The Housing Paradox Could Mean Further Price Erosion

An interesting paradox has been developing in the housing sector over the last couple of months. In the second half of 2006 we witnessed a massive slowdown in the housing sector, caused by rising interest rates and a slowing economy. As we moved closer to the end of the year, the story began to change ever so slightly. Expectations of continued economic weakness and a Fed ease began to pressure interest rates lower, and just as this happened the economy appeared to reaccelerate.

The outcome was lower interest rates and rising economic activity giving way to wage growth. Given this scenario, it should be no surprise that towards the end of the year housing appeared to have settled, and may even have appeared to bottom. This may, however, change this month when we see the effects of January’s upward interest rate pressures and relatively cold weather.

With this as the backdrop, we are now set up for an interesting paradox: for housing to stabilize we need interest rates to fall, but the only way that interest rates will fall is if the economy deteriorates -- perhaps crimping the consumers’ ability to afford a new home. This paradox sets the stage for further home price deterioration.

As anecdotal evidence, the Case-Shiller Housing Index, which projects future home prices, is anticipating a 4% decline in housing prices by the end of the summer. Housing sector weakness has thus far been confirmed by builders’ 2007 projections.

With a little over 10% of the S&P500 having reported Q4 06 numbers, the initial assessment looks lackluster. Reuters estimates Q4 06 earnings growth to be up 8.9% from last year. This is down from Reuters' estimate of 9.4% two weeks ago. Keep in mind we just came off of a record 13 straight quarters of double digit earnings growth. Earnings growth clearly seems to be decelerating.

Although earnings are perhaps still strong enough to stoke an already hot stock market, the earnings deceleration combined with a 40 basis point jump in the 10 year Treasury (driving mortgage rates higher), gives us the formula for a weaker housing market: rising interest rates and slower economic growth. Though further housing weakness is probable, an all out selloff in housing is still highly unlikely.

As I said in my predictions for 2007 piece at the end of 2006, the most uncomfortable news this year in the housing sector is likely to come from builders laden with inventory having to adjust their supply picture to accommodate a moderating demand level.

Comments

[Brian Croner]

In other words, if I read this right, with regards to housing market stability in the current depression we are facing, it's a catch-22. You're damed if you do, and you're damed if you don't. The rapidly-cooling housing market was repeatedly said to have a possible decrease in the increase in the economy. Looking at the US Dollar value of the stock market since George Bush took office (historic trend), I do recall seeing a flat line. Looking at the real value of the stock market against gold or the Euro since when Big Business Bush took office, we've seen nothing but a continued decline. And December saw losses, in real value, in the Dow, when measured against, again, gold and the Euro, despite all the huge rally gains. So when it's ready to bottom out here, teetering and tottering, maybe losing 3 digits in one day, hovering with such volatility around 12,500, and I hear that the lies can't last much longer with the housing market, I think to myself, "When's our black day gonna be? Is it gonna be a Tuesday? Or a Wednesday? Maybe it will be a Friday. That would be cool." You know, that would be history repeating itself, if it were to fall on a Friday, because back in 1929, we had a really bad Black Friday. Except back then the government wasn't corrupt enough to tamper with the stability of the financial system to the extent this one has, and there wasn't this massive $9 trillion debt looming. And then I wonder the effect of the government itself getting financially bit by its own continued lies. Can I possibly escape Fascist America before the American dollar is worth less than the paper it's printed on? What can you tax people on if money's no good? Are they gonna try and tax our blood? I wouldn't be surprised if it crosses their minds.