This report was first published as part of The Mortgage Pages research series on 9/24/09.

In light of new housing reports coming out for September, which can have market-moving implications –and from early indications should be rather confusing to many — I thought it would be timely to publish my thoughts on last months results in order to give you an idea of what we consider most important on a go-forward basis. Mark Hanson

They missed.

Existing home sales (NSA) came in at 499k vs last month’s 532k and last year’s 489k. So, all that hullabaloo for 10k houses y-o-y. Below shows each of the past five August sales including what sales would have been without the stimulus to the far right. While this may be indeed a housing sales count bottom, it is a far stretch from the housing recovery that has become full blown consensus.

Once again seasonality fooled a lot of people, as hope springs eternal. But to get that seasonality to kick in this year it took a variety of influences all hitting at the same time — a) years of pent up demand for low priced houses by renters and investors b) historically low rates that cost over $1 trillion to getc) lots of foreclosure inventory d) the tax stimulus pulling forward demand e) prices nationally down 40% to 70% from peak levels

The chart below really tells the story of the housing bottom. Even with the stimulus, y-t-d 2009 sales are lower than 2008 by 54k sales in total. Without the incremental sales due to the stimulus, 2009 sales would have been 357k lower than 2008.

Some will view this as proof positive the stimulus was a success. Some will view at as proof of the true underlying fundamental weakness of the housing market today.

Stripping out condos the market is even weaker. The little red box on this 20-month chart is what has been portrayed as the housing bottom.

Here is another look at house (ex-condo) sales for the past three years — Jan through August. Even WITH stimulus single-family ex-condo sales are down 68k from 2008. Prices are down over 10% at the median.

Below is a chart of the past five years of sales with (green) and without (blue) the tax credit. Even with the stimulus, 2009 sales only beat 2008 sales from June through August for a total of 55k houses. If you back out the incremental sales due to the stimulus, June through August would have been lower than 2008 by 113,510 units.

Lastly, the chart below shows Existing Home Sales with foreclosure starts side by side. At the point of the Notice-of-Default, the majority is beyond cure even in the current pretend and extend environment. This shadow supply has to be considered when analyzing the housing market because it is constantly and quietly filling a pool that is trying to be drained.

Unintended Consequences of Foreclosure Moratoria & Mortgage Mods

The low foreclosure counts that are presently undermining the housing market — keeping troubled borrowers in houses and good buyers away — are an unintended consequence of the mortgage modification initiatives such as HAMP.

HAMP — and other mod initiatives and foreclosure moratoria — have effectively served as the longest foreclosure moratorium seen yet. Reducing the low-end foreclosures through mods has absolutely undermined the entire housing market because they are what are in demand.

Millions of underwater, over-levered zombie renter-homeowners squatting in their house because of a loan mod simply ensure the housing market remains a heavy and volatile asset class for years.

Another unintended consequence of HAMP will be a foreclosure surge eventually. The in-process foreclosure pipeline has never been as full and the first wave of Obama-mod three month trials are expiring now. Those that don’t make the trial go directly to foreclosure.

The number of trial mods is quickly approaching 500k. If the HAMP performs worlds better than other mods and only 33% fail their trial mod, then up to 166k foreclosures are coming soon. With foreclosures in the US average roughly 75k per month over the past 6 months — and most loan mods that fail being foreclosure-ready — this could double foreclosures over a very short period of time.

But the fact is that over the period of 9-12 months, most HAMP mods will fail based upon historic cure and re-default rates making HAMP the largest can-kicking experiment to date. When HAMP is acknowledged as a failure the only place left to go will be massive principal balance reductions, which will cause a whole new set of problems — about 3 trillion of them.

Tax Credit Does Not Create Supply – Increased Foreclosures and Short Sales Do

Bringing back the $8k does not create low-end supply, which is what is needed to sell houses. There is a ton of supply in the mid-to-upper end price bands — years of it. But the first timer and investor buyers who make up the majority of the demand are not playing in those price bands. And without exotic financing individual buyers are unable to reach out of their present affordability bands. Investors won’t reach out of their target cap return needs.

At this point in time a tax credit extension simply takes away the sense of urgency that is keeping the sales up and will likely do so again in September against seasonality trends.

The only way to get the low-end inventory needed to keep this housing market afloat is to build it or create it through foreclosure or increased short-sale activity. Building all the shelter-house supply needed to keep wind under this housing market in time is an impossible task.

Enough supply will not be found through organic resales either because the move-up buyer is by and large gone…due to epidemic negative equity most can’t sell for what is needed to pay the Realtor and put a down payment on the new house. The tax credit may prompt some to sell and move-up but not enough to make the difference.

Increased foreclosures and short-sales are a much easier way to get supply, but that presents all the same risks as when foreclosures first surged in 2008 — bank and financial system losses, major house price depreciation, negative sentiment etc.

Affordability is Terrible Relative to the Bubble Years

Before you get too excited about the current low supply environment…low supply and increased demand does not mean what it did from 2002-2007 for the housing market. This is because outside of the low-end sweet spot, affordability is terrible relative to the exotic loan bubble years. For more detail on this, please see my 8-11 report entitled Affordability — Housing’s Red Herring.

In a nutshell, loan types such as zero to 5% down $500k Pay Option ARMs with a payment rate of 1% and loan features such as stated income made houses very affordable. Houses were so affordable due to leverage in finance that if a buyer could only afford a $300k house on a 30-year fixed, a quick loan type change would double his buying power. This is not the case any longer — today, buyers can only buy what they can afford and qualify for based upon income, assets, debt load and credit. They can’t reach outside of their affordability bands any longer.

Most Important – It is always important to remember that the house price crash is only a symptom of losing all of the exotic loans and leverage that enabled housing to run so far so fast from 2002-2007.

Without increasingly exotic loans that allowed homeowners to easily move up, down and across or extract equity to cover the debt service, the entire country hit their debt service ceiling at once. From there, house prices quickly gravitated to what buyers could afford using new vintage, low-leverage financing. The problem is that all of the leveraged debt incurred during that time still exists but the equity is gone.

With all exotic loans gone the housing market is essentially starting over, which is what we are seeing with first timers and investors making up the majority of sales primarily at the low-end. Over a number of years, as incomes and house prices hopefully rise, first-timers will become move-up buyers and so will today’s underwater owners.

But we will never find a true bottom in the market until the 10s of millions of over-levered, underwater homeowners are adequately de-levered and are no longer a drag on the market — existing home owners have always been the driver of existing and new house sales. The only present cure for the terminally over-levered is lots of time.

Best Regards,

Mark Hanson

www.MHanson.com

Data provided by M Hanson Adv, ForeclosureRadar.com, RealtyTrac, NAR, DataQuick, and Campbell Surveys

This document is for your private information only. In publishing research, Mark Hanson and M Hanson Advisors are not soliciting any action based upon it. Mark Hanson and M Hanson Advisors publications contain material based upon publicly available information, obtained from sources that we consider reliable. However, Mark Hanson and M Hanson Advisors does not represent that it is accurate and it should not be relied on as such. Opinions expressed are current opinions as of the date appearing on Mark Hanson and M Hanson Advisors publications only. Mark Hanson and M Hanson Advisors are not liable for any loss or damage resulting from the use of its product. Mark Hanson and M Hanson Advisors are Limited Liability Corp registered in CA.

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Filed on: October, 13 2009 by Mark

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