Wednesday, July 30, 2008

The real cause of the subprime lending bubble

There's an interesting post by Annette Haddad at the L.A. Land blog citing a new report issued by UC Irvine's entitled "Subprime Lending and the Housing Bubble: Tail Wags Dog?" The report argues that it was actually the departure of Fannie Mae and Freddie Mac from the lending market in 2003 due to their accounting scandals and related political pressures. From the blog:

When Fannie Mae and Freddie Mac pulled back from the credit markets in 2003 and significantly slowed their lending volume in response to internal accounting problems and outside political pressure, the breach was filled by aggressive securities issuers in the private mortgage market.

And helping to fuel them on was an enthusiastic administration pushing the "dream of homeownership" without a whole lot of regulatory restraint. As a result, total mortgage volume skyrocketed and pushed up home prices "with momentum characteristic of a bubble," the study says.

Although cynics might be put off by the sponsors of the report, which included the Mortgage Bankers Association, the NAR and FreddieMac, I thought it interesting that Economy.com co-founder Mark Zandi also touches on this same subject in his book "Financial Shock: A 360-Degree Look at the Subprime Mortgage Implosion, and How to Avoid the Next Financial Crisis."

Case-Shiller numbers by metro area

The Developments blog at the Wall Street Journal has summarized the most recent changes in the Case-Shiller index by metro area. I've sorted them by level of pain below:

Metro Area May 2008 Change from April YOY Change
Las Vegas 161.04 -2.90% -28.40%
Miami 193.19 -3.60% -28.30%
Phoenix 157.32 -2.50% -26.50%
Los Angeles 198.59 -1.90% -24.50%
San Diego 178.03 -1.40% -23.20%
San Francisco 162.7 -1.20% -22.90%
Tampa 177.14 -0.80% -20.20%
Detroit 92.61 -1.20% -17.40%
Washington 199.23 -1.00% -15.40%
Minneapolis 140.12 0.60% -14.80%
Chicago 150.03 -0.30% -9.40%
Cleveland 108.88 -0.60% -8.00%
Atlanta 124.41 0.60% -7.90%
New York 193.88 -0.50% -7.90%
Seattle 178.67 -0.50% -6.30%
Boston 160.35 1.00% -6.20%
Portland 175.53 0.40% -5.20%
Denver 129.72 1.00% -4.80%
Dallas 121.61 1.00% -3.10%
Charlotte 133.16 1.00% -0.20%

The S&P/Case-Shiller home-price index, a closely watched gauge of U.S. home prices, show price declines continued to worsen in May, with every region measured showing year-over-year drops for the second straight month.

According to the indices, home prices in 10 major metropolitan areas fell by a record 17% from a year earlier and 1% from April. In 20 major metropolitan areas, home prices dropped 16% from a year earlier — another record drop — and 0.9% from April.

Seven areas managed to avoid price declines for the month, with the Boston, Charlotte, Dallas and Denver regions all posting 1% increases. Charlotte and Dallas are the only areas to have three consecutive months of month-to-month growth. Boston, Portland and Denver have had two straight months of increases.

Year-over-year, Las Vegas and Miami were again the weakest markets, each posting 28% declines. They were also the worst performers month-to-month, with Las Vegas down 2.9% and Miami dropping 3.6%.

Here in L.A., the annual drop was 24.50%. There are some theories abounding that we may hit a bottom in pricing earlier than in previous housing busts and then bump along the bottom before slowly rising after 2010 to 2012.

I also keep seeing comments on blogs that renting is much cheaper than buying, etc., and how smart people were early in the decade to wait this cycle out. But in my case, I'd spend 42% more to RENT my own home today than what I currently pay for my mortgage, taxes and HOA fees -- and that's before factoring in the tax advantages of homeownership.

Of course I bought in 2003, so that makes a big difference, but I'd still argue that once home prices offer cash-flow neutrality for income property investors, that should help create some type of pricing floor, so it's hard for me to imagine falling to 2001 prices without investors rushing in to take advantage much earlier. The wild card? Lack of credit, which could likely lead to an over-correction in income property prices and reward cash buyers.

Builders hurt by housing bill?

It looks like the housing bill so quietly signed into law by President Bush both giveth and taketh away from homebuilders. Although it permanently raises the limits on FHA loans to 115% of the median household income and offers a unique $7,500 tax 'credit' (i.e., a loan that must be paid back over 15 years), it also eliminates the down payment 'charities' that some builders said helped up to 30% of their buyers leap over the down payment hurdle and close the deal. The Wall Street Journal explains:

Although a bill aimed at reviving home sales and curtailing foreclosures is about to become law, some of its provisions are proving a drag for the nation's large home builders...

There have been months of intense lobbying by the building industry, but analysts say the legislation is a mixed bag for the new-home market. On the bright side, the bill shores up mortgage giants Fannie Mae and Freddie Mac, which should help restore some confidence in the mortgage market. It also provides a $7,500 tax credit to stimulate demand among first-time home buyers.

But for the builders, the bill's elimination of seller-funded down-payment assistance on mortgages backed by the Federal Housing Administration is a big loss -- one that could eliminate as many as one in 10 home buyers from the market, according to an analyst.

Starting in October, buyers using FHA loans can no longer accept down-payment "gifts" that are ultimately funded by the home seller, often a builder. Currently, the FHA allows a nonprofit group to gift the down-payment to the buyer. The nonprofit group is then reimbursed by the builder -- a practice the housing bill would stop...

Miami-based Lennar Corp. used down-payment assistance on 33% of the mortgages it originated in the second quarter, while Ryland Group Inc. said 18% to 20% of its buyers used down-payment assistance during the first half of the year...

Complicating matters further for the builders, the housing bill would increase the down-payment requirement on FHA loans to 3.5% from 3%. Previous versions of the measure had lowered the down payment to 1.5%.

"There will undoubtedly be some impact, but we believe the buyers will adjust and the market will adjust," says Tim Eller, the chief executive of Centex Corp, which said that 25% of its sales in its fiscal year ended March 31 involved down-payment assistance...

On a brighter note, builders say the housing bill could boost higher-end sales by raising the conforming-loan limits on Fannie- and Freddie-guaranteed loans and FHA loans to a maximum of $625,000 in some high-priced areas.

But many of those higher-end sales will depend on whether buyers can sell their current homes, often to first-time home buyers, which is why builders say the tax credit will help the overall market.

Monday, July 28, 2008

Is your bank going to fail?

I got an email from the very popular finance blog Bankaholic.com today about how to predict if your bank is about to fail (I'm with Wells Fargo, so I still feel pretty safe since they didn't do sub-prime mortgages and would only lend up to 80% of available equity with home equity lines and loans). Here are Bankaholic's top 3 signs your bank might be in trouble (other than the police being called to stop fights between people in line, of course):

1) Is your bank offering outlandishly high CD rates and savings rates?

Banks that offer high interest rates are desperate. All banks get a lot of their capital through brokered deposits. Professional money brokers are paid commission to go out and solicit deposits for the banks. HOWEVER, under Section 29 of the FDI Act, implemented by Part 337 of the FDIC Rules and Regulations, banks that are deemed “under-capitalized” by federal regulators are restricted from accepting brokered deposits. Instead, banks in trouble need to entice deposits from individuals by offering exceptionally high rates.

2) Does your bank lend heavily in California, Florida, or Las Vegas?
These were the hottest real estate markets in the last few years, but what goes up must come down. These markets are now seeing huge declines in property value and increases in foreclosures. For example, PNC Bank is actually holding up quite well because they do not do business in these areas.

3) Is your bank being slaughtered on the stock market?
Institutional stock traders, mutual funds, and hedge funds know what they doing. They pay analysts heaps of money to review balance sheets of banks... About a week before they went under, I did a story pointing out that Indymac Bancorp had become a penny stock. Indymac was offering an exceptionally high 4.45% APY 1 year CD at that time as well. Oh, and to make things worse, Indymac’s core business was financing ALT-A home loans in California! TRIPLE WHAMMY.

P.S. IndyMac FEDERAL Bank (the post-takeover name) is now offering 9-month CD rates of 4.15%. How did I know? A banner ad at Bankaholic.com -- but now you can be assured it's not going to fail (again).

Notes on Real Estate Connect

After years of attending builder conferences, it was a great change of pace to attend Brad Inman's Real Estate Connect last week in San Francisco. Besides near-perfect weather, the event offered a chance to meet and hear from some of the Internet's boldest and fastest-moving companies in the real estate space and to meet one of my favorite bloggers behind Calculated Risk.

I'm supposed to be covering the event in more detail for the online version of Builder magazine, but look for the same musings be posted here over the next couple of days.

Tribune Company closes several real estate sections

The Times (pun intended) they are indeed a-changin'.

Yesterday the L.A. Times published its final separate real estate section, which also means an abrupt end to my short-lived side career as a freelance writer for the paper. Editor Lauren Beale -- with whom I had a really great experience and will likely benchmark that against future editors -- posted her goodbye to the section on the L.A. Land blog:

In case you missed the announcement today in Real Estate, because of reductions in staff and space, the Sunday Real Estate section has printed its final edition.

Real estate coverage will continue to appear online throughout the week. Hot Property, Neighborly Advice and the occasional Pardon Our Dust remodeling tale will appear in print as part of the new Saturday Home section. Home of the Week, Southland home-price charts and other features will appear in Sunday Business. Real estate articles will appear in both sections...

It has been an honor and a joy to serve readers for the last eight years as editor of a section that started in 1901, according to The Times official chronology. Under the headline, "A Good Steady Market," the tone then was optimistic:

"While there is nothing that could even by courtesy be called a boom in real estate just now, yet 10 years ago we should certainly have characterized the present condition of the market by that name."

Ah, for a good, steady market.

And please ignore some of the more mean-spirited comments below her post on what I thought was a very heart-felt salutation by Ms. Beale. Clearly some readers of the L.A. Land blog have been without their psychoactive meds for a bit too long!



Wednesday, July 23, 2008

Limited blogging this week due to Real Estate Connect

There will be limited blogging this week due to my attendance at the Real Estate Connect conference in San Francisco. I will catch up on Friday afternoon and over the weekend, and normal blogging will resume next week.

Thursday, July 17, 2008

Why a new home market rebound may be delayed

A funny thing happened on the way to the housing bust: rising foreclosures of newer homes, which are increasingly competing with homes offered by builders in both price and quality. In the past, the new home market often rebounded faster than existing resales, but this time might be different. I pulled some stats from the early 1990s and compared this downturn with the last one and summarized it in my latest column for Builder & Developer magazine:

Whereas in the past homes being auctioned on the courthouse steps or offered by the REO departments of lenders were often old and in need of updating, many of today’s foreclosures are newer homes that increasingly compete with unsold new home inventory. The trend is startling: with buyers enjoying rising home equity during the first half of this decade and low teaser rates offered on sub-prime and Option ARM loans from 2004 through 2007, mortgage delinquencies either fell or rose very slightly, generally less than 2%. But as these loans began to re-set and borrowers found themselves unable to finance due to negative equity, by the first quarter of 2008 delinquencies spiked up by 30% and the first stages of foreclosures skyrocketed by 71% on the heels of a 40% jump a year earlier.

It seems reasonable to assume that such record jumps in housing inventory – homes that will have to be discounted in price to sell – will impact both the timing and trajectory for a new home market recovery.

Wednesday, July 16, 2008

SoCal home values down to 2004 levels, but not everywhere

There's a story in today's L.A. Times citing the latest Dataquick statistics, and of course the news remains grim: sales down by 13.6% from last June and median prices falling by over 29%:

The median home sales price was $355,000 in June, down 29.3% from a year ago. Home values are now on par with what they were in early 2004... The volume of home sales did rise 3% from May, but analysts attributed that uptick to bargain hunters snapping up foreclosed homes at steep discounts. Foreclosed homes made up 41.1% of the homes sold in June, the first time the percentage has topped 40% in this real estate cycle. Last June, foreclosed homes made up just 7.3% of home sales... Price declines continued to be more severe in the Inland Empire, where overbuilding was more prevalent. But Los Angeles and Orange counties recorded median price declines of 24% and 23%, respectively, in June from a year ago. Year-to-year price declines in L.A. and Orange Counties had remained below 20% as recently as March.

However, these are still regional stats, and specific neighborhoods perform differently due to proximity to employment, transit, shopping and other factors. That's why I really liked the following map created by Tim Nebb, who blogs for the Los Angeles region for Redfin. Here's what he found:






I wanted to see at a glance how different areas of the Valley fared in this decline. So I used
DataQuick’s Southern California home resale data for May as published in the Los Angeles Times and filtered it for Valley zip codes and cities. I combined and averaged the single-family home data - condo data excluded - for cities and neighborhoods comprising multiple zips like Glendale (8 zip codes), Burbank (5) and North Hollywood (4). Then I sorted the cities by per cent decline from the year before.

So is this accurate? For my particular piece of Sherman Oaks, I'd say yes. Maps like this are also a great opportunity for local papers such as the L.A. Times, the Daily News, etc., both in print and online. Assuming, of course, they have the staff to create them.

A primer on FDIC deposit insurance

Confused about FDIC insurance? You're not the only one, and have about 300 million other residents of the U.S. in equal company. I think that this country seriously needs to consider adding a Consumer Finance course to all high school curricula, because it seems that most banks have done a really poor job of educating people about FDIC insurance and it limits.

Here's a good primer from a MarketWatch.com article:

If you are sitting on deposits of over $100,000 at any bank, you are at risk.

Do you have too much money in the bank? Don't panic. You don't need to start running around, shopping for a dozen banks to hold your money. At least, not yet.

First, find out if your bank carries additional insurance. The great news for folks in Massachusetts is that all state chartered banks are required to carry additional coverage through the Depositors Insurance Fund. DIF covers all deposits over the FDIC limits, so depositors don't have to do a thing. See this page for more information.

That's great for Massachusetts residents. What about the rest of us?

It turns out there is no national insurance program for all banks. However, there is an interesting alternative. It's called the Certificate of Deposit Account Registry Service, or CDARS. See this page for more information.

If your bank participates in the program, you can have up to $50 million dollars in Certificates of Deposit and still have full FDIC coverage for your funds.

How does it work? You deposit money into CDs at your bank. Your bank spreads the CDs out among enough other banks to ensure that the part of your money in each bank is under the FDIC limits. In other words, you get the benefit of having 5, 10, or even 50 bank accounts with less than $100,000 in each account -- without the headache of opening, tracking and managing all those accounts yourself.

All you have to do is sign a document agreeing to allow the bank to spread your money around. CDARS says there are no additional fees to you. And you only get the one bank statement.
Without sitting on endless hold with your bank, how can you find out whether it participates in CDARS? Just go online and see. You can look up your institution, and if they aren't listed, you can find one near you that is a participant. See this CDARS page.

Before you move your money, have a friendly chat with your banker and urge them to join the program. If they're too busy to bother, then it's time to move your money to get full protection.

Now's the time to understand what part of your money is protected and what part isn't. Banks protected by the Federal Deposit Insurance Corporation insure accounts as follows -- you can have a separate account in each category:

  • $100,000 for a single depositor (owned by one person, in the name of one person).
  • $200,000 for a joint account (owned by two people, in the name of both people).
  • $250,000 retirement accounts, including traditional and Roth IRAs, SEP IRAs, SIMPLE IRAs, Section 457 deferred compensation plan accounts (self-directed or not), self-directed defined-contribution plan accounts, self-directed Keogh plan (or H.R. 10 plan) accounts. See this FDIC page for more information.
The FDIC also insures revocable trust accounts, insuring the interests of each beneficiary up to $100,000 for each owner if all of the following requirements are met:
  • The beneficiary is the owner's spouse, child, grandchild, parent, or sibling. Adopted and stepchildren, grandchildren, parents, and siblings also qualify. In-laws, grandparents, great-grandchildren, cousins, nieces and nephews, friends, organizations (including charities), and trusts do not qualify.
  • The account title must indicate the existence of the trust relationship by including a term such as payable on death, in trust for, trust, living trust, family trust, or an acronym such as POD or ITF.
  • For POD accounts, each beneficiary must be identified by name in the bank's account records.

Tuesday, July 15, 2008

Housing Chronicles hits 6 million headline views

Thank you to Blogburst for helping The Housing Chronicles Blog finally claw its way to 6 million headline views since February of 2008 distributed as follows:

Top 10 Publishers (All History) for Housing Chronicles



Total Views
Reuters 5,758,709
FoxNews 142,716
Chicago Sun Times 75,994
Livestrong 14,711
IBS 5,203
Wall Street Journal 3,506
Palm Beach Post 709
Computer Shopper 333
usatoday.com 235
CT Green Scene 209

A market patiently gets its payback

I've always been somewhat amused at pundits who think that the free market, like some magic wand, will automatically right all wrongs in an economy without some severe consequences to those who played by the rules. Of course what they don't consider are things that have more to due with human failings than simple theories of supply and demand, such as greed, deliberate secrecy and politicians (and their appointees) looking the other way because doing so means re-election and/or continued paychecks. In other words, "it's all about me." So does that make me a cynic? Writing in USA Today, David Lynch (not the director) might not think so:

This is no ordinary economic crisis, and it won't be over anytime soon. In fact, problems are multiplying. A year ago, the financial virus seemed confined to subprime mortgages, defaults on loans given to those with less-than-perfect credit. Now, much of the banking system appears rickety, and the U.S. economy has slowed to a crawl. But thanks to robust demand from still-growing countries such as China, the prices of commodities from oil to food have soared — hitting Americans from the gas pump to the grocery checkout...

For nearly a decade, consumers grew accustomed to the idea of ever-rising home prices. Housing-related prosperity boosted consumption, as consumers tapped home-equity loans for cash to pay for everything from new cars to college for the kids. As the boom roared on, regulators stood on the sidelines, convinced that the magic of the market would sort out any problems.

"It seemed too good to be true, and it was. Absolutely (today) is payback," says Rogoff, former chief economist of the International Monetary Fund...

The combination of galloping prices and stagnant activity leaves Fed officials with a tough call on future interest rate moves.

If anemic growth were the only problem, the Fed could cut interest rates to jump-start economic activity. Likewise, fast-rising prices alone would argue for higher rates to cool off the economic engine. But an economy poised to tumble into recession, even while prices are steaming higher, leaves Bernanke in one-armed paperhanger mode...

The economy is going through what analysts call "deleveraging," a fancy way of saying debt repayment. During the housing boom, Americans and their financial institutions borrowed way too much money. Now the bills are coming due — economywide. And that's what is making things so tough in so many different ways.

"It's not like your standard business cycle recession. … The trouble with this deleveraging recession is it's self-reinforcing. … I don't like to be pessimistic, but the relentless flow of bad news is just something we're going to have to get used to," says George Magnus, senior economic adviser for UBS in London.

How bad might it get? Perennial doomsayer Nouriel Roubini, who calls this "by far the worst financial crisis since the Great Depression," predicts stocks will fall 40% from their peaks. That translates into a Dow of 8568 — a level not seen since 2003...

But it's the banking sector that likely will see the most significant activity. The housing crisis has left financial institutions with deeply wounded balance sheets, as the mortgage securities they hold have turned out to be worth far less than once believed.

Major global banks now need to reload by raising money — lots of it. Even after scraping together $350 billion over the past 12 months, the U.S. and European financial systems remain undercapitalized, says Mohamed El-Erian, co-CEO of Pimco in Newport Beach, Calif. He calls the current predicament "a crisis at the core of the global capitalist system" and likens the banking sector's woes to a car running desperately short of oil.

At the White House, in a question that seemed to echo Franklin Roosevelt's day, a reporter asked Bush if the banking system is in trouble.

"I think the system basically is sound," Bush replied.

Yah. Uh-huh. SURE it is....

One thing is clear: Government involvement in the financial system is expanding in ways that even the most fervent socialist could only have imagined one year ago. This week's federal proposal to help mortgage giants Fannie Mae and Freddie Mac, including opening the door to future government ownership stakes in the firms, is an "earthshaking event," Rogoff says.

And not an isolated one. It comes after the Federal Reserve has stretched its legal mandate and found creative ways to grease the financial system's levers. In March, the Fed midwived the sale of investment bank Bear Stearns to rival JPMorgan Chase in a bid to head off broader problems.

An era marked by regulators' light touch is at an end. "The system got carried away with financial innovation or financial engineering," El-Erian says. "Regulators didn't recognize how quickly things were moving. Now they're catching up."

Monday, July 14, 2008

The late, great Los Angeles Times?

Although this isn't a housing-related post, since I've been recently writing a few freelance stories for the L.A. Times, the news of publisher David Hiller's departure today is certainly noteworthy, especially on the heels of the departure of a Chicago Tribune editor. From an AP story:

The Los Angeles Times says publisher David Hiller has resigned after 21 months at the helm of Tribune Co.'s largest paper.

The news comes the same day Chicago Tribune editor Ann Marie Lipinski resigned from Tribune's flagship paper, continuing a string of executive defections amid a broad cost-cutting effort at the company's papers nationwide.

Hiller was the third publisher to lead the Times since Tribune Co. bought the paper in 2000. Predecessor Jeffrey Johnson was ousted in late 2006 when he balked at trimming newsroom staff to cut costs.

The Times said two weeks ago it will cut 250 positions, including 150 in the newsroom. The paper did not immediately name a successor.

Signs of a housing rebound?

The cover story for the 7/14/08 edition of Barron's magazine has controversial in that it's calling for a bottom in the housing market. How can that be? Read on:

Home prices are down nearly 18% from the market's peak, according to Case-Shiller, and inventories of unsold homes are at near-record levels. Foreclosures are mushrooming on "subprime" properties, or homes whose purchase was financed with subprime debt. Blowback from the crisis has left mortgage-finance giants Fannie Mae (ticker: FNM) and Freddie Mac

(FRE) financially strapped, while many other lenders lack the stomach -- or money -- to offer new mortgages. Noted market experts such as Pimco bond-fund manager Bill Gross and economist Mark Zandi of Moody's Economy.com predict the meltdown in housing will continue for many months, with home prices declining by 10% or more from today's depressed levels.

Yet, such pessimism appears overdone, based on much recent data. Sales of existing homes are showing tentative signs of increasing, while the plunge in prices likely is nearing an end. Total inventories fell in May to 4.49 million existing homes for sale, or a 10.8-month supply at the current sales pace, down from an 11.2-month supply in April, according to the National Association of Realtors, in just one statistic emblematic of the nascent trend.

YES, THE SUPPLY OVERHANG still is humongous, but at least the numbers are moving in the right direction, as even Treasury Secretary Henry Paulson noted last week. Speaking at a Federal Deposit Insurance Corp. conference, Paulson declared that "we are well into the adjustment process." Inventories of new single-family homes are down 21% from a 2006 peak, he observed, while "existing-home sales appear to have flattened over the past several months, indicating that demand may be stabilizing."

Still other numbers suggest prices are close to bottoming. The S&P/Case-Shiller Index for April, released just last month, showed the biggest year-over-year price decline yet, of 15.3%. Buried in the numbers, however, and widely ignored in the media, was the news that home prices actually rose, albeit slightly, between March and April, in eight of the 20 markets covered by the index (Boston, Charlotte, Chicago, Cleveland, Dallas, Denver, Portland, Ore., and Seattle). This was in sharp contrast to the readings for March, which showed prices falling in 18 of the 20 surveyed markets. Also, the pace of monthly price declines is starting to slow in most of the markets with negative readings...

In general, transaction-based home-price indexes, including S&P/Case-Shiller, may be painting a bleaker picture of price trends than warranted. That's because subprime housing, though less than 10% of the total U.S. housing stock, accounts for a far larger share of current sales volume, owing to spiraling defaults and distress sales. In the San Francisco area, expensive homes ($721,548 and up) have suffered a peak-to-trough drop in price of only 10.7%, compared with low-priced homes ($473,711 and under), down 40.9%, and mid-range homes, down 28.3%, according to the latest Case-Shiller numbers. The surge in low- and mid-range sales has been sufficient to push average peak-to-trough prices down by 24.6%, despite the index's valuation-weighting.

Help for the housing market also may be on the way in the form of proposed congressional legislation that would allow the recasting of some $300 billion in troubled subprime mortgages through the Federal Housing Administration. The bill, which some have derided as a bailout, would demand sacrifices by both lenders and borrowers, and could help to ease conditions in the subprime market.

Of greater importance, a government takeover of loss-ridden Fannie and Freddie -- the subject of widespread speculation late last week -- would ease concerns about the continued availability of credit in the housing market. Fannie and Freddie, which buy mortgages from banks and repackage them into mortgage-backed securities, are the biggest source of financing for the U.S. mortgage market...

SURPRISINGLY, CHIP CASE, whose knowledge of the housing market goes back decades and is based on the voluminous collection of data, is among those who think home prices may be nearing a bottom. Case notes, among other things, that new housing starts fell to 975,000 in April from a peak rate of 2.27 million in January 2006, and that three declines of similar magnitude -- from more than two million to less than one million -- have occurred in the past 35 years. "Every time this has happened before, housing-market activity has rebounded within a quarter and caught experts by surprise," he says. "In many areas, particularly outside the overbuilt markets of Arizona, Florida and Nevada and the huge bubble market of California, home prices may well stabilize" and begin to recover before the end of this year.

Case acknowledges history might not repeat, as the U.S. could be on the cusp of a painful recession. Unlike the three prior dips of a million-plus starts -- in the first quarter of 1975, the second quarter of 1982 and first quarter of 1991 -- the latest slide was triggered by insensate speculation and suicidal lending practices rather than the traditional factors of rising unemployment and interest rates and slowing economic growth. Thus, he says, a protracted dip in the economy would temper his optimism, though the official measures of economic growth don't indicate a recession yet.

Jim Paulsen, chief investment strategist of Wells Fargo's primary investment unit, expects home prices to steady by year end, with the pace of foreclosures slackening shortly. Most of the subprime debt at the center of the current crisis already has been written down by financial institutions, he notes, while many subprime borrowers who lost their homes are returning to rental units. "Folks who compare this home-price cycle to the one that occurred in the early '80s obviously have short memories," Paulsen says. "In the 1980s the economy was in a deep recession, mortgage rates were at 17% or more, and unemployment [was] hitting a post-Great Depression high of nearly 12%."...

NAR economist Lawrence Yun is optimistic home prices will stabilize in the next five months and begin to recover next year, despite today's gloom and overly stringent lending standards. NAR officials typically are cheerleaders, but Yun advances some reasonable arguments to buttress his view. Home sales, he notes, currently are running at a pace of about five million a year, around the same level as a decade ago. Yet, the population has grown by 25 million in the past 10 years, and the U.S. has created 10 million new jobs. Though the rate of new-household formation requires the net addition of 1.6 million housing units a year, housing starts likely will remain below one million into next year, creating pent-up demand in the years ahead...

Delinquencies, defaults and foreclosures hit the housing market with a rapidity and virulence unmatched in previous cycles, pushing total loans past-due and foreclosure rates to unprecedented highs. As a consequence, the current residential real-estate cycle has been front-end-loaded relative to past bear markets, which suggests the pain, though excruciating for many, may be shorter-lived than in the past. Early mortgage defaults have blunted the negative impact of subprime-mortgage-rate resets, which peaked in the spring, and are likely to curb the effect of interest-rate resets on option ARMs and other affordability products, expected to peak between 2009 and 2011. Many of these mortgages already are in the foreclosure pipeline, which will lessen the overhang of foreclosed properties in the future...

An ebbing tide of new delinquencies strongly hints that the worst may soon be over for the housing market, at least in terms of burdensome supply. The pig, in other words, is well along the python's alimentary canal.

In hindsight, the housing bust hasn't been nearly as calamitous as depicted in the media, or as Wall Street's woes might suggest. Yes, people have lost their homes, but more than a few were mendacious mortgage applicants and mere speculators, who eagerly sought out 100% margin loans, only to fold just as quickly when prices turned against them.

It is important to remember, as well, that even after a steep drop in the S&P/Case-Shiller Indices, long-term buyers in the top 20 U.S. metro markets have seen their properties appreciate by 70% since 2000. Home prices often take five to 10 years to recover fully from severe declines such as this. But at least the available data suggest the scary dive in home prices soon will be over.

On the other hand, TheStreet.com's Marek Fuchs insists that 'they' just don't get housing in this video:




More bank failures to come?

There are mounting concerns on Wall Street that other banks could follow IndyMac down the FDIC drain, which some attribute to the consequences of a long-term lack of leadership (i.e., since 2000) regarding the banking system. First, from a CNBC article (hat tip, Brian McDonald):

Chris Thornberg at Beacon Economics says, “IndyMac was the first major institution that wasn’t too big to fail.” He says as the Feds are busy worrying about “the big boys”—Fannie and Freddie—hundreds, maybe thousands, of smaller, regional banks will now realize they have no savior...

So who’s next? Two interesting takes on that.

Thornberg says, “We’re still early in this cycle.” He says regional banks don’t suffer the bulk of their problems until late in a credit downturn. We can expect to see home loan delinquencies to continue to spread to personal loans, car loans and student loans. He also says the next big shoe to drop is regional banks with a lot of exposure to builders, including commercial builders who are building condos or other projects that will fail...

“A lot of people are blaming Chuck Schumer,” Thornberg says. “All Chuck did was point out what investors should’ve known all along. IndyMac was in big, big trouble.”...

Richard Bove at Ladenburg Thalmann has a different take on who may be next. In a report, he looks at all the FDIC-backed institutions, comparing each bank’s bad loans to its overall assets through two ratios...

Bove blames regulators for not doing much of anything to prevent us from getting to this point. “Regulators should have the courage to stand in front of a mania and stop it,” he says. “This requires a courage that simply is not in evidence in Washington either on the positive or negative side.” He’s concerned about what happens next. “All of the actions are to deepen the trend. It really is beyond inexcusable for top policymakers to argue that large financial institutions should be allowed to fail. It is, of course, just as inexcusable to look the other way while excesses are driven through the system.”

Next, from the New York Times:

As home prices continue to decline and loan defaults mount, federal regulators are bracing for dozens of American banks to fail over the next year...

The nation’s banks are in far less danger than they were in the late 1980s and early 1990s, when more than 1,000 federally insured institutions went under during the savings-and-loan crisis. The debacle, the greatest collapse of American financial institutions since the Depression, prompted a government bailout that cost taxpayers about $125 billion.

But the troubles are growing so rapidly at some small and midsize banks that as many as 150 out of the 7,500 banks nationwide could fail over the next 12 to 18 months, analysts say. Other lenders are likely to shut branches or seek mergers...

Now, as the Bush administration grapples with the crisis at the nation’s two largest mortgage finance companies, Fannie Mae and Freddie Mac, a rush of earnings reports in the coming days and weeks from some of the nation’s largest financial companies are likely to provide more gloomy reminders about the sorry state of the industry.

The future of Fannie Mae and Freddie Mac is vital to the banks, savings and loans and credit unions, which own $1.3 trillion of securities issued or guaranteed by the two mortgage companies. If the mortgage giants ever defaulted on those obligations, banks might be forced to raise billions of dollars in additional capital.

The large institutions set to report results this week, including Citigroup and Merrill Lynch, are in no danger of failing, but some are expected to report more multibillion-dollar write-offs.

But time may be running out for some small and midsize lenders. They vary in size and location, but their common woe is the collapsed real estate market and souring mortgage loans. Most of these banks are far smaller than the industry giants that have drawn so much scrutiny from regulators and investors...

“Failed banks are a lagging indicator, not a leading indicator,” said William Isaac, who was chairman of the F.D.I.C. in the early 1980s and is now the chairman of the Secura Group, a finance consulting firm in Virginia. “So you will see more troubled, more failed banks this year.”

And yet IndyMac, one of the nation’s largest mortgage lenders, was not on the government’s troubled bank list this spring — an indication that other troubled banks may be below the radar...

The agency does not disclose which banks it thinks are troubled. But analysts are circulating their own lists, and short sellers — investors who bet against stocks — are piling on. In recent weeks, the share prices of some regional banks, like the BankUnited Financial Corporation, in Florida, and the Downey Financial Corporation, in California, have stumbled hard amid concern about their financial health. A BankUnited spokeswoman said the lender had largely avoided risky subprime loans...

An important issue for the regional and community banks will be whether they have managed to sell their riskiest loans to Wall Street firms.

And the government may have fewer failures than in the past because private investment funds might buy some troubled lenders. Regulators are considering rule changes that would allow private equity firms to buy larger shares of banks, and several prominent investors, like Wilbur Ross, have raised funds to leap in.

Friday, July 11, 2008

What will happen to Fannie Mae and Freddie Mac?

Want to get a good (and opinionated, but I like opinionated) summary of how Fannie and Freddie got into their current mess and what's likely to happen? First, be sure to check out Lou Barnes' latest edition of Mortgage Credit News:

The Fannie-Freddie story will be widely mis-reported, especially in those journals hostile to housing or to any intervention by government into markets.
The real story is a tale of public policy mangled by everybody connected to the two Agencies in the last 15 years -- both parties, two Administrations, eight Congresses, and real estate- and mortgage-industry lobbying...

The real story is very good news. Fannie and Freddie have high-quality portfolios, the only trash the “affordables” forced on them by Congress. A government takeover would wipe out stockholders, but might not cost a dime. Then the original charters will be restored: upon return of good times, both outfits will gradually sell their portfolios....

I have believed since August that a nouveau Resolution Trust Corp would be required to extract the worst of the assets, take stock in the institutions, and work out the trash over a long time. That extraction will work (we’ve done it many times), but I’m a tad nervous that we waited too long, damage from credit starvation now may be hard to stop, especially in housing.
Some good news: the same Congresspersons who insisted all fall and winter, “No bailouts! Punish the lenders!”, by this weekend began a different chorus. “Necessary evil... Regrettable but unavoidable.” About time, guys; and I hope in time.

To me, the knee-jerk 'no bail-out' crowd never seemed the grasp how intertwined the mortgage crisis is to the overall economy. After all, why learn about how the world works when you can simply shout out platitudes instead (you know, like the politicians!).

So where are we at now with the two mortgage giants? The Wall Street Journal summarizes in this article:

The government headed into the weekend deliberating the state of struggling mortgage giants Fannie Mae and Freddie Mac, with Treasury Secretary Henry Paulson insisting that any potential rescue plan not benefit the companies' shareholders, according to people familiar with the matter...

The discussions at Treasury highlight the dilemma created by the financial crisis gripping the U.S: Some institutions are considered too big to fail, but propping them up could erode the market's incentive to properly judge risk by offering investors a false sense of security.

After a week of near panic among shareholders of the two companies -- and a stomach-churning day on Wall Street Friday -- the next big test will come Monday when Freddie Mac is due to sell $3 billion of short-term debt. An unsuccessful sale could be a major blow to investor confidence. If the administration were to intervene, it could do so before markets opened that day, according to a person familiar with the deliberations...

How any rescue might be orchestrated remains unclear. The administration doesn't expect the firms to fail and it is "not talking about nationalizing" the struggling mortgage giants, according to a person familiar with its thinking. Mr. Paulson issued a written statement Friday saying that the administration's "primary focus is supporting Fannie Mae and Freddie Mac in their current form."

One possible option would have the government buy a chunk of Fannie and Freddie's preferred stock with terms that dilute the equity of common shareholders. The Federal Reserve could support Fannie Mae or Freddie Mac in a short-term funding crisis through its lending operations, which were extended to investment banks in March with the downfall of Bear Stearns Cos. A spokeswoman said Friday the Fed hasn't discussed that possibility with either company...

Investors are worried the firms will suffer more losses as mortgage defaults rise. Stock-market investors are also worried the companies will need to raise significant amounts of capital to cover those losses. For investors, that means the value of their ownership stakes in the company will be cut. Bond investors continue to lend to both companies, though they are also demanding slightly higher interest rates.

If a rescue becomes necessary, Mr. Paulson does not want to help the shareholders because of the "moral hazard" it would create -- desensitizing investors to risk because they believe the government will bail them out. It's a similar position he took during the government-orchestrated rescue of Bear Stearns by J.P. Morgan Chase & Co...

The crisis has been exacerbated by the strange hybrid nature of the two companies, which have prospered because they are seen as having the implicit backing of the U.S. government. Chartered by Congress to ensure a steady flow of money into housing finance, they can borrow cheaply because investors believe the government probably would rescue them in a crisis. Yet they are owned by private shareholders who want profit growth and dividends.

The implicit guarantee has allowed the companies to borrow at lower rates and buy more mortgages, providing a benefit to shareholders. There's a belief among many politicians and officials that it is the shareholders -- not taxpayers -- who should bear those risks because they benefited greatly in the past from the implied government backing.

The government has increasingly leaned on the so-called government-sponsored enterprises to provide stability to a housing market crippled by falling home prices and banks too nervous to lend...

"Do a little examination and ask yourself, 'What do you think the housing market in the U.S. would look like without the GSEs now?"' Richard Syron, Freddie's chairman and chief executive, said earlier this year.

The Bush administration has long worried about the systemic risk posed by the companies. The administration has pushed for a regulatory revamp, including a new, more powerful regulator to oversee them. Long-awaited legislation that would do that passed the Senate on Friday.

So how exactly do these two mortgage giants work and what would be the consequences of a bailout? A slideshow from the New York Times helps explain.

IndyMac now officially history

It's now official: the former IndyMac Bancorp has been shut down by the Office of Thrift Supervision taken over by the FDIC, making it the most prominent casualty of the mortgage meltdown (led in great part by its focus on no-doc loans). In its place on Monday will emerge a leaner, meaner IndyMac Federal Bank. From a CNBC story (hat tip to Brian McDonald):

IndyMac Bancorp has been shut down and its operations will be taken over by the Federal Deposit Insurance Corp., the regulator that oversees the retail bank said.

The Office of Thrift Supervision (OTS) said it shuttered the $32 billion bank, headquartered in Pasadena, Calif., on Friday. A successor institution, IndyMac Federal Bank, will open for business on Monday.

IndyMac becomes the biggest retail bank to fall victim to the U.S. mortgage crisis...

Schumer on Friday blamed the OTS and IndyMac itself for the bank's closing.

"IndyMac’s troubles, just like Countrywide’s, were caused by practices that began and persisted over the last several years, not by anything that happened in the last few days," the senator said in a statement. "If OTS had done its job as regulator and not let IndyMac’s poor and loose lending practices continue, we wouldn’t be where we are today. Instead of pointing false fingers of blame, OTS should start doing its job to prevent future IndyMacs."

Take that, OTS!


New Market Monitors Now Online

Interested in the markets of San Diego County, Orange County, Los Angeles & Ventura counties or the infamous Inland Empire?

I just finished updating Market Monitors for each of these areas for Hanley Wood Market Intelligence. These comprehensive reports include detailed stats on new home sales, prices and inventory as well as the local resale market, building permits, affordability indices, best-selling projects, general economic conditions and market concerns/opportunities.

Looking for a sample of what's included in these reports? Click here for a .pdf version.

Want to buy one of these recent updates? Then contact one of the Regional Sales Directors below, as they might be able to give you a better price than what you'd get from the website:

L.A. Ventura:
Greg Doyle (310) 791-6157 x 201

Inland Empire:
Mike Ellison (310) 791-6157 x 203

Orange County:
Catherine LaFemina (858) 245-2280 x 232

San Diego County:
Catherine LaFemina (858) 245-2280 x 232

Tuesday, July 8, 2008

IndyMac now considered a hopeless case

In the aftermath of the IndyMac meltdown, analysts now think rescuing it from the financial abyss is pretty much impossible. IndyMac was a pretty big player in the new housing industry, and was prominent as a sponsor at many industry shows and functions, so it'll be interesting to see if Prospect Mortgage, which has offered to hire many laid-off IndyMac employees, will take its place. From an L.A. Times story:

A day after IndyMac Bancorp's decision to sharply curb its lending and lay off 3,800 employees, the mortgage company's shares tumbled toward oblivion Tuesday, with at least two analysts warning that no value remained for shareholders.

IndyMac, which specialized during the housing boom in loans for borrowers who didn't document their incomes, has been inundated by defaults.

It announced after the stock market closed Monday that regulators no longer considered it well capitalized. It said it would shut all home lending except for reverse mortgages, which help older people access their home equity, and refinancings for current customers...

Prospect Mortgage Co., a 2-year-old company backed by Chicago private equity firm Sterling Partners, said it would take over 60 to 75 of the Pasadena savings and loan's retail offices, putting about 750 IndyMac employees on its payroll.

The deal's terms weren't disclosed, but it wasn't expected to generate significant cash for IndyMac.

Earlier Tuesday, Paul Miller, an analyst at Friedman, Billings, Ramsey & Co., cut his price forecast for IndyMac stock from $1 to zero, citing the thrift's statement that it had failed in an effort to raise new capital.

"Next Stop, Receivership," was the headline on a note from Jason Arnold, an analyst at RBC Capital Markets who also reduced his price target to zero, from $1.50.

IndyMac "will not survive without a material capital injection," Arnold wrote, calling the prospect of one unlikely because regulatory restrictions and mounting losses had left IndyMac's business model "arguably in shambles."

Housing Chronicles cited in latest Carnival of Real Estate

The 98th Carnival of Real Estate (a collection of blog posts submitted each week) is now online at the Transparent Real Estate blog, and has cited The Housing Chronicles Blog and given its "Hall of Mirrors" award (yes, it's a carnival-themed slideshow) to the blog post telling the back-story for my recent article on builder incentives for the L.A. Times.

Mortage regulators now plan to start regulating!

It may be a few years too late, but federal regulators are finalizing some new rules for mortgage lenders that would largely eliminate some of the loopholes with qualifying borrowers for adjustable rate mortgages as well as make it easier for them to refi into loans less onerous. From an L.A. Times story:

On Monday, the Federal Reserve is expected to require lenders to document borrowers' incomes and verify that they can afford their mortgage payments -- including the higher payments that come when adjustable-rate loans reset...

First proposed in December, the measures have been revised in recent months in response to public comment. Fed officials declined to describe the changes, but the regulations also are expected to limit bonuses paid to brokers for making subprime loans and restrict prepayment penalties for borrowers who want to refinance...

Some of those new rules also may include restrictions on the use of the word "fixed" to describe the rate of a loan that may adjust in the future and prohibitions on brokers influencing the appraised value of homes.

Lenders also may be required to give borrowers at least 60 days before their loan rates reset, a period during which they can refinance without penalty.

Paul Leonard, director of the California office of the Center for Responsible Lending, said that many of the federal rules, as originally proposed, were too weak. For instance, he noted that some of the practices proposed by the Fed would apply only to subprime loans but not to other nontraditional mortgages, including so-called no doc and interest-only loans that also have high rates of default...

On the other hand, the Mortgage Bankers Assn. has expressed concern that the new rules could impose burdensome requirements on lenders that would result in higher costs for borrowers...

Also Tuesday, California Gov. Arnold Schwarzenegger signed into law a bill that represents the Legislature's first stab at trying to stem the tide of foreclosures.

The bill, which took effect immediately, requires lenders to give homeowners an early warning that their mortgages are heading toward default. The measure also gives renters an extra 30 days' notice to find a new place to live if their landlord is losing the property.

"Foreclosures not only devastate families, they hurt neighborhoods and depress our economy and our budget," Schwarzenegger said.

The bill by Senate President Pro Tem Don Perata (D-Oakland) also provides communities with a new weapon to combat blight created when homes are allowed to run down after being vacated. Local governments can now fine property owners who fail to maintain empty homes.

How bad is it for builders? Worse than you thought.


One of the main reasons that the NAHB is pressuring Congress for tax credits to first-time homebuyers and extending the tax loss carryback is because many smaller, private builders are simply on the ropes. Whereas it's the large, public builders who have been told "go sell stock or raise money from the capital markets," for smaller builders it's just not that simple. From a BuilderOnline.com story:

While many builders have been quoted in newspapers saying the media has overblown the severity of the housing downturn, some home building consultants are saying the picture is far bleaker than even the media is portraying... Why are things so bad? Declining land values combined with banks worrying ­about their real estate–related loans has caused a number of banks to call on countless builders and land developers to either pay lump sum amounts to get their loan-to-value ratios back in order, to sell the land, or even to give it up to the bank...

Evan Smiley, a partner specializing in bankruptcy law at the firm Weiland, Golden, Smiley, Wang Ekvall & Strok in Costa Mesa, Calif., and coauthor of Bankruptcy for Businesses, pegs the problems that banks and builders are having on declining land values.

A bank’s reaction, mainly out of fear for its own financial health, is to declare default or send the builder notice that the bank doesn’t intend to renew the loan. Or the bank may tell the builder it needs to pay down the loan, often through personal guarantees, to somehow re-leverage the transaction and decrease the bank’s risk, Smiley says.

How a bank or banker will handle any given situation will vary from bank to bank and person to person within each bank, but Smiley offers three strategies for a builder facing tough times.

A builder must maintain good communication with its lenders, he says. Lenders are unlikely to want a builders’ land, especially if they are dealing with many builders and facing the proposition of owning huge amounts of land, and will therefore try to be cooperative. Smiley says banks are doing a better job of working with builders than they did in the 1990s housing bust in California...

Market conditions for new-home builders are deteriorating day by day, say the building consultants Builder spoke with.

Builders must seek expert advice; their human resources departments do not have the experience to adequately guide them through this crisis. Solving the complex problems that builders are facing requires specialists, say the consultants Builder interviewed...

Builders need their own advocates, because their creditors will have a team of lawyers at their disposal and the issues that need dealing with are not simple—tax issues, life insurance policies, land, debt, possible cash infusions from private equity, and so on.

But before builders get to the stage of hiring experts, they must admit they have a problem, says Tarabulski.

“One of the problems is that builders are can-do guys. They’re the heroes by nature,” she says. “This is very psychologically hard for anybody, and they are having a really hard time saying, ‘I can’t fix this,’ admitting they can’t. And by delaying this, their chance of surviving this catastrophe and coming out the other side diminishes day by day. By day.”

Saturday, July 5, 2008

When refinancings go wild

Think most people who went for sub-prime loans were itchy renters or investors looking to get into the market? According to a story in the L.A. Times, 90% were actually refinancings by existing homeowners (usually the cash-out kind) in which otherwise unsophisticated borrowers were led, much like cows to the slaughterhouse, to a a notary public to sign documents of dubious transparency:

Discussion of the problem often focuses on first-time home buyers who stretched to buy homes they couldn't afford. But experts who've crunched the numbers say 90% of people who took out sub-prime loans from 1998 to 2006 were already homeowners...

When lenders ramped up sub-prime lending in the mid-1990s, it was touted as a way to expand homeownership among people with low incomes or shaky credit histories. And many have pointed to the modest growth of homeownership -- from 64% of households in 1994 to 69% of households by 2005 -- as evidence that sub-prime lending had genuine benefits.

But Nicolas Retsinas, director of Harvard University's Joint Center for Housing Studies, notes that most of that expansion in homeownership occurred in the late 1990s, before sub-prime lending exploded.

Elizabeth Renuart, a housing attorney with the National Consumers Law Center in Boston, said many sub-prime lenders and brokers targeted people such as Miller.

They were promised cash, based on the equity in their homes. And the solicitations were rarely clear about the fees and interest rates, advocates for homeowners say.

Moreover, sub-prime loans always charged higher interest rates. That meant bigger commissions for the loan agents and brokers who sold the loans, and provided higher returns to investors who bought securities composed of bundled sub-prime loans.

"It was push marketing," Renuart said. "As the engine revved up from Wall Street to invest in these things, the pressure was on the brokers to make these loans."

Builders ramp up political donations

You may recall a couple of months ago, when the NAHB pulled back on their political giving because they weren't too happy with help they were getting from Congress. Today, however, having walked the halls of Capitol Hill and emerged with some more help for the flailing building industry, builders as well as mortgage brokers and others in the housing food chain have re-opened their pocketbooks. From a Wall Street Journal article:

The housing industry already has given more money in political contributions this election cycle than in the entire previous cycle, while winning favorable provisions in an emergency housing bill moving through the legislature.

Through May, mortgage bankers and brokers, real-estate companies and home builders had given more than $95 million to federal candidates and political parties so far this election cycle, according to the nonpartisan Center for Responsive Politics. That compares to about $57 million at this point in the 2006 cycle...

The contributions, which are entirely legal, are a tool for "relationship building...a way to educate [lawmakers] as to how our industry works and its perspective," said Steve O'Connor, senior vice president for government affairs at the Mortgage Bankers Association, a lobbying group for home lenders. "I can't change the perception" that the subprime problems have sullied the sector's political giving, he said. "All I can do is control what we do."...

The contributions serve as carrot and stick, awarded to lawmakers who share the groups' positions and withheld from those who don't. When the National Association of Home Builders wasn't getting what it wanted in the housing bill, it shut off the campaign-cash spigot.

The group's chief executive, Jerry Howard, said it withdrew contributions until Congress included measures it wanted, including a credit for first-time home buyers. The group's members made 300 visits to lawmakers and 1,200 phone calls demanding action, and the group's board voted to resume contributions when the measure began to take a shape more to its liking.

The bill now includes an $8,000 tax credit for first-time home buyers, which was also high on the wish list of the National Association of Realtors.

On the path to a housing rebound?

It's easy these days to get depressed about the news of falling home prices, sales and rising foreclosures, but Fortune editor Shawn Tully thinks it's also the sign of something different -- the seeds of a housing rebound in a very comprehensive article:

The news that housing starts have fallen to their lowest level in 17 years sounds like one more reason to be depressed about the shrinking value of your home. In fact, it's an almost certain sign that the path to a housing recovery is finally in sight.

If prices are going to stabilize, let alone rebound, the United States needs to produce far more first-time home buyers than new houses...

Builders constructed far more homes from 2002 until 2006 - the peak bubble years - than could possibly be absorbed by the normal growth in households.

As a result, the market is now swamped with one million new and existing homes for sale that aren't occupied, and hence need to sell quickly. That's a multiple of the figure in most downturns, and it testifies to the duration and girth of the bubble...

The massive overhang of unsold inventory has remained stubbornly high. Sure, builders cut back, but sales dropped just as quickly.

Now that excess supply is finally beginning to shrink. In April, the number of new homes for sale stood at 456,000 according to the U.S. Commerce Department, still a big number, but 93,000 below the mountainous figure a year ago...

The key player in any recovery scenario is the first time buyer. The housing market operates with a pronounced laddering or ripple effect. When entry-level buyers flood the market, they not only stimulate production of new homes, they purchase existing homes. Those purchases, in turn, allow the sellers to move up to bigger houses.

But when the first-timers are absent, the entire buying chain gets frozen.

Today, newbies are coming back. Why? For the first time in years, entry-level homes are affordable. Builders have slashed prices, and what they're building tends to be far smaller than the McMansions of the boom, selling for far lower prices...

Step 1: First, the return of first-time buyers will shrink the overhang of new houses for sale.

Step 2: Second, because so few new homes are being built, first-timers will start buying existing homes from owners who want to move up but have been trapped by the dearth of buyers. Their improved fortunes, though, come with a big caveat: The prices of new homes are now lower than comparably-sized existing homes. It's as if used cars are selling for more than new ones. That can't last. So move-up buyers are going to have to accept less than they had hoped to get for their current homes.

They'll get a big break as they trade up, however. Unless they bought at the height of the boom, they'll still sell at a profit. They can then use that equity to buy bigger homes at bargain prices. During the bubble, homebuilders started pushing up home sizes to 3,500 square feet or more. It's those behemoths that are selling for the steepest discounts today.

Step 3: Next, housing starts should start rising, probably next year. The increase, however, will be slow and gradual. For the next two years at least, homebuilders will compete ferociously with existing home sellers for customers.

Step 4: Eventually, the glut of existing homes will disappear as well. The excess of new-home buyers over new homes being built makes that inevitable. But the oversupply is so enormous that the healing process could take as much as three more years. Only then will prices in former bubble markets start rising again...

The New Affordability is now in place. But if rates rise, we'll have to establish a New New Affordability - at even lower prices.

Friday, July 4, 2008

The story of builder incentives

My most recent article for the Los Angeles Times focuses on home builder incentives, to be published on July 6, 2008, which you can find online here. For vetting purposes, the Times asked me to verify that I had no builder clients when the story was being researched, written or published, which is true. These days, such clients are few and far between!

When I first pitched it after learning that even builders are confused by what their competitors are doing and referring to other company's tactics as 'gimmicks,' the Times already had a buyer in Orange County willing to be interviewed about his own experience and photographed in front of his new home (which is always by far the toughest part of writing a story) so I thought it'd be easy.

Nope!

Since this was a feature article, I couldn't bring any of my past expertise or opinions to it, but only rely on the facts and statements made by those I interviewed.

To make it as fair and balanced as possible, I contacted almost 10 entities besides the home buyer I interviewed, including the two builders in question, the Building Industry Association of Southern California, a real estate agent who represents buyers and has placed clients in new homes, a design center manager for a third builder, the research companies JD Power & Associates and MarketPointe Realty Advisors and, finally, the Dept. of Housing and Urban Development plus the County of Orange.

However, I've been a bit concerned about this story lately, because it didn't quite turn out to be what I wanted, which was a more balanced story on the pros & cons of how and why builders use incentives to move unsold homes (which can be great things when used prudently), but ended up questioning their very validity.

And why is that? Because I couldn't get either of the builders I contacted, nor the trade group which is supposed to represent them -- the BIA of Southern California -- to comment and, I had hoped, tell their side and explain how incentives benefit the buyer.

For one builder, after being forwarded to several people, I eventually submitted detailed questions in writing to their VP of Media Relations in the hopes of getting a similarly detailed response. For the other, I was referred to their Division President for Orange County after talking to the CEO's office.

And the response from both? NOTHING.

And why was the BIA also MIA on this? Is anyone home?!

For example, I'd imagine that had the builders responded, they would have said that the benefits of incentives for consumers include making homes more affordable through interest rate buy-downs or reduced closing costs, allowing buyers to upgrade to a larger model, move into a more upgraded home than they would otherwise, etc. I'd imagine that builders today treat buyers on a case-by-case basis and that one buyer's experience should not cast a pall over an entire organization. But because that's my assumption and not a fact in evidence, I couldn't write it.

Still, I couldn't simply kill the story because spokespeople were hiding under their desks, as that would then question my own objectivity as a published writer as well as my reputation in general. The story still had to be written, and simply state that they didn't return phone calls and emails to comment. From a PR perspective, I think that's always a mistake, but of course that's also their choice.

Frankly, I was very, very disappointed by the lack of response, and perhaps I was being naive by assuming that they'd be more willing to talk to me on the record versus a staff reporter without past experience in the industry.

Whether that's true or not, I had expected these public builders to explain their business practices regarding incentives during a very difficult time in the industry. They had a great opportunity to do so, but instead they passed.