Housing: Government as Casino Player

Includes: FMCC, FNMA, XHB
by: John Lounsbury
An article yesterday by David Cho, Neil Irwin and Dina ElBoghdady in the Washington Post carries the headline "Stakes are high as government plans exit from mortgage markets". After 2009, which saw the Fed and the Treasury put up almost $1.5 trillion to support the mortgage market in an attempt to stop the home sales free fall, both entities plan to withdraw that support in 2010.

To use poker terminology, a bet of $1.5 trillion was placed in 2009. In 2010, the player is going to call. The cards will hit the table and (1) the housing market will hold or improve (the bet will be won) or (2) the housing market will go back into decline (the bet will be lost).

Opinions can be found on both sides of the bet. Read the article to get some extensive analysis. What is clear is that the entire experience with central bank and government involvement in the mortgage markets was a gamble. Virtually all 2009 mortgage origination was underwritten by the Fed and the Treasury. Many will debate whether that should have been done. What is clear, based on the data, that the precipitous decline in the housing market was halted in 2009. What is not clear is whether the market has stabilized or will resume its decline in 2010 without government support.

Recent analysis has found that foreclosures will increase the supply of distressed homes on the market in 2010. Recent increases in rental vacancies and decreases in rents also create negative pressures on home sales. One more negative factor is the high number of vacant homes. The latest U.S. Census report (for 3Q/2009) data indicates that there are 18.8 million vacant homes in the U.S. The break down is shown in the following table.

While some of the vacant homes classified as seasonal may in fact potentially be available for sale in the near future, the biggest category that requires further examination is the 7.6 million "other" vacant homes. Obviously, some of these may be abandoned and not fit for habitation. I am not aware of what requirements are in place to qualify a home for the category of vacant. While I expect that houses that are visibly falling down would not be counted, what fraction of the other classification of vacant homes could not be sold or inhabited without major renovation to bring the structure up to code?

In addition, what percentage of the rental homes would actually be for sale if the market could move them? It seems reasonable that the 2.0 million homes for sale may be only half of the number of vacant homes that would potentially be for sale if the existing home market was not so weak. In addition, my estimate is that another 2.4 million homes may come market as completed foreclosures in 2010.

That brings the total of existing homes likely to come to market in 2010 to be more than 6 million above the number that would normally come to market because of relocations and other customary reasons for selling. This number is about the same as the total existing home sales in 2009.

Of course, people who have houses to sell because of relocation normally expect to buy a new home. However, for most that requires selling the previous residence first. If that house isn't sold, most rent. That would increase the housing market inventory above 6 million for 2010.

All of this makes the government's gamble appear to have questionable odds. It also implies that new home construction will continue to be depressed in 2010 as the existing home inventory meets or exceeds demand.

Of course, if the economy has a strong recovery and number of full time employed increases by 3-4 million, the gamble has much better odds, and the outlook for home builders improves.

Disclosure: No positions.