "So many other industries see sales tied to the purchase of a home. We get calls from Singer sewing machines about our home sales statistics."
...
David Seiders, chief economist for the National Association of Home Builders, agrees ... that it's been the run-up in home values that has helped fuel consumer spending in recent years, even if he also believes that home prices will continue to climb, albeit at a slower pace.

"It's pretty clear that equity growth is what's fueling spending and allowing a negative savings rate," said Seiders.
...
"As we try to clear this inventory of unsold homes, there's going to be a lot of layoffs in construction, and less revenue from the creation of housing," said [Jeoff Hall, the chief U.S. economist for Thomson Financial].

Residential contractors added nearly 200,000 jobs last year during the white-hot building boom, or about one job out of every 10 created in the broader economy.

That means that if the National Association of Homes Builders is correct ... that's 375,000 fewer construction jobs, or the equivalent of about three companies the size of General Motors.
...
"If you're looking for evidence the economy is slowing, it's housing," said [Dean] Baker [co-director of the Center for Economic and Policy Research]. "Everything we've seen the last four to five months shows pretty clearly that housing is slowing."

by Calculated Risk on 5/16/2006 02:45:00 PM

Dataquick reports: Southland home sales at five-year low, single-digit appreciation

Home sales in Southern California decelerated in April to their slowest pace since 2001, the result of higher mortgage interest rates and less buyer urgency. Prices rose at a single-digit appreciation rate for the first time in more than four years, a real estate information service reported.

A total of 24,748 new and resale homes sold in Los Angeles, Riverside, San Diego, Ventura, San Bernardino and Orange counties in April. That was down 16.1 percent from 29,509 in March and down 21.3 percent from 31,431 in April last year.

The year-over-year sales decline was the steepest since April 1995, when home purchases slowed 24.0 percent. Last month's sales count was the lowest for any April since 24,120 homes were sold in April 2001. DataQuick's statistics, which go back to 1988, show an average April for the nineteen years saw 23,660 sales.

"March and April have shown us that the boom phase of this cycle is behind us, so now it's just a question of how the cycle ends. Right now it looks like changes in the real estate market are happening gradually. But there's a lot of uncertainty among analysts regarding the effect of higher interest rates and how fast the economy is generating demand in regional markets," said Marshall Prentice, DataQuick president.
...
Indicators of market distress are still largely absent. Financing with adjustable-rate mortgages has declined in recent months. Foreclosure activity is edging up from its bottom, but is still low. Down payment sizes are stable, as are flipping rates and non-owner occupied buying activity, DataQuick reported.

UPDATE: For Orange County (from the Register): $628,000: April home prices set new record

Orange County home prices set a new record high – $628,000 – in April, however, sales activity hit an 11-year low.

DataQuick said today that the median selling price rose $5,000 from the old peak of $623,000 set in March.

But just 3,276 homes sold last month, down 28 percent from a year ago. That's the slowest April since 1995 and the sixth consecutive month that sales fell on a year-over-year basis.

Nationwide median prices fell in Q1, but so far Orange County and So. Cal prices are holding up.

by Calculated Risk on 5/15/2006 02:25:00 PM

The NAHB reports: Builder Confidence Declines In May

Rising mortgage rates, deepening affordability issues and the retreat of investors/speculators from the marketplace are prompting single-family home builders to further adjust their perspectives on the new-home market, according to the National Association of Home Builders/Wells Fargo Housing Market Index (HMI) for May, released today. The HMI declined six points from an upwardly revised reading in the previous month to hit 45 for the latest report, its lowest mark since mid-1995.

Click on graph for larger image.

“Based on historical experience, particularly the 1994-1995 episode, the pattern of movement in the HMI is not inconsistent with the orderly cooling-down process we’re projecting for home sales and single-family housing starts in 2006,” said NAHB Chief Economist David Seiders. “We expect new-home sales to be off by 12 percent from the record posted in 2005. Single-family starts, supported by large builder backlogs of unfilled orders and reconstruction in the wake of last year’s record-breaking hurricane season, should be down by about 7 percent from the 2005 record.”

Derived from a monthly survey that NAHB has been conducting for nearly 20 years, the NAHB/Wells Fargo HMI gauges builder perceptions of current single-family home sales and sales expectations for the next six months as “good,” “fair” or “poor.” The survey also asks builders to rate traffic of prospective buyers as either “high to very high,” “average” or “low to very low.” Scores for each component are then used to calculate a seasonally adjusted index where any number over 50 indicates that more builders view sales conditions as good than poor.

All three component indexes declined in May. The index gauging current sales and the index gauging sales expectations for the next six months each fell five points, to 50 and 54, respectively. Meanwhile, the index gauging traffic of prospective buyers declined seven points, to 32.

The decline in builder confidence was broad-based and registered in every region this month. The HMI fell three points to 47 in the Northeast, two points to 30 in the Midwest, six points to 51 in the South and eight points to 61 in the West.

by Calculated Risk on 5/14/2006 05:53:00 PM

On Economist's View, Dr. Duy writes: FED Watch: To Pause or Not to Pause

"... my interpretation of policy at this point is that the Fed intends to pause at the next meeting while awaiting data that calls into question their expectation of slowing demand later this year. In this light, they will discount nominal signals such as prices and focus on real indicators. Currently, real data on housing and consumer spending are consistent with their null hypothesis."

If Duy is correct, ignore CPI and PPI this week, and focus on jobs, consumer spending and housing indicators to predict the actions of the FED in June.

by Calculated Risk on 5/13/2006 12:29:00 AM

From the Rocky Mountain News: Playing mortgage roulette

Thousands of Denver homeowners gambled on adjustable rate mortgage loans three years ago. Now those bets are coming up short. These homeowners are facing the hard truth that their ARM mortgage payments are going up several hundred dollars more each month as their rates adjust skyward.

The higher payments are expected to cost many homeowners in the metro area tens of millions of dollars in extra mortgage payments and drive up the already near-record number of foreclosures.
...
It's a national problem, with an estimated $2 trillion in home loans expected to adjust upward in 2006 and 2007, according to Economy.com, a research firm based in West Chester, Pa.

And the Denver area may be particularly hard hit, because homeowners in Colorado on average have little equity in their homes.

In Colorado, 28.5 percent of homeowners have 5 percent or less equity in their homes, and 47 percent have 15 percent or less equity, according to a report released earlier this year by Christopher L. Cagan, director of research and analytics at First American Real Estate Solutions in Santa Ana, Calif.

Only Tennessee homeowners, on average, have less equity in their homes, according to the report.

This lack of equity is one on the driving forces behind the rising Denver-area foreclosure rate, according to many experts.

This year is on track to eclipse 2005 as the second worst year ever for foreclosures. Last year, more than 14,000 Denver-area homeowners defaulted on mortgages.

Increasingly, people who locked in three-year ARMs with rates in the 4 percent range are finding loan rates rising by 50 percent or more.

Foreclosures In Columbus Are Rising

"Alot of people actually financed homes they could not afford,"says economist Dr. Mike Daniels.

And now some economist say the local housing bubble could burst. Experts say forclosures in Columbus are up 25 percent from last year. The culprit -- rising mortgage rates. Something a lot of homeowners didn't budget for.

"I don't think people really read the fine print about what was going to happen to their payment when the interest rates went up,"says Daniels.

Home foreclosures soar, with Georgia leading the way

New Hampshire foreclosures up; mortgage rates drop

In areas that have seen substantial appreciation, foreclosures are rising, but are still very low. In areas like Denver, foreclosures are already near record levels. Speculation, using exotic mortgages, was nationwide and the negative impact of foreclosures will probably also be national in scope.

by Calculated Risk on 5/12/2006 08:10:00 PM

Writing in the East Bay Quarterly, Dr. Thornberg on California housing:

"... there were some legitimate reasons for the increases in prices. The late nineties saw a sharp rise in rental rates around the state, caused by a growing gap between production and demand. The late nineties saw the removal of tax liability on the sale of a home within a certain amount. Then there was the large drop in mortgage rates between 2001 and 2003. But since 2003 there has been little reason to believe the price increases we have seen are legitimate. Mortgage rates are rising slowly, rents are just now starting to recover and with the state permitting over 200,000 units over the last two years those housing shortages seem to be a thing of the past.

A bubble is when the market price of an asset becomes misaligned with what the fundamentals say the asset should be worth. Bubbles form because of buyers who concentrate on trends, not fundamentals. Property prices may have risen for legitimate reasons in the past, but this past performance is being taken as a sign of things to come, even though the drivers of the market point in a different direction. But the force of people rushing into the market to collect what they see as ‘free money’ may be enough to drive up prices all on their own. This self-fulfilling prophesy cannot last forever though. Eventually the harsh reality will settle in, and the markets will come to a halt. It is just a matter of time. The irrationality of the market makes it tough to predict the when, only the eventual direction is known for sure.

The best leading indicator of a cooling real estate bubble is unit sales. The frenzy that characterizes the rush to get some of that free money is best characterized by a run up in units being bought and sold. Unit sales of existing homes in the state have fallen from 140,000 to 110,000 (seasonally adjusted). In the East Bay monthly sales have fallen to about 1900 units, still high but the downtrend continues. New permits for residential structures have also fallen to below 200,000 units for the state, although they remain solid in the East Bay at slightly over 10,000 new units annually. Inventory levels are on the rise in all the major markets according to data from the California Association of Realtors. Make no mistake, all the numbers still reflect a hot market, and are considerably above where they were as recently as 3 years ago. But these markets are very trend sensitive. The slowing of the market feeds on itself, not unlike the acceleration did. When the market was hot, it caused people to rush in to get a piece of the action, causing it to get hotter. Now as it cools, it will cause more people to think twice before buying, causing it to cool more. Going by past trends this slow decline will continue for the first half of this year, and then the bottom will truly begin to drop out.

As for prices, they are still rising. Much has been made of this, and discussions about how unusual it is are common in the press. The real estate community claims it is indicative of a ‘soft-landing’ scenario. Let me be perfectly clear, there is absolutely nothing unusual about the current pattern of slowing in the market. Prices always lag sales activity on the order of six months to a year. With the markets starting to slow as of late 2005 we would expect price appreciation to slow and come to a halt somewhere towards the end of 2006. This is exactly what we are starting to see. From the 25% pace, appreciation has fallen below 10% as of March of this year. Expect it to continue downward.

So is this the time to sell your house and move in with your parents? Only if you happen to be a masochist, and even then it might end up being too painful. Housing bubbles do not pop on the price side, unless there is a substantial loss of employment in the local economy—the kind of employment losses typically associated with a wider recession. And even under those circumstances the price declines tend to be slow. If you need a good example to go by, the breaking of the late seventies bubble would be a good start. While the US economy was dramatically hurt by the deep recession in 1983 and the shallow one in 1981, only in one year—1982, did California actually see a decline in its workforce. As a result prices stayed relatively stable, falling in value only slightly.

Given the current momentum in the general economy, the forecast for real estate is general cooling. Appreciation will slow to a mere 6% (nominal) by the end of this year and will be flat in 2007. Yet the ‘soft landing’ scenario being predicted by the industry is clearly overly optimistic. We predict that sales of existing homes at the state level will fall from 530,000 units sold in 2005 to 390,000 in 2007 and even lower in 2008. New units being built will drop below 150,000 units by 2008. The impact on the real estate and mortgage industries will be substantial.

What risk does the State have? In 2005 brokerage commission fees nationally tallied in at something close to $100 billion. California’s share of this is probably at least 15%, or $15 billion or more. If the average broker pays 7.5% state income tax on this, this suggests that the drop in sales of homes will cause a $1 billion hit to the state in proprietors income alone. Throw in taxes paid by mortgage brokers and residential developers and you can see the revenue problems that will start to accumulate in the latter part of this year. The spillover to the rest of the economy will be noticeable. State employment growth will slow to 1%, and taxable sales growth will slow to 4%. With taxable sales slowing along with income, the state will start feeling the pinch. Do not expect the dramatic collapse we saw in 2001, but then again we have less room to spare.

Of course the industry that has the greatest degree of risk is construction. Is seems doubtful that non-residential construction will be able to pick up the slack in the wake of the slowdown in residential units. We expect residential permits in the state to fall by over a third in the next few years. The decline will be larger in the places that have been building at an incredibly high pace, namely Sacramento, Contra Costa and of course the Inland Empire. Expect new permits to fall by close to 40% in these areas. There will also be a distinct shift in the type of construction, away from pricey higher end units towards entry level units. Local governments interested in promoting the development of affordable housing will find it much easier to get builders to buy into various programs when demand is slack.

The value of non-residential permits have been growing over the past two years, but only due to the increasing cost of construction. In real terms the amount being built has been flat since bottoming out in 2003. Commercial space still has a high vacancy rate, and demand for new space will remain tepid there for a number of years. Retail and industrial space are tight, but these are being driven in part by the high degree of consumer spending on imports. Weaker spending growth will cool demand for these sectors as well. Construction employment will lose 200,000 jobs statewide over the next three years, with an additional unknown number of jobs lost in the informal sector. In the East Bay this will likely translate into the loss of 17,000 construction jobs in three years.

Is there a possibility of a worse outcome? Certainly. Other shocks to the economy, or a rapid closing of the current account deficit could cause a major recession. This would worsen the outlook substantially. But there is no evidence of this secondary possibility at this point in time. So we see the housing crunch as a force that will slow growth, not stop it. Look for weak growth starting beginning the end of this year or early next year and lasting for up to two years. What is clear is that the downside risks are larger than the upside."

by Calculated Risk on 5/12/2006 10:56:00 AM

From the AP: Trade Deficit Declines for 2nd Month

The Commerce Department reported Friday that the gap between what the country sells abroad and what it imports narrowed to $62 billion in March, the smallest deficit in seven months. It was a 5.5 percent improvement from February's $65.6 billion deficit which in turn had fallen from the all-time high of $68.6 billion set in January.

Click on graph for larger image.

This graph shows the long term downward trend. Its too soon to argue a trend change, but this month's report definitely surprised me - mostly because import traffic was very strong at the West Coast ports. I will need to look through the numbers this weekend.

For some excellent analysis, see Brad Setser: Not quite as good as they look

Last December I suggested the trade deficit might stabilize, but that prediction was based on a slowing US economy. And the US economy hasn't slowed yet.

by Calculated Risk on 5/11/2006 04:07:00 PM

From the GlobeandMail.com: Shiller sees U.S. rally cutting out, Feels housing slowdown could be trigger

Stock markets are still expensive, and investors could be in for an unpleasant surprise once corporate profits begin to weaken, says the Yale University economist who predicted the crash of 2000-2002.
...
Mr. Shiller said the Standard & Poor's 500-stock index is still valued at about 27 times earnings -- far below the bubble-era peak of 46 but still well above the long-term average of about 15. Those numbers are based not on last year's earnings but on a 10-year average of profits.

"I think we could have a number of disappointing years," the economist said in an interview yesterday with The Globe and Mail. "We see earnings growing rapidly, but I feel skeptical about [the sustainability of] that."
...
The trigger for a profit slowdown, he suggests, could be a fall in consumer confidence and U.S. housing prices, the signs of which are beginning to appear in places such as San Francisco, Boston and Miami. Mr. Shiller updated Irrational Exuberance last year and devoted a large chunk of it to his view of speculative bubbles in real estate.

"It looks like we're at the peak" in U.S. housing, he said. "But I can't claim victory yet.

"The equity bust of 2000 produced a mild recession, and was rather short-lived. It's very hard to predict . . . [but] if the real estate market does tank, it will cause a worldwide recession." Falling real estate values "will probably be spread over many countries."

by Calculated Risk on 5/10/2006 05:08:00 PM

From Reuters: Fannie CEO frets about adjustable mortgages

Fannie Mae's chief executive said on Wednesday the U.S. housing market will face significant resetting of adjustable rate mortgages over the next two years and he worries about this sparking foreclosures in some locations.
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"If jobs are pretty stable, if home prices have come up underneath the mortgages to support them and if there's not any incidence of appraisal fraud, it could be just fine," [Daniel Mudd, president and chief executive officer] said. "If in certain geographies, some of those factors are different -- there's some appraisal fraud, or there's an economic downturn or home prices have declined -- it could be a very different scenario.

"In that case, what you'd worry about, really on a neighborhood-by-neighborhood basis, is you have a foreclosure here and you have a foreclosure there and soon you've got four foreclosures on the market and you've got plywood on the windows and that could have a very deleterious effect," on the market, Mudd said.

by Calculated Risk on 5/10/2006 03:24:00 PM

UPDATE: Professor Thoma parses the FOMC statement: The FOMC Raises Target Rate to 5%

Using the Dallas Fed's trimmed-mean PCE inflation rate (6 month average, annualized) and the effective nominal Fed Funds rate, the Real Fed Funds Rate is now around 2.5% (assuming current inflation at the same level as March).


Click on graph for larger image.

This graphs shows the REAL Fed Funds rate for the last 20 years. The median is 2.9%; still higher than the current rate. Of course inflation could dip with all the rate hikes already in the pipeline and the REAL rate would increase even if the FED pauses.

But right now inflation, using the trimmed-mean PCE method, is still too high. The FED is probably comfortable with measured inflation in the 1% to 2% range.

The wildcard remains the housing market. If housing slows too quickly (see previous post with 20% drop in the MBA Purchase Index from last year) then the economy might slow quicker than expected and the FED will have overshot.

If inflation remains at this level, or continues to increase, then the FED will have to continue hiking rates.

The June meeting should be interesting.