There is a hole in the housing bubble balloon that can’t be patched.
The one (and only) undeniable feature of the current housing “recovery” has been rising home prices. That one pillar of the housing recovery is now threatened by home affordability.
The housing market never really recovered from its collapse and is set to crash again.
In the False Housing Recovery of 2013, published in October 2013, we chronicled the reasons there was no housing recovery at all. The housing recovery was in price and price alone.
declining pending home sales;
the burden of student loans and lack of employment opportunities shutting many millennials out of the housing market;
declining home ownership rate;
low existing home sales;
historically low new home construction;
rising interest rates;
declining mortgage applications;
low household formation rates;
stagnant wage and job growth;
large percentage of homeowners with underwater mortgages;
historically low percentage of first time home buyers;
a high percentage of investor/all cash house buyers; and
decreasing home affordability.
The above factors were ignored by the economic recovery cheerleaders as home prices were rising and the “recovery” mantra continued unabated. The only thing preventing a more robust recovery was an “inventory shortage”. If there were more homes for sale, the narrative went, more homes would be sold. If more inventory is made available, however, with low demand home prices will plummet.
Thus, the current housing “recovery” has been characterized by low demand, artificially low interest rates, low new home construction, low new home sales, low existing home sales, low home ownership rate, low labor participation rate and low wages. It was true six months ago and is still true today. Yet against this back drop, home prices continued to rise.
Six months later it is more apparent that the housing recovery was in price alone. The housing price gains boosted by quantitative easing (QE) and low interest rates are in jeopardy as investors are leaving the market, inventory is increasing and interest rates are rising.
None of the factors cited above have improved as mortgage applications are down year over year and are at historic lows, the labor market has not improved and new home sales have not increased to meet to supposed pent up demand caused by low inventory.
There is a limit to how high home prices can rise if there is not corresponding job and wage growth. In How a Stock Market Crash Will End the Economic Recovery we wrote:
It’s Easier to Pump up the Stock Market than the Real Estate Market
The Fed has been very successful in proving that you can reheat a soufflé. The current stock market bubble now exceeds its pre-2008 crash levels. Stock market bubbles are easier to blow up as there is no limit to how high stock prices can go. Once the market accepts thin air valuations for non profitable companies that are untethered to dividend yields and traditional valuations, beyond the sky is the limit. Homes may become too expensive to afford but no stock becomes too expensive or unaffordable; anyone can buy any stock, albeit in smaller amounts. Stock prices, unlike home prices do not have their upward trajectories limited by availability of credit, loan to value ratios, employment history, affordability and income levels.
That limit on house prices has been reached.
The Dark Side of Rising Home Prices
A housing recovery based solely on rising home prices is not a good thing. In the Dark Side of Rising Home Prices we noted the recent gain in home prices:
create wealth disparity;
cause property taxes to rise;
are bad for the real estate industry;
raise home affordability; and
will come down.
Home Prices-Down, Existing Home Sales-Down, Mortgage Applications- Down, Pending Home Sales-Down & New Home Sales- Down. Why? The Weather!
As home prices stagnate housing recovery cheerleaders search vainly for excuses. They claim the weather has been the cause for recent (greater) weakness in the housing market. A couple of months of cold weather in parts of the United States has created an inhospitable housing market in which: Home prices are down. Existing home sales are down. Mortgage applications are down 18% year over year. Pending home sales are down.
New home sales are down even though there is a supposed inventory shortage (the one non weather related villain that housing recovery cheerleaders point to as preventing an even more robust housing recovery) holding back the housing market. If there really was a housing inventory shortage such that the demand was not being met, there would be an increase in new homes being built and sold to meet that demand.
There is not.
A few of the real (non weather related) reasons for lower home sales are that wages and job growth are stagnant, people are spending more money on health care and utilities, credit is tight even though interest rates are still relatively low and home prices are increasingly unaffordable.
Inventory Up/Sales Down
Housing analysts have attributed low home sales to low inventory but according to Redfin, an online real estate brokerage, many markets recently have had increases in inventory while sales continue to fall. The Sacramento Association of REALTORS® reports that inventory is up 71% year over year but sales are down 12%.
The real estate recovery cheerleaders have insisted that if more inventory hit the market, the housing recovery would pick up steam. The opposite appears to be happening.
We predicted this dynamic in June 2013 in The Coming Supply/Demand Real Estate Inventory Reversal:
While more homes come on the market, higher interest rates may deter buyers creating a reversal from shortage to glut. Indeed, inventories are already starting to rise.
Further pressuring demand:
the stubbornly low labor participation rate that remains at a 32 year low;
average weekly hours falling to 34.5 hours suggesting underemployment among those employed; and
a strong pipe line of new home buyers is failing to materialize as millennials suffer from under employment, higher unemployment rates and crushing student loan debt (also caused by easy money policies).
What’s Next for the Housing Market?
The Federal Reserve has been tapering its QE program since the end of last year. They are still, however, printing tens of billions of dollars a month out of thin air to purchase mortgage backed securities and U.S. Treasury bonds, ostensibly to keep interest rates low. Janet Yellen, the Fed Chair and her regional Fed Presidents are nearly unanimous in their views that the QE program needs to be wound down.
The Fed’s rationale for ending QE is that the economy, after $4 trillion of QE, is improving and achieving “escape velocity” such that it can thrive without QE. It can’t. Indeed the Fed is aware that the economy needs stimulus in the form of artificially low interest rates, long after the current round of QE ends. The Fed has also blamed recent economic weakness on the weather.
The Fed appears to be tapering into a recession as the housing market stagnates and profits fall at the too big too fail banks.
Higher Interest Rates/Lower Credit Standards
The Fed has defended QE has being good for the economy because by manipulating interest rates artificially lower a wealth effect is created that boosts stocks and home prices. We question that rationale preferring that rising home prices be reflective of the health of the economy, not the driver of it. Under the Fed created false economy that they have spent five years printing trillions of dollars to create, a drop in home prices and/or a stock market crash would devastate the economy.
In order to reflate housing prices we expect to see a lowering of credit standards and heavy marketing of adjustable rate mortgages as interest rates move higher. Perhaps now that the too big too fail banks have been recapitalized via receiving billions of dollars of interest free money from the Fed, they are ready to make money lending it out but need higher rates first.
Jamie Dimon, CEO of JP Morgan Chase predicts that rates on the ten year note will double but doesn’t expect that slow the economy. We disagree.
More Inventory/Less demand/Lower Home Prices
Last year, in Real Estate’s Underwater Downside Sticky Catch-22, we noted the dynamic that would keep home prices from rising.
The real estate market is trapped in a catch-22. Prices are rising because there is little inventory. One of the reasons there is little inventory is because nearly 25% of U.S. homeowners can’t sell because prices are lower than what they paid for their homes. (underwater homeowners)
Other above water homeowners won’t sell at current prices because they don’t have to and want higher prices before they list their homes. These homeowners also won’t sell if prices go lower. (down side sticky homeowners)
They wait for further home price increases against the odds as a weak economy characterized by a sub par labor market with declining wages, job growth limited to part time jobs, a large percentage of millennials priced out of the market due to their employment situations and crushing student debt and of course, rising interest rates, works against them.
If home owners are lucky enough and home prices rise further, they will rush to list their homes creating more inventory.
And there’s the catch.
When there is more inventory on the market, home prices will drop.
We didn’t mention in that article that five year HAMPS and 10 year HELOCS will start adjusting this year creating even more inventory.
Last month we asked who will buy the houses to support the housing recovery? With investors leaving the market we reviewed group of potential buyers and found them all lacking.
Millennials & First Time Home Buyers (poor job prospects, crushing student loan debt);
Baby Boomers (more likely to be sellers as they down size for retirement);
Foreigners (their participation in the housing market has declined the past two years); and
Move up Buyers (40% of existing homeowners are underwater)
With declining demand and increasing inventory and an economy that is stagnant at best, home prices won’t rise much further and will begin their descent later this year.
Continued Optimism and Housing Recovery Cheerleading
Recovery, Recovery, Recovery, Recovery
Having believed for so long that a housing and economic recovery exists, we expect economic recovery addicts to continue to ignore headlines like Lending Plunges to 17 Year Low and insist the housing and economic recoveries proceed apace.
We also expect the misinterpretation/spin of poor economic data to continue:
Temp hiring was a up a solid 29k, which is a leading indicator of future labor demand.
— Joseph A. LaVorgna (@Lavorgnanomics) April 4, 2014
Which will collapse first? The real estate or the stock market? We wrote recently that a stock market crash would end the economic and housing recoveries.
It seems as if real estate’s recovery is already over.
What do you think? Weigh in below.
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