Housing Bubble vs. Housing Market Slowdown
The central issue addressed by the April 2006 Economic Outlook
issued by Freddie Mac on Monday is the conflict created between the strength
of the economy and the increasing lack of housing affordability.
Freddie's Office of the Chief Economist cites the strong employment numbers
for the first quarter of 2006, a total of 590,000 jobs created during those
three months; an unemployment rate of 4.7 percent, the lowest in over four years;
and average hourly earnings which are up 21 cents since the end of 2005. But
the report is quick to temper this rosy employment picture, stating that many
of the new jobs are in states where the housing market has made purchasing a
single-family home a tough stretch for average families.
The report points to two regions of the country, the West and the Midwest to
illustrate what it calls an inverse relationship between job growth and housing
affordability. The West Coast has seen the greatest job creation, adding 610,000
jobs from February 2005 to February 2006. However, a median income family could
purchase only 81 percent of a median priced home in that region. The Midwest
showed the poorest rate of job creation, adding only 224,000 jobs (the two regions
are fairly equal in population) during the same period but, in the Midwest a
median family could qualify to purchase 164 percent of a median house. And this
discrepancy is growing; the difference between the fastest house growth region
and the slowest was at 12 percent last year compared to four percentage points
a decade ago. Therefore, families are increasingly hard pressed to find a good
job and a house they can afford without a very, very long commute.
The report goes on to tie this lack of affordability to the growth in the popularity
of adjustable rates mortgages and especially to nontraditional ARM
products such as negative amortization and interest only loans. Use of these
types of loans is often the only way families can qualify for a mortgage in
these high cost communities. According to data from LoanPerformance quoted in
the report, interest only and negative am loans including the
so-called option mortgages represented 31 percent of all ARMs
in 2005 as compared to 11 percent two years earlier. The Outlook draws no conclusions
about the ramifications of this increasing reliance on what are generally regarded
as risky ways to finance a home.
Freddie is projecting that long term interest rates will rise only
slightly, ending 2006 at 6.5 percent, a figure close to what they have
been projecting for many months, and interest only and option
payment hybrid ARMS will continue to drive the use of ARMS beyond what would
be expected given the narrowing difference in interest rates between long term
loans and ARMs. It projects that, while the inverted or flat yield curve (which
creates that decreasing difference) will remain for at least the rest of 2006,
low introductory or "teaser" rates that artificially depress ARM rates in order
to keep that product marketable. The estimate for a 1-year Treasury Indexed
ARM rate is 5.5 percent average for this year and 5.7 percent in 2007. Freddie
expects that the ARM share of mortgages will continue to average around 27 percent
for the remainder of the year, close to the current share and that single family
loan originations overall will moderate by 13 percent to an estimated 2.45 trillion
dollars this year. Most of this decline will be accounted by the volume of refinances
which is forecast to fall from a 44 percent market share in 2005 to 36 percent
Housing starts have remained so strong that the Outlook has
revised its March forecast for the first quarter of 2006 from 2.04 million starts
on a seasonally adjusted basis to 2.21 million units. Estimates for the remainder
of the year are much lower, dropping from an annualized 1.98 million in Quarter
Two to 1.86 million in Quarter Four. This would put the year-long estimated
total at 1.99 million units, 4 percent lower than 2005.
Total home sales have slipped during the first two months to 7.07 million seasonally
adjusted units so the Outlook now forecasts 7.46 million units for the year,
a decrease of 7 percent from the record sales recorded in 2005.
On everyone's favorite topic, home price appreciation, Freddie is no doomsayer.
While prices are no longer expected to be increasing by double digits, the report
is anticipating a healthy increase of 8.7 percent although
with the caveat that the stronger piece of this growth will happen, or may have
already happened, in the early part of the year. Peering even further into the
future, the report projects continued appreciation of 7.0 percent in 2007 and
6.3 percent in 2008.