Housing Market Monitor
Pending Home Sales Jump in April
June 11, 2008
By Dean Baker
"The Case-Shiller data imply that the ratio of equity-to-value is close to 42.0 percent."The pending home sales index rose 6.3 percent in April from its March level, presenting the first evidence that a bottom may be in sight for the housing market. Of course, monthly data is always erratic, and the index is still down 13.1 percent from its year ago level and by 29.1 percent from the 2005 level, so sales have a long way yet to recover.
It is noteworthy that the Midwest saw the biggest jump in sales, with the index rising 13 percent from April. The Midwest didn’t share in the housing boom to any great extent, yet it has experienced the full force of the crash. According to the most recent Case-Shiller data, houses in the bottom third of the market in Cleveland are now selling for less than they did in 1997, implying a real price decline of close to 30 percent. There are some real opportunities for speculators to come into some of the Midwest markets and buy homes very cheaply. This could be part of the story behind this increase.
There was also a large jump in the pending sales index in the West. There are also opportunities for speculators coming into some of these markets. There are anecdotal accounts of houses in places like Sacramento selling for less than half of their bubble peaks. There is no guarantee that prices cannot fall further, but at some point, speculators will be willing to take the risk and we may be seeing some evidence of this right now.
The Federal Reserve Board Flow of Funds data showed that the ratio of homeowners’ equity to the value of their home fell to 46.2 percent in the first quarter, another record low. This ratio had never been below 50 percent until last year, and it was typically around 67 percent through the 50s, 60s, 70s, and 80s.
The reality is probably even worse than the Fed’s data show. The Flow of Funds data is based on the Office of Federal Housing Enterprise Oversight’s House Price Index. This index shows a substantially slower rate of house price decline than the more broadly constructed Case-Shiller index. If we used the Case-Shiller index to measure the change in house prices since 2006, then the ratio of equity-to-value at the end of the first quarter would be close to 42 percent. With continuing price declines, the ratio will almost certainly be well below 40 percent by the end of the year.
Two pieces of bad news for the near-term future of the market are the continuing rise in mortgage interest rates and the downgrading of two of the major bond insurance companies. According to the Mortgage Bankers Association, the interest rates on the average 30-year fixed rate mortgage rose by 7 basis points to 6.24 percent. It is likely that interest rates will rise further in the weeks ahead, especially if core inflation picks up, which will likely be the case in the consumer price data released Friday.
The downgrading of two of the major bond insurers, Ambac and MBIA, should remind everyone that the credit crisis is far from over. It is difficult to see how the insurers can stay solvent with the massive wave of foreclosures continuing. However, just the downgrades will put considerable pressure on the market, since all the bonds that carried high investment grade ratings based on this insurance will have to be downgraded also. This will translate into the loss of considerable value for bondholders and likely further tighten the availability of credit. Of course, if the insurers actually become insolvent, then all the losses on mortgage-backed securities will be passed directly to investors.
On the whole, the outlook for the housing market continues to be bleak for the near future in spite of the uptick in the pending sales index. Rising mortgage interest rates coupled with a weakening job market will put considerable downward pressure on the market. In addition, Fannie and Freddie are coming to play an ever larger role in financing purchases, as private investors continue to retreat.