In July, home prices were mixed on a seasonally adjusted basis. The
Case-Schiller Composite 10 City index (C-10) fell a slight 0.12% on
a seasonally adjusted basis, and is down 3.77% from a year ago. The
broader Composite 20 City index (which includes the cities in the
C-10) edged up by 0.05% on the month and is down 4.16% from a year
ago.
Prices for both indexes rose by 0.9% for the month on a
not-seasonally-adjusted basis (which is how you will probably see
most of the reports presented). Of the 20 cities, nine were up on
the month-to-month basis (seasonally adjusted), and eleven were
down. Year over year, though, 18 were down, and only Detroit and
Washington DC made it into the plus column.
The overall indexes are down 31.99% (C-10) and 31.75% (C-20) from
the (April 2006) bubble peaks. They set an interim low in May 2009
and rallied into the summer of 2010 before turning down
again. The bounce has mostly faded.
The C-20 index set a new post-bubble low in June, and is just 0.03%
above the May 2009 level. The C-10 has only a little bit more
breathing space before setting a new low, up just 1.35% since that
interim bottom. The earlier bounce was due to extraordinary
government support in the form of an $8,000 tax credit to home
buyers.
Results with Serious Lag Time
The Case Schiller data is the gold standard for housing price
information but it comes with a very significant lag. This is July
data we are talking about after all, and it is actually a
three-month moving average, so it still includes data from June and
May. The spring selling season was a bit of a bust for both new and
used homes, and it doesn’t look like the summer went any
better.
While the inventory to sales ratio for used homes is down from the
year-ago record peak of 12.5 months, it is still elevated at 8.5
months (August). I don’t think second leg in the housing price
downturn is over, but we are probably getting very close to the
bottom.
The first graph (from this source) tracks the history of the C-10
and C-20 indexes. Note that on both indexes we are almost back to
the post-crash lows. It seems likely to me that we will set new
lows before the second leg down is over. Still, if you are looking
at a house as a place to live, not purely as an investment, it is
safe to go ahead and buy.
Also, we are talking about the national indexes here, and even the
individual city data is for entire metro regions -- and as the
saying goes, real estate is all about "location, location,
location." The national headwinds are not longer so strong as to
overwhelm local considerations.
Results by City
Of the nine cities that posted month-to-month gains, Detroit led
the way with a 1.73% rise. DC was the next best a 1.43% rise on the
month, followed by New York, up 0.36%, Chicago, up 0.29% and
Dallas, with a rise of 0.15%. On the downside, the worst hit were
some of the old poster children of the housing decline: Phoenix was
the hardest hit, falling 1.09% for the month. San Deigo followed
with a drop of 0.95%. San Francisco, down 0.81%, Las Vegas, off
0.74% and Los Angeles down 0.65% were also noticeably weak.
On a year-over-year basis, Detroit was the strongest city by far
with a 1.15% rise. The only other city with a year-over-year
increase was DC with a 0.24% rise. The cities that manages the
smallest declines were Boston, down 1.99%, Denver, off 2.15% and
Dallas with a 3.28% drop.
Worst hit on a year-over-year basis were the Twin Cities of
Minneapolis-St. Paul, off 9.25% from a year ago, followed by
Portland, Oregon with a 8.49% decline. Phoenix fell 8.87% while
Chicago was down 6.78%, and in Seattle prices are 6.47% lower than
last year.
The graph (also from this source) below tracks the cumulative
declines for each city over time. If the red bar is shorter to the
downside than the yellow bar for a city, it indicates that prices
in that city have risen since the start of this year (not year over
year).
In every city prices are below where they were in April 2006, but
there is a huge variation. Las Vegas is the hardest hit, with
prices down 59.46% from the peak, followed by Phoenix down 56.20%.
Miami is almost a member of the “half off club," down 49.40%. Tampa
(down 46.20%) and Detroit (down 43.46%) are not far away from
joining that rather dubious group.
At the other end of the spectrum, there is just one city that has
managed to avoid a double-digit decline: Dallas, where prices are
down only 7.51% since April 2006. Only four others are down less
than 20%: Denver is off 10.89% from the national peak, with
Charlotte right behind it with a 10.99% decline. Boston, off 14.93%
and Cleveland, down 19.06%, fill out the list.
Please note the percentage declines I am quoting are from when the
national peak was hit, the numbers in the graph are relative to
that city’s individual peak, so there is a little bit of
difference. Also keep in mind that these are nominal prices. While
inflation has been low over the past few years, it does add up, so
in real terms the declines are much greater.
No Traction Post-Tax Credit
Sales of existing houses simply collapsed in July 2010, after the
homebuyer tax credit expired, and have remained depressed ever
since. The extremely high ratio of homes for sale to the current
selling pace is sure to put significant downward pressure on
prices.
Existing home sales in August did show a little bit of a bounce,
and the months supply declined to 8.5 months. That is still high
enough to indicate downward pressure on prices (normal is about 6
months) but is at least moving in the right direction.
There is still quite a bit of “shadow inventory” out there as well.
That is, homes where the owner is extremely delinquent in his
mortgage payments and unlikely ever to make up the difference, but
that the bank has not yet foreclosed on, or foreclosed houses that
have not yet been listed for sale. It also includes all those
people who think that the decline in housing prices is just
temporary, and are waiting for a better time to sell.
I had been thinking that the decline would last through the end of
the year, but that the size of the declines from this point would
be limited. After that, I expect a prolonged period of essentially
flat prices for existing homes, not a sharp rebound. The flat
period may well be coming sooner than I expected, but it is still
too early to be sure.
2nd Leg Down Won't Be As Deep
We are unlikely to have a decline anything like the first downdraft
in housing prices. The reason is in the next graph (also from this
source). People need a place to live, but they do not have to own a
house; they have the option of renting. A house is a capital asset,
and the cash flow from owning that asset is in the form of rent you
do not have to pay.
One of the clearest signs that we were in a housing bubble was that
the prices of houses got way out for line with rental prices. While
on this basis houses are not yet “cheap” nationally, neither are
they absurdly expensive the way they were a few years ago.
If prices fall too far from here, it will become cheaper to own
than rent, and lots of people who are now in apartments will start
to buy. This graph also includes the CoreLogic housing price data
which is similar to the C-20. Rental vacancy rates have started to
fall significantly, and in many areas of the country rents are
rising, not falling.
The price-to-rent ratio is already at the high end of normal based
on the Case Schiller index, and in the middle of the normal range
based on the CoreLogic index. Rising rents will move the ratio
toward the middle or even low end of the range without more
weakness in housing prices. The apartment oriented REITS such as
Equity Residential (EQR) should benefit from
this.
With existing homes, not the volume of turnover that is important,
it is prices. The level of existing home sales is only significant
relative to the level of inventories, since that provides a clue as
to the future direction of home prices. If there is an excess
inventory of existing homes, then it makes very little sense to
build a lot of new homes.
It is the building of new houses that generates economic activity.
It is not just about the profits of
D.R. Horton
(DHI). A used house being sold does not generate more sales of any
of the building products produced by
Berkshire
Hathaway (BRK.B) or
Masco (MAS).
Turnover of used homes does not put carpenters and roofers to work
-- new homes do. When new home construction picks up, it could do
so in a very big way (at least percentage wise) from the current
extremely depressed levels, and the national homebuilders will
probably pick up market share as hundreds of small mom and pop home
builders have gone out of business in this downturn. A doubling in
new home construction would still put the level of construction at
historically very low levels, and many of the national builders
could see their revenues triple or more.
Home Prices and the Evaporation of Wealth
Existing home prices are vital. Home equity is, or at least was,
the most important store of wealth for the vast majority of
families. Houses are generally a very leveraged asset, much more so
than stocks. Using your full margin in the stock market still means
you are putting 50% down. In housing, putting 20% down is
considered conservative, and during the bubble was considered
hopelessly old fashioned.
As a result, as housing prices declined, wealth declined by a lot
more. For the most part we are not talking vast fortunes here, but
rather the sort of wealth that was going to finance the kids
college educations and a comfortable retirement. With that wealth
gone, people have to put away more of their income to rebuild their
savings if they still want to be able to send the kids to college
or to retire.
That which you save you don’t spend, and if everyone starts to
spend less at the same time, the economy will inevitably slow.
While thrift may be a virtue on an individual level, it can be a
vice at the macro level. Or, to be more precise, the change in the
attitude towards more thrift can be a vice at a macro level.
The decline in housing wealth is a very big reason why retail sales
have been so weak. With everyone trying to save, aggregate demand
from the private sector is way down. If customers are not going to
spend and buy products, employers have no reason to invest to
expand capacity. They have no reason to hire more workers.
Housing Investment
People pulling money out of their houses was a big force behind
what growth we had during the previous expansion. Mortgage equity
withdrawal, also known as the housing ATM, often accounted for more
than 5% of Disposable Personal Income during the bubble, thus
greatly lifting consumer spending.
Since the bubble popped, people have been on balance paying off
their homes (or defaulting on them through foreclosures). The
comparison of the next two charts shows how important housing
wealth is to the middle class. The first graph includes home equity
wealth, the second looks only at financial assets like stocks. The
upper middle class (50 to 90% income brackets) had 26% of the total
wealth in the country in 2007, and just 9.3% of the wealth in the
form of financial assets. The value of non-financial assets, mostly
home equity, has declined significantly since 2007, and with it the
wealth of the middle class.
Also, as housing prices fell, millions of homeowners found
themselves owing more on their houses than the houses were worth.
That greatly increases the risk of foreclosure. If the house is
worth more than the mortgage, the rate of foreclosure should be
zero. Regardless of how bad your cash flow situation is -- due to
job loss, divorce or health problems, for example -- you would
always be better off selling the house and getting something, even
if it is less than you paid for the house, then letting the bank
take it and get nothing.
By propping up the price of houses, the tax credit did help slow
the increase in the rate of foreclosures. Still, more than a
quarter of all houses with mortgages are worth less than the value
of the mortgage today. Another five percent or so are worth less
than five percent more than the value of the mortgage. If prices
start to fall again, those folks well be pushed under water as
well.
Downturn Not Quite Over Yet
Despite the seasonal bounce in the unadjusted numbers, the second
down leg in prices is probably still underway. And while it will
probably be a much shorter leg than the first one, it is still bad
news for the economy.
Eventually, a growing population and higher household formation
will absorb the excess inventory. The key to higher household
formation ("economist speak" for getting the kids to move out of
Mom and Dad’s basement and into a place of their own) will be more
jobs. Unfortunately, residential investment is normally a key
source of jobs when the economy is coming out of recessions. Sort
of a tough "chicken and egg" problem.
If the stabilization of existing home prices can continue, and not
just because of an expensive artificial prop, it is extremely good
news for the economy. It will stop the foreclosure problem from
getting worse, since being “underwater” is a necessary, but not
sufficient condition for a foreclosure to happen. It means that the
wealth of the average American is not being eroded. That should
help consumer confidence.
It also lays the foundation for a pick up in new home construction.
When that happens, the economy will see a huge benefit. This
recovery has been lacking the normal locomotive, residential
investment, which historically has pulled it out of recessions.
When that locomotive gets back on track, the economy will pick up
speed.
Three months of ever-so-slight improvement on a seasonally adjusted
basis is not enough to declare the end of this downturn, but it
sure is a hopeful sign.
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