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How Low Will Housing Go?

Thursday, August 23, 2007 | 11:02 AM

in Economy | Psychology/Sentiment | Real Estate

That question may be the key to the future actions of the Federal Reserve. One estimate of "How Low Will Housing Go?" comes from Jan Hatzius, Chief Economist of Goldman Sachs:

"Our working assumption has been that US home prices are about 15% overvalued. This relies on a simple "affordability" measure which essentially adjusts the home price/income ratio by the level of (nominal) mortgage rates. Depending on one's assumption about income growth, the likelihood of overshooting on the downside, and the length of the adjustment process, this suggests cumulative nominal home price declines of 5-15% in the next few years.

However, affordability is becoming an increasingly problematic concept because it ignores changes in credit availability and changes in nonconforming mortgage rates. Hence, it may be better to look at simpler price/income or price/rent ratios to get a sense of house price valuation. These paint a more dire picture.

Even if we assume that the long-term trend for price/income and price/rent is higher now than the average of the 1975-2000 period (because interest rates are likely to stay lower), cumulative nominal price declines of 15%-30% are possible."

That's not so different from what HSBC HomePulse wrote back in January 2006:

"We suggest that about half of the US housing market is frothy and that this ‘bubble zone’ may be overvalued by as much as 35-40%, after taking into account low interest rates and tax advantages.

Current valuations imply a large permanent reduction in the risk premium and/or a sizable step up in future capital gains, not all of which, we think, is justified. The ‘bubble zone’ accounts for 50% of US GDP, or over USD, nearly the size of the German, French, and UK economies put together. In other words, it’s big. Therefore, when these housing bubbles begin to deflate, it is likely to have substantial macroeconomic consequences.

What’s troubling is that even a perfect ‘soft landing’ in the form of flat national house prices would be consistent with a 35-40% collapse in existing home sales. The gush of liquidity from mortgage equity withdrawal would dry up, resulting in a growth drag worth over 3% of GDP. If this adjustment can be managed over many years (and hopefully it will), the economy can avoid recession and get away with soft growth.

If the process is squeezed into a shorter time frame instead, then recession is probable, forcing the Fed to once again consider unconventional policy options – a probability that would only rise if the money supply were to decline at the same time the ‘bubble zone’ deflates."

Whenever I hear anyone suggest that these events were totally unforeseeable, I know that person is full of $%#*.

Source:
A Froth-Finding Mission: Detecting US housing bubbles
HSBC Macro US Economics, January 2006
http://neweconomist.blogs.com/new_economist/files/HSBC_frothfindingmission.pdf

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Comments

In today's paper:

More Las Vegas homes head to auction block

http://www.lvrj.com/business/9328851.html

Posted by: Ken M. | Aug 23, 2007 11:15:11 AM

> this suggests cumulative nominal home price declines of 5-15% in the next few years

I believe 15-30% declines over next few yrs.

Posted by: km4 | Aug 23, 2007 11:26:17 AM

Limbo lower now.............limbo lower
how low can you go?

Alot lower if the inventory is still where it's at. Oh add in the restrictive (and getting worse) lending issuers and you have the perfect set-up for private equity having some provision written to allow them to loan to individuals under a gov't sponsored umbrella. As was posted yesterday get the name "america" into the program and you now have an instant ticket to get whoever the GOP wants elected as all of there friends (hedgies) will have saved the world form credit oblivion (and make even more money)while taking those irresponsible lenders out of the system because they have proven that they can't handle it.

Sounds far-fetched???? Not really when you consider how many lenders are removed from the system each day.

March/April 08 is when this happens.

Ciao
MS

Posted by: michael schumacher | Aug 23, 2007 11:30:28 AM

Especially if a nasty recession hits. So many homeowners and investors have never seen a real ugly recession. The 70's were brutal, to say the least.

Posted by: jds | Aug 23, 2007 11:32:26 AM

As cccrazzy credit is being pulled by banks and as mortgage brokers go belly up, it is going to continue to get ugly fast.

Consider that you get a subprime mortgage a few years ago for about 1/2 the rate you get this week, this in effect has *DOUBLED* the cost for a monthly-payment shopper. Or it has *HALVED* the amount of house they can buy. This is a 50% drop.

Here is a great summary of Countrywide's recent mortgage lending standard changes:
http://forums.irvinehousingblog.com/discussion/624/countrywides-new-rate-sheet/

Posted by: Mr. Beach | Aug 23, 2007 11:36:58 AM

When rents to housing prices make sense, then we are at a bottom, but that is so far off that there is no telling how low it goes. Knowing that assets pricing can overshoot the mean by a substantial amount, we all must be aware that it can undershoot the mean by just as much. It will be ugly, and it will last far longer than the talking heads are willing to admit. I'm looking for a bottom sometime in 2009 to 2010 timeframe. IMHO.

Posted by: SPECTRE of Deflation | Aug 23, 2007 11:43:11 AM

too much negative talk....let me lighten it up.

i expect inflation to go up due to all the liquidity injections all over the world.

which means wages will go up, which means asset prices (including houses) will be sustained around the current level...which means MBS will not lose more than 20% of their value.

of course for all this to happen...we have to survive the next 30-120 days without a crash.....if investors panic....i am not sure $2 trillion of cash can save this economy from going into recession.

BTW i am bearish by nature....but i dont want to bet on the short side.

Posted by: techy2468 | Aug 23, 2007 11:44:36 AM

we've had plenty of "injections" over the past year so these, by all means, are not new operations. Yet wages have been stagnant throughout those operations....why do you think they will rise now? Especially with all these financial "professionals" being shown the door.......

Ciao
MS

Posted by: michael schumacher | Aug 23, 2007 11:48:19 AM

Barry, I just found this regarding FL which is one of the bubble states. Not a pretty picture, and it adds color to what know is happening in all areas of the US. From Housing Bubble Blog:

Just The Beginning Of The Declines In Florida

The Dow Jones Newswires report on Florida. “One Bal Harbour may look like just another sign of excess in Miami’s oversaturated condo market, but to developer WCI Communities the luxury tower represents crucial cash. WCI launched the project during the housing boom, when developers rushed to fill what seemed to be an insatiable demand for housing, particularly condominiums.”

“In the time it took to earn approvals for and build the condos, the housing bubble popped. That has left Florida awash in a record number of condos. South Florida alone has about 65,000 listed for sale.”

“There’s been an 80% drop in new condo sales in the last year and tens of thousands of more units should flood the market in the next 24 months, leaving ‘many years’ worth of inventory,’ according to broker Mike Morgan. ‘From here on out, it’s just all downhill,’ he said.”

“Warned Alex Barron, an analyst with Agency Trading Group: ‘It’s going to be a bloodbath.’”

“Industry watchers wonder if the building, which has already been delayed, will actually open on time. After touring One Bal Harbour Saturday, Morgan said a lot of work remains. ‘I did not see enough activity to demonstrate they are even trying to hit a September closing,’ he wrote in an email to clients. ‘With the overall market imploding, this is not a good sign for WCI.’”

The Naples News. “In a conference call, Jerry Starkey, WCI’s president and CEO, called it a ‘tough quarter,’ saying the company continues to focus on generating cash flow, reducing costs and moving inventory. ‘It continues to be a tough environment for homebuilders throughout the country and for WCI particularly in Florida — and more specifically in the tower business,’ he said.”

“In the quarter, WCI recorded impairments and write-offs of $36 million before taxes. New orders declined more than 50 percent. Over the past 16 months, WCI has reduced its work force by more than 33 percent, shedding 1,300 employees. More cuts are coming, Starkey said.”

“(An) upturn may not come for another four or five quarters, he said. The company has also ‘put the skids’ on land spending, Starkey said.”

“In the tower division, revenues declined 99 percent to $2.1 million from $214.4 million a year ago, in large part due to defaults. There were 68 defaults, far outnumbering the 11 new orders.”

The Orlando Sentinel. “A prominent South Florida developer with more than a dozen big condo projects under way in the Miami and Fort Lauderdale areas is pressing ahead with plans for a condo-hotel in Celebration near Walt Disney World, despite a slowdown in condo sales and projects statewide.”

“The Related Group will open a sales office this fall for the Icon Celebration, a 441-unit condo-hotel with hotel services, Chairman Jorge Perez said this week. The Related Group has more than 11,000 condo units under construction or in the final stages of preparation for development in South Florida, mainly from West Palm Beach south to Miami.”

“‘We have slowed down, but we are continuing to move forward,’ Perez said.”

“He said he will begin construction on the first of two buildings for Icon Celebration as soon as he has firm commitments for about 130 units, about 50 percent of the first phase. He said he could not predict how long it would take to sell that many units in today’s market, plagued by slumping demand and falling prices.”

“‘That’s the million-dollar question,’ Perez said.”

“One downtown project, the Lexington at CityPlace, recently filed for bankruptcy protection, while others have been put on hold as they compete for investors and buyers of conventional condos. ‘There’s just a lot of them out there,’ Anne Rogers, broker in Orlando, said of the condos now for sale.”

“Florida’s soaring home-foreclosure rate was still 78 percent higher last month than it was a year ago.”

“‘I don’t think the worst is here yet,’ said Dan Dowling, president of a mortgage brokerage in Altamonte Springs. ‘For many of them, there’s just no escape, no remedy,’ he said, other than to let the home revert to the lender through foreclosure.”

“Dowling said the level of frustration among those trying to sell their homes month after month in the face of record gluts of properties for sale is rising even in Central Florida.”

“The ‘credit crunch’ scare of recent weeks has made people even more fearful, he said, and some are beginning to sell their homes for 50 percent to 60 percent below the appraised value, in desperation, if they find a buyer willing and able to close quickly.”

“‘These are people with equity, and options, but they just need the money. There’s just a general sense of depression among a lot of sellers out there,’ Dowling said.”

From TC Palm. “Frank Lodico’s business has more than doubled in just a year. ‘We’re seeing more than five times the amount of foreclosures here,’ said Lodico, VP of (a firm) which serves foreclosure papers on Treasure Coast homes. ‘I just had (served) six this morning…and I’ve never seen it like this before in my whole 12 years here.’”

“‘On July 30, I surpassed what I processed during the entire year of 2006,’ said Nancy Bennett, supervisor of the civil division for the St. Lucie County Clerk of the Courts. ‘Now we’re having to come in on Saturdays to process them — last Friday alone 60 (foreclosure) cases went up before a judge.’”

“‘The biggest resets of (adjusted rate mortgages) will work its way through October and March,’ said Brad Hunter, director of the housing research firm Metrostudy in West Palm Beach.”

The Miami Herald. “If you’re in the market for a mortgage these days, you’d better have good credit and be willing to come up with a substantial down payment on your dream home.”

“‘Lenders are definitely demanding better credit scores, and they’re stricter with appraisers’ to avoid inflated home values, said Ines Hegedus-Garcia, a Realtor in Miami Shores.”

“Lenders have pulled back from these large loans if they exceed the threshold for purchases set by the government-sponsored entities Fannie Mae and Freddie Mac. ‘We are seeing a rolling credit crunch,’ said Kenneth Thomas, a Miami-based economist and banking analyst. ‘Money is still out there, but [banks are] going to be requiring a lot more’ to get loans done.”

“Carlos Fernandez-Guzman, senior executive VP of Neighborhood Banking for BankUnited, said the bank has reacted to the changing lending environment by requiring 20 percent down payments as well as escrow accounts.”

“‘We have tweaked the credit lines further,’ said Fernandez-Guzman, who noted the bank isn’t in the subprime business. ‘That’s not to say that there isn’t room always for tightening a little bit more.’”

The Associated Press. “The National Association of Realtors expects membership rolls to decline this year for the first time in a decade. The Florida Association of Realtors currently has about 154,000 members compared with more than 161,000 last year at this time, but expects flat membership by year-end.”

“Nancy Riley, president of the Florida Association of Realtors, said membership more than doubled since 2001 and stood at 169,434 last year.”

“‘Most people getting out got in just to make a quick buck,’ Riley said, blaming tax issues, insurance costs and the media for the perception that Florida’s real estate market continues to falter. ‘It’s not doom and gloom,’ Riley says, insisting the state is gearing up for another population boom.”

The Palm Beach Post. “Palm Beach County’s property appraiser on Tuesday mailed more than 620,000 property tax notices, and the preliminary bills show two things homeowners haven’t seen in years: Falling values and falling tax bills.”

“Of the 620,647 residential and commercial properties in Palm Beach County, fully 364,835, or 59 percent, are worth less this year than last, said John Thomas, assistant director of residential appraisal services at the property appraiser’s office.”

“Palm Beach County home prices have been in a slump since late 2005, as a speculative frenzy ended and the number of homes for sale continues to grow.”

“Thomas couldn’t say how much the average decline was, but some homeowners saw drops of 10 percent or more. Because the property appraiser’s values are based on the price on Jan. 1, Thomas predicted another drop in values on next year’s tax bills.”

“‘At least in my opinion, that’s just the beginning of the declines,’ Thomas said. ‘Unless things change radically, you’ll probably see it go down again next year.’”

Posted by: SPECTRE of Deflation | Aug 23, 2007 11:52:11 AM

Another point: will the dramatic drop in housing credit availability effect consumer spending?

As credit tightens and as prices drop, it is inevitable that cash-out-refis will drop dramatically in volume and amount.

With less spending cash, aren't we finally on the edge of a consumer slowdown?

Posted by: Mr. Beach | Aug 23, 2007 11:54:32 AM

Now I've heard EVERYTHING. The pot calling the kettle black:

"Mozilo also accused a Merrill Lynch & Co. analyst of "irresponsible behavior" in suggesting in a research report this month that Countrywide might face a possible bankruptcy if market conditions worsen."

Posted by: karen | Aug 23, 2007 11:56:19 AM

I do not know how low housing will go,

but my best guess is 30% lower in the next 5 yrs and 50% in some areas.

For the seller-price/expectations have to drop, the buyers are also going to have to realize that ultra cheap money is gone (for now)

and until then all bets really are off.

Posted by: MarkTX | Aug 23, 2007 11:57:29 AM

I am with you on this MS....but keep in mind...in the past the injections were very small volume just to keep the liquid in play.

but now its do or die situation for the whole world. and the root of the problem is around $2 trillions worth of papers, right? (i am just guessing, correct me if i am wrong).

what if all the countries got together....and lent money keeping those papers as collateral.....not for 30 days....but something like 2-3 years....so that credi market can be managed in a orderly fashion....do you think they wont do it??

look at it this way. if usa goes into recession.
* all the exporters including oil producers will be badly hit.....they dont want that to happen
* dollar will tank...that means their current holdings will shrink, so why not put that into play to prop it up for a while

Posted by: techy2468 | Aug 23, 2007 11:58:22 AM

Spectre-

I am well versed in what has transpired at WCI. I have made some decent $$ on put options and can tell you that none of it's fundamentals have had anything to do with how the stock has or will trade. Having said that I can also say that they are basically ground zero for implosion in Florida. It was only Carl Icahn's attempt at a short squeeze that has put off the decline, by almost a year, but that did'nt stop them (WCI) from continuing to issue guidance that was pulled out of there own asses, $1 billion in FCF projected in March for THIS YEAR.

WCI deserves whatever it gets but the fools who rode it down are still in control and are still carping about "shareholder value" as the stock went from over 22 a share to under 10 at present. Those bonds are what Icahn and his cronies are after......they represent the real value..

Ciao
MS

Posted by: michael schumacher | Aug 23, 2007 12:01:02 PM

Karen-

Yes I recall that anaylst said that the day before CFC tapped it's credit line.

"yea we're ok but we needed over $13.5 billion from 41 banks and 2 billion was in the form of a dilutive secondary (call it what you want but that's what it is) to be in the same shape we were in 6 months ago".

Coincidently Mr. Mozilo is still on his options dumping spree

http://finance.yahoo.com/q/it?s=CFC

What a crock of shit this guy is......let's pop out a secondary AND keep dumping shares....but we're all good.

Ciao
MS

Posted by: michael schumacher | Aug 23, 2007 12:07:01 PM

A 30% drop is maniacally optimistic.

I worked as a marketing manager for a major east coast builder for the past 10 years. Got out last year when I realized their delusions regarding the future of the market were chronic and had no correlation to the reality of the situation (at this point, I have downgraded my diagnosis from chronic delusion to congenital defect).

The RE market, generally, and new home builders, specifically, will never return to the types of products we have come to expect during Pax Americana. The numbers, when viewed realistically, no longer support the advancement American dream.

When the housing market comes back, it won't look anything like it does today.

I have a market-responsive product developed, investors lined up, and and I'm waiting for market/economic forces to drive the buyers our way. The model counts on low PPU, in return for huge market share.

Making money in a trashed economy. Is this a great country, or what?

Posted by: Marcus Aurelius | Aug 23, 2007 12:08:31 PM

here is the snowball just starting down the hill, NYC is next!

http://www.bloomberg.com/apps/news?pid=20601109&sid=aMobif4B74eg&refer=home

Posted by: PegofLI | Aug 23, 2007 12:10:56 PM

Now I've heard EVERYTHING. The pot calling the kettle black:

Posted by: karen | Aug 23, 2007 11:56:19 AM

Here's a little something from Greenberg regarding (T)angelo. Hey Tangelo I have an idea. You want to restore investor confidence? Then take the hundreds of millions you have made, and inject all the proceeds in CFC. Otherwise, please shut the Hell up.

Was Merrill Analyst on Countrywide 'Irresponsible'?
In his interview on CNBC today, Countrywide (cfc) CEO Angelo Mozilo said the analyst at Merill Lynch who put a "sell" on his company was "irresponsible" and not unlike yelling "fire in a crowded theater." Sorry, Angelo, you are wrong. The analyst, who used to work at Countrywide, was merely doing his job. At that point there was no telling what would happen to Countrywide -- a public company. The analyst's obligation was to his clients, not to Countrywide's customers or the image of Countrywide. That he switched from a "buy" to a "sell" before upgrading again just shows how fast-moving this fire was. This is just the latest in a growing effort to bully and intimidate analysts who are trying to do the right thing.

Posted by: SPECTRE of Deflation | Aug 23, 2007 12:22:41 PM

Postscript to my comment above about the pot calling the kettle black:

The ML analyst was not acting irresponsibly to my thinking, just calling a spade a spade.

Hey, it just occurred to me that as rumor had it Buffet did get his piece of CFC (via BAC.)

Posted by: karen | Aug 23, 2007 12:25:20 PM

pego can you post few keywords....unable to copy the link you posted

Posted by: techy2468 | Aug 23, 2007 12:29:25 PM

Spectre-

Ciao
MS

Posted by: michael schumacher | Aug 23, 2007 12:01:02 PM

MS, here's some info on WCI by Mike Morgan:
http://www.treasure-coast.us/weeklyupdate08-18-07

WCI Bal Harbour – I made a trip to Bal Harbour this week, and what I saw even surprised me. There remains a great deal of work before they can close. We have been hearing about a September closing. That will never happen. From what I saw, and what I have seen, there remains at least 90 days of work before they can get a final CO and close on these units. My clients will receive photos of this trip and more detail. Here is one photo of the north side of the project.

The work yet to be done includes outdoor amenities areas, front entrance, North side of the property and a great deal of interior work, as well as exterior finishes. I did not see enough activity to demonstrate they are even trying to hit a September closing.

While speaking with workers at the site, I heard the gamut of a September closing to a January/February closing, and even a few chuckles with no date. With the overall market imploding, this is not a good sign for WCI.

WCI Bal Harbour Listings – Another drop in the number of listings as buyers realize they can’t get a mortgage if their unit is listed. Here’s the real kicker. While we saw a drop in listings, we saw a lot of new listings. Some folks get it, and others are going to learn the hard way. But getting a mortgage to close is not the only problem facing these flippers. The big problem is falling prices . . . daily.

Let’s start with the two big penthouse units listed at $13.5M and $11.9M. They are no longer in the MLS. As for prices . . . unit 2108 was listed at $7M last week . . . now it is yours for just $6.3M. Or you could buy a better view, two floors higher in unit 2308 for the same $6.3M. This unit was $6.5M last week. How about unit 703 listed last week for $2.95M and now $2.2M. That’s a 25% drop in one week . . . and still no units at Bal Harbour have gone Pending. Do you get the picture? For more on pricing, call me.

WCI Rumors – I’ve heard them all from Steve Cohen allegedly increasing his SAC stake to buyers looking at the equity, and Icahn making a new bid. I simply can’t believe anyone would make the same mistake Icahn made . . . and there is no hidden value. The Gulf Coast properties at Westshore, Hammock Bay, and Old Colony are dead in the water with flippers falling over each other to lower prices. Tuscany is a ghost town. On the East Coast, Oceanside is a complete bomb with estimates of 60-70% of the units sold. This may be there worst project. Lousy location, overpriced for the market, and I can’t see more than 30-40% of the buyers actually closing. That puts WCI at a 20-30% closing rate in Oceanside. Then you must ask who pays the condo fees and insurance on the remaining 70-80% of the units.

I’ve received several calls from people showing an interest in buying all or parts of WCI. Let’s face it, if anyone does step up to the plate they have several insurmountable obstacles from dealing with the bond holders to carrying costs on projects that are not selling. It’s not a triple whammy. It’s a complete knock-out. More color for clients.

WCI Notes – Second quarter results are due for release on Wednesday, with a pre-release warning of $34-$54M in impairments and a projection of $530-$730M in case flow. The impairments are not enough, and I don’t see how they even hit the low end target of cash flow. It will be interesting to see where they think this cash is going to come from.

Posted by: SPECTRE of Deflation | Aug 23, 2007 12:30:51 PM

The money has already been made on WCI, from a trader's perspective.....;-)

Ciao
MS

Posted by: michael schumacher | Aug 23, 2007 12:37:49 PM

Many things are unforseeable when your heads up your butt.

Posted by: Bob A | Aug 23, 2007 12:37:50 PM

And Down and Down We GO:

BIGGEST RISE IN LATE LOANS SINCE 1990

(Bloomberg) - U.S. banks and thrifts suffered the biggest increase in late loan payments in 17 years as more homeowners fell behind on mortgages, the Federal Deposit Insurance Corp. said.
Loans more than 90 days past due rose 10.6 percent to $66.9 billion in the period ending June 30, the largest quarterly increase since 1990, the FDIC said in its Quarterly Banking Profile released today. Loans more than 90 days past due grew 36.2 percent from $49.1 billion in the second quarter a year ago, the largest 12-month increase since 1991.

At least 90 U.S. mortgage companies have halted operations or sought buyers since the start of 2006, according to Bloomberg data.

BLOOMBERG

Ah, like Father like Son.
.

Posted by: VJ | Aug 23, 2007 12:45:38 PM

Hey, Barry. Remember how much you liked my piece, "The Fundamentals of Market Tops?"

http://www.thestreet.com/p/_rms/rmoney/davidmerkel/10136569.html

I had a second piece which I entitled "The Fundamentals of Real Estate Market Tops," though the editors changed the title.

http://www.thestreet.com/p/_rms/rmoney/davidmerkel/10224469.html

I wrote it in May 2005. It was easy to see coming, and I even caught the inflection point.

http://www.thestreet.com/p/_rms/dps/cc/20060901/columnistconversation1.html#entryId10306971

Not that I am always right, but someone paying attention to the dynamics of the mortgage markets could see this coming.

Posted by: David Merkel | Aug 23, 2007 12:49:53 PM