Banks, Home Prices, Home Sales Are 'Just Fine'

© 2009 AP Photo/Noah Berger, Boston Globe, Scenes From The Recession - #30, 18 Mar 2009.

“Currently, the vast majority of banks have more capital than they need to be considered well capitalized by their regulators.”

- Treasury Secretary Timothy Geithner, Written Testimony Before Congressional Oversight Panel, 21 Apr 2009.

Forgive me, but where’s the news?

The financial market dislocation NEVER reflected a problem with the “vast majority of banks.” The problems were, and are, confined to the largest banks, as I described earlier in How The Fed's Rate Cut Could Hurt America's Small Banks and Just How Top Heavy Is The Top.

For those that missed it, below are two of my charts from the latter post:

click to enlarge

Figure 1: Distribution of Number of Banks & Bank Assets, 2008Q3, FDIC QBP

While there have been a couple of changes since 2008Q3 (a couple of arranged marriages … excuse me, mergers), the data has not changed much. The vast majority of banks – as noted in How The Fed's Rate Cut Could Hurt America's Small Banks – are small and doing just fine, or would be if the rules weren’t rigged to benefit the big fellas.

As long as we’re “declaring victory” - I’d like to play. Ready? How about this one:

• There is nothing exceptional about the current mortgage and economic crisis, and conditions are pretty much what you would, or should, have expected.

To prove my point, I’ll need the following quarterly historical series, for the thirty-one year period of 1978 – 2008:

Item Description

1. Freddie Mac Conventional Mortgage Home Price Index (CMHPI);
2. Home Sales (New and Existing), Seasonally Adjusted and Annualized, From Census and NAR;
3. US Owner Occupied Housing Stock, Census Bureau; and
4. 30 Year Conventional Mortgage Rate, Freddie Mac Primary Mortgage Market Survey (PMMS).

Then, let’s do the following:

• Step 1: Transform CMHPI Index (Item #1) into annual, year over year changes. The CMHPI is similar to the more widely known FHFA/OFHEO index, but available for a longer period. It is a “repeat financing” index (either sales or refi transactions) of homes financed by conforming balance mortgages, ‘backed’ by either Fannie (FNM) or Freddie (FRE).
• Step 2: Add New and Existing Home Sales (Item #2) to get Total Home Sales. Divide by Housing Stock (Item #3).
• This ratio, of home sales to housing stock, is a “quasi-turnover” measure and a general measure of the health of the housing market. Generally speaking, the higher the turnover, the better.
• Step 3: Smooth above two series as well as 30 Year PMMS rate using four-quarter averages. Plot separately (see below).

Figure 2: Annual Home Price Change, CMHPI

Figure 3: “Turnover”, Total Home Sales / Housing Stock

Figure 4: 30 Year Conforming Fixed Rate, PMMS

As the graphs – above – suggest, and the graphs – below (Figure 5) confirm, there is a weak positive relationship between home sales and home prices, and absolutely NO relationship between mortgage rates and home prices.

Figure 5: Relationship Between Home Prices and a) Home Sales; and b) Mortgage Rates.

• Step 4: Take the home price change CMHPI series (see Figure 2) created in Step 1. Subtract from it the interest rate PMMS series (see Figure 4) created in Step 3.
• Let’s call this “Carry”, since it equals the difference between what you make on your home (the asset), and pay on your mortgage (the liability). Like this:

CARRY = CHANGE IN HOME PRICES Less MORTGAGE RATE

• Step 5: Plot this CARRY and TURNOVER (from Step 2, see Figure 3) on the same chart, like this:

Figure 6: Carry (Blue, Left Axis) and Turnover (Red, Right Axis).

NOTE: Observe how closely the two series move together, almost perfectly in synch.

• Carry: ANNUAL CHG IN HOME PRICES Less MORTGAGE RATE
• Turnover: TOTAL HOME SALES / HOUSING STOCK
• Step 6: Plot CARRY and TURNOVER again, but this time on a scatterplot:

Figure 7: Scatterplot of Carry and Turnover, 1978 - 2008

Now that’s amazing! ‘Turnover’ (home sales as a percentage of the housing stock) and ‘carry’ (the difference between the change in home prices and the cost of finance the home with a mortgage) are, and have been moving, almost perfectly in lockstep!

Pretty much like you should have expected. Market activity reflects, more or less, what you can make from the market.

Everything must be fine. I’m fine, you’re fine, we’re all fine.

Oh, and one more thing - the vast majority of banks are well capitalized.

There, don’t you feel much better?

Comments

[conceptwizard:]

I wonder what happens to this chart when you add the following,

600,000 "DISAPPEARED HOMES?"

Here's a excerpt from the SF Gate explaining the mystery:

"Lenders nationwide are sitting on hundreds of thousands of foreclosed homes that they have not resold or listed for sale, according to numerous data sources. And foreclosures, which banks unload at fire-sale prices, are a major factor driving home values down.

"We believe there are in the neighborhood of 600,000 properties nationwide that banks have repossessed but not put on the market," said Rick Sharga, vice president of RealtyTrac, which compiles nationwide statistics on foreclosures. "California probably represents 80,000 of those homes. It could be disastrous if the banks suddenly flooded the market with those distressed properties. You'd have further depreciation and carnage."

In a recent study, RealtyTrac compared its database of bank-repossessed homes to MLS listings of for-sale homes in four states, including California. It found a significant disparity - only 30 percent of the foreclosures were listed for sale in the Multiple Listing Service. The remainder is known in the industry as "shadow inventory." ("Banks aren't Selling Many Foreclosed Homes" SF Gate)

If regulators were deployed to the banks that are keeping foreclosed homes off the market, they would probably find that the banks are actually servicing the mortgages on a monthly basis to conceal the extent of their losses. They'd also find that the banks are trying to keep housing prices artificially high to avoid heftier losses that would put them out of business. One thing is certain, 600,000 "disappeared" homes means that housing prices have a lot farther to fall and that an even larger segment of the banking system is underwater.

Apr 22 08:04 AM

[ACCOUNTANT:]

Yes, banks are not putting all foreclosures onto the market. In fact, it was reported that CountryWide is buying up foreclosed properties to take them off of the market. However, that does not lead to the conclusion that housing has much further to fall. To the contrary - for a variety of reasons.

First, we have been under an annual housing starts number of 600,000 for about 8 - 10 months. To replace housing that goes away each year, via fire, storms, condemnation, termites, demolition, or whatever, plus provide housing for the additional 850,000 households we add each year in this country, we need to add approximately 1.5 - 2.0 million housing units per year to meet basic demand (and that excludes vacation homes). Thus, over the past 9 months, we should have already taken about 600,000 to one million excess housing units off of the market.

Secondly, with rates down to 5% and with prices down 30% or more in several markets, those people that bought housing when they couldn't afford it can now afford it. On a 30 year loan, reduce the loan by 30% and reduce the interest rate from 7% to 5%, and you have just reduced the monthly payment by 43.5%! What was unaffordable just became very affordable. That fact, by itself, with soak up the balance of the excess in all but the most grossly overbuilt areas of the country.

Apr 22 09:18 AM

[ACCOUNTANT:]

Additional comment - the banks will bring those houses onto the market in an orderly fashion over the next two years to maintain price stability etc. Who this doesn't bode well for is the house builders, as their world will not pick up until the banks have cleansed their balance sheets of those houses.

Apr 22 09:19 AM

[HardwoodFlo...:]

IRA- Again great post good data and graphs.

Accountant- solid and pertainant info. Don't forget that while housing starts have been at 600 for the last 8-10 months there is anothe important thing to keep in mind that 500K per year are lost to "tear down" so actually the country is running almost a negligable zero on actual starts.

With the demopraphics (3MM persons added to the population per years some 1.5 million house hold and the fact that the Echo-generation is just hitting the street now) in place the back side of this is going to be solid and strong as it relates to housing builds.

The truth is the housing inventory is down and dramtically form it's highs. Sure the south and west still have overhang but building inthe midwest was up 16+%.

Ira- i'm glad you didn't fixate on afforability here. the truth is the whole price and affordability thing is skewed in many ways becasue of the crisis. What I mean is that people can't get JUMBOs so the high end isn't selling. What has been selling are "distressed sales". As a result, you are seeing a "false" read on the whoel affordability aspect. What is true is that you can get a great deal on a disstressed home- and why shouldn't you. a young person who qualifies can get an FHA 30 year fixed for 5%! What a deal especially when you are talking abotu .60 on the $. You are getting a home below repalcement cost for less tahn it would cost to rent. However, this is giving the impression that all markets shoudl therefor be down 20-30% or something. So people who don't have to sell aren't. That too is distorting the all-to-often sited affordability chart.

Apr 22 11:31 AM

[Allan Frain:]

Add to that millions of disappeared paychecks.


On Apr 22 08:04 AM conceptwizard wrote:

> I wonder what happens to this chart when you add the following,<br/>
>
> 600,000 "DISAPPEARED HOMES?"
>
> Here's a excerpt from the SF Gate explaining the mystery:
>
> "Lenders nationwide are sitting on hundreds of thousands of foreclosed
> homes that they have not resold or listed for sale, according to
> numerous data sources. And foreclosures, which banks unload at fire-sale
> prices, are a major factor driving home values down.
>
> "We believe there are in the neighborhood of 600,000 properties nationwide
> that banks have repossessed but not put on the market," said Rick
> Sharga, vice president of RealtyTrac, which compiles nationwide statistics
> on foreclosures. "California probably represents 80,000 of those
> homes. It could be disastrous if the banks suddenly flooded the market
> with those distressed properties. You'd have further depreciation
> and carnage."
>
> In a recent study, RealtyTrac compared its database of bank-repossessed
> homes to MLS listings of for-sale homes in four states, including
> California. It found a significant disparity - only 30 percent of
> the foreclosures were listed for sale in the Multiple Listing Service.
> The remainder is known in the industry as "shadow inventory." ("Banks
> aren't Selling Many Foreclosed Homes" SF Gate)
>
> If regulators were deployed to the banks that are keeping foreclosed
> homes off the market, they would probably find that the banks are
> actually servicing the mortgages on a monthly basis to conceal the
> extent of their losses. They'd also find that the banks are trying
> to keep housing prices artificially high to avoid heftier losses
> that would put them out of business. One thing is certain, 600,000
> "disappeared" homes means that housing prices have a lot farther
> to fall and that an even larger segment of the banking system is
> underwater.

Apr 22 03:12 PM

[Boxed Merlot:]

Accountant - "those people that bought housing when they couldn't afford it can now afford it."

Sounds good in theory but in actuality they are only able to pay rent in that they are no longer creditworthy due to their losing their home in the first place. Not sure of the solution but this is precisely the situation in the central valley, CA where over 100 new foreclosures show up daily in our local paper. The limited private sector employment opportunities are further cause of inaffordability of these foreclosed properties for "new" buyers.

Apr 22 03:25 PM

[Allan Frain:]

These are compelling charts, but unemployment (or better yet, changes in unemployment--even rate of change in unemployment would help put today's market in historical perspective.

Distressed sales are not a new phenomenon, but today's magnitude certainly is. Loan types have taken a whole differnt form--at the left side of these graphs the 30-year fixed was the standard. The notion of "underwater" did not exist when 20% down was routine and prices rose and varying positive rates. There are several parameters that are unreflected in the charts and peculiar to the very far right of the graphs.

Apr 22 03:28 PM

[Boxed Merlot:]

Allan Frain - I gotta agree.
Having spent much of my career in the building materials industry, it was always pretty much of a slam dunk to spend time and $ on your home and think of it as an "investment". This is how many people I know developed well over your 20% equity mentioned. Unfortunately, some took out second mortgages and consumer credit to finish off their homes or upgrade, etc., only to see it all evaporate when our values locally plunged 45% and more. It seems to me people are far less compelled to spend anything extra on their residence if it fails to appreciate or worse yet depreciate further, hence the lackluster home improvement products sales results. Well, change took the election, I guess we got to get used to it.

Apr 22 03:53 PM

[griff allday:]

C'mon! Common sense and the numbers reflect that housing is still conspicuously overpriced, just about everywhere. Just look at sales histories in even the hardest hit areas of the subprime meltdown, including CA and FL. Read this short and excellent run down on why you should sit on your hands:

healdsburgbubble.blogs...

Safe to say, any buyer who jumps too soon will lose their ass after the coming interest rate hike.

On Apr 22 11:31 AM HardwoodFlooring wrote:

> IRA- Again great post good data and graphs.
>
> Accountant- solid and pertainant info. Don't forget that while housing
> starts have been at 600 for the last 8-10 months there is anothe
> important thing to keep in mind that 500K per year are lost to "tear
> down" so actually the country is running almost a negligable zero
> on actual starts.
>
> With the demopraphics (3MM persons added to the population per years
> some 1.5 million house hold and the fact that the Echo-generation
> is just hitting the street now) in place the back side of this is
> going to be solid and strong as it relates to housing builds.
>
> The truth is the housing inventory is down and dramtically form it's
> highs. Sure the south and west still have overhang but building inthe
> midwest was up 16+%.
>
> Ira- i'm glad you didn't fixate on afforability here. the truth
> is the whole price and affordability thing is skewed in many ways
> becasue of the crisis. What I mean is that people can't get JUMBOs
> so the high end isn't selling. What has been selling are "distressed
> sales". As a result, you are seeing a "false" read on the whoel
> affordability aspect. What is true is that you can get a great deal
> on a disstressed home- and why shouldn't you. a young person who
> qualifies can get an FHA 30 year fixed for 5%! What a deal especially
> when you are talking abotu .60 on the $. You are getting a home
> below repalcement cost for less tahn it would cost to rent. However,
> this is giving the impression that all markets shoudl therefor be
> down 20-30% or something. So people who don't have to sell aren't.
> That too is distorting the all-to-often sited affordability chart.

Apr 24 01:48 AM

[Ira Artman:]

Thanks all for comments. There are many problems, I think, with my analysis, just as I think that it is NOT a good idea to take comfort from claim that "majority of banks are well capitalized."

As I noted at open of piece - so what? That's not - and never was - the issue.

Believe that the "relationship" that I charted in piece, while remarkable, ignores the problem and concludes that things are fine, as noted.

Key problem - such as it is - with my analysis is use of the Freddie CMHPI, which is virtual clone of FHFA/OFHEO index, and both of these include prices ONLY of homes financed by conforming mortgages.

At peak, however, believe more than half of the mortgage originations were non-conforming. This began as a subprime crisis, and then became a jumbo and an AltA crisis. These borrowers (at one time half of the market) had no financing alternatives, and it is their removal from the market, and struggles to get them back, that has led to the mess.

All of which is missed if you use CMHPI or FHFA/OFHEO. Or, think things are fine if you take comfort in fact that majority of banks are well-capitalized.

Apr 24 06:44 AM