What would make a strong foundation for a recovery? First, a housing recovery should be built on solid job growth — something that isn’t happening. Job growth of high-paying jobs would translate to more mortgage originations and purchases by owner occupants. Since job growth stimulating owner-occupant purchases should be the foundation of a recovery — and since that isn’t happening — the recovery is being built on a shaky foundation. The recent price rally — call it a housing recovery if you wish — is built on two things: 1) lender restricted inventory, and 2) low interest rates. If either of those two factors change, the housing recovery could easily be snuffed out. After all, the real demand behind a recovery simply isn’t there yet.
Published: Tuesday, 9 Oct 2012 | 10:41 AM ET
The news is finally good: Consumer sentiment in housing is at the highest level since the recovery began.
Realtors say not only are buyers coming back, but much-needed sellers are too. Inventories of distressed properties are shrinking, and mortgage rates are hitting record lows nearly every week. (Read More: Is Housing Rising From Ashes? ‘Industry Has Come Back’.)
The housing crisis is over, right?
“While we have seen many dramatic headlines touting the housing recovery over the last 3.5 years, these headlines and the analysts who author them have been over- predicting changes in the housing market (versus what actually occurred).” said Laurie Goodman of Amherst Securities in a new report.
Most financial reporters are overly optimistic. They seem to believe they have some responsibility for boosting consumer confidence by telling the world everything is going to be alright — even when it’s not. The denial of the housing bubble back in 2006 and 2007 is a classic example. I stood out back then because I was willing to tell the truth about our impending disaster, and nobody in the financial press (and certainly no loan owners) were willing to accept it.
“Recoveries, with attendant price increases, were anticipated in the spring and summer of 2009, 2010 and 2011; by the fall and winter the predictions of price changes were amended to reflect further price declines. In actuality, after netting out the seasonal factors, home prices have been little changed in the past few years.”
This track record of incorrect bottom calls had Barry Ritholtz writing Yeah! The Housing Bottom Is Here! (PWBC™). He documented the various mistakes in the financial media going back t0 2006.
Does that mean that we’re headed for yet another housing scare come Halloween time? Is housing’s winter chill just around the corner? Not according to the bulk of Americans surveyed in yet another new report:
“Consumers are showing increasing faith in the nascent housing recovery,” said Doug Duncan, senior vice president and chief economist of Fannie Mae. “Home price change expectations have remained positive for 11 straight months, and the share expecting home price declines has stabilized at a survey low of only 11 percent.”
Keep in mind that consumers are stupid. Most consumer surveys make better contrarian indicators because the general public is wrong most of the time.
The expectation is now that home prices will increase an average of 1.5 percent in the next year, according to the survey, and that has sellers coming back to the market. Of those surveyed, 19 percent said now is a good time to sell. That’s the highest since the survey began in June 2010. But wait, 19 percent? That’s still not a lot.
These national surveys seek overall trends and tout big headlines, but real estate is and always will be local, and this recovery is becoming increasingly local. That is clear in the latest numbers on supplies of distressed homes.
The so-called “shadow inventory” of homes that either have seriously delinquent mortgages, are in the foreclosure process or are bank-owned but not yet listed for sale, fell to 2.3 million units in July according to CoreLogic. That’s a 10 percent year-over-year drop, and puts the supply at about six months by the current sales pace.
“The decline in shadow inventory has recently moderated reflecting the lower outflow of distressed sales over the past year,” said Mark Fleming, chief economist for CoreLogic. “While a lower outflow of distressed sales helps alleviate downward home price pressure, long foreclosure timelines in some parts of the country causes these pools of shadow inventory to remain in limbo for an extended period of time.”
So what happens when a market like Orange County clears out while 100,000 properties languish in Riverside County? Eventually, the substitution effect will kick in, and people will opt to buy the less expensive house in Riverside County, and in doing so, the demand will weaken in the Orange County market. This won’t cause prices to drop, but it will weaken sales and limit appreciation.
And that’s the problem. In states where a judge is required in the foreclosure process, like New York, Florida and New Jersey, foreclosure timelines are still marked in years, not months. That will keep home prices from recovering as quickly there. Prices could in fact deteriorate. (Read More: Housing Alert: Short Sales may Be in Big Trouble.)
“Market participants have become too accustomed to speaking about a national housing market and national home price appreciation. Going forward, we expect price behavior to vary by price range and location. To over-generalize — we anticipate that the judicial states, those in which a court order is necessary to proceeds with the foreclosure process, will take much longer to clear the distressed inventory than the non-judicial states, and higher-priced homes will take longer to clear than lower priced,” noted Goodman.
That is my opinion as well. The judicial foreclosure states have most of the shadow inventory right now, so they will take forever to clear. Price declines are coming there — price declines they should have endured in 2008 but didn’t because the inventory was not processed. I have written at length about the high-end shadow inventory and the lack of a move-up market, and that market segment will continue to under perform.
Much of the latest optimism in housing is due to record low mortgage rates. The Federal Reserve’s latest action to buy $40 billion in agency mortgage-backed securities sent rates plunging and mortgage applications rising.
The applications, however, were largely for refinances, not home purchases. The Fed’s move gave more Americans confidence that mortgage rates will not increase in the next year, according to Fannie Mae’s survey, but those consumers may be wrong. (Read More: Will Fed’s Mortgage Buying Juice the Housing Recovery?)
“More recently, MBS yields have made up nearly all of their initial drop. If sustained, that suggests that mortgage rates may not fall much further, and could even rise,” notes Paul Diggle of Capital Economics.
If the federal reserve cannot keep mortgage interest rates low with its guaranteed $40B monthly purchase program, then I will re-evaluate my opinion on future house prices. My belief today is that mortgage interest rates will stay low for the next two or three years at least. If that assessment is wrong, affordability could plummet, and house prices will plummet along with affordability. The reason prices are rising right now isn’t just because inventories are tight. Buyers have the capacity to raise their bids. Once interest rates go up, buyers won’t have this ability, and the rally will stop dead in its tracks.
Home buying and selling cannot always be qualified and quantified by monthly economic numbers. It is a highly emotional business, which is why sentiment can not only ignore reality, it can effect reality. Going forward, much of the housing recovery will be driven by sentiment. It remains to be seen if that sentiment will hold if this warming recovery hits a new chill.
Sentiment will not hold back the market here. Kool aid intoxication returned the nanosecond house prices showed strength. Far too many people were rewarded with far too much HELOC money during the bubble, and despite the six years in HELOC purgatory, people still remember what happened, and many are buying today in hopes that HELOC money will return.
Processing their winners
Lenders are loathe to process the foreclosures on which they will lose a lot of money, but they have no problem processing the ones on which they will break even or make a little money. Today’s featured property is one of that category.
- The property was purchased for $299,000 on 9/20/2001. The owner used a $171,000 first mortgage and a $118,000 down payment.
- On 12/31/2003 she refinanced with a $182,000 first mortgage.
- On 7/22/2005 she obtained an Option ARM with a 1% teaser rate for $250,000.
- On 11/20/2007 she refinanced with a $345,000 first mortgage.
- Fannie Mae promptly processed the foreclosure and bought the property for $373,929 which represents the outstanding balance of the refinanced first mortgage. Based on that cost basis, a sale at $415,000 will get them out with a little extra in their pocket.
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Proprietary OC Housing News home purchase analysis
$415,500 …….. Asking Price
$299,000 ………. Purchase Price
9/20/2001 ………. Purchase Date
$116,500 ………. Gross Gain (Loss)
($23,920) ………… Commissions and Costs at 8%
$92,580 ………. Net Gain (Loss)
39.0% ………. Gross Percent Change
31.0% ………. Net Percent Change
2.9% ………… Annual Appreciation
Cost of Home Ownership
$415,500 …….. Asking Price
$14,543 ………… 3.5% Down FHA Financing
3.43% …………. Mortgage Interest Rate
30 ……………… Number of Years
$400,958 …….. Mortgage
$117,464 ………. Income Requirement
$1,785 ………… Monthly Mortgage Payment
$360 ………… Property Tax at 1.04%
$0 ………… Mello Roos & Special Taxes
$104 ………… Homeowners Insurance at 0.3%
$418 ………… Private Mortgage Insurance
$368 ………… Homeowners Association Fees
$3,034 ………. Monthly Cash Outlays
($264) ………. Tax Savings
($639) ………. Equity Hidden in Payment
$16 ………….. Lost Income to Down Payment
$72 ………….. Maintenance and Replacement Reserves
$2,220 ………. Monthly Cost of Ownership
Cash Acquisition Demands
$5,655 ………… Furnishing and Move In at 1% + $1,500
$5,655 ………… Closing Costs at 1% + $1,500
$4,010 ………… Interest Points
$14,543 ………… Down Payment
$29,862 ………. Total Cash Costs
$34,000 ………. Emergency Cash Reserves
$63,862 ………. Total Savings Needed