Posted on 09/23/2010 9:46:19 AM PDT by Kaslin
The disappearance of home equity value is a lead weight on the recovery
Why has housing been such a core element in the story of American civilization?
Culturally a decent house has been a symbol of middle-class family life. Practically, it has been a secure shelter for the children, along with access to a good free education. Financially it has been regarded as a safe store of value, a shield against the vagaries of the economy, and a long-term retirement asset. Indeed, for decades, a house has been the largest asset on the balance sheet of the average American family. In recent years, it provided boatloads of money to homeowners through recourse to cash-out refinancing, in effect an equity withdrawal from their once rapidly appreciating home values.
These days the American dream of home ownership has turned into a nightmare for millions of families. They wake every day to the reality of a horrible decline in the value of the home that has meant so much to them. The pressure to meet mortgage payments on homes that have lost value has been especially shocking—and unjust—for the millions of unemployed through no fault of their own. For the baby boomer generation, a home is now seen not as the cornerstone of advancement but a ball and chain, restricting their ability and their mobility to move and seek out a job at another location. They just cannot afford to abandon the equity they have in their homes—and they can't sell in this miserable market.
American homeowners have experienced an unprecedented decline in their equity net of mortgage debt. The seemingly never-ending fall in prices has brought an average decline of at least 30 percent. Furthermore, the country is now going through an unprecedented nationwide slide in sales, despite the fact that long-term mortgage interest rates nationwide plummeted recently to a record low of 4.3 percent before rising slightly. The result is that home occupancy costs for home purchases are now down to roughly 15 percent of family income, dramatically lower than the conventional, affordable figure of 25 percent of family income devoted to home occupancy costs. Yet new home sales, pending home sales, and mortgage applications are down to a 13-year low.
The economics of home ownership could hardly be more disastrously opposite to the expectations of generation after generation. Millions of homes have been foreclosed upon. About 11 million residential properties, or about 23 percent of such properties with mortgages, have mortgage balances that exceed the home's value. Given the total inventory, and the shadow inventory of empty homes, many experts expect prices to fall another 5 to 10 percent. That would bring the decline to 40 percent from peak-to-trough and expose an estimated 40 percent of homeowners to mortgages in excess of the value of their homes.
The growing risk of disappearing equity invites more strategic defaults on mortgages. Homeowners with negative equity are tempted simply to mail in their keys to their friendly lender even if they can afford the mortgage payment. Banks don't want to take the deflated properties onto their books because they will then have to declare a financial loss and still have to worry about maintaining the properties.
Little wonder foreclosure has not been enforced on a quarter of the people who haven't made a single mortgage payment in the last two years. A staggering 8 million home loans are in some state of delinquency, default, or foreclosure. Another 8 million homeowners are estimated to have mortgages representing 95 percent or more of the value of their homes, leaving them with 5 percent or less equity in their homes and thus vulnerable to further price declines. A huge percentage will never be able to catch up on their payment deficits.
The pace of foreclosures was briefly slowed by loan modifications brought on by government programs. Alas, the programs have not been working as hoped. Half of the borrowers have been redefaulting within 12 months, even after monthly payments were cut by as much as 50 percent. The foreclosure pipeline remains completely clogged. As it unclogs, a new wave of homes will come on the market and precipitate additional downward pressure on prices. The number of foreclosed homes put on the market by banks will be a more powerful influence on the further decline of home prices than either consumer demand or interest rates.
A well-balanced housing market has a supply of about five to six months. These days the supply is more than double that, as inventory backlog has surged to about a 12½ months' supply this summer, up from 8.3 months in May. This explains why average sale prices have been declining for so many, many months. The high end of the market, in particular, is under great pressure.
The mortgage market doesn't help. It is virtually on life support from the government, which now guarantees about 95 percent of the mortgage market. The rare conventional lenders are now actually insisting on a substantial down payment and making other more stringent financial requirements. Household formation is also shrinking now, down to an annual rate of about 600,000, compared to net household formation during the bubble years, when it was in excess of a million annually. The most critical factor subduing the demand for housing is that home ownership is no longer seen as the great, long-term buildup in equity value it once was. So it is not too difficult to understand why demand for housing has declined and will not revive anytime soon.
This is a disturbing development for those who believe that housing is going to lead America to an economic recovery, as it did during the Great Depression and then through every recession since. Each time, residential construction preceded the recovery in the larger economy. This time, in the Great Recession, a lead weight on recovery has been the disappearance of some $6 trillion of home equity value, a loss that has had a devastating effect on consumer confidence, retirement savings, and current spending. Every further 1 percent decline in home prices today lowers household wealth by approximately $170 billion. For each dollar lost in housing wealth, the estimate is that consumption is lowered by 5 cents or 5 percent. Add to this the fact that we are building a million-plus fewer homes on an annual basis from the peak years of the housing boom. With five people or more working on each home, we have permanently lost over 5 million jobs in residential construction.
That is why housing was such an important generator of normal economic recoveries. To give this context, residential construction was 6.3 percent of GDP at its recent peak in 2005 and 2006. It has fallen to the level of 2.4 percent this year. This is significant if you recognize that a 3 percent top-to-bottom decline in real GDP constitutes a serious recession.
Government programs to stimulate housing sales have not helped. There have been eight of them. One, which expired most recently (in the spring), was an $8,000 tax credit for housing contracts. All of these have done little more than distort the pattern of housing demand and actually pulled forward hundreds of thousands of units at the expense of future growth.
There is no painless, quick fix for this catastrophe. The more the government tries to paper over the housing crisis, and prevent housing from seeking its own equilibrium value in real terms, the longer it will take to find out what is true market pricing and then be able to grow from there.
The sad fact is that housing problems never left the recession of the last several years and it doesn't look as if they are going to leave anytime soon. The ultimate solution remains the same as the solution to the country's broader economic crisis. That is, getting millions of people back to productive work.
Where to start...
I was able to pull up stakes and move to Kentucky specifically because I rented. I gave my landlord 3 weeks notice and I was done.
And the median income in an area is reduced by a high percentage of citizens owning their homes. The reason is simple: People who own their own home generally limit their search for work to their local economy - even in good times. A person who rents has much more freedom to look anywhere and just move to where the good jobs exist.
Oh, and I paid $1600 a month rent on a home valued at $525k. And to really drill it in, when I left the house it was valued at about $360k. But all it cost me for four years was $1600 a month. A relative pittance.
Who can even own a home?? maybe a so called native American! The rest just rent from the Marxist government.
You are right abut the starter homes.My Mom sold real estate for over 30 years.Starting in about the mid 90’s the young couples started to want the home they grew up in and not starter homes anymore.It seems the younger generation has never been taught about waiting for things and earning them?
Huh? It's unjust to have to honor your mortgage contract? I stopped reading right there.
>>It’s unjust to have to honor your mortgage contract?<<
Mailing in the keys IS honoring your contract.
But I agree about the poor use of the word “unjust”.
I am very sorry for those who find themselves in this predicament. I guess too many people have no valid common sense. I warned my daughter that 2006 was not the time to buy because I knew what was surely coming, having been a real estate broker for over 30 years, retired. Even she did not heed my warning, and her husband took out an interest only loan!!! I about lost it when I found that out! Bright as they are, they have no sense when it comes to money.
Zuckerman you idiot, it ain't 'free'.
Well, I guess we are lucky. Our home is worth almost twice what we paid for it in 1990, and paid it off almost two years ago. We did NOT buy more than we could afford as a single earner household.
“”The pressure to meet mortgage payments on homes that have lost value has been especially shocking—and unjust—for the millions of unemployed..”
Meeting a contractual obligation is Unjust? Who Knew?
Fannie and Freddie were just fine (and served a very useful and boring function) until the social engineers got ahold of them
All mirages must vanish.
“One could be very frugal and responsible and still be 100k underwater on their house in these times. If you painfully sacrificed and saved to put a 20% down payment on a house in 05 or 06, you could easily be in this situation. It would have taken a lot of economic awareness and market smarts to have been wise enough to hold off buying.”
Really? I don’t consider myself particularly wise or prescient (although apparently a lot more so than many people) and I could see this coming at that time. When homes had appreciated by 50% to 100% in just a few years, all the signs of a bubble with a correction to come were there for anyone with a functioning brain and a realistic outlook to see. I understand the desire of many people to get into a house of their own, and to take advantage of what seemed like an ever-rising market - but those were emotional reasons to buy, and when it comes to money there’s no substitute for a rational approach.
Case in point, I am going through a nasty divorce and I now have to refinance the house we built 6 years ago. We are ~$23K upside down on it based on the current appraisal, but I don't have much choice as it is on acreage that I owned and paid for before the marriage that is actually increasing in value due to the location and I am determined not to sell that property. Plus the central air went up in smoke the week after he left and I ended up replacing it which cost me a bundle and of course, I am having to eat that cost in the divorce settlement. The only upside is I was able to negotiate to bring the interest rate down and therefore the payments, so that it will fit easily within my budget without his income.
Fortunately, I was responsible enough to never let our budget exceed my income as I was concerned about things like him losing his job, which he conveniently did. The worst part is after he abandoned me physically and financially the day after I got home from hip replacement surgery (fortunately I also had disability insurance at work), moved in with his girlfriend and is admittedly staying on unemployment so he can claim "poverty" in the divorce, he is now bragging to everyone that he is "giving" me the house...ummm no, I don't think so.
Ouch!...a financial pain made worse by knowing that mom was right.
NO, that's NOT part of the problem. It's nowhere near the problem - I mean, how many people watch HGTV? C'mon. Plus, HGTV shows other types of homes as well; regular homes, apts., condos, duplex, etc. So, HGTV has nothing to do with this problem. Just my opinion.
Nonsense. Here's my former house on Zillow. The dollar sign is where I sold it.
And I am NO financial genius, if you saw the rest of my portfolio you'd be convinced of that.
When I saw people with $75K incomes buying houses in my neighborhood for close to half a mil, I knew it was time to head for the door.
No rational person could have thought that the housing boom of 2002-05 was permanent. There were a lot of crooks that kept saying it was though, and a lot of fools who listened to them.
Right. I hear you. Unemployment is our fault. Gee thanks.
I can’t hire myself, can I? Where on earth do you work that you can make such statements?
Individuals should make the same clearheaded decision, provided that they don't try to have their cake and eat it too by staying in the property after they stop making payments.
Sounds like my young neighbors. In their early 20s, custom built home with 3 bedrooms, three baths only it’s a tiny home but has all the nice stuff you’d imagine.
She had to get a job just to buy groceries.
No one told them how to plan for a house, how to pay for a house or how to most importantly, SAVE for a house.
3 different loans on the house, can barely feed themselves. But they have a brand new home !
We shake our head. They talk of selling in 5 years.
Seriously, they cannot afford that house.
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