The Housing Bounce: Why It's Artificial

I’ll jump back into posting with a few thoughts on housing.

First, Case-Shiller is out with its July home price survey. It followed the trend of improving prices established over the last couple of months. Nationwide prices were up 1.6% and the number of cities showing price declines dwindled to just two. Here are the numbers for the twenty cities in the survey.

(About the numbers: The Case Shiller indices have a base value of 100 in January 2000. So a current index value of 150 translates to a 50% appreciation rate since January 2000 for a typical home located within the metro market.)

Home Prices, by Metro Area

Metro Area	July 2009	Change from June	Year-over-year change
Atlanta	110.06	2.3%	-11.8%
Boston	154.53	1.2%	-4.9%
Charlotte	121.23	0.6%	-9.0%
Chicago	128.32	2.7%	-14.2%
Cleveland	107.93	1.5%	-1.3%
Dallas	121.17	1.2%	-1.6%
Denver	128.79	1.5%	-2.9%
Detroit	70.25	1.1%	-24.6%
Las Vegas	106.08	-1.1%	-31.4%
Los Angeles	163.86	1.8%	-14.9%
Miami	147.27	1.3%	-21.2%
Minneapolis	118.68	4.6%	-17.3%
New York	173.66	0.8%	-10.3%
Phoenix	106.66	1.8%	-28.5%
Portland	150.06	1.1%	-13.9%
San Diego	150.99	2.5%	-12.3%
San Francisco	128.86	3.3%	-17.9%
Seattle	149.44	-0.1%	-15.3%
Tampa	142.84	1.4%	-18.4%
Washington	176.32	1.8%	-9.8%

Source: Standard & Poor’s and FiservData

Whether these numbers represent a sustainable recovery for the housing market or just reflect the impact of low prices, pent up demand and government subsidies via low interest rates and tax credits is a matter of much debate. There is a considerable body of opinion that holds significant problems lie ahead inasmuch as there is considerable inventory yet to hit the market. That meme has been bandied around for some time with little data actually prove the thesis.

During the depths of the recession and particularly while housing looked as if it had an impossible mountain to climb, it was pretty much an article of faith that the largest impediment to clearing the backlog would be the lack of financing as lenders returned to sensible underwriting standards. The logic being that fewer new buyers would be able to pony up larger downpayments and that even when they could do so, qualification criteria would winnow the number of eligible borrowers.

Of course, that didn’t occur simply because FHA stepped into the breach with its traditional minimal downpayment loan product. As Fannie (FNM) and Freddie (FRE) have pulled back and watched their loan portfolios grow little and the private mortgage market has virtually disappeared, FHA has expanded its insured portfolio. The Wall Street Journal had this to say about the growth of FHA’s portfolio:

The reason for this financial deterioration is that FHA is underwriting record numbers of high-risk mortgages. Between 2006 and the end of next year, FHA’s insurance portfolio will have expanded to $1 trillion from $410 billion. Today nearly one in four new mortgages carries an FHA guarantee, up from one in 50 in 2006.

The Journal also reported that loans 30 or more days delinquent have climbed to 14% of its portfolio. For the sake of comparison, that’s about two to three times the rate for conventional loans and puts it more in line with subprime type loan performance. The default rate is increasing most rapidly on loans extended over the past two years.

So it would seem that government subsidies to an already heavily subsidized industry, combined with a return to suspect mortgage underwriting, is largely responsible for what appears to be a modest recovery of the housing market. We know from recent history that you can move houses with loose money, so it’s of little surprise that houses are moving briskly at the low end when the incentives are thrown into the mix. Unfortunately, recent history indicates that this is tantamount to building on quicksand.

My conclusion is that we have an artificial bounce in home prices driven by government programs. How long the trend continues depends on how long the politicians decide to stay in the game. They’ll probably double down and extend the tax credit and sweep the problems at FHA under the rug for awhile. That should keep the merry-go-round spinning a bit longer.

The upshot of all of this is that we haven’t truly moved off of the system that landed us in this pickle to begin with. Artificial stimuli in the form of subsidies and irresponsible lending are driving the market and buyers are rationally responding to them. Maybe we squeak through this little episode or maybe it just leads to another crash. It’s too soon to tell. One thing we haven’t done is to get back to a market that operates on reasonable fundamentals.

Comments

[Zack Miller:]

does it matter?

Sep 30 07:05 AM

[steve graves:]

Only in the long run, Zack. If you're horizon is myopic, which I'm guessing yours is, then everything's fine and dandy.


On Sep 30 07:05 AM Zack Miller wrote:

> does it matter?

Sep 30 10:34 AM

[willynill:]

It matters, it really matters. Trillions of dollars have been lost in the housing bubble already; now the temporary patches on the still-existing bubble are precariously near to popping again.


On Sep 30 07:05 AM Zack Miller wrote:

> does it matter?

Sep 30 09:49 PM

[BurningLog:]

I agree that it's far from being over in the housing market. The federal government still hasn't addressed the root problem which is "automated underwriting" and the bond underwriting which are both based upon questionable risk models. The measure of risk credibility given to credit scores generated by a "for profit" organization whose formula is more closely guarded than Coca Cola coupled with the automated documentation "short cuts" that allow significantly larger volumes of loans to be generated quickly with all the risk passed along to investors is insane. Fannie, Freddie, Ginnie Mae all adhere to these automated systems. They're based upon principles that lower quality credit simply warrants higher rates to offset the overall risk...did anyone ever consider that it just might be a bad loan and a bad idea? The banking and mortgage industry standard is no longer based upon ability and willingness to repay, it's whether the loan is saleable or not. Until we recognize that, this problem will continue in the capital markets.

Nov 01 10:59 PM