Happy New Year.¬† The following is a run-down of US housing and mortgage data for 2012 and themes for 2013.¬† As has happened so many times since housing first went tits up, the cries of a durable “bottom” and recovery with “escape velocity” have gotten so far out ahead of the data and reality it has set the sector up for disappointment this year.
Please note that this is simply a free-hand collection of immediate ideas and thoughts that took and hour or two to jot down and not planned, edited research report or note.¬†¬† So please excuse the many oversights in grammar, structure and topic flow.¬†¬† That said, I think it’s pretty damn provocative and thought provoking. Mark
Housing Stimulus Bounce of 2012 makes way for¬†housing demand/price hangover in 2013.¬†¬†Headwinds abound.¬† Builders, Home Improvement¬†et al.¬†
1)¬† ¬†New Home Sales:¬†¬†Last week’s November release continued to show weakness, falling 7% MoM to their lowest level since January. This series — the true organic demand¬†housing market — peaked in March and lagged consensus estimates and builder¬†stock prices¬†for months.¬† New Home Sales will end the year at 366k, which is up nearly 20% from 2011’s stimulus hangover depression levels but down 2.3% from 2009 when rates & house prices were higher, foreclosures were surging, sentiment and confidence were in the toilet, and¬†global financial¬†system came to it’s knees.¬†¬†I don’t see what can drive increased demand in this series after the sharp stimulus ‘reset’ that occurred from Jan to March 2012 that¬†for the past eight months¬†has petered out.
2)¬† Existing Sales:¬†¬†Despite last weeks November¬†Seasonally Adjusted headlines painting a much better picture than reality sales were down 3.5% MoM, the greatest Nov MoM drop since 2009.¬†Existing Sales will end the year at 4.634mm, which is up only 8.7% from 2011’s stimulus hangover depression levels.¬† For 2013, I am not seeing what will drive any¬†increase in demand, as underlying¬†stimulus octaned conditions in 2012 — absolute and especially relative to 2011 — are unsustainable on numerous levels.¬† Moreover, the artificially low levels¬†of¬†foreclosure¬†and short sale supply in ’12¬†— and¬†absolute surge in multi-family coming on-line in¬†’13 & ’14 —¬†is a headwind for prices.
3)¬† Pending Sales:¬† Despite the bullish seasonally adjusted headline¬†NSA Pendings actually fell 17% MoM, the largest drop in 3 years. Moreover,¬†the past few months¬†have shown an increasing divergence¬†between Existing Sales final closings on all the short sale activity being shoved through into year end.¬† Bottom line,¬†November’s pendings confirm lower¬†sales volume into Q1’13 right as volume was cranking higher early a year ago on the Twist YoY 150bps drop in rates, the weather, and insti investors jumping into the market. These, and more, are all headwinds right now.
4)¬† Mortgage Rates / The “Refi Capital Conveyor Belt”:¬† On the banks, they¬†are the governments’ mortgage brokers. For years now they have been earning obscene revenue funneling 97% of all mortgage loans to Fannie, Freddie and the FHA with refi’s making up the lions share.¬†I fully understand the text-book¬†steeper yield curve themes and all that.¬†¬†¬†But¬†is¬†a bank losing 75% of its¬†mortgage origination¬†fee income for higher margins on a quarter of the previous year’s¬†business really¬†bullish while still in a de-leveraging cycle?
I am a huge believer in the power of what I call the “refi capital conveyor belt”.¬† There is absolutely no doubt that the unprecedented 5.25% mid-year 2011 to 3.5% mid-year 2012 Fed induced plunge in mortgage rates had a positive impact on refi volume, consumer cash-flow, house sales, investor housing demand, and a thousand other things. And¬†in my experience in¬†the new-era, post GFC economy anything done that reduces new or churned mortgage and consumer lending volume¬†hurts banks revenue, consumers cash-flow, jobs (over 125 people touch one refi loan from start to finish), and the macro economy.
Rates Bottom line, if¬†¬†rates remain flat at ~3.5% refi burnout will take fundings down 33% YoY.¬† If 30-year rates hit 4% at least¬†half of¬†all refis — and all earnings related to them — will evaporate literally overnight.¬† First timer,¬†repeat, and investor house buyer volume will also be negatively impacted.¬†¬†Mortgage bonds should continue to perform well and¬†levered REITs get a leg-up¬†although (record high modification re-defaults the wildcard).
The overarching problem in resi¬†housing¬†is that it takes massive direct stimulus in order for it to respond. For example, we saw conditions similar to what we are seeing today off the 2009/10 Home Buyer Tax Credit. Now,¬†6-years after housing rolled over¬†the sector¬†to responding to unprecedented rates stimulus and the¬†Federal¬†/ State Gov’t¬†and banks’¬†national supply suppression efforts vis a’ vi mods, workouts, new laws, and outright delays. This time around the¬†sector only responded¬†after they pushed mortgage rates to levels that made it prohibitive NOT to borrow and buy and inventory to levels not seen in a decade.¬† They literally¬†had to eradicate foreclosures and¬†re-lever millions of bad borrowers into more exotic and toxic loans¬†than from which they defaulted from in the first place through ‘modifications and workouts’ in order to set a stage in which housing would not drop.
So in short, we have a housing market almost exclusively dependent on rates stimulus and supply suppression.¬†¬†They rigged the market creating¬†absolutely unsustainable supply and demand conditions — in the midst of a severe stimulus hangover from the 1.5 year long home-buyer tax credit that ended mid-2010 — and still residential housing could not reach escape velocity in 2012 and¬†the YoY¬†Case-Shiller did not even come within a country mile of¬†the 15% increase in purchasing power (on flat incomes)¬†buyers enjoyed from the¬†30%¬†YoY drop in rates.
The reason escape velocity was not reached is because¬†all along they haven’t¬†thought this through well enough. As with the¬†6-year¬†perma ZIRP and QE stimulus policies —¬†they¬†thought would be short term intrusions that lit the market on fire from which a self-perpetuating recovery would¬†occur — it’s not turning out this way. That’s because everything in¬†housing and mortgage markets’ bones¬†wants to de-lever, which takes ‘decades’ not ‘years’.¬† And the constant re-leveraging efforts¬†only serve to lengthen the time it takes to truly de-lever.
Where Escape Velocity Resides
In single family housing specifically, the 20+ MILLION mortgage’d homeowners without the equity to sell (pay a Realtor 5% and put 10% to 20% down on a new house) and rebuy (good credit and stable employment) is a perfect example of how much de-leveraging still must occur. ¬† This group in a negative and ‘effective’ negative equity position throughout history has always been the sectors largest cohort of demand and supply.¬† Now they are all dead to the market; they are zombies.¬†¬† They must be replaced in order for sales volume and prices to increase. In times of massive stimulus other cohorts show up to fill in some of the hole — private and insti investors for example — but they don’t have the numbers, capital, or staying power to sustainably replace the 10s of millions of zombie homeowners that 6, 16, and 60 years ago were the sectors drivers.
The sad part is that If they would have just¬†let another 6 to 10 million foreclosures actually occur over the past 4 years¬†there would have been demand for the purchases and lots of rental demand for all the investor landlord trades. Now they have neither.
Why will 2013 bring better conditions?… Will mortgage¬†rates go even lower than 3.5%?¬† Will income or take home pay increase dramatically?¬† Will employment improve especially among the younger household formation cohort?¬† Will taxes or energy prices drop?¬† Will rents increase amidst the greatest surge in multi-family construction and rehab in decades?¬† In 2013 fundamental macro conditions must improve dramatically in order to achieve the same results as the housing and mortgage sectors from unprecedented rates stimulus in 2012.¬†¬† This is a stretch by any measure.
On residential the more likely outcome for 2013 is:
a)¬† The only way for rates to improve from here is for banks to cut spreads.¬† And with 2013 destined to bring lower resi refi and auto lending and looking to be the year¬†that hundreds of billions in legacy mortgage and housing legal issues are settled or lost, this is a stretch. And remember, to get the same effect as 2012 YoY, rates would have to drop from 3.5% today to 2.625%.
b)¬† The surge in multi-family starts and completions back to 2006 levels will reduce rents and demand for single family purchases.
c)¬† The macro economy with respect to GDP and jobs remains lackluster — the consumer is falling apart right now — and the all-important first-time buyer can’t¬†perform like they did in 2012.
d)¬† 6 million mortgage mods and workouts¬†continue to re-default at record levels.
e)¬† 20+ million mortgage’d homeowners at 80% LTV or greater — without the equity to sell and rebuy (the lion’s share who sit above 60% total DTI) — will keep defaults elevated
f)¬† Investors who have underpinned resi housing move past the ‘landlord trade’ as relative yields are viewed as undesirable. That’s of course unless prices fall, which on a YoY basis I think will occur.
g)¬†Refi burnout:¬† Refi¬†fundings down 33% if rates stay at 3.5%. If they rise to 4%, refis down 50%. If they rise to 4,5%, refi’s down 67%.¬† No matter how you slice it¬†the drop in refi’s in 2013 is a serious consumer and macro economic¬†headwind.
Sidebar:¬† Housing Wealth-Effect Red-Herring
The housing wealth-effect —¬†in terms of the massive boost everybody is predicting —¬†is a red-herring.¬† That’s because there is no way to monetize it. Back during the bubble for every 10% housing rose at least half could be extracted on command through a cash-out refi or HELOC. Now few can.¬†And with over 20 MILLION mortgage’d households that owe more than 80% on their house — meaning they can’t sell (pay a Realtor 6%) and put down 10% to 20% to buy a new house — they can’t easily rebuy either. For those with enough equity to sell and rebuy, they still must have solid credit and employment, which also was not the case in previous years.
Bottom line, the real ‘household’ wealth effect is a whiff of what it was from 2003 to 2007.¬† The small Investor cohort on the other hand are making some money, which we factor into demand models.¬† But comparing the investor wealth effect in any way, shape, or form to the ‘household’ wealth effect or past macro wealth effects would be in error.
The Bottom Line
The 2012 stimulus and supply deprived housing trade is now in the books. Thinking 2013 can outperform¬†is¬†extremely wishful.¬†In my coverage universe I must rather press our China bounce related bets than anything related to US housing or the US consumer for that matter.
1)¬† New Home¬†/ Builder Sales Remain Stuck in the Mud
Yes, sales are¬†slightly greater in number than the hangover years of 2010 and 2011. But they are lower than Armageddon 2008 and 2009 — when prices & rates were much higher and the financial system was melting down —¬†which I think is important to keep sight of when betting on a durable recovery in this sector.
2)¬† Single Family¬†New Home / Builder Sales vs Multi-Family¬†Starts — Longer-Term Chart — SINGLE FAMILY STUCK IN THE MUD
Never have these two converged.¬†¬†And escape velocity in Multi-Family is a negative for Single-Family builders. So is escape velocity in the¬†investor distress rehab to rental market, as all these guys are vying for the same, small household formation cohort. Betting on¬†builder sales data such as these¬†as a certain recovery takes a lot of hope and courage.
Another look;¬† longer term it is obvious that Multi-Family is doing all the work and Single Family is in fact stuck in the mud.¬† I believe investors at large are getting this data point mixed up, giving credit to the home builders each month when “housing starts” in released when surging Multi-Family is an abject negative to Single-Family builders.
3)¬† Mo¬†Existing Home Sales¬†2005 – 2012…Nothing Unusual about 2012
There remains nothing here that would indicate escape velocity is imminent in these data. In short, sales in 2012 were boosted by massive rates stimulus just like they were in back half 2009 (purple line) and front half 2010 (blue line) on the homebuyer tax credit. During this time there were buyers lined up around the corner bidding $20k more than a house was worth in order to get their $8k tax credit, a case-shiller that went positive for 6 straight months, and a years worth of “durable recovery” calls.
This big difference between then and now is that back then the global financial system and stock market just crashed and sentiment was terrible and rates were 40% higher.¬† One would¬†hope that 2 years later with rates stimulus that dwarfs the homebuyer tax credit benefit the 2012 market would outperform 2009.
4)¬† Existing Sales Demand by Cohort as % of Total Sales Show no Clear Leadership
Investors and first-timers have carried existing sales for years. But they aren’t performing so well in recent months. In fact, the all-important repeat buyer carried this market since August. At a macro level this is a good thing. But with only 51% market share — and repeat buyers being seasonal creatures¬†— this demand is not sustainable and is completely rates driven.
5)¬† Annotated 5-year Refi-Boomlet Cycles Chart
The chart below captures weekly NSA refi apps. As shown, apps tumbled in Dec which is not uncommon. What is unusual is the short duration and magnitude of the drop only rivaled by the drop in Dec 2010 that left mortgage apps — and the housing market — in the dumps for¬†6 months. The Dec 2010 drop came on a 50bps increase in rates. The Dec 2012 came on only 25bps meaning demand for 3.5% money has run out.
In this long term chart it is obvious one of the Feds top methods of re-leveraging the consumer,¬†banks, and macro¬†economy is through consistently lower rates and sequential refi boomlets. Question is…was the past year the last refi?¬† If not, the bet has to be for 2.5% rates because only at that level can refi volume rival 2012. I do think 2.5% 30-year rates will come — they have to; everybody has to keep refinancing or it all falls apart — but not preceding the next economic train wreck.