"A Cooling Trend" was the title given to Freddie Mac's September 2006 Economic
Outlook released recently. In keeping with the seasonal theme, the report, issued
by the Office of the Chief Economist, projected a cooling trend for the balance
of the year, "with occasional frost and warmer conditions as we move into next
Too cute by half, but the report goes on to emphasize the importance the housing
sector has been to the overall economy during the recovery from the 2001 recession.
In fact, more and more it looks as though it was not an economic recovery as
much as it was a housing boom. During the period from quarter
four of 2001 though the same quarter in 2005, real residential fixed
investment (RFI) grew at 8.4 percent annualized while the real gross
domestic product grew at 3.0 percent. Employment growing out of construction,
home selling, and mortgage lending was responsible for 2 out of 5 jobs created
during that four year period. It has long been clear that housing was driving
much of the recovery but this states it as baldly as I have ever seen.
So now that housing is slowing down, the drop in housing starts and home sales
has pulled RFI down in each of the last two quarters to a rate of 5.2 percent
when annualized for the first two quarters of 2006. The forecast says that economic
growth short term will be sustained by growth in business investment spending
and consumer spending and that the consumer spending is still being fueled by
home equity wealth.
It would seem that home equity wealth will necessarily also start to wane as
house price appreciation returns to normal levels so I guess we have to hope
that something will take up the slack. House price appreciation was at an annualized
rate of 15.4 percent during the second quarter of 2005; during the second quarter
of 2006 it was 4.9 percent.
But the country is still looking at the third best year ever
for the housing industry; 2004 and 2005 hold the record. Home values are still
increasing in most places and eight out of nine home financers continue to pull
equity out of their homes.
The narrowing gap between fixed rate and adjustable rate mortgages will continue
to drive consumers toward fixed rate products which, given the concern about
rate shock, is a good thing. The report
projects that ARMs will move from
representing 25 percent of all mortgage originations in Quarter Two of 2006
to 21 percent by the end of the year.
Mortgage originations are expected to be "frosty," i.e. at the
lowest rate in six years as adjusted for inflation, but "a spring thaw
is expected" as the housing market lands softly.
The forecast noted that mortgages
rates have dropped nearly 40 basis points from mid-summer highs and projected
an average for the 30-year fixed-rate mortgage of 6.5 percent in the second
half of the year with fluctuations as high as 7 percent. This 6.5 average is
down one basis point from August expectations.
Housing starts were down 2.5 percent in July alone and are
off 13 percent since July 2005 while sales of new and existing homes dropped
4.3 and 4.1 percent respectively in July. Both starts and sales are expected
to trend downward over the remainder of this year and all of 2007. The forecast,
however, suggests that this drop will not continue at the accelerated July rate.
Starts are now expected to total 1,860,000 this year, a retrenchment from the
1,900,000 forecast in August while total home sales, both new and existing,
are projected at 6,870,000, somewhat less than the 6,900,000 estimated last
month and 2007 sales are expected to total 1,710,000 a little less than the
1,730,000 in the August forecast..
Home price appreciation reflects the softening demand for
housing and the increased inventory of homes for sale. Appreciation was down
to 4.9 percent in the second quarter and is expected to finish the year at an
annual average of 6.7 percent - a decided contrast to the 13.3 percent appreciation
recorded last year. It is also a decline of 0.4 percent from the annual appreciation
projected by Freddie Mac last month.
We have learned over the months that this report is most informative when its
more important projections are read side by side over several months. In this
light it appears that the housing
bubble may be deflating a little faster than Freddie Mac expected even one