Tuesday, April 11, 2017

Gary Shilling latest views on US housing and its effects on the economy


By many measures, the U.S. housing market seems in very good shape. The National Association of Realtors in Washington said last week that contracts to buy existing homes jumped 5.5 percent in February, the biggest increase since July 2010. Fannie Mae’s National Housing Survey showed that Americans expect home prices to rise a robust 3.2 percent over the next year as its sentiment index reached a record high.

So, are boom times ahead for housing? Not quite. To understand why, it helps to revisit recent history. The housing bubble of the early 2000s was driven by subprime mortgages and other loose-lending practices. The subsequent collapse left many potential new homeowners with inadequate credit scores, not enough money for a down payment and insufficient job security to buy a house. They also saw, for the first time since the 1930s, that not only house prices fall nationwide, but nosedive by a third. Homeownership plunged and those who did form households moved into rental apartments instead of single-family houses. 
That drove rental vacancy rates down and starts of multi-family housing -- about two-thirds of which are rentals -- up to 396,000 units, more than the earlier norm of 300,000 starts at annual rates. But single-family housing starts -- even with the rebound to an 872,000 annual rate from the bottom of about 400,000 -- are still far below the pre-housing bubble average of more than 1 million.

Despite the recovery in house prices, rents have risen at a much faster pace. As a share of median income, rents have jumped while mortgage costs have fallen. The latest data from the National Association of Realtors show its Housing Affordability Index was up 52 percent in the fourth quarter of 2016 from the early 2007 low.

Even with conditions shifting away from rental apartments in favor of single-family housing, the homeownership rate is unlikely to rise from the current 63.7 percent to anything like its fourth quarter 2004 peak of 69.2 percent because of the reasons listed earlier. Many believe that because of the rise in Americans in the first-time homebuying age range of 25 to 44, there is a huge batch of households just waiting to buy single-family houses or at least rent more apartments.

Demographics are important in the long run, but that can be the very long run. There is little correlation between the number of U.S. households and the population aged 25 to 44. The speculative boom in housing in the early 2000's and the subsequent collapse were far more important to the broad universe of households than the number of people in the prime ages for buying or renting.

The one-third plunge in home values shocked house flippers by proving that prices can and do fall significantly. Many believed that prices not only always rise, but climb faster than overall inflation. But real house prices were essentially flat for more than a century. They leaped almost 100 percent during the bubble before falling, and are not yet back to the long-run average. I look for a reversion to the mean that could last just as long.

The current homeownership rate is essentially at its long-term average before the bubble. So it’s not at a depressed level just waiting to leap. In fact, the rate, which averaged 66.7 percent during the boom and bust, may be subdued for years if the previous long-run average of 64.3 percent is still valid. And it might well be, now that the bloom is off the ownership rose.

Just as house prices and homeownership leaped in the bubble and then collapsed, so did the effect on GDP of housing’s rise and fall. The cumulative contribution to real GDP from the second quarter of 2000 to the fourth quarter of 2005, including residential construction spending and consumer spending on home maintenance, etc., was $183 billion. But the subsequent drop to the bottom in the first quarter of 2012 subtracted $393 billion. So the round trip boom-to-bust result was a negative $210 billion.

That net loss was 1.5 percent of average GDP during the cycle, but the total impact was much worse because of the distorting effects of the huge rise and then even bigger drop in housing. On the way up, many who were not financially equipped to own houses got sucked in by mortgages that required no documentation of income and assets -- “no doc loans” -- or they took out “liar loans” by submitting numbers that had no verification. Many believed the pitch from mortgage lenders that they’d never have to make a monthly payment on a zero-down loan because the appreciation of their houses would permit refinancing, even with cash-out before the first installment was due.

Not only did most of those folks suffer as their mortgages were foreclosed, but many who didn’t had negative equity in their houses as values dropped below what was owed on the mortgages. So they could not refinance as mortgage rates fell. Then there are all the unsuspecting investors who bought pieces of securities backed by subprime mortgages that were rated AA or A by ratings firms but in reality were worthy of D, or default, ratings. And default many of them did.

Housing has recovered from the depths, and a shift from rental apartment buildings to single-family construction is under way. But don’t look for anything like the boom of the early 2000's, and the stimulating effects it had on the overall economy.

via bloombergview