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Q & A Housing Market Myth Versus Reality
There doesn't seem to be an end in sight to the housing slump. By the time the market hits bottom, won't housing be down and out for the count?
If the truth be told, housing has always been a very cyclical business. In the mid 1970s and the early 1980s and 1990s, housing production and sales dropped by more than 60 percent in a matter of months. During those cycles, we confronted and overcame many of the same problems we face today – large numbers of unsold homes, skeptical and reluctant consumers, tight credit markets and shortages of money for certain borrowers, declining home values, and prospective buyers who had difficulty selling their existing homes. The important thing to remember is that over time the market corrected and we rebounded to production and sales levels that beat or matched the records of the previous cycle. Remember, those who purchased homes in the early 1990s during the last big economic and housing downturn came out as big winners. The message here is that housing is a very tough and resilient industry. We will be back – stronger and better than before.
Hasn't the subprime crisis cut off the flow of mortgage money for qualified borrowers?
If you believed the headlines or the endless drum beat about subprime lending on cable television news, you would think that the pot of mortgage money has dried up completely. Nonsense! The vast majority of home buyers are seeking conventional, conforming mortgages at or below $417,000. These loans are purchased by Fannie Mae and Freddie Mac, both federally chartered organizations. While underwriting standards may have been tightened for all loans, credit-worthy home buyers should have no problems in finding conventional, conforming mortgages at very attractive rates – slightly above 6 percent for fixed rate, 30-year loans.
And with the latest moves by the Federal Reserve to cut interest rates and increase liquidity, the availability of money for jumbo loans has also improved for credit-worthy borrowers, although rates on those loans are a bit above their usual premium over conforming loan rates and downpayment requirements are higher. Nonetheless, these are the facts: Mortgage money is available at a very attractive price for credit-worthy borrowers. Outside of the subprime arena, the mortgage markets are functioning normally.
With the nation in a foreclosure crisis, why should I be looking for a new home?
While foreclosure rates have increased in the past year, almost all American home owners are making their mortgage payments on time. More than 97 percent of prime borrowers – the bulk of the mortgage market – are up-to-date on their payments. Most foreclosures are concentrated in the once super-heated markets in California, Florida, Arizona and Nevada and the upper Midwest states of Michigan, Ohio, Minnesota and Illinois, which have been hit hard by job losses, plant closings and depressed local economies. In fact, in 34 states the foreclosure rate actually DECLINED. And the Mortgage Bankers Association reports that if not for the increase in foreclosures in four states – California, Florida, Arizona and Nevada – we would have seen a nationwide DROP in foreclosures in September 2007.
We are concerned about the large wave of subprime loans that are due to reset over the next two years. That's a major problem that needs to be dealt with. But again, we need to put this problem into perspective. As noted above, California, Nevada, Arizona and Florida are at the epicenter of this problem. According to the Mortgage Bankers Association, these four states account for more than one-third of the nation's subprime ARMs and more than one-third of the foreclosure starts on subprime ARMs. But nationally, more than 85 percent of subprime borrowers with ARMs are still paying on time every month.
And new figures released by Moody's Economy.com suggest that the magnitude of the subprime reset problem may ease in the next year. Home owners owing $31.8 billion in subprime ARMs faced higher interest rates for the first time in September, according to Economy.com. By the end of this year, Economy.com reports that resetting subprime ARMs are expected to drop to $25.2 billion and plunge to $3.6 billion at the end of 2008. The reason these reset numbers are on a sharp downward trajectory is because lenders are no longer offering adjustable-rate subprime loans to borrowers with spotty credit histories. While we still face some rocky times ahead in the subprime market, these numbers offer a positive signal that the subprime problem could get better in the year ahead as the amount of mortgage resets gradually declines.
It's also important to remember than 37 percent of all single-family homes are owned debt free —without any mortgage – and home owners nationwide have built up more than $11 trillion in equity that provides a good cushion against any decline in values. Also, a high number of defaults on loans to date have been among speculators or investors who were looking for quick profits and subsequently walked away from their investments when the housing market cooled.
In today's housing environment, isn't the smart move to keep waiting for prices to fall even further before venturing into the housing market?
The current housing price correction is helping to restore affordability. In parts of the country where the housing boom was not as strong, price declines have been marginal, and there have even been some exceptional areas where prices have remained on the rise. The bottom line for most existing home owners is that their homes will be worth significantly more than they paid for them once the market begins to recover – a process that is expected to begin in 2008. The repercussion for prospective buyers is that the market has provided some breathing room from the sky-high prices prevailing a year or two ago.
Will housing drag the rest of the economy into a recession?
In a sharp departure from previous housing downturns, which coincided with economic recession, today's economy has been performing relatively well, generating jobs and increasing household income. Despite the dire headlines that have appeared in the news, most Americans have reasonably good expectations that the economy will remain on their side from some time to come. NAHB is currently forecasting that GDP growth will register a 2.4 percent annual rate during the third quarter.
Another key economic indicator is interest rates, which remain highly favorable for home buying. Interest rates are typically at their highest point at the outset of a recession, and follow a downward path as the Federal Reserve eases its monetary policies to get the economy growing again. While nobody can predict the course of interest rates, with the U.S. economy continuing to grow, the Fed in all likelihood will not be slashing interest rates as housing returns to full health. Prospective buyers who are waiting for dramatically lower interest rates from those that exist today will probably be disappointed. And with rates as low as they are now, whether they realize it or not, home buyers are already looking at a good thing.
It seems that home prices will just keep going lower and never recover. What's to stop this from happening?
It is a virtual given that over time home values will stabilize and then edge upward with the next recovery. To argue that home values will continue to decline and will never recover, somebody has to make a convincing argument that it will cost less to build a new home five years from now than it does today. That's not going to happen.
Despite today's housing slowdown, the price of bricks, mortar, lumber, copper and other products used in home building continues to go up due to worldwide demand and upward pressure on commodity prices generally. Look at anticipated population and household growth; consider the increasing scarcity of available land in metro markets where jobs are located and where people want to live. And the cost of getting land entitled will continue to go up because of more and more restrictions and fees being added by local governments. As inventories wind down, demand will rise and so will prices. Over time, all these factors will help drive up the cost of housing.
A CNN/Money.com headline on September 25 said that an index of 10 major U.S. cities showed a 4.5 percent decline in home prices in July from a year ago – the biggest drop since July 1991. If home prices are down in the 10 largest cities, doesn't this mean that the housing markets in these metro markets are in a major tailspin?
The S&P/Case-Shiller home price index does show that the 10-city composite of Boston, Chicago, Denver, Las Vegas, Los Angeles, Miami, New York, San Diego, San Francisco and Washington, D.C. did indeed register a 4.5 percent decline in July from a year ago. The index also shows that from January 1, 2000 until July 2007, home prices in these cities rose by an average of 116 percent. That averages out to a healthy double-digit annual appreciation rate. A 4.5 percent market correction is no big deal when looking at the big picture. Today, the economy continues to move forward. Remember, those who purchased a home in the early 1990s during the last big economic and housing downturn came out as big winners. The median price of a new home in 1991 was $120,000. In August 2007, it was $225,700 – up 88 percent.