Don’t Get Carried Away By Housing Gains

Credit constraints and an inventory overhang will limit improvement.

Milton Ezrati of Lord AbbettThe housing market keeps reporting good news. Sales volumes have risen, as has new construction activity. Even real estate prices, after falling for years at a frightening pace, have begun to firm. The whole picture is a welcome change from the steep slide and stark fears of past years, and it promises, at long last, that housing will contribute going forward to the economy’s overall health, at least marginally so.  But it would be a mistake to read too much into such news. The real estate sector still has much to overcome. If the recent flow of data offers reasonable assurances that the worst is over, remaining impediments will contain future gains in housing. Still, gains, even when contained, are a vast improvement over the free fall of recent years.

The general picture certainly is upbeat. The Commerce Department reports new home sales jumped almost 9.7% during the first seven months of the year, and the National Association of Realtors reports existing home sales rose 2.1%. Neither measure registered a gain in every month, but it is clear that the long decline in home sales has ended. There is good reason to look for sales support, too. Low mortgage rates and past declines in prices have made housing much more affordable than at the last cyclical peak, more affordable nationally, in fact, than any time since the early 1990s. Certainly homebuilders have taken the turn to heart. Even with a June pullback in new housing units started, this kind of construction activity shows a gain of almost 8% during the first half of the year.

Also encouraging, especially after the intense financial pain of 2008-09 and its aftermath in 2010 and 2011, is the recent rise in residential real estate prices. The popular Case-Shiller Housing Price index reports that its composite of prices in 20 major metropolitan areas gained every month this year through June, the most recent period for which it has data. Each month showed only a modest advance, but the net increase amounted to 4.7%, or nearly 10% at an annual rate. That is a far cry from the 4.1% drop last year and much steeper declines in 2010 and earlier. Perhaps most encouraging is the regional pattern. All but three of the 20 metropolitan areas showed price gains. New York City was essentially flat, while Atlanta showed a 1.9% annualized decline, and Detroit a 4.7% decline. Meanwhile, formerly hard-hit Las Vegas showed an 8.6% annualized gain, Miami a 16.1% gain, and Phoenix a 30.4% average annualized home price gain.

But for all the relief, persistent impediments will moderate the pace of improvement. One problem is credit. As affordable as housing has become, banks remain reluctant to lend for mortgages and real estate deals generally. According to the Federal Reserve’s survey of senior bank loan officers, though lenders have eased their credit restraints from the extremely tight policies of 2010, they remain extremely cautious. Consistent with such attitudes, Federal Reserve statistics show only the slightest increase in lending for real estate during the first six months of this year and even a slight dip in such lending activity in July. In time, such restraint will ease further, but the memory of 2008-09 will doubtless impose considerable caution for a long while yet.

At the same time, a still substantial inventory overhang should constrain price gains. According to the Commerce Department, the new homes on the market amount to 4.9 months’ supply. Though well down from the 6 to 7 months’ supply seen in 2010 and 2011, this inventory is not especially tight. In the far more important market for existing homes, the National Association of Realtors reports a 6.6 months’ supply of unsold properties on the market at current sales rates. This figure is also well down from numbers like 9.5 months’ supply in 2010 and 12 months’ in 2009, but it is still high by historical standards, which put the average closer to 5 months’ supply. What is more, these inventory statistics fail to account for the still large backlog of foreclosures that overhang the market with a so-called “shadow inventory.” It is hard to gauge the full extent of this shadow inventory, but with mortgage delinquencies still at close to 10% and charge-offs at close to 1.5%, it likely exceeds the inventory figures recorded by the Commerce Department and the National Association of Realtors by an amount sufficient to bring the effective supply of unsold properties closer to 12 or 18 months’ supply at current rates.

Such inventory considerations recommend a more sober interpretation of recent improvements than some are showing. So also does the continued caution shown by lenders, especially where mortgages and real estate are concerned. But if circumstances still argue against undue enthusiasm, they do suggest strongly that the worst of the nation’s real estate problem is behind it. If the statistics on prices, sales, and construction hit occasional snags going forward, the general trend toward healing constitutes a major relief after the great weakness of past years. It also makes a continuation in the general economic recovery that much more likely.

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