Purchase Applications Indicate Weak Housing Demand

Written by: David Lereah   Thu, May 21, 2009 Commentary, Market Activity

With most housing measures showing improvement in recent months, there is one measure that is bucking the trend-mortgage applications to purchase homes. The list of housing indicators that have improved during the past several months is long: existing home sales, new home sales, single family housing starts, pending home sales, the housing market index (National Association of Homebuilders), and the housing affordability index. The lone rebellious measure is the Mortgage Bankers Association’s purchase index.

 The purchase index has fallen 15 percent to 254 in the latest week ending May 15 compared to a high of 297.7 in the week ending April 3. Further, the three week average for the index is 261.3, while the six week average is 258.8-both reflecting very weak application activity.

 The uninspiring performance of the purchase index to some extent reflects an anemic economy. It may be that households are weary about making a financial commitment to purchase a home due to the uncertainty surrounding the economy which is shedding a substantial number of jobs every month. Unemployment continues to increase and most people fear that they may be next. 

Surprisingly, historic low mortgage rates do not appear to have much impact on decisions to purchase homes. Thirty-year mortgage rates are hovering below 5 percent but have yet to spur purchase application activity. So what else is keeping households from applying for mortgages to purchase homes?

 Let’s divide buyers into two groups: first-time buyers and trade up buyers. According to the National Association of Realtors, the share of first-time buyers as a percentage of total buyers has increased during the past several months, suggesting that first-time buyer purchase applications increased relative to trade-up buyer applications during this period. That leaves us with trade-up buyers; there are a decreasing number of them applying for mortgages to purchase homes. Why?

 One reason is that over 20 percent of homeowners are underwater-that is their loan balance exceeds the value of their home, so they are unable to trade up. Another reason is that a meaningful percentage of homeowners are in markets where they are unable to sell their homes, so they are also unable to trade up. In fact, many of the homeowners have taken their homes off the market, waiting for better selling conditions. Still another reason is that some potential trade-up buyers are having a difficult time obtaining jumbo mortgages. The jumbo market has all but dried up and until the market becomes more liquid, these homeowners have no reason to apply for mortgage loans they cannot obtain.

 There still remains the question of why the purchase application index has trended downward while existing home sales and pending home sales have trended upward during the past two months. The answer is obvious-foreclosures. According to the National Association of Realtors, foreclosures sales comprised about 45 percent of total existing home sales over the past several months. Foreclosure transactions are feeding into the existing home sales and pending home sales measures because most of those transactions involve a real estate agent. But some foreclosures are purchased outright with cash and thus, there is no need for a mortgage application. Further, there are an increasing number of investors purchasing foreclosures at deep price discounts in all cash transactions.

 If we are attempting to gauge the true underlying conditions of the residential real estate marketplace, purchase application activity is probably a more useful and more reliable indicator than existing home sales or pending home sales which are both dominated today by foreclosure transactions. Unfortunately, the purchase index is telling us that the true demand for home buying (absent of foreclosure sales) remains in a fragile and weakened state.

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