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New data show housing market ‘in freefall’

Bloomberg News
October 3, 2007

WASHINGTON — The number of Americans signing contracts to buy previously owned homes dropped to the lowest level on record in August as the housing recession deepened.

“The existing homes market is now in freefall,” said Ian Shepherdson, chief U.S. economist at High Frequency Economics Ltd., in Valhalla, N.Y. “The downside from here is still substantial.”

The National Association of Realtors’ index of signed purchase agreements fell 6.5 per cent from the previous month, the group said yesterday. The decline was more than economists anticipated and pushed the measure to the lowest level since the organization began tracking purchases in 2001. The gauge plunged 11 per cent in July.

Higher credit costs and lending restrictions after the collapse in subprime mortgages may push the industry downturn well into 2008. Market futures contracts show the Federal Reserve will probably cut rates later this month to avert spillover from the credit squeeze and keep the broader economy expanding.

Compared with a year earlier, pending home sales were down 22 per cent. Purchases declined in all four regions of the country, led by a slide of 9.5 per cent in the South. The smallest drop was in the West, which notched a fall of 2.7 per cent.

So far, the Fed’s half-point rate cut on Sept. 18 has failed to lower mortgage rates and boost demand. Buyers have been further constrained by the tighter lending standards and the shutdown of mortgage lenders such as American Home Mortgage Investment Corp. in early August that closed off access to credit.

“Fewer contracts were being written because of mortgage-availability issues,” said Lawrence Yun, a senior economist at the real estate agents group. “More than 10 per cent of sales contracts fell through at the last moment in August, primarily the result of cancelled loan commitments” from lenders.

“There is still no bottom in sight,” said Joshua Shapiro, chief U.S. economist at Maria Fiorini Ramirez Inc., a New York forecasting firm. “Sales will continue to fall until there is a greater price capitulation by sellers. It still appears that we have not reached market-clearing prices to reduce the inventories of unsold existing homes.”

Other housing market indicators have pointed to a second leg down after concerns over subprime mortgage defaults caused credit markets to seize up in mid-August. Sales of previously owned homes fell in August to the lowest level in five years, the Realtors group reported Sept. 25. Two days later, the Commerce Department said new-home sales declined to a seven-year low and median prices dropped the most since 1970.

The stock of unsold homes rose to a record of 5.1 million in August, forcing builders to further scale back projects. Housing will continue to hinder the expansion after already reducing growth for the last six quarters, economists say.

As stockpiles climbed and sales fell, home prices in 20 U.S. metropolitan areas dropped 3.9 per cent in the 12 months through July, according to the S&P/Case-Shiller index. The decline was the biggest since record keeping began in 2001. Lower home values threaten to hurt consumer spending by preventing owners from tapping equity for extra cash.

Mounting foreclosures are adding to the problem. The number of Americans who may lose their homes more than doubled in August from a year earlier, according to a Sept. 18 report by Irvine, Calif.-based RealtyTrac Inc.

Is the credit crisis over? Not so fast

Reuters
October 2, 2007

NEW YORK (Reuters) – The audacious rise in the Dow industrials to a record will do little to prevent the millions of new “For Sale” signs likely to dot U.S. lawns soon.

Fears of mounting foreclosures and predictions of a lackluster holiday season remain even in the face of Dow 14,000, which has removed some, but not all, uncertainty about the faltering U.S. housing market.

At the root of investors’ anxiety are so-called subprime loans made to borrowers with shaky credit. Delinquencies are rising on subprime mortgages and defaults are piling up at record rates as home prices sink, pressuring consumers’ desire to spend.

The ripple effect from the slump in housing doesn’t stop there. Strains still exist in the U.S. credit markets even though there are signs of easing in the global liquidity squeeze, which was triggered by a lack of confidence in financial markets as subprime mortgage defaults soared.

Already, the housing slowdown has subtracted about 1 percentage point from growth in inflation-adjusted gross domestic product so far this year.

“I don’t think the worst is over,” said Robert Arnott, chairman of Research Affiliates LLC, a Pasadena, California-based investment management firm.

“We are coming off the greatest lending bubble — not housing bubble! — in U.S. history. We will feel its impact for a very long time.” For more investor comments see (ID:nN02411723: Quote, Profile, Research)

Falling home prices are leaving subprime borrowers who took out adjustable-rate mortgages with a major dilemma. Millions with subprime mortgages, which go to borrowers with checkered credit histories, are faced with negative equity in their homes that could make it increasingly unlikely they will qualify for new mortgages in an environment of tighter lending standards.

At current home prices, about $693 billion in ARMs are “already under water,” according to Stephanie Pomboy, financial economist at MacroMavens in New York.

TWIST OF THE ARMs

That’s frightening news for banks that already have absorbed losses on their balance sheets due to delinquent subprime borrowers. The losses so far amount to about 10 percent of the forecast of $100 billion in losses.

“The disturbing number here isn’t 10 percent … but the $100 billion,” Pomboy said.

With nearly $700 billion in ARMs in negative equity facing interest-rate resets, “depending on how much lenders can ultimately recover, this implies (bank) losses will be more like $210 billion to $346 billion,” she said.

“And that’s assuming the situation doesn’t get worse.”

In July, Federal Reserve Chairman Ben Bernanke had estimated the losses at $100 billion at the most.

But it appears Bernanke had underestimated those figures and their effects on the consumer.

In September, the Fed took the benchmark federal funds rate, which governs overnight loans between banks, down an aggressive half-percentage point to 4.75 percent, its lowest since May of last year. The Fed also cut the discount rate it charges for direct loans to banks by a half-percentage point to 5.25 percent.

“With the reset wave about to gather intensity and ‘For Sale’ signs dotting the lawns of 5.1 million homes across the country, the credit hit parade has only just begun,” Pomboy added.

Aside from the resetting of interest rates on home mortgages and falling home prices, both leading to a slowdown in consumer spending, Arnott of Research Affiliates is concerned about slumping home construction.

That, he said, was 5-plus percent of Gross Domestic Product at the latest housing peak. He puts the odds of recession around 60 percent.

TIGHT CREDIT HANGOVER

Indeed, September was a record month for investment-grade issuance of about $100 billion, but that came as conditions in the commercial paper market remained tight.

Since August, U.S. commercial paper outstanding shrank by $370 billion, with commercial and industrial loans also helping to pick up some of the slack. Now, those loans are growing at the fastest rate in more than 20 years, Goldman Sachs’ chief U.S. economist Jan Hatzius wrote in a research report published late on Monday.

All told, the stock market is underpinned by powerful factors. U.S. equities appear cheap relative to many asset classes, especially since Wall Street has been a laggard in the global equity rally over the last several years. And now that many oil-exporting countries are flush with cash, they’ve been putting that surplus money to work in higher-yield securities in the United States.

“Investors with new money to put into the marketplace probably will be less interested in certain other real asset classes, like houses, because the luster has come off the sector,” said Keith Wirtz, president and chief investment officer at Fifth Third Asset Management in Cincinnati.

Ironically, equity markets have created the least amount of “grief” for investors in this cycle, he added.