Housing Optimism Is a House of Cards

By Jack Lavery  APR 06, 2009 9:10 AM

Foreclosures, deflation putting pressure on industry's balance sheet.

 


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Some of the headlines sound promising, as does a 4-week advance in the Dow Jones Industrial Average (DJIA) to 8,017.59. On March 17, housing starts for February rose 22.2% from the prior month, following 7 straight declines. Multi-family starts surged 82.3% in February (due heavily to unusually warm and dry weather for the month), while single-family edged 1.1% higher.

Housing starts were well above consensus and my own expectations, surging to an annualized pace of 583,000 units in February. Permits rose as well.

On March 23, existing home sales grew 5.1% from January, to an annualized pace of 4.72 million units, per the National Association of Realtors.

The reality is that foreclosures and short-selling activity accounted for roundly 45% of aggregate sales of existing homes. Declining prices on existing homes puts downward pressure on new-home prices, and constrains new construction.

Inventories of existing homes were still at an engorged 9.7 month supply at February’s selling rate. Yes - lending rates have eased, but bank lending is tight and the labor markets hardly inspire confidence.

On March 25, February new-home sales were released, and rose 4.7% from January to a 337,000 annualized pace, well above consensus expectations.

The bad news is, nearly half of new-home inventory is fully completed, well above normal. Builders will be placing downward pressure on housing valuations, so as to try and move the merchandise.

Remember that housing starts are still 47.3% below year-earlier levels. And last Tuesday’s Case-Shiller data on home prices in January deflated at an accelerating rate, off 2.8% from December, down 19% year over year (YoY), and declined 26.5% at an annualized rate over the last 3 months through January.

The latest data (February) on Federal Housing Administration (FHA) insured home mortgages had escalating defaults. Fully 7.5% of FHA loans were “seriously delinquent” at the end of February. This is a worsening from 6.2% a year earlier.The FHA defines seriously delinquent mortgages as more than 90 days past due, in the process of foreclosure, or in bankruptcy. The bottom line is that home prices continue to deflate. This is pressure on the household sector’s balance sheet from declining home valuations. Inventories of new housing are running closer to a 12-month supply.

I don't believe an economic recovery can begin without a housing recovery, which can’t begin until housing deflation stops. And, I believe that will require new-home inventories falling to or through an 8-month supply. That suggests downward pressure on new construction, if inventory liquidation is to be achieved.

I continue to believe that a sustained recovery in real economic activity won't eventuate until late 2010, around the November off-presidential elections.

The coming week’s indicator expectations include the Tuesday. April 7 report on consumer credit in February. While likely up slightly less than $1 billion, it would suggest annual growth under 1%, down from 1.5% in January, and 5.8% at the fall ’07 peak.

Consumer deleveraging will persist in earnest, the strongest headwind to a sustained recovery. The consensus has a decline of $1.3 billion in consumer credit envisioned. Wednesday, April 8, reveals February wholesale inventories, which likely fell at least 0.6% - a slightly-faster-than-consensus decline. But, with sales plummeting, the inventory/sales ratio likely rose from January, which had the highest wholesale I/S ratio in 7 years.

The Federal Open Market Committee (FOMC) minutes may give us the first official evidence about quantitative easing. Thursday, April 9, likely reveals a February trade deficit between $36 and $37 billion, in line with consensus. The bottom line is declining US and global trade activity in February. March import prices likely rose 1.1% -- the first jump since July --due to energy.

My view is a somewhat faster rise in import prices than the consensus sees. On Friday, April 10, the March federal budget deficit is pegged by the consensus at $150 billion. My estimate is higher, a $180 billion Red Sea. The deficit will approach $1.5 trillion in 2009. I wish I could hear what Everett McKinley Dirksen would say.

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No positions in stocks mentioned.

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