1-4-13 US Housing 2013; The Hangover

by Mark on January 7, 2013

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).

 

Round-Up

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.

Back-Up Data

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.

NHS Nov 12 06-12 Line

 

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.

NHS NOV SFR V MF LINE 08-12

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.

SFR VS MF 2006 - 2012

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.

NOV EHS LINE CHART 05-09

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.

NOV EHS LINE BY COHORT

 

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.

MORTGAGE RATES 1-4-13

{ 10 comments… read them below or add one }

Bill January 7, 2013 at 7:38 pm

Mark
Very persuasive article and charts that paints quite a different picture than we are hearing from the cheer leading mainstream press and government officials. I don’t see how housing prices can robustly recover while incomes are stagnant/dropping unless we bring back “no doc” mortgages which fueled the original housing bubble and subsequent collapse.
Nonetheless, never underestimate the ability of Congress and the Fed to implement egregious new policies to try and artificially re-inflate housing values. How about down payment grants and subsidized 1% mortgage rates for starters? I fear that as housing and the economy fail to recover, the number of inane, costly and self defeating programs coming out of Washington will continue to increase.

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Advisor January 9, 2013 at 2:13 pm

A housing *price recovery* simply means housing prices falling to pre-bubble levels or roughly mid 1990′s levels. Prices have a long long way to fall in order to get to pre-bubble levels considering prices are still at the grossly inflated levels of 2004.

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goodrich4bk January 14, 2013 at 8:41 am

No-doc or low-doc loans will no longer be feasible after the new CFPC regulations go into effect (h/t Patrick):

http://www.centralvalleybusinesstimes.com/stories/001/?source=Patrick.net&ID=22635

Flippers need easy money to remain easy or they will be burned. As banks respond to the new regs with tighter loan conditions later this year, it won’t be long before the current price rise comes to an end.

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Kevin January 9, 2013 at 11:04 am

Mark,
Limited supply is pushing price up in many locals in Southern California causing bidding war. How does this report change that? It appears supply will continued to be constricted artificially by the banks and this will continue to push up prices even in the absence of investors looking for yields as rising price will diminish yields hence investors’ interest. I submitted an offer for a condo in Irvine and the listing agent told me that he received 20 offers with 8 cash offers above listing price. It’s a reminiscence of the housing bubble years.

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Midtown January 13, 2013 at 8:38 am

Mark,

Thanks for the insightful information. It’s just more evidence purporting to an attempt in housing “stabilization” rather than a housing “recovery.” And if a housing price recovery to 2006 levels was to take place, wouldn’t that just be another bubble that would sell off the second it became overheated again?

I don’t foresee any major catalyst that will drive housing prices up at a faster rate than inflation for the near term. But there is always that magical government intrusion on the horizon that will artificially prop up prices. I agree with Robert Shiller that housing still has a low to reach before stabilizing.

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goodrich4bk January 14, 2013 at 9:15 am

Excellent summary, Mark. Here are a few of my own thoughts that I believe further your thesis:

1. As a bankruptcy attorney, I see most of my boomer-aged clients walk in with 30 year loans they took out at the refi peak in 2003-2006. They are in their late 50′s or early 60′s and less than 10 years from retirement. Few have any retirement other than Social Security, and those that do either drained it making mortgage payments while unemployed or have less than $30k. Even when these people are able to refi with a HARP (and only a few are successful at that), they will default when they retire and their income drops dramatically.

2. As a result, these boomers are NOT retiring because they have no place to go if they lose their home upon retirement. Therefore, they are working past the normal retirement age. This is a national phenomenon, as seen by the following stats which show that the 25-54 age group is losing jobs and the over 55 age group is gaining jobs:

http://globaleconomicanalysis.blogspot.com/2013/01/startling-look-at-employment.html

As an anecdote for your readers to understand what is really happening and why it is likely to continue, I have a client in the flooring business who last year had to lay off his operations manager who was making $80k a year. As business has slowly improved (but is nowhere near 2006 levels), he has hired a new operations manager. This fellow has excellent experience with customer installations (former operations manager at Magnolia, a high end television and electronics retailer in the boom years that was bought by Best Buy) but because he is on Social Security he accepted the job for $24,000 a year. Now, how the hell can a young person compete for that job, particularly if that person has any student loan debt?

Nobody is talking about this, but I believe it will continue to be a trend that makes it very difficult to imagine younger buyers qualifying for their first home purchase (which, of course, is essential to start the “ladder” of move-up buyers).

3. Aggregate student loan debt is almost $1 trillion and 20% of it is in default. These younger people are the only real buyers, as those with just a high school diploma are not likely to earn enough to buy the retiring boomers homes, at least not at today’s prices. I bought my first home 10 years after graduating from law school and could only afford it because I had no other debt, had saved the 20% down during those ten years of continuous employment, and I was married to another attorney with good income. Few of today’s college graduates are in that position. Even when they find work, 30% of them are working in jobs for which no college degree is required. Few are married. And almost none have any significant savings for a down payment. In fact, this is why the vast majority of new home buyers use FHA and other financing programs that allow a down payment of 3-5%.

4. FHA, which is supporting much of the first time buyers, is likely to be restrained soon as a result of a growing default rate:

http://www.bloomberg.com/news/2012-06-28/fha-underestimates-mortgage-delinquency-rates-study-says.html

If FHA defaults threaten to increase the government’s deficit (which I believe they will), the political reaction will likely be elimination of the low down payment programs which are causing much of the problem. Indeed, such tighter mortgage regulation is already schedule to go into effect as early as Jan 1, 2014:

http://www.centralvalleybusinesstimes.com/stories/001/?source=Patrick.net&ID=22635

Notwithstanding all of the above, many foolish buyers will continue to take advice from people who stand to gain from their foolishness, such as real estate brokers trolling for clients, media outlets that make money selling home advertisements, and the home builders/furnishings/remodeling industry that needs a steady stream of new buyers. And for a while their foolishness may result in a self-fulfilling prophesy, particularly while inventory is kept artificially low by lenders who refuse to foreclose on defaulted loans and a Federal Reserve who is unwilling to enforce normal banking rules that require such foreclosures to clear bad loans.

In short, a manipulated market will likely rise for several more months or even longer. But when the next recession hits with rates at historic lows, the Fed will have no further monetary tools to stimulate demand artificially, the deficit in Washington will prevent any additional stimulus, and prices will need to meet real, non-subsidized and non-stimulated demand from first time homebuyers, few of whom will have any significant buying power without a significant increase in their employment and in the nominal wages they can earn.

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Chuck January 17, 2013 at 3:22 pm

Let me add to this good comment that GSE’s are still taking on loans that don’t meet proper (pre-bubble) underwriting standards:

http://www.zerohedge.com/print/468360
“The best solution for risky home prices and incomes is less mortgage leverage. Yet, a 43% DTI is the official, post-crash threshold for “safe, affordable” mortgage payments, oddly far above the 30% to 35% DTI underwriting
range of pre-bubble days.”

I know Mark has written in the past that Debt-to-income (DTI) is probably the best predictor of loan default.

So, a whole new set of loans are being made that will fail, on the taxpayer nickel…. in order to prop-up an industry that should wind-down further.

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Bob February 24, 2013 at 2:27 pm

Here in the SF Bay Area, the media loves to trumpet the increase in home prices. They mention low inventory as if it were an immutable fact; I can’t recall ever seeing ANY discussion of the causes. In Oakland, where I live (and was once hoping to buy), the numbers speak for themselves:

Realtytrac has shown about 1,200 SFR REOs the past several months, and of those only 2.5 – 3 percent are on the market.

During this same time period, there have been 1,300 to 1,900 houses in the Preforeclosure and ‘Auction Scheduled’ phases.

And who knows how many people are in default but haven’t received a NOD yet.

So, no wonder the inventory of SFRs in Oakland is down 66.5 percent vs last year (per Redfin, data updated during the first week of the month).

Median price is up 21.6 percent vs last year at this time, and median price per square foot is up 31.1 percent. I’ve been checking these numbers every couple of weeks for about a year now, and some months they’ve been in the 40s and 50s, respectively.

This is not a ‘market’ in any traditional sense of the word.

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David Pereira March 13, 2013 at 10:35 pm

Mark:

I am waiting intently on your next insightful post. I spoke at an Escrow Association meeting last night and was discussing a white paper written by the Jackson and Associates law firm in Southern California in which they stating that the legal risk of doing non-judicial foreclosures under the new Homeowner Bill of Rights is not worth it and they are heavily promoting judicial foreclosures which minimize the risk and actually open more homeowners to deficiency judgments. Also, I started to discuss the market and almost got shot. My opinion is based on the fact that the current overheated buying frenzy is not based on market fundamentals. I tried to explain that lets say gas consumption in the U.S. was to fall 10%, that would weaken prices and they would be selling less oil and that would be bad. To offset, why not reduce production down to 50% and sell less oil for a whole lot more money. That is not a fundamental market in which an interest meets demand. I would argue that if you actually had an inventory consistent with normal market demand not associated with market manipulation, prices would be plunging further. That current inventory of buyers would disappear quickly. However, the real estate folks refuse to accept that market fundamentals have anything do with anything. They are fueling the frenzy… the declining market is gone and if you don’t buy now, you will end up paying way more… and buy the way… you better offer more as you are competing with 25 other buyers who are going to offer more than asking price.

So Mark… inquiring minds want to know… what do you think it going on?

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Jennifer March 17, 2013 at 12:41 pm

For myself and my family, owning a home is no longer the American Dream or a reality these days. I honestly can say with the lack and instability today brings I cannot even fathom getting involved in any home loan right now. I do not trust that things will ever stabilize long enough for me to get through a home loan in its entirety. I am curious if any other feel the same way?

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