Starter Home Market Rebounds in Omaha

The effect of the federal housing stimulus is not just a dent – it’s a smash. That $8000 tax credit for first-time homebuyers has jacked the starter home market.

Where I live in Omaha, starter houses have been selling like hotcakes – whether they were listed since last July or last week, they’ve been moving. My hometown’s median home sale prices are up year-over-year by 17% (visit Trulia.com.)

Okay, so here’s the problem – those price increases are happening primarily on the bottom end – where younger buyers are still wrestling with student loans, and where more earners are in danger of losing their jobs.

We’re in a euphoria right now, with markets skyrocketing since February, commodities surging and shoppers hitting the streets again. But this euphoria is absolutely illogical. Unempl... will top out over 10% - and that’s the rosiest forecast. Across the nonprofit industries in the nation’s midsection, pay cuts up to 10% are almost universal. So even if you don’t lose your job, you’re losing income.

And as we know, lost income drastically affects disposable income. If your job pays $32,000, your living expenses are $25,000, and you suddenly have a 10% wage cut, your annual disposable income drops from $7000 to $3800 – ouch!

Let’s see – rising future interest rates, higher unemployment, lower disposable incomes among the surviving workforce … Does this sound like a healthy housing market?

Two of my colleagues at work recently sprung for their first homes. Nice pads, sure. Great monthly payments on the mortgage. But the sale prices – too high! They’ll be in great shape if they keep their jobs and don’t move for the duration of their mortgage. But if they need to sell in the next few years – how will Congress prop up home prices again? By doubling the tax credit to $16,000?

Starter homes are especially vulnerable to interest rate swings. Rich buyers have equity in a previous home, or have cash to spend on a down payment. But folks in their twenties and thirties with student loans and credit card debt will take as high a loan-to-value ratio as possible.

A first-time homebuyer’s bottom-line is their monthly mortgage payment. Today’s average 30-year fixed rate of 4.99% on a $130,000 home means a monthly payment of $697.07 without escrow. When rates rise only 300 basis points, the payment escalates to $952.99 – an annual hit of over $3000 to a first-time homebuyer like my friends.

When I asked my friends about their decisions to buy, emotions, timing, and the federal stimulus all ranked high.

It’s strange how the federal government’s solution to the housing bubble was to inflate the bubble even further. Was it not enough to inflate home values and encourage lending by making mortgage interest tax-deductible? W... is the extra stimulus for the working poor and the unemployed who can’t afford to buy a home? Doesn’t it make more sense to subsidize rental housing instead?

Or why subsidize housing at all – we’re just throwing money around, and the more money we throw, the worse our problems become.

The short-term market is too insane to call, based on this problem. (I’ve already been burned this spring on the bear market bounce!) But in the long-term, homebuilders (Hovnanian –HOV, Lennar – LEN ) will suffer. And discretionary spending by weaker earners will be tepid for years. Who knows, yachts and private jets might make a comeback – but plasma TVs (Sony –SNE), amusement parks (Six Flags – SIX) and the corner gadget store (RadioShack – RSH) will lag.

Disclosure: no positions