Two Views Of The Housing Market

Lots of talk over the past few days about housing and its prospects for 2011. For the first time a few brace souls are coming out of the closet and proclaiming that while they might not be housing bulls quite yet, they think the worst is over. That doesn’t mean the bears have vanished though. Here’s two rather divergent views which I also happen to think are two of the better analyses that I’ve see.

From the Economist blog:

Real prices are close to normal levels. So is the price-to-rent ratio. The economy seems to be growing at an accelerating pace. Employment growth seems likely to continue picking up pace. Supply overhangs persist, but markets in most metropolitan areas are far tighter than they were. And no one in Washington wants to see prices fall another 10%. So while I wouldn’t buy in Las Vegas and wouldn’t be surprised to see indexes of national prices come down a bit more, I don’t see a case for another round of crashing values, outside of a major policy mistake. And for now I’m betting, as markets are betting, that a major policy mistake will be avoided.

You should read the whole article if you have a moment. The author makes a couple of point that I think are credible. Specifically, he points out that the measures of home prices lag by a couple of months and what we’re seeing now in terms of declining prices reflects the doldrums that the economy went into during the summer. He further notes that from May 2009 to May 2010 prices pretty much stabilized during a period of relative uncertainty about the economy. If they didn’t fall during this period, why, he asks, should they suddenly start crashing given a much better economic environment.

Now on the other side of the debate is Amherst Securities.

Many analysts and investors believe that the sole problem with the housing markets the large number of non-performing loans that are creating an overhang or shadow inventory. The feeling is that once those are resolved—the market will heal.

We agree that non-performing borrowers have a low probability of eventually curing.However, the housing market problem runs much deeper. In our 10/1/2010 Amherst Mortgage Insightarticle “The Housing Crisis—Sizing The Problem, ProposingSolutions,” we argued that absent any further governmental action, 11.5 millionborrowers were in danger of losing their homes. This includes not only non-performing borrowers, but also a large number of performing borrowers withcompromised pay history (mostly courtesy of modification programs). It’s importantto note that re-performing borrowers are re-defaulting at a rapid rate and willcontinue to do so. Moreover, borrowers with good pay histories who aresubstantially underwater have shown that they, too, have a reasonable probability oftransitioning to default (going 60+ days delinquent).  Yet many bond investors, and anumber of housing analysts, are focusing solely on non-performing loans; theyignore re-performing loans and seriously underwater borrowers. The market isunderestimating the housing problem and potential losses to bondholders if further policy actions are not undertaken.

This is just the preamble to a detailed analysis they’ve done on performing and non-performing loans. They cite two important facts that lend credence to their thesis that there is a lot more potential inventory that could force down prices. One is the re-default rate and the other is the propensity of borrowers with negative equity to default. There has been lots of discussion as to whether those with underwater mortgages would continue to service their mortgages and the Amherst data would indicate that a large percentage won’t.

So there are two scenarios. One suggests that macro trends will pull up the housing market or at least limit the carnage. The other that we aren’t through the problems by a long shot.

I’m persuaded by the Amherst data that the opportunity for further calamity exists. I also don’t think that an economy improving at the rate of this one is going to instill enough confidence in traumatized workers to cause them venture into buying a property. The memories of the recession are still too fresh and all of us know too well friends and acquaintances who are still hanging on by their fingernails. Confidence is not in great supply right now.

There is still room for housing to move down significantly, especially in the bubble markets and perhaps the Rust Belt. That assumes no big economic shocks or policy mistakes. If either should come to pass then the elements are there to make things pretty ugly pretty quickly. What would get us there? How about gas at four bucks a gallon?

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