Thursday, August 20, 2009

Drumbeat of Bad News Starts to Fade

From NAHB:

Instead of singing, “Happy Days Are Here Again,” Franklin Delano Roosevelt’s campaign song when the country was in the throes of the Great Depression, maybe a more appropriate song today would be, “Less Painful Days Are Here Again,” as the drumbeat of bad news that has pounded the economy begins to fade.

Real (inflation-adjusted) gross domestic product (GDP) fell sharply — 5.4% — in the fourth quarter of 2008, was down 6.4% in the first quarter of this year, but only fell 1.0% in the second quarter.

The most recent reading marks the fourth consecutive quarterly decline in real GDP — the first time this has occurred in the post-World War II period. However, it also marks a slowdown in the rate of decline. NAHB forecasts that the economy will register growth in the current and the fourth quarters of this year.

The decline in employment appears to be slowing. After job losses peaked in January of this year, monthly losses through July were trending smaller — with some volatility on a monthly basis as the figures are revised.

Quarterly averages eliminate some of the volatility and “noise” found in the monthly data, and the second quarter’s average monthly job loss (at a seasonally adjusted annual rate) of 436,000 shows a lessening of job losses from the first quarter’s average monthly loss of 691,000.

Since employment, as a lagging indicator, is always last to respond, job losses are likely to continue through the end of this year — though we hope the losses will prove to be smaller and smaller as the year progresses. The unemployment rate is now at 9.4% and likely to head higher, reaching 10% by late this year or early next year.

Not Only Is the Pain Lessening, Housing Is Showing Improvement

Housing has clearly been one sector where the economic news has been a little happier. Single-family housing permits now have increased for the third consecutive month and starts have increased for four months in a row.

The NAHB/Wells Fargo Housing Market Index (HMI), after bumping along at historic lows in single digits for five months beginning late last year, has been in double digits for the past four months. The July reading of 17 was up from 15 in June.

Both new and existing home sales also have been up in each of the last three months and builders continue to make good progress in reducing their inventories of new homes. As of June, inventories of new single-family homes for sale stood at 281,000, their lowest level in 11 years.

Meanwhile, the months’ supply — answering the question, “How long would it take to sell the current inventory of homes based on this month’s sales rate?” — fell from 10.2 months in May to 8.8 months in June.

The seasonally adjusted S&P/Case-Shiller 20-City and 10-City Home Price Indices were down in May over April, but the decrease was miniscule compared to past double-digit declines. Home prices for eight of the 20 cities were up for the month — though again, all cities’ home prices were down from the previous year.

This is an indication that supply and demand have come, or are coming, into balance and that demand for housing is improving.

Several factors have contributed to the improvement in housing. The first-time home buyer tax credit seems to have taken hold, encouraging many to take the plunge and purchase a house. This tax credit of up to $8,000 is available to first-time home buyers — individuals who have not owned a home in the previous three years — who close on a new or existing home no later than Nov. 30 of this year, subject to income restrictions (visit for more information on the tax credit). Interest rates remain at historically low levels, improving the affordability of houses.

Lower house prices have also improved affordability. Many measures of affordability, including the NAHB/Wells Fargo Housing Opportunity Index (HOI), indicate that housing is at or near the most affordable level it has been since the inception of each index.

Every Silver Lining Has a Cloud Behind It — And Challenges Remain

Lest the prospect of less pain lull us into a sense of complacency, it is worth noting that even as things improve (or, more properly, deteriorate more slowly) concerns remain, especially for housing.

Clearly the financial markets and the various financial institutions that lend to businesses and consumers are on the mend. Nonetheless, they are often reticent to lend.

Potential home buyers need large downpayments and excellent credit scores to obtain a mortgage. Home builders are facing increasing demands on the loans they have and new loans they seek. Requirements for obtaining new AD&C (acquisition, development and construction) loans have grown increasingly restrictive. Some lenders are requiring increased equity and/or accelerated payments on outstanding loans. In some cases, this is turning a performing loan into a non-performing loan.

Even as builders of single-family houses have made some progress against the strong headwinds of stringent loan conditions, multifamily builders have found it more and more difficult to find financing. As a result, multifamily housing starts have slowed to a snail’s pace.

Multifamily starts varied roughly between 325,000 and 350,000 from 1996 through 2006 on an annual basis. Quarterly averages have fluctuated over a wider range during this same period — between 290,000 and 390,000.

However, in the last three quarters, multifamily starts have fallen below 200,000. In the second quarter of this year, they fell to 118,000, the lowest quarter on record since the Census Bureau started collecting these data in 1959. No significant improvement for the multifamily sector is on the horizon.

Another drag on the housing market has been low appraisals. Excessive caution by some appraisers and lack of experience with the local real estate conditions by others has led to many cases of appraisals significantly below the agreed upon sales price, in some instances even below the builder’s cost of construction.  A July NAHB survey found that one-quarter of builders reported losing a sale because the appraisal was below the selling price.

Some appraisers are using short sales (sales below the amount of the outstanding debt on a house) and sales of foreclosed properties as comparables without making an adjustment for the quality of these properties that may not have been properly maintained and may be in need of significant repairs.

Regardless, foreclosures will continue to weigh on the housing market over the next several months.

Finally, although we are hopeful the first-time home buyer tax credit has primed the pump and we will see home sales continue to rise into 2010 and beyond, it is not a foregone conclusion.

In order to take advantage of the tax credit, qualifying first-time home buyers must to close on their home purchase by Nov. 30. To have a new home ready for sale and occupancy by that deadline, most construction must have been started by now. Thus, the economic and job stimulus from this measure will begin to abate over the next month or so.

To the extent that other home purchasers step forward and fill the gap after the tax credit expires, home sales and residential construction should continue to rise. But an extension or expansion of the expiring program will help move housing to firmer ground.

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