Housing Markets Searching for a Bottom

Written by: David Lereah   Mon, April 27, 2009 Commentary

Our nation’s housing sector has experienced a great deal of pain during these past two years. The bursting of the housing bubble has not been kind. All three major housing measures-existing home sales, new home sales and housing starts have plummeted from their 2005 peaks.

Existing home sales topped 7 million units in 2005 compared to an annualized 4.57 million units in March of this year, a 36 percent decline. New home sales fell by an astounding 72 percent over the same period, registering 1.3 million units in 2005 compared to an annualized 360,000 units in March. Similarly, housing starts dropped 70 percent, posting 1.7 million units in 2005 compared to only 510,000 annualized starts in March. It is not overstatement to say that the U.S. housing markets have experienced a sharp contraction.

To make matters worse, today’s housing downturn marks the first time since the Great Depression that home values have turned negative in a meaningful way. According to the Case-Shiller 20- city home price index, home values have fallen more than 29 percent from their 2006 peak. And we expect another 6 to 8 percent decline before the housing markets stabilize.

It is no secret that the collapse of the U.S. housing sector prompted today’s severe economic recession and credit crisis. In return, it is now a weak economy that inhibits housing demand. Mounting job losses have made it difficult for many households to purchase a home. Moreover, the dramatic loss of household wealth due to plummeting values in the equities market and housing market has reduced the financial wherewithal of households to purchase homes.

On a positive note, the housing sector is showing signs of scraping bottom. All three major housing measures registered cyclical lows in January. Housing starts hit bottom at 488,000 in January, while new home sales and existing home sales hit bottom at 333,000 and 4, 490,000, respectively. The three housing measures have drifted slightly upward in subsequent months.

All this leads to the trillion dollar question. Did the housing sector reach bottom in January of this year? Unfortunately, the answer is a weak- maybe. First, there are reasons to believe that we are scraping bottom. The economy experienced its worst contraction in the fourth quarter of 2008 with GDP registering a negative 6.3 percent. We expect the magnitude of these contractions to diminish with each subsequent quarter. Most economists project a modest recovery towards the end of the year and we agree. As more positive data about the economy is digested over the next several quarters, households may improve their outlook about their own financial situations, gaining confidence about their purchase decisions. Consumer spending fell by 4.3 percent in the fourth quarter but is likely to post a modest decline in the first quarter and hopefully modest increases in subsequent quarters. We believe that the government’s $787 billion stimulus package has provided some support for future increases in consumer spending.

In addition, mortgage rates are hovering near historic lows and home affordability is at the highest levels in several decades. Households are more able to purchase homes today than they were several years ago.

On the other side of the housing coin, mortgage credit remains tight (although a bit looser than in previous quarters), keeping some households who want to purchase homes from doing so. Job losses continue to mount; we suspect that the economy lost about 500,000 jobs in March (the report will be released on May 8). The employment situation is expected to improve over the next several quarters as the economy improves, but any job loss inhibits home buying. Further, home values continue to fall, prompting some households to postpone purchases in anticipation of further home price declines. This “postponement” phenomenon is expected to continue for the remainder of this year because we expect continued downward pressure on home values for the remaining months of 2009. Finally, housing inventories remain excessively high and today’s high pace of foreclosure filings suggest that inventories will remain high for the next several quarters. If inventories are to come down, it will be partly because of the government’s foreclosure mitigation efforts. The jury is still out with regard to the effectiveness of the program.

On balance, the housing markets are clearly searching for a bottom. The data indicate that the housing sector might have scraped bottom in January and now hovers at levels modestly above cyclical lows. Unfortunately, there are too many factors at play in the economy that could influence the housing markets in either direction. Hopefully, in due time, we may be able to stake claim that January 2009 was the official bottom of this current housing cycle.

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