Spooked by declining home prices and rising delinquencies/foreclosures, lenders are now becoming more restrictive when issuing residential loans, approaching levels not seen since the post-S&L crisis of the early 1990s. The Federal Reserve’s most recent Survey of Senior Loan Officers indicates that roughly 16 percent of respondents tightened credit standards in the first quarter of 2007.
The graph below illustrates the strict tightening that took place during the housing market downturn in the early 1990s, as well as the lax guidelines that prevailed from 2004 through 2006.
Our grading system of the economy and the housing market is a “bell curve” model, with statistics at an all-time high receiving an “A,” statistics near the long-term average receiving a “C,” and the worst times ever receiving an “F.” In this grading system, it is OK to be a “C” student.
Here is our current report card:
Economic Growth: C
Expansion within the U.S. economy is slowing, as evidenced by the recent GDP growth revision to 0.6 percent from 1.3 percent, the lowest quarterly increase since the fourth quarter of 2002. However, May ushered in stronger-than-expected job data, providing a glimmer of optimism. Year-over-year retail sales and personal income both declined during the month of April, along with core CPI.
Leading Indicators: C-
While the U.S. stock market continues to rally, marginal corporate profit growth, a flat yield curve and high oil prices all point towards moderate economic expansion. All of the major stock market indices continued to climb in May, with the Dow, S&P 500 and Wilshire 5000 reaching new all-time highs. Although investors have shunned home builder stocks during the recent stock market rally, the S&P Super Homebuilding Index improved for the second consecutive month, and is currently down only 7 percent year-over-year. Corporate profits for the first quarter of 2007 rose 6.3 percent year-over-year. The yield curve is currently flat, as both 10-year and 2-year Treasuries stand at 4.84 percent. Oil prices continue to remain high and are unlikely to decline in the coming months, as the peak summer driving season is now upon us.
Mortgage Rates: C+
Mortgage rates increased during the month of May, but continue to remain near historical lows. The 30-year fixed mortgage rate increased to 6.42 percent in May, while one-year adjustable rates increased to 5.57 percent. Adjustable-rate loans continue to decrease as a percentage of total loans, falling to 18 percent of total loan activity in the last week of May, which is less than half of the 35 percent figure witnessed during the peak of the housing market in 2005.
Consumer Behavior: C+
High gas prices and a tough housing market are having a minimal impact on consumers’ perceptions of the overall economy, as both Consumer Confidence and Consumer Sentiment increased in May. That said, the current stock market rally and buoyant job market are likely outweighing consumers’ pessimistic concerns about the economy.
Existing-Home Market: C
The existing-home market continues to suffer, as April sales declined to 5.99 million annualized units, equating to a sequential drop of 3 percent and year-over-year drop of roughly 11 percent. The NAR continues to revise downward its outlook for 2007 existing sales and prices. Specifically, year-over-year existing sales are now forecast to decline 5 percent in 2007, with prices falling 1.3 percent over the same period. We believe the NAR sales data is overstated, and their 2007 estimates are wildly optimistic. Inventory levels, a vital indicator in today’s oversupplied market, rose to 8.4 months in April, representing a 38 percent year-over-year increase. Alarmingly, inventory levels now stand at their highest level since August 1992.
New-Home Market: D+
In April, new-home sales increased 16 percent sequentially to an annual rate of 981,000, representing the biggest one-month rise in sales since April 1993. We don’t believe these sales volumes are accurate, given what has happened to our clients’ businesses. The one factor propping up sales is that the number of communities is up substantially over the last few years. There is no doubt that sales per community have dropped significantly. The rosy Census data conflicts with the downward NAHB index trend, as well as the order trends reported by the public builders.
Housing Supply: D+
Housing starts increased in April, though permits (a leading indicator) witnessed their most precipitous sequential decline since February 1990. Starts increased to a seasonally adjusted annual rate of 1.53 million in April, representing a sequential increase of roughly 2.5 percent, and a 16 percent year-over-year decline. Building permits declined roughly 9 percent sequentially in April, and are now down 28 percent year-over-year to a seasonally adjusted annual rate of 1.06 million.
John Burns is the founder of Real Estate Consulting in Irvine, Calif., which monitors changes in real estate market conditions and provides consulting services, including strategic planning, market research and financial analysis. He can be reached at firstname.lastname@example.org.
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