Mon, 18 Aug 08
Trying to work out the short to medium term prospects for US house prices is a challenging task...
The ever-interesting Economist newspaper this week reported on some conflicting signals in the US housing market, presenting a series of views from market commentators who believe that the worst may be over, set against some contrasting arguments as to why things might yet get significantly more difficult.
What are the threats?
• Mortgage supply restrictions.
Fannie Mae and Freddie Mac are two of the largest mortgage agencies in the country and both have announced recently that they are strapped for cash and will significantly limit the number of new loans they offer in the foreseeable future. It's not just those two - the Federal Reserve said that mortgage lending criteria are tightening more than at any point in the last 15 years.
• Adjustable rate mortgages.
This is a type of mortgage where borrowers pay a reduced payment for an introductory period, even though interest is being charged at the full headline rate and rolled up with interest compounded. This means that the debt is actually growing, even if the borrower is making payments on time. In a market where prices have fallen, many borrowers may be left in negative equity with no prospect of a new mortgage due to the restrictions in supply. As a result, payments can shoot up by 60% or more when the introductory period ends - similar to fixed rate borrowers in the UK coming out of their introductory period, only much worse. Apparently there is around $500 billion of US housing debt in this format, a fact which could lead to a rapid growth in repossessions.
• Unprecedented circumstances.
The combination of a rampant housing boom and a credit collapse the likes of which have never been seen, means that economic historians are not really able to look back at history for a clear indication of what will happen next. Throw in the volatility in oil and commodity prices and the impact that this is having on currency exchange rates and it's easy to understand why predicting the future is harder than ever.
Where's the good news?
• Home sales stabilise.
Although the rate of new home sales is still more than 50% down on the level seen at the peak of the boom in 2005, there hasn't been any significant decline for more than 4 months. Turnover of existing property has been broadly stable since last autumn.
• Narrowing supply gap.
Housebuilders have scaled back their construction to such an extent that there is now a significant gap between the number of new homes being built and the number being sold. This is reducing the inventory of unsold property and if the trend continues, the supply reduction will inevitably put upwards pressure on prices.
• Improving affordability.
House prices have dropped by as much as 18% from their peak, according to the Standard & Poors / Case-Shiller index, while income has grown steadily over the same period. In real terms, this makes property more affordable, which would be driving prices higher if it weren't for the huge difficulty many borrowers are currently facing in obtaining a loan.
• Housing-Rescue Law.
The much talked about danger of either or both of Fannie Mae and Freddie Mac going bust has been mitigated by the new Federal law, which explicitly requires the government to inject capital into the companies if it is deemed necessary to protect them.
The two sides of the story demonstrate the opposing forces that drive the cyclical nature of property markets - the faster the decline, the more powerful the forces become that will push prices back upwards. It's just possible that because the bubble burst so abruptly, the US market may be heading for a relatively short sharp shock instead of a painfully long period of protracted and steady decline.
Photo by bowlingranny
Back to: News Index