June 18, 2010 — The advent of Summer is nearly upon us, with warm days and what are likely to be languid times for real estate and housing markets.
As we look across the economic landscape into the season ahead, it is clear that the frenetic pace of Spring is falling behind us, with a spike in activity replaced with a slow slog toward recovery.
Last week, we had occasion to consider the dynamics of housing demand, the factors that influence them and the prospects for activity in the months ahead. This week, we thought we’d consider the distorting effects of government policy on that demand, and wonder how markets would have fared without those intrusions into their more natural functions.
For their part, low mortgage rates are both a surprise and a key support for potential homebuyers, but re-filling the pool of demand is going to occur slowly at best.
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HSH’s market-spanning Fixed-Rate Mortgage Indicator (FRMI) eased by another four basis points this week, (.04%) to finish HSH’s weekly survey at 5.11%. Calculated by including rates for conforming, jumbo, and the GSE’s “high-limit” conforming products, the FRMI includes covers a broad swath of the mortgage-borrowing public. A popular alternative to the 30-year FRM comes in the form of a hybrid 5/1 ARM, which closed the week with a six-basis-point dip to an average interest rate of 4.17%.
Private-market, non-agency jumbos continue to move toward record low territory and now stand just six basis points above their 2003 low of 5.55%. At the turn of 2010, the average for a Jumbo 30-year FRM was 6.14%, so the decline here has been steady and appreciable.
One of the distortions in the market has been the twice-authorized offer of tax credits for homebuyers. The first one (which expired 11/30/09), was aimed solely at “first-time” buyers. It engendered a rush to buy homes which shifted potential homebuying from December and other winter months into November, leaving those later months weaker than they would have otherwise been.
A second offer which came shortly after the first expiry was expanded to cover more potential buyers, but since many transactions had already been advanced into November, activity got off to a very slow start and so was ineffective in spurring sales in the late portion of Winter. However, a mild growing economy did see home sales begin to accelerate in March and April, but the recent falloff in purchase activity in the aftermath of the tax-credit expiry seems certain to have us in a new ‘dead zone’ for the next few months.
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This idea has visibility in the latest housing market data. Housing Starts plummeted by 10% in May, slumping to 593,000 during the month. Single-family starts fell back to levels seen last fall, but multi-family starts (a much smaller portion of the market) bumped up a little. Permits for future activity also downshifted during the month, sliding from a 610,000 annualized pace to 574,000.
Unsurprisingly, this decline in activity led to a falloff in builder sentiment in June, as measured by the Housing Market Indicator from the National Association of Homebuilders. The HMI had climbed to a recovery-best reading of 22 in May but fell back to a winter-like level of 17 in June, with declines in sales, traffic at showrooms and six month outlooks alike.
Looking at these trends one could argue that we would have been better off simply letting the market recover on its own. Without these distortions — which produce mini boom and bust cycles of their own — we may have already been in a mildly firming pattern with a much truer picture of the strength or weakness of housing markets. For our part, and if they needed to exist at all, we feel that these kinds of incentives should have been gradually phased out in order to produce more metered demand over time, which would have better supported the housing market.
In a form of continuing distortion, the Senate voted this week to extend the time for home purchasers to complete their transactions and still qualify for the Homebuyer Tax Credit. We want to know whether you think this is a good idea or not, so if you’ve got a minute, please take our poll: Do You Support the Extension of the Homebuyer Tax Credit’s Closing Deadline?
These distortions aren’t limited to tax policy, though. The process of rescuing some homeowners via loan modification and foreclosure prevention is also affecting the market’s natural ability to find a market-clearing price for properties, and in many ways is perpetuating the home-price downturn; at the same time, the process of examining and re-regulating an industry already in distress produces disruption in the availability of credit, as the penalty for taking on risk in an environment which features a continually-changing definition of “excessive risk” is certain to be met with derision by authorities.
We will eventually transition away from the distortions imposed by tax policy, and may even get some additional clarity when it comes to risk, but regulatory policy distortions are just getting underway and will be with us for a long while yet, with the financial market reform bill still wending its way through Congress.
An argument could also be made that a greater benefit for housing markets might have come with a greater emphasis by the administration on job creation. The stimulus money authorized last year hasn’t had an appreciable effect in reducing unemployment, and new hiring and rebuilding of income strength is crucial to getting the housing market nearer to normal. A new 472,000 applications for unemployment benefits were filed during the week ending June 12, but benefits and long-running extensions are a poor substitute for gainful employment.
The sector of the economy which continues to fire is manufacturing, but there are limits to a single-sector’s ability to drive economic growth. Also, after a lengthy period of sizable gains, solid reports about manufacturing health have come somewhat more spotty of late, with a softer growth pattern likely to be seen in the months ahead. Activity in the New York district of the Federal Reserve remained solid in June, according to the latest report, but a rather pronounced deceleration was seen in the Philadelphia Fed’s area of coverage. A month behind these observations was a sizable gain in Industrial Production during May. The 1.2% increase was a gain exceeding that which was expected, with a 4.8% gain in utility output driving the headline figure. In addition, there was an encouraging 1% rise in the percentage of factory floors in active use, but with many troubled export partners continued sizable increases seem less likely going forward.
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Sources: FRB, OTS, HSH Associates.
That seemed to be the message from the latest index of Leading Economic Indicators report. After a slew of positive readings, the LEI had flatlined in April but rebounded somewhat in May, with a gain of 0.4% seen during the month. The economy does have some momentum to it, but we may struggle to do much better than the 3% GDP growth noted in the first quarter of 2010.
Weak economic growth has troubles generating much inflation heat, and the present recovery is no exception. Overall, and provided we don’t slip into outright deflation, this is a good thing, since it allows the Federal Reserve to continue low interest rate policies for an extended period of time. Prices of imported goods slid by 0.6% last month, driven down by falling prices for petroleum. Excluding them, an increase of 0.5% was seen. “Headline” prices of imports have climbed 8.6% over the past year; over that time, we’ve exported a little inflation too, with the 0.7% lift in goods exiting the US contributing to a 5.8% annual increase. The effects of recently stronger dollar have yet to be seen in these figures, though.
For the most part, domestic price pressures are easing, too. The Producer Price Index declined by 0.3% during May, but there are still sizable upstream price pressures in commodities and such which have not yet been realized, but it is unclear if those price increases can be
passed along. Also, some of those upstream percentage increases in costs represent a “recovery” of prices relative to pre-recession levels. Overall, prices at the Producer level are 5.1% above last year at this time.
Prices at the consumer level told much the same story. The headline CPI
dipped by 0.2% in May, but excluding sliding food and gasoline prices there was a muted 0.1% rise in costs. The CPI is holding at a flat 2% increase over the past year, firm enough but also at a level which causes no worries, especially while there is excess “resource slack” in the economy. Inflation is not a present concern, but given the massive levels of US debt being floated, it probably will become one again before too much time has passed.
Mortgage rates have no real place to go at the moment. There isn’t enough domestic economic strength or demand for credit to propel them higher, and while the the influx of cash from the euro-zone mess has pressured them down, the panic rush to safety does seem to have subsided. The Federal Reserve Open Market Committee will meet next week to consider these and many other things, but will report no change to policy, a moderate assessment of the present economic climate and a measured concern for the overseas problems and proposed solutions.
As far as significant economic data, we’ll get new and existing home sales, both for May; can’t imagine that they’ll go anywhere but down. We’ll get a final look at Q1 GDP, a durable goods report and a sentiment reading. In this context, rates should probably hold pretty flat, with perhaps a couple of basis point increase at most.
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