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Kamis, 03 Oktober 2013

Is the Second U.S. Housing Bubble Beginning to Peak?

Has the inflation phase of the second U.S. housing bubble begun to peak?

The latest data from the U.S. Census Bureau for median new home sale prices (Excel spreadsheet) is suggesting that may indeed be the case. Here, we observe a deceleration in the rate at which median new home sale prices have been escalating, which appears to have begun after May 2013:

Trend in Trailing Twelve Month Average of U.S. Median New Home Sale Prices, July 2012 Through August 2013

The chart above spans the period of time covering the inflation phase of the second U.S. housing bubble, which began after July 2012 and continues through the present. In the chart, we observe that the trailing twelve month average of median new home sale prices, which we calculate to minimize the effect of seasonality in the U.S. real estate market, was growing at a linear rate in the months from July 2012 through May 2013. After that month however, the growth rate of median housing prices has begun to decelerate, which we observe in the increasing deviation of newer median home sale prices from their previous trend.

What could have caused such a change in trajectory after May 2013?

Keeping in mind that it takes three factors to ignite a housing bubble: fuel, oxidizer and a spark (these links will take you to our three part series on the origin of the first U.S. housing bubble), we find that what changed after May 2013 is the bubble's fuel supply - interest rates!

Here, talk of the Fed's potential tapering of its current quantitative easing programs prompted a surge in the 10-Year U.S. Treasury, which given the well-established connection between the two, has prompted a surge in U.S. mortgage rates. Using data from the Fed, the first chart (on the left) below shows how they've changed during the period of the second housing bubble (July 2012 through August 2013), while the second chart (on the right) shows how they've changed since the so-called "Great Recession" ended in June 2009:


Monthly U.S. 30-Year Mortgage Interest Rates, July 2012 Through August 2013 - Source: FRED
Monthly U.S. 30-Year Mortgage Interest Rates, June 2009 Through August 2013 - Source: FRED

The relatively sudden escalation of U.S. interest rates is having the effect of starving a fire of fuel - it is putting the brakes on what had been the rapid rise of U.S. home prices, as it appears that the second U.S. housing bubble is now beginning to peak.

What that outcome indicates is that the Fed's policy with respect to interest rates can indeed affect whether or not the U.S. housing market can experience the conditions of an economic bubble. Far from being the result of factors far beyond its control, we find that a sustained housing bubble can only exist if the Fed desires one to exist, as it clearly has the ability to influence the pace at which it might inflate through its ability to influence U.S. interest rates.

That's not to say that the Federal Reserve can arbitrarily create such a bubble, as there are other factors that will determine if one can form in the first place, but the Fed most certainly has the ability to affect how long a bubble that has begun to inflate might be sustained through policies that push interest rates below their "natural" levels.

Let's next update our chart showing how median new home sale prices in the U.S. have changed since December 2000 with respect to median household incomes in the U.S.:

U.S. Median New Home Sale Prices vs Median Household Income, 1999-2013, through July 2013

Pay close attention to the inflation phase of the first U.S. housing bubble in the chart above. It didn't begin to decelerate until September 2005, which is when the Fed finally had increased interest rates to approximately where they would be set by a Taylor Rule according to contemporary information available to the Fed, which might be considered to represent their natural, market-based level. That was the point at which the Fed began to effectively reduce the amount of fuel that it was feeding that particular fire.

The same phenomenon would appear to be happening again today. Only now, instead of exercising direct control over interest rates, the Federal Reserve is exercising a more indirect influence through its quantitative easing programs, through its purchases of $45 billion per month in U.S. Treasuries and a little more directly through the QE program where it has been buying an average of $40 billion of agency-issued Mortgage Backed Securities (MBS), which it has been operating since September 2012.

That would be the point in time at which the Fed acted to push the interest rates that directly impact mortgages below the level that the market might otherwise have set them, succeeding in doing so through May 2013. We can see that influence in the U-shaped trajectory that U.S. mortgage rates followed after September 2012 up through May 2013. In the absence of the Fed's quantitative easing program, the trajectory of mortgage rates would have more closely followed a V-shaped pattern, corresponding to actual market conditions where real estate prices were rapidly escalating during this period of time.

In June 2013, the markets reacted to the unexpected news that the Fed might begin cutting back on its QE programs sooner than previously expected by putting both Treasury yields and mortgage rates much closer to where they would otherwise set them, as if the Fed already had taken that action. This is why U.S. mortgage rates shot upward so quickly.

Though not quite as the Fed might have planned, the impact of that sharp increase in mortgage rates upon the trajectory of median new home sale prices in the U.S. demonstrates that the Fed would have the ability to control the duration of an economic bubble if it chose to do so. We conclude then that like the first U.S. housing bubble, the second U.S. housing bubble is a desired outcome for the Fed in setting its monetary policies.

Given how things are playing out so far, it would seem then that economic history has a way of repeating itself, only faster and less impressively where the second U.S. housing bubble is concerned.

Elsewhere on the Interwebs

Yale's Robert Shiller, who is to modern financial theory today as Tycho Brahe was to the science of astronomy in the 1500s, is just now becoming concerned that the U.S. housing market may be entering into an economic bubble.

Meanwhile, Jason Zweig picks up on a similar behavioral finance-related "animal spirits" vibe in trying to explain that what we'll call "herd instincts" are responsible for why economic bubbles form.

Sigh. Such are the leading intellectual lights of this age. Stone knives and bearskins, indeed.

References

Federal Reserve Bank of St. Louis. Economic Data. 30-Year Conventional Mortgage Rate (MORTG). [Online Database]. Accessed 30 September 2013.

Sentier Research. Household Income Trends: July 2013. [PDF Document]. Accessed 26 September 2013. [Readers should note that we have converted all older inflation-adjusted values presented in this source to be in terms of their original, nominal values (a.k.a. "current U.S. dollars") for use in our charts, which means that we have a true apples-to-apples basis for pairing this data with the median new home sale price data reported by the U.S. Census Bureau.]

U.S. Census Bureau. Median and Average Sales Prices of New Homes Sold in the United States. [Excel Spreadsheet]. Accessed 26 September 2013.

Previously on Political Calculations

We were among the first to declare that a second housing bubble was forming in the U.S. economy, and we were the first to back it up with an objective framework of analysis and data. Our ongoing analysis is chronicled below....

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Kamis, 05 September 2013

The First Anniversary of the Second U.S. Housing Bubble

The second U.S. housing bubble has been inflating for just over a year now!

July 2012 marks the zero point for the inflation phase of the new housing bubble, with its expansion really beginning to take off in August 2012. And now, since we have the latest median household income data for the month of July 2013, we can show just how much it has inflated as it reached its first birthday!

U.S. Median New Home Sale Prices vs Median Household Income, 1999-2013, through July 2013

Our chart above shows the data and trends for the non-inflation-adjusted twelve-month trailing averages of both median new home sale prices and median household income for each month since December 2000. In looking at the current trend, since July 2012, the median sales price of a newly constructed home in the United States has gone up by just over $25 for every $1 that median household income in the United States has increased.

That's almost 20% faster than the $21-to-$1 rate that the first U.S. housing bubble inflated on average from November 2001 through September 2005!

We'll close this edition of our ongoing series exploring the inflation of the second U.S. housing bubble by looking at the long-term view of what established equilibriums for median new home sale prices really look like in the United States, which is how we really know that what is going on in the U.S. housing market is really a bubble:

U.S. Median New Home Sale Prices vs Median Household Income, 1967-2013

Since 1967, median new home sale prices in the U.S. have typically increased by anywhere from $3.37 to $4.09 for every $1 increase in median household income in the absence of any periods of bubble inflation or deflation in U.S. housing markets.

At its first anniversary, median new home sale prices in the second U.S. housing bubble are inflating at a rate that's over six to seven times greater than those typical levels!

But perhaps more telling about the now one-year-long escalation in median new home sale prices, is that the next time we feature an update about the second U.S. housing bubble, we're going to need to adjust the vertical scale of our charts so they can contain the newest data.

References

Sentier Research. Household Income Trends: July 2013. [PDF Document]. 2 September 2013. Accessed 2 September 2013. [Readers should note that we have converted all older inflation-adjusted values presented in this source to be in terms of their original, nominal values (a.k.a. "current U.S. dollars") for use in our charts, which means that we have a true apples-to-apples basis for pairing this data with the median new home sale price data reported by the U.S. Census Bureau.]

U.S. Census Bureau. Median and Average Sales Prices of New Homes Sold in the United States. [Excel Spreadsheet]. Accessed 2 September 2013.

Previously on Political Calculations

We were among the first to declare that a second housing bubble was forming in the U.S. economy, and we were the first to back it up with an objective framework of analysis and data. Our ongoing analysis is chronicled below....

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Rabu, 31 Juli 2013

The Sales Mix of the New Housing Bubble

Now that we have demonstrated that there is an extremely linear relationship between what people pay for the houses they own and their incomes, we're going to look at how the mix of house sales affects the reported sale prices.

Our first chart looks at the number of new homes sold in the previous twelve months for each month from January 2003 through June 2013, which spans all of the data reported by the U.S. Census Bureau for this measure:

Thousands of New Homes Sold in U.S. Each Month by Sales Prices, Trailing Twelve Month Moving Average, January 2003 through June 2013

In this chart, we're identifying the peak volume for the trailing twelve month average of U.S. new home sales as January 2006, which directly corresponds to the peak volume of sales for new homes in the $200,000 to $299,000 range and also the $300,000 to $399,000 range.

Our second chart takes the same data, but stacks the data so we can see the overall volume of new home sales recorded in the U.S. during that period:

Stacked: Thousands of New Homes Sold in U.S. Each Month by Sales Prices, Trailing Twelve Month Moving Average, January 2003 through June 2013

In these two charts, you can see the volume of lower priced homes decline during much of the inflation phase of the first U.S. housing bubble, as these lower priced homes were displaced by higher priced homes in the number of sales each month.

In the deflation phase for the volume of new home sales that took hold after January 2006 (the first U.S. housing bubble itself continued to inflate as new home sale prices continued to rise into early 2007), we observe that although the volumes of all new home sales by sale prices declined in this period, there is a relatively greater decline in the volume for higher priced new home sales (say for homes in the $300,000-$399,999 range) than for lower-priced new home sales (such as those in the under $150,000 range).

It's not until July 2012, with the beginning of the inflation phase of the second U.S. housing bubble, that we see the same pattern we observed during the inflation phase of the first housing bubble re-establish itself.

Our next chart looks at the relative share of sales for each range of sale prices reported by the U.S. Census Bureau, which confirms that the relative share of each level of pricing for new homes sold in the U.S. has largely returned to the levels last seen during the inflation phase of the first U.S. housing bubble:

Share of New Homes Sold in U.S. Each Month by Sales Prices, Trailing Twelve Month Moving Average, January 2003 through June 2013

This is where the extremely linear relationship that we've previously demonstrated between what people pay to live in the homes they own and their household incomes gives us a lot of insight. Unless the distribution of income within the U.S. has changed to support the price mix of new home sales, and it has not, that means that other, non-sustainable factors are driving them.

And as recognized experts on the distribution of income in the United States, we can confirm that there has been no meaningful change in that distribution in the last eleven and a half years covered by the Census Bureau's new home sale price mix data that can explain the large variation that we observe in the overall mix of new home sale prices.

The rapidly changing mix of new home sale prices then is an indication of distortionary forces at work in the U.S. housing market, where factors other than the fundamental driver of home prices, household income, are holding sway. Otherwise, we would not be seeing median new home sale prices skyrocket with respect to median household income over time. Something else is discouraging home builders from building affordable homes to satisfy the demand for housing at the lower end of the market.

That's why we describe the period since July 2012 as being the inflation phase of the second U.S. housing bubble. But what could be the consequences of having so many lower priced new homes effectively driven out of the market as a result of the second housing bubble's economic distortion effects?

Joel Kotkin of the New Geography observes how the skewing of the produced mix of new homes toward the higher end of the price scale during the current housing bubble will have very real consequences:

Generally speaking, as prices rise, single-family homes become scarcer and rents also rise. The people at the bottom, of course, suffer the most, since the lack of new construction, and the inflated prices for houses, also impacts the rental market. Since 1980, the average house price as reported by the National Association of Realtors has moved in near-lockstep with rents, as reported in the Consumer Price Index, except for the worst years of the housing bubble.

Kotkin also describes the impact of having such a skewed mix of new home production:

America's emerging housing crisis is creating widespread hardship. This can be seen in the rise of families doubling up. Moving to flee high costs has emerged as a major trend, particularly among working-class families. For those who remain behind, it's also a return to the kind of overcrowding we associate with early 20th century tenement living.

As was the case then, overcrowded conditions create poor outcomes for neighborhoods and, most particularly, for children. Overcrowding has been associated with negative consequences in multiple studies, including greater health problems. The lack of safe outside play areas is one contributing factor. Academic achievement was found to suffer in overcrowded conditions in studies by American and French researchers. Another study found a higher rate of psychological problems among children living in overcrowded housing.

This is occurring as a generation of middle-class people — weighed down by a poor economy, inflated housing prices and often high student debt — are being pushed to the margins of the ownership market. There will be some 8 million people entering their 30s in the next decade. Those struggling to move up face rising rents and dismal job prospects. It's not surprising that a growing number of Americans now believe life will be worse for their children.

Curiously, a return to tenement-style housing would seem to be the solution advocated by Paul Krugman in a recent blog post in which he cited the work of Raj Chetty, Nathaniel Hendren, Patrick Kline, and Emmanuel Saez, who would seem to blame sprawl in part for the apparent lack of economic mobility in a number of otherwise fast-growing cities where low-income earning communities find themselves geographically separated from available economic opportunities.

The distortionary effects of housing bubbles that in part result from "smart growth" or outright anti-growth policies that seek to herd lower income earning households either toward the outskirts of cities where affordable single family homes in their price range actually exist or into the high-density housing projects designated for them by their communities' organizers would not appear to be among any of the factors considered in their analysis.

Data Source

U.S. Census Bureau. New Residential Sales Historical Data. Houses Sold by Sales Price: U.S. Total (2002-present). [PDF Document]. Accessed 26 July 2013.

Previously on Political Calculations

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Selasa, 30 Juli 2013

As the Second U.S. Housing Bubble Inflates: Rapidly Escalating Prices

The average rate at which median new home sale prices in the United States has been escalating is over 17% faster than the average rate at which median new home sale prices rose during the initial inflation phase of the first U.S. housing bubble.

The initial inflation phase of the first U.S. housing bubble ran from November 2001 through September 2005, when the Federal Reserve ended its extremely low-interest rate policy following the end of the 2001 recession, as it finally all-but-closed the gap between its Federal Funds Rate and the level at which it would have set that rate if they had been factoring in actual economic conditions in accordance with the Taylor Rule. During this portion of the inflation phase of the first U.S. housing bubble, median U.S. new home prices were rising by $21 for every $1 that median household incomes were increasing.

Taking into account the latest revisions to U.S. housing data, since July 2012, which we count as Month 0 for measuring the inflation of the second U.S. housing bubble, we find that median new home prices in the U.S. are now increasing by $24.71 for each $1 that median household incomes have increased during the period. Our chart below shows the steeper rate at which nominal median new home sale prices in the U.S. are inflating with respect to non-inflation adjusted median household incomes:

U.S. Median New Home Sale Prices vs Median Household Income, 1999-2013 - June 2013

Our second chart provides more historical context for considering the rate at which median new home sale prices are increasing, showing how they have increased with respect to median household income since the income data began to be reported in 1967:

U.S. Median New Home Sale Prices vs Median Household Income, 1967-2013 - June 2013

Our final chart shows all the median new home sale price data we have available, indicating the trailing twelve-month average of these prices going all the way back to December 1963:

Trailing Twelve Month Moving Average of U.S. Median New Home Sale Prices, December 1963 to June 2013

We show the twelve month moving average for the median new home sale prices to account for seasonality in the data.

Some housing market observers, such as Calculated Risk's Bill McBride, will be quick to point out that median new home sale prices are very sensitive with respect to the price mix of new homes that are sold, with a shift by home builders to sell either very high or very low end homes greatly affecting the median values.

However, the changing mix of the sale prices of houses sold each month is something that is affected by the distorted market conditions that are part and parcel with the presence of a bubble in the U.S. housing market. We'll consider the impact of that bubble-driven changing price mix for Americans in the very near future, when this link will connect through to that analysis....

Data Sources

U.S. Census Bureau. Median and Average Sales Prices of New Homes Sold in the United States. [Excel Spreadsheet]. Accessed 24 July 2013.

Sentier Research. Table 1. Household Income Trends: January 2000 to January 2013 (in January 2013 $$). [Excel Spreadsheet with Nominal Median Household Incomes courtesy of Doug Short]. Accessed 13 March 2013.

Sentier Research. Household Income Trends: July 2013. [PDF Document]. Accessed 29 June 2013. - We update Doug Short's converted nominal median household income data with the nominal median household income data that Sentier Research reports each month. This is the most recent report, which provides this data through June 2013.

Previously on Political Calculations

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Kamis, 18 Juli 2013

Setting the Baseline for a Better Housing Affordability Index

For a given amount of income, how much should owning a house cost?

That's really the issue that a housing affordability index needs to address. And as Barry Ritholtz recently noted, it's an issue that the National Association of Realtors®' Housing Affordability Index completely fails to achieve (typos repaired):

In the past, we have discussed how worthless the NAR's Housing Affordability Index is. This weekend saw an odd column in Barron's that was suckered in by the silliness of that index.

This suggests to me it is time to take another pass showing exactly why this index has so little value to anyone tracking housing values and affordability. Let’s begin by going back to our 2008 analysis:

"The index as presently constructed is utterly worthless. It provides little or no insight into how affordable US Housing actually is. Further, what is omitted from the index is especially relevant to the problems occurring in the housing market today. The Index fails to account for — or even recognize — any of the out of the ordinary circumstances that are currently bedeviling the Housing market."

That's not the worst of it — during the huge run up from 2001-2007, there was but one month — ONLY ONE MONTH! — where the NAR said homes were not affordable!

Barry then proceeds to take apart some of the sillier aspects of a recent analysis that said that despite recent interest rate hikes, "single-family houses are still quite attainable", before getting to the real question that matters: "Can American families afford homes?"

Now, we're regularly addressing that question as it applies to the median sale prices of new homes with respect to the median American household income, but what about other U.S. households? What's the baseline reference for them?

As it happens, we just slogged through all the Consumer Expenditure Reports' data since 1984 on how much of a household's income goes to paying the principal, interest, taxes, insurance, maintenance, repairs, and other expenses directly related to owning a home. And from that data, we can work out how much the average American household with a given amount of household income pays out each year to own their home.

Annual Expenditure for Owned Dwellings vs Annual Income Before Taxes for Various Income Ranges Reported in the Consumer Expenditure Survey, 1984-2011 [Current Year U.S. Dollars]

Our tool below then captures the average total amount that an American household with the income you enter would pay to own their own home over the course of a year. What's more, we'll tell you how what what you might pay in a year to own your own home compares with that average:

(If you're reading this article on a site that republishes our RSS news feed, click here to access a working version of this tool!)





Annual Household Income Data
Input Data Values
What's your annual household income before taxes?
How much do you pay to own your home in a year?






Housing Affordability
Calculated Results Values
Average Annual Amount that Americans with Your Income Pay to Own Their Homes
Ratio of Your Annual Cost with the Average for Your Income
Average Monthly Amount that Americans with Your Income Pay to Own Their Home

In the tool above, a housing affordability index value greater than 100% tells you that you what you are paying to live where you do is greater than the average amount paid by Americans with the same household income before taxes. Meanwhile, a housing affordability index value below 100% tells you that what you pay is less than what the average American household with your income pays for its dwelling.

We've also calculated the monthly amount that an American household with your income would pays on average, so you can compare it with your current or prospective mortgage payment. The thing to remember here is that to stay affordable, the payment on the home you might be considering buying needs fall below the average, because things like maintenance, repairs and anything else that isn't covered by your mortgage payment can easily push your housing expenditures above the average affordability line.

Finally, if you have an adjustable rate mortgage, you *really* want to have your monthly payment fall far below the average amount listed above, because your future mortgage payments after your rates are adjusted will likely be quite a bit higher as compared to today's just off-the-bottom, all-time-record lows.

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Rabu, 17 Juli 2013

The Extreme Linearity of U.S. Housing

Extremely linear. That's the term we would use to describe the basic relationship between what people pay to live in the homes they own and what they earn.

Here's the evidence. We constructed the chart below from data collected as part of the Consumer Expenditure Survey for each year from 1984 through 2011 (full year data for 2012 won't be available until late September 2013), which presents the average annual amount of money spent toward mortgage and interest payments, property taxes, insurance and other expenses associated with home ownership for a number of income ranges.

Annual Expenditure for Owned Dwellings vs Annual Income Before Taxes for Various Income Ranges Reported in the Consumer Expenditure Survey, 1984-2011 [Current Year U.S. Dollars]

In this chart, we've excluded the data for the lowest and highest income ranges presented in the data, since these cover unbounded conditions that makes them outliers with respect to all the other reported data.

The data points are then clustered at the average annual income before taxes that apply for the reported income ranges, which are the standard ranges reported in Table 2 of the Consumer Expenditure Survey, which covers expenditures for various income levels up to $70,000, and also Table 2301 (for 2003 and after), which provides additional detail of average annual expenditures for a number of income levels above $70,000.

Taking all the data together, what we find is that there is a very strong and direct straight-line relationship between the expenditures for home owners and their income before taxes.

That relationship continues to exist after we adjust for the effects of inflation over time. Our next chart shows the same data as the first, but in terms of constant 2011 U.S. dollars.

Annual Expenditure for Owned Dwellings vs Annual Income Before Taxes for Various Income Ranges Reported in the Consumer Expenditure Survey, 1984-2011 [Constant 2011 U.S. Dollars]

Just for fun, we next performed a linear regression for the data for three years, 1986, 2007 and 2011, which we've presented in our third chart (all data is presented in terms of non-inflation adjusted current year dollars.)

Annual Expenditure for Owned Dwellings vs Annual Income Before Taxes for Various Income Ranges Reported in the Consumer Expenditure Survey for 1986, 2007 and 2011 [Current Year U.S. Dollars]

We selected these years because they include a very long-ago pre-housing bubble year (1986), the peak housing bubble year (2007) and a post-bubble pop year (2011).

Here, we find that the lines for the relationship between housing expenditures and incomes for the non-housing bubble years of 1986 and 2011 are close to parallel to each other, but the slope for the peak housing bubble year of 2011 is considerably steeper, as housing expenditures spread considerably for a given level of income compared to non-bubble years.

That observation suggests that one of the characteristics of a housing bubble is that it will affect the slope of the relationship between housing expenditures and incomes, as expenditures first swell with the inflation phase of the bubble before collapsing after it pops and begins to deflate, in tune with the illusion of having more wealth than can be afforded on the incomes of homeowners.

We think that the actual mechanism by which this phenomenon works is pretty humdrum, largely amounting to homeowners tapping the apparently growing equity in their properties through refinanced mortgages and home equity loans during the inflation phase of the housing bubble, the payments for which are then added to the expenditures for housing. As a housing bubble grows, the slope steepens until it pops, after which the slope levels back out as homeowners struggle to get their housing expenditures back in line with their actual level of household income. (Or as the sentimental data jocks at the Bureau of Labor Statistics like to call them, "consumer units").

It's pretty amazing difference that such an apparently small change in the slope of the relationship between housing expenditures and income makes for all the difference between excessive exuberance and depression in the U.S. housing market.

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Rabu, 26 Juni 2013

As the Second U.S. Housing Bubble Inflates: Month 10

In May 2013, the trailing twelve month average of median new home sale prices in the U.S. continued to inflate, reaching an initial value of $253,033. This marks the fourth consecutive month in which a new record has been set for this particular statistic, which has risen by $2,058 from the previous month's figure.

Meanwhile, the trailing twelve month average of median household income for May 2013 has come in at $51,351, rising by $50 from the figure recorded in April 2013. This value is still short of the record of $51,444 set for this statistic in December 2008, just before the large scale losses of high paying jobs in the U.S. automotive industry took place. [Prior to December 2008, job losses for the recession starting in December 2007 were concentrated among positions that were typically held by young adults and teenagers, where increases in the federal minimum wage in 2007 and 2008 were primarily responsible for the seemingly permanent elimination of hundreds of thousands of these low-income earning positions.]

Our chart below shows the trend for the non-inflation adjusted twelve-month trailing averages of both median new home sale prices and median household income for each month since December 2000:

U.S. Median New Home Sale Prices vs Median Household Income, 1999-2013

With the latest update to its Excel spreadsheet detailing median new home sale prices, the U.S. Census has revised its figures for a number of previous months upward. With that updated data, we find that since the second U.S. housing bubble began to inflate in July 2012, the median sale price of new homes has increased on average by about $23 for every $1 increase in median household income. This represents a faster average pace of growth than was recorded during the inflation phase of the first U.S. housing bubble.

The Spark for Inflating the New Housing Bubble

As with the first U.S. housing bubble, which sparked off its inflation phase back in November 2001, the proximate cause of the second U.S. housing bubble is nearly identical: a sudden and very large influx of money flowing into the U.S. housing from the sale of investments in other markets.

In 2001, the dominant source of those funds came from the sale of stocks, whose prices had been originally bid up during the inflation phase of the Dot-Com Bubble from April 1997 to August 2000, which investors first mostly held and then began to sell off in great quantitites in 2001. In 2012, the dominant source of funds flowing into the U.S. housing market came from hedge funds and real estate investment firms, such as the Blackstone Group, which made a strategic decision enter into the residential real estate market using the proceeds it was accumulating from the sales of their previous investments in corporate real estate after good opportunities in that market began to become hard to find.

The influx of these funds into residential real estate markets led to the depletion of the available inventory of homes to historically-low levels in many of these markets, which in turn, led to sharp increases in U.S. new home sale prices compared to more sustainable growth rates, both in 2001 and in 2012, even though investors in both 2001 and in 2012 were primarily focused on acquiring existing homes, and distressed properties in particular in 2012.

That's because new homes are, virtually by definition, at the margin for all real estate markets. Their prices are therefore especially sensitive to changes in the levels of both supply and demand in the overall market.

And that's another reason why our method of tracking median new home sale prices with respect to median household income is so effective at detecting the inflation or deflation of potential bubbles in housing markets in their earliest phases. If we see median new home sale prices racing far ahead of median household income, it's a pretty clear indication that something has upset the established equilibrium within the U.S. housing market.

Speaking of which, we'll close with an updated version of our chart showing the long-term view of what established equilibriums for median new home sale prices really look like in the United States:

U.S. Median New Home Sale Prices vs Median Household Income, 1967-2013

Since 1967, median new home sale prices in the U.S. have typically increased by anywhere from $3.34 to $4.07 for every $1 increase in median household income in the absence of any periods of bubble inflation or deflation in U.S. housing markets.

References

Sentier Research. Household Income Trends: May 2013. [PDF Document]. Accessed 26 May 2013. [Readers should note that we have converted all older inflation-adjusted values presented in this source to be in terms of their original, nominal values (a.k.a. "current U.S. dollars") for use in our charts, which means that we have a true apples-to-apples basis for pairing this data with the median new home sale price data reported by the U.S. Census Bureau.]

U.S. Census Bureau. Median and Average Sales Prices of New Homes Sold in the United States. [Excel Spreadsheet]. Accessed 28 May 2013.

Previously on Political Calculations

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Rabu, 29 Mei 2013

As the Housing Bubble Inflates: Month 9

Yesterday was all abuzz as the just-released Case-Shiller index for March 2013 revealed that home prices in the U.S. had increased by 10.9 percent from their March 2012 level.

That, of course, is nearly two-month old news. Our first chart jumps a month forward in time to see where things stand through April 2013:

U.S. Median New Home Prices vs Median Household Income: 1999 through Present (April 2013)

Here, the U.S. Census Bureau reports that median new home sale prices in the U.S. reached a preliminary record value of $271,600 in April 2013, with the 12-month trailing average of median new home sale prices reaching a preliminary record value of $250,633. We say these values are preliminary since they will be revised as additional data is recorded in the next several months. The recent trend has been for the data to be revised upward.

Meanwhile, Sentier Research indicates that median household income has reached a value of $51,546 in April 2013, up from the $51,320 that they previously reported for March 2013. Here, the 12-month trailing average of median household income in the U.S. is $51,301.

In the nine months since the second U.S. housing bubble began to inflate in July 2012, the median sale price of new homes in the United States has increased at an average rate of well over $22 for each $1 increase in median household income. The only period of time in modern American history that had a similar rate of price escalation was the original inflation phase of the first U.S. housing bubble.

Our second chart shows more of that history. The red-dashed line box in the upper right hand corner is detailed in our first chart:

U.S. Median New Home Prices vs Median Household Income: 1967 through Present (April 2013)

Meanwhile, the staff of the Wall Street Journal is resisting the mere idea that a new bubble has begun to inflate in the U.S. housing market:

Recent increases in home prices have already ignited new talk of a housing bubble. Don’t believe it.

Some regions are seeing a surge of housing demand amid extremely low interest rates and investors searching for opportunities. And it is true that some regions are up more than 25% from their bottom. But as Dan Greenhaus of BTIG LLC points out, none of the 20 cities tracked by the Standard & Poor’s Case-Shiller home-price indexes is back to its peak level.

"Those previous peaks may not have been justified but they were and are largely seen as 'bubble levels,'" said Mr. Greenhaus. "Can home prices again be in a bubble and yet be 27% below their previous peak? Perhaps, but we don’t yet think so."

The median new home sales price data begs to differ, although the WSJ staff has suggested an alternative explanation for why they are ratcheting up so quickly.

Still, we find this line of thinking to be interesting, in that it indicates that they really believe that the greatly inflated prices of homes during the first U.S. housing bubble were really reasonable and that they could be supported indefinitely on the household incomes of U.S. homebuyers, if not for their bad luck!

From that perspective, it's just unfortunate that today's median new home sale prices are growing so much more quickly than the median household incomes earned by the kind of Americans who might want to buy and live in them.

Previously on Political Calculations

Our ongoing analysis of the development of the second U.S. housing bubble, presented in chronological order below!

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Rabu, 01 Mei 2013

The Market Cap of the U.S. New Home Market

What is the market capitalization of the U.S. new home market?

To find out, we first took the U.S. Census Bureau's seasonally-adjusted estimate of the number of new home sales for each month from January 2012 through March 2013:

Seasonally-Adjusted Number of New Home Sales in the U.S., January 2012 - March 2013

Then we multiplied those seasonally-adjusted values by the average new home sale price recorded by the Census Bureau for each of these months:

Average Value of New Home Sales in the U.S., January 2012 - March 2013

That allows us to arrive at the new home market's equivalent of the stock market's market capitalization!

Seasonally-Adjusted Value of All New Home Sales in U.S., January 2012 - March 2013

We selected the period from January 2012 through March 2013 so we could focus on the new inflating bubble taking hold in the U.S. housing market. Here are some quick takeaways from what we see in the charts:

  • Initially, it only took an additional 1,400-1,500 new home sales each month to launch the bubble.

  • After holding steady for several months, the quantity of new home sales then escalated rapidly in the period from November 2012 through January 2013, peaking in January 2013, dropping dramatically in February 2013, and recovering somewhat in March 2013.

  • The spike in prices in January 2013 is a direct result of the fiscal cliff crisis, which ran from November 2012 into early January 2013. The surge in sales during these months represents a portion of the massive amount of money that left the stock market in the form of the capital gains and dividends that successfully avoided the higher tax rates taking effect in 2013.

  • The market cap of the U.S. new home market averaged about $8.2 billion per month in the first six months of 2012. It averaged $9.2 billion per month in the second half of 2012 with the onset of the second U.S. housing bubble.

Coincidentally, a large amount of money leaving the stock market was the spark for igniting the first U.S. housing bubble.

But the actions of investors seeking to avoid the higher tax rates taking effect in 2013 only explains why new home sales spiked during the final months of 2012 and the first months of 2013, as money flowed out of one market and into the other. It doesn't explain what caused the second U.S. housing bubble to begin to inflate back in July 2012, as we had previously speculated.

And that, as it happens, is a more complex story....

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Selasa, 30 April 2013

The Second U.S. Housing Bubble Continues to Inflate

After we had first announced that a new housing bubble had taken root in the U.S. economy beginning in July 2012, we soon followed up with additional analysis that suggested that it had perhaps begun to decelerate to a more sustainable level after December 2012. Recently revised data from the U.S. Census Bureau for the median sale prices of new homes in the United States through March 2013 now confirms that there has been no slowdown in the rapid inflation of new home sale prices observed since July 2012.

U.S. Median New Home Sale Prices vs Median Household Income, 1999-2013, through March 2013

Since 1967, there is only one period of rapid price escalation that even comes close to matching the current trend for median new home prices in the United States: the initial inflation phase of the first U.S. housing bubble, which ran from November 2001 through September 2005 - approximately the time at which the Federal Funds Rate began to converge with the level that would apply if the Federal Reserve had been following the Taylor Rule.

What is more remarkable however is that the trailing twelve-month average of median new home sale prices through February 2013 has now exceeded the peak value set at the height of the inflation phase of the first U.S. housing bubble. The previous record for this figure was set in March 2007 at $245,842. In February 2013, the trailing year average of median new home sale prices is now $246,167 and the preliminary data for March 2013 has it increasing further to $246,767.

These new figures may be subject to revision during the next several months.

Since the inflation phase of the second U.S. housing bubble began in July 2012, the trailing twelve-month average of median new home sale prices has increased by an average of $2,532 per month through February 2013. By contrast, the trailing twelve-month average for median household income in the U.S. has increased by an average of $121.56 per month, as median home prices have been rising by an average of roughly $21 for every $1 increase in median household income.

In more normal circumstances, or at least those we've observed since 1967, a $1 increase in median household income would typically correspond to somewhere between a $3 to $4 increase in median new home sale prices.

Previously on Political Calculations

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Jumat, 12 April 2013

New U.S. Housing Bubble Sparks Import Surge from China

From all appearances, the U.S. economy is now performing much more strongly than China's economy.

Year Over Year Growth Rate of U.S.-China Trade, January 1986 - Present

Going by the growth rate of the value of trade between the two nations, it appears that the U.S. economy turned a corner in August 2012, when it briefly turned negative. Since then, the relative health of the U.S. economy appears to have improved, which we see in the form of a rising demand for imported goods. For the data just released for February 2013, it appears that pace of economic growth in the U.S. is outstripping the rate of growth in China.

Meanwhile, the pace of growth of the Chinese economy appears to have rebounded off its slowness from last year, confirming that nation's economy has likewise improved, although not at the same rate as the U.S. economy.

This period of increased demand for imported goods in the U.S. approximately coincides with beginning of the sudden inflation in new home sale prices, as the housing sector of the U.S. economy began to show signs of a new bubble beginning to inflate in August 2012. Here, U.S. new home sale prices began to surge at a rate not seen since the first U.S. housing bubble ignited into its rapid inflation phase after November 2001.

That activity, in turn, appears to be what has sparked an increasing level of Chinese exports to the United States. We can confirm that much of this increase was driven by the improvement of the housing sector of the U.S. economy, as 54.6% of the year-over-year net increase in the total dollar value of goods imported into the U.S. from China in 2012 is represented by such goods as household and kitchen appliances, furniture and especially other kinds of household items.

Or rather, exactly the kinds of things you would expect to be in demand to support an improved housing sector of a nation's economy, which we'll take another look at soon.

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Kamis, 28 Maret 2013

Fuel, Oxidizer and a Spark - Part 3

It's easy to forget that it takes three components to make a fire: fuel, oxidizer and a spark. Typically, you only see two of the fire-making components coming together: fuel and the spark. But that's only because the oxidizer is already there, in the form of the invisible oxygen molecules that are in the air. Without it, you're not going to succeed in making a fire. But with it, not only can you make a fire, you can make a huge fire.

In this third installment of our series, we'll explore how oxidizer, in the form of the "environmental" factors of financial and governmental policies, contributed to the fire that was the first U.S. housing bubble.

The Impotent Fed

After consistently throwing fuel on the fire that was the first U.S. housing bubble during the first years of its existence, the Federal Reserve became increasingly concerned that the U.S. economy was becoming too overheated by June 2004, a year after it had lowered its benchmark Federal Funds Rate to what was then an all-time record low level.

The Fed's Open Market Committee then used every opportunity provided by its regular meeting schedule to jack up interest rates by quarter-point intervals over the next two years, with mortgage interest rates following suit.

But the rise in home prices that defined the inflation phase of the first U.S. housing bubble continued on unabated. Prices rose at the same rate they did before the June 2004 interest rate hike all the way through September 2005 before shifting to a slower upward trajectory.

U.S. Median New Home Sale Prices vs Median Household Income, 1999-2013, through February 2013

But the forces behind the bubble's upward inflation continued, until the bubble finally peaked in March 2007, as it plateaued near that level for the next several months before finally entering its deflation phase after November 2007, as the U.S. economy entered into recession.

But why was the Fed's policy of increasing interest rates to halt the inflation of the bubble economy so impotent? With homebuyers worldwide traditionally very sensitive to changes in mortgage interest rates, how could the bubble in U.S. home prices have continued for so long after the Fed began acting to correct the situation?

The answer to these questions may be found in the reaction of financial institutions and government policy makers to the prospect of slowing economic growth, who responded to the Fed's efforts by fanning its flames in opposition to the Fed's actions - feeding oxygen to what might otherwise have been a fading fire and making it burn more brightly instead.

Fanning the Flames

Recalling that the first U.S. housing bubble was initially sparked by investors looking for something to do with the money they took out from the stocks they sold during the deflation phase of the Dot Com Stock Market Bubble, we should note that a lot of that money entered the housing markets of the U.S. in the form of large cash down payments.

Not coincidentally, the kinds of mortgages that were taken out to fund home purchases in the initial phase of the housing bubble were conventional mortgages, which really benefited from the Fed's low interest rate policy.

But as time progressed and interest rates began to rise again in 2004, those mortgages became more expensive. Along with the increase in home values that were taking place, the combination of rising rates and rising prices should have cooled the market.

But financial institutions, both private (PLS) and government-supported enterprises (GSE), enjoying the outsize profits they were making on their real estate loans fought back against the Fed's actions by funneling home buyers into adjustable rate mortgages (ARM) instead of fixed rate mortgages (FRM), which offered lower introductory interest rates, and which lowered the initial costs of buying a home.

FHFA Composition of Mortgages

Soon, even that change wasn't enough to continue the flow of profits, and more aggressive financial institutions began degrading their mortgage underwriting standards to fan the flames of the bubble. Subprime loans were increasingly pushed to bring individuals who would not otherwise qualify for a mortgage into homes they couldn't otherwise afford. Ultimately, outright fraud became a common practice in the form of "liar loans" and the "robosigning" of mortgage documents.

But how did that come to happen? And where was the government in all this?

As it turns out, many of these actions were actually enabled years earlier by seemingly well-intentioned government policies, and pushed by seemingly well-meaning politicians and regulators.

Enabled in Washington D.C.

What happens when powerful politicians use the power of their offices to sway regulators to push policies that promote home ownership, no matter the cost?

It's a tenet of economics to observe that people respond to incentives. And if those incentives come in the form of political and regulatory pressure to comply with a well-meaning politician's goal, or the goals of their major campaign contributors, then something is going to happen, especially if it puts money in certain people's pockets.

Unfortunately, we often only find out that particular dynamic after charges have been filed. Often years after the fact:

Washington, D.C., Dec. 16, 2011 — The Securities and Exchange Commission today charged six former top executives of the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac) with securities fraud, alleging they knew and approved of misleading statements claiming the companies had minimal holdings of higher-risk mortgage loans, including subprime loans.

Russ Roberts offers a perspective of the government's role in the years leading up to and through the inflation phase of the first U.S. housing bubble:

The SEC suit against former execs of Fannie and Freddie appears to vindicate the Pinto/Wallison view that government housing policy pushed Fannie and Freddie into unsafe loans and caused the financial crisis.

I think Pinto and Wallison are half right. Fannie and Freddie did help cause the financial crisis. But not in the way Pinto and Wallison claim and not without a lot of help from the investment banks. Fannie and Freddie helped push up the demand for housing between 1995 and 2003. During that time, they expanded their activities, particularly among low-income borrowers. They started making loans with low down payments. This was not a secret by the way. Fannie Mae’s CEO, Franklin Raines bragged about it in 2000. Josh Rosner wrote about it in 2001. All of that activity drove up housing prices. That in turn, made it imaginable to lend to people who normally would not qualify for a mortgage and to lend them money without very much or any down payment. That in turn made the financial alchemy of AAA-rated mortgage-backed securities (MBS) possible. So yes, Fannie and Freddie had something to do with the crisis.

This aspect of the government's involvement in enabling the housing bubble helps explain why so many minority and low-income earning individuals found themselves badly burned when the housing bubble finally entered into its deflation phase after November 2007 - they were the intended beneficiaries of the policies the government had established in the 1990s to help them become home owners. As things played out, they became the hardest hit victims of the degradation of underwriting standards championed for them by U.S. politicians, as many were financially incapable of sustaining the payments on the houses they bought when the economy turned downward.

But that's not the full scope of the damage. Roberts goes on to identify the "too-big-to-fail" moral hazard aspect of the government's involvement in backing the risks being taken by the U.S. investment banks and Government Supported Enterprises (GSEs) like Fannie Mae and Freddie Mac and how that directly led to the financial crisis in 2008:

To really explain the housing boom and bust followed by the financial crisis, you need an explanation of why Fannie and Freddie AND the investment banks were so reckless. The Pinto/Wallison explanation is that Fannie and Freddie were reckless because the government made them do it. The left’s explanation is that the investment banks were reckless because the govnernment let them do it. Both left and right ignore the role of the other part of the market. But more importantly, both the left and the right leave unexplained how the reckless risktakers–the GSE’s and the investment banks–were able to do it–how they all were able to borrow money at relatively low rates despite ridiculous levels of leverage. How were they able to borrow all that money at so low rates when leverage meant high risk for the lenders?

My answer is that they were all GSE’s, all government sponsored enterprises–Fannie and Freddie and Bear and Citi and Goldman and Lehman and on and on. They all had an implicit guarantee from the government that allowed them to borrow at low rates (often from each other), rates that were well below market because of the implicit guarantee. And they were able to borrow at low rates even though they were highly leveraged which made them vulnerable to defaulting on their debt. Despite that vulnerability, they were still able to borrow at low rates. When things fell apart, almost all the creditors, lenders, and bondholders got all their money back, 100 cents on the dollar. The only exception was Lehman. The rest were all taken care of despite funding really bad bets.

For institutions like these, it must be nice to have Uncle Sam either backing or directing your every ill-advised move.

From Bubble to Bonfire

We find then that the steady degradation of underwriting standards, often prompted by legislation or by political pressure placed upon financial institutions during the late 1990s and early 2000s, that enabled the first U.S. housing bubble to become as large as it did by supplying the oxygen that fanned the flames of the bubble when it might otherwise have died out. We can see this in the growing number of sub-prime loans, as well as outright "liar loans" made increasingly throughout the bubble's inflation phase. That Fannie, Freddie, Bear, Citi, Goldmann, Lehman, etc. were all behaving as if they could reliably expect a bailout from the taxpayers no matter what only contributed to that environment.

The fuel for the U.S. housing bubble was the interest rate policies of the Federal Reserve, which held interest rates well below where the market would have otherwise set them, and especially so in 2003 and 2004, following the terrorist attacks of September 11, 2001 and subsequent recession. The inflation phase of the housing bubble didn't begin to decelerate until the Fed began pushing up U.S. interest rates to where they should have been all along in 2005 and 2006, as defined by the Taylor Rule.

But the spark that ignited the fire was the bursting of the Dot-Com stock market bubble, which began after August 2000, as the outflow of funds from that event provided a good portion of the money that helped push up real estate prices at a time the U.S. was entering into recession, breaking the established relationship between housing prices and household incomes. That factor, combined with the development and expansion of low-and-no money down mortgage products, as well as relaxed underwriting standards, was sufficient to counteract what typically happens in a recession, when housing prices fall in lockstep with falling household incomes and to cause it to grow beyond anyone's imagination.

And thus the bonfire that became the first U.S. housing bubble was formed. All it took was fuel, oxidizer and a spark.



Notes

Sharp-eyed readers will note that we've modified our chart detailing the relationship between median U.S. new home sale prices and median household incomes since we debuted this series two days ago!

Incorporating just released data for February 2013 into it, we can make a pretty good, but only preliminary argument that the recent run-up in home prices since July 2012 only inflated at rates consistent with the inflation of the first U.S. housing bubble through December 2012. We'll be able to confirm if that's indeed the case with just two to three more months of data. (We don't cite Keynes often, but we find this alleged quote applies.)

If that is the case, what we saw from July 2012 through December 2012 is more consistent with the shift in home prices that occurred following the enactment of the Tax Reform Act of 1986. Here though, we suspect we'll find the fingerprints of the reaction to the risk of higher taxes related to the fiscal cliff crisis at the end of December 2012, which we'll take on in upcoming posts.

Previously on Political Calculations

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