Welcome to the New *#&@%@ Normal!

New Normal in Housing

It’s a chilly, rainy day here in New Jersey under iron grey skies.  If where you are is sunny, and you’re feeling happy and optimistic, and you want to stay that way, let me strongly suggest that you not finish reading this post.  This is where I engage in paranoid fearmongering speculation.

You have been warned.

Actual post continues after the jump.

July 2010: Worst Month Ever for Housing

July’s housing sales numbers were not merely bad; they were catastrophic.  They were so bad that even the legacy media outlets noticed and went into full metal jacket panic mode.  Here are a few samples:

Housing, the real estate market, it’s a disaster, in plain English. The numbers came out for July today. One economist calls them eye watering. Here’s the big bad number. Sales of existing homes fell off a cliff last month, down 27%. That’s the biggest one-month drop on record in our history.  (NBC News)

Economic forecasts were plenty pessimistic ahead of Tuesday’s report by the National Association of Realtors because of other data pointing to weakening sales since the federal tax credit ended in April. The actual numbers were far worse — sales fell more than 27% from June and 25% from a year ago to an annual rate of 3.83 million units. (USA Today)

The latest sign that the economy is losing steam: Home sales fell 27 percent in July, the steepest one-month drop since figures were first compiled in 1968, according to a report released Tuesday. Analysts had expected sales to decline following the expiration of a federal tax credit for homebuyers this spring, but the drop was nearly twice as large as forecast. (Washington Post)

And this drop in sales happened in an historically low interest rate environment, which leaves the talking heads on TV scratching their heads.  Many of the commentators talked about how the expiration of the $8,000 homebuyer tax credit led to this unexpectedly large drop in sales.  The implication is that if only the tax credit had been extended, or put in place permanently, more people would have bought houses.

I and others within the industry have been saying for months that all that the tax credit did was to pull demand forward and that it seemed very odd that folks would put themselves into hock for hundreds of thousands of dollars over a measly $8,000.

One question that naturally arises is… how could economists be so surprised by July numbers?  How the heck are they “unexpected”?

The New *@#&(%#$ Normal

NBC’s Brian Williams says, “What’s equally scary is this: the inventory, the number of unsold homes on the market, rocketed to a 12 and a half month supply.”

Actually Brian, that’s not the really scary thing.  The really scary thing is that this is merely the start of the New Normal for residential housing in the United States.

I’ve been writing on the Obama Administration’s new housing policy for the past few weeks.  Of course, that meant I had to read a bunch of stuff on impenetrable government websites, boring news sites, and various blogs.

I am forced to conclude that the Obama Administration seeks to redefine American housing by changing the national housing policy.  For decades, the national policy on housing has been to encourage homeownership.  The creation of Fannie Mae and Freddie Mac, of FHA, of HUD, of various other agencies that are involved in housing and housing finance, the mortgage interest deduction, the bailout of Fannie/Freddie, the wholesale takeover by the Fed of the housing finance market… these were all undergirded by the commitment by the United States that owning a home is part and parcel of the American Dream.  One can debate whether such subsidizing of the housing market was a good idea or not, but the fact that the Federal government has long encouraged homeownership is not debatable.

The new housing policy we’ll be seeing come down the pike is one of “sustainable homeownership” combined with encouraging rentals.  The Treasury and HUD held a conference recently in which various handpicked experts opined about what needs to happen.  Reading between the lines — and referencing a number of other policy moves of late — I have speculated that the following will happen:

  • The mortgage interest deduction will be eliminated, or at least sharply scaled back
  • Fannie/Freddie will wind down participation in the single family residential market, and raise participation in multifamily housing (aka, rentals)
  • The 30-year fixed rate mortgage is headed to the ashbin of history; I rather expect the “new normal” will be something closer to a 10-15 year adjustable rate mortgages that adjust every year or even every quarter.
  • Down payments are headed up, up, up from its current levels (some FHA loans are still requiring only 2-3% down); Bill Gross of PIMCO has said that if he were funding mortgages, he’d require a minimum of 30% down payment.  I think that’s where we’re headed.
  • Some form of national regulation for rentals, in order to (a) encourage rentals by those who would otherwise be first-time homebuyers, and (b) protect renters from eeeeevil landlordz.  It may be as heavyhanded as a national rent control regime, or (more likely) an expansion of Section 8 to include far more “middle-income” units.

There will be other changes, of course.  But the overall impact is to decrease the pool of buyers, drive housing prices lower, and have fewer transactions.  Only those buyers who can easily afford to buy their dream homes, and have significant skin in the game to keep them honest about paying back their loans, will be buying homes in the future.

That’s the New Normal for the housing market.

The 27% drop in July has folks all atwitter with fear and trembling.  Guys, 27% will seem like nothing relatively soon.  Economists are suggesting that the elimination of $8,000 in first-time homebuyer tax credits is to blame for the historical drop; wait till you see what the elimination of home mortgage interest deduction does.  Buyers have lost confidence, commentators commentate.  Wait till you see what buyers do when the standard mortgage is not the 30-year fixed at 5% with 10% down, but a 10-year ARM at prime + 2% with 30% down.

That’s the New (*@)(#%&@# Normal for housing.

The Politics of Fingerpointing

Of course, with Republicans quick to jump on Obama and Democrats given the dismal news of July, it may be that the political pressure will force the boys and girls at Treasury and HUD to scale back their ambitious plans.

Again, whether you think the Federal government should be so heavily involved in housing or not, fact is that as of right now, it is.  Without significant policy changes, we will probably have gloomy months and years ahead, and a reset of expectations as Glenn Kelman of Redfin says in the New York Times:

His house, he knows, is “an illiquid asset, a long-term asset, something I won’t be able to tap in for cash. But we chose a place we’ll be able to stay for a long time, to ride out any trouble.”

Once upon a time, before everyone from the banks to the buyers to the sellers got greedy, that was how everyone thought about the housing market. And however bumpy the path, that is once again the market’s future, said Mr. Kelman of Redfin.

“It’s not the apocalypse,” he said. “People will buy homes when they need to move or want the house, not when they want to make money. There will be winners and losers — not just, as in years past, winners and bigger winners.”

Yeah, well, if the Administration does successfully push through its program for “sustainable homeownership”, I rather think even the normally unflappable Glenn Kelman would describe that as the apocalypse.

Welcome to the New (*@)%&#@$ Normal.  You may now commence the fear and trembling.

-rsh

  • http://www.Kens411.com Ken Brand

    The Jungle Drums are getting louder.

  • http://www.SanDiegoJeff.com/ jeffreydouglass

    Rob, the pendulum has certainly swung to far and some of your fears might actually come true.

    Personally I don’t see why anyone was surprised about the numbers, which were not sustainable, for a healthy market. Check back in 3 months to get a better idea where everything is going. Like a willow tree in the wind, everyone is bending to easily to each changing breeze.

    Looking forward to the ongoing discussion and going to write more soon. Glad to see you back :-).

  • Anonymous

    Rob,

    Those are some seriously scary predictions that if they come true will send some huge ripples throughout the real estate industry and the American economy!

  • http://twitter.com/diablevert diablevert

    You’re not selling me on this, man.

    ◦The mortgage interest deduction will be eliminated, or at least sharply scaled back

    Uh, by you and whose army? There might be a passel of citified liberal latte-sippin’ think-tank types who would find such a thing desirable, but against them are pitted….all the homeowners of America, and the NAR, and the construction industry, and the mortgage bankers. If the administration pushed for this, Republicans would shit rainbows and spit kittens, because a) they’re already fully committed to opposing everything the administration does, as hard as possible, and b) if they did that in this instance, they’d be on the side of the mortgage bankers, the construction industry, NAR, and all the homeowners of America. Who would vote for such a thing?

    ◦Fannie/Freddie will wind down participation in the single family residential market, and raise participation in multifamily housing (aka, rentals)

    Didn’t everybody kind of want that to happen? There were some numbers out today — I think 9.2 percent of loans were non-conforming. Or in other words, the market’s so freaked right now, if it can’t get bought by the GSEs, they ain’t selling. Not exactly what you might call “healthy” or “sustainable.”

    ◦The 30-year fixed rate mortgage is headed to the ashbin of history; I rather expect the “new normal” will be something closer to a 10-15 year adjustable rate mortgages that adjust every year or even every quarter.

    If Fannie and Freddie were to cease to exist, then sure I guess. But Geithner’s pretty much come out and said that’s off the table.

    ◦Down payments are headed up, up, up from its current levels (some FHA loans are still requiring only 2-3% down); Bill Gross of PIMCO has said that if he were funding mortgages, he’d require a minimum of 30% down payment. I think that’s where we’re headed.

    Again, if Fannie and Freddie were to cease to exist, sure. And I agree that nobody wants the whole market to go the FHA route — if that gets bumped up to 5, 10 percent or the program made a lot tougher to get into (raise the credit score, lower the household income ratio: bingo, you got about six people who qualify) I wouldn’t be at all surprised. But again….isn’t there this whole housing industry that exists to sell loans to people? Who are they supposed to sell loans to if they have to wait around for 9 years for

    ◦Some form of national regulation for rentals, in order to (a) encourage rentals by those who would otherwise be first-time homebuyers, and (b) protect renters from eeeeevil landlordz. It may be as heavyhanded as a national rent control regime, or (more likely) an expansion of Section 8 to include far more “middle-income” units.

    The section 8 expansion is happening a bit. But national rent control? Not to be hyperbolic, but are there normally a colorful variety of pills placed beside your OJ, and did you forget to take them today? I’m not even sure if rent could possibly be construed as interstate commerce. Rent laws are local, this would be a massive, massive shift in the law which would cause millions of small time landlords across the country to flip their shit. Who would vote for this? Cambridge MA, got rid of rent control over decade ago. I think even Berekely might have dumped it — NYC’s about the last place left standing. There is no constituency for this, and it’s not in HUD’s power to do it through mere regulation.

  • http://www.notorious-rob.com Notorious R.O.B.

    Thanks for a detailed and really well-articulated response :) That’s what I call a reply-that-could-be-a-blogpost :)

    Let me address a couple of your points.

    1. MID going away.

    One of the biggest proponents of the elimination of the MID (mortgage interest deduction) is the American Enterprise Institute, which tends to be a Republican-dominated thinktank. And if you think that the GOP today wants to be seen as the champion of mortgage bankers and real estate agents, when the Tea Party candidates are knocking out incumbents left and right… you’re looking at a different GOP than I am.

    This is one area where I see more or less bipartisan agreement; the Dems because they love taxes, and don’t mind taxing the rich, and the GOP because they want to be seen as the party of Small Government. Now, I’ve said the entire MID might not go away; but it might be limited to something like “only on the first $200K” which would make lawmakers in both parties be able to claim that they are looking out for the little guy, while taxing the rich.

    2. On the 30-yr fixed going away… I don’t think it’s necessary for Fannie/Freddie to cease to exist; I think it’s enough that they start funneling money away from residential mortgage into multifamily commercial mortgage. The comments from the Treasury/HUD Conference (and the recently released HUD comments on the TRA (Transforming Rental Assistance) program suggest that is precisely the plan. Fannie/Freddie will shift from being a guarantor/buyer of residential mortgages to being a guarantor/buyer of commercial mortgages in the multifamily sector, to encourage development of rental units.

    When the burden shifts mostly to private banks to fund mortgages, Bill Gross of PIMCO has more or less made it clear that he wouldn’t lend on anything other than 30% down, 10-15 year adjustable rate basis. I think most mortgage bankers would feel the same way, if government support for residential mortgages declined much at all.

    And in the current budget environment, I just can’t see Fannie/Freddie/Fed doing both: borrowing more money to continue at the current level of funding plus take on multifamily financing strikes me as… unlikely.

    3. The banks that currently provide residential mortgage products would simply shift their lending portfolio to multifamily loan products, backed by Fannie/Freddie. It then becomes a question of supply/demand: if the supply of money decreases, and demand remains the same, the price must rise. The price in the case of loans is risk, reflected in both LTV and in rates. Both are, I think, headed up. Waiting 9-10 years for an average American family to save 30% may not be a bad deal for BofA or Wells Fargo, if they’re able to get 5-year CMBS notes sold to Fannie/Freddie on a 500-unit multifamily development.

    4. Two years ago, I would have thought national rent control is impossible. Then again, two years ago, I would have thought that the Federal government nationalizing a car company was also impossible; who the heck would vote for that?

    Note, however, that I didn’t say we’ll have national rent control — I said it could be as heavyhanded as that, but the more likely scenario is extension of section 8. That’s from reading the official government comments in support of TRA. So your criticism is well-received, but you probably got a bit hyperbolic yourself with the “colorful pills” thing considering what I actually wrote. :)

    Great discussion, however; look forward to further thoughts from you.

    -rsh

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