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House Price Outlook (17th March - 31st March 2008)

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This Month's House Price Crash Developments

> S&P/Case Shiller reported U.S. home prices down 10.7% versus last year.
> National Association of Realtors reported U.S. house prices fell 8.2% versus last year.
> They also reported that the price of single-family homes fell 8.7%.
> U.S. house sales are down 23.8% versus last year, representing a 9.6-month supply.
> Nationwide reported U.K. house prices fell for their fifth consecutive month, falling 0.6% since Feb.
> U.K. annual house price growth rate is now only 1.1%.
> Hometrack reported U.K. house prices fell 0.2% in March, for a decline of 0.4% year-on-year.

It’s been a bad couple of weeks for home owners. House prices continue to fall and foreclosures continue to rise.

It is no longer easy to borrow money – credit has dried up. Individuals are currently struggling to obtain the funds they desire in order to buy homes. Those with homes are struggling under the weight of their existing huge debt burdens and, as a result, the number of homeowners defaulting on their loans is growing by the day.

Section Index

Which Way Home Focus on: Credit troubles >
News Review >
Which Way Home final comments >

Which Way Home Focus on: Credit troubles...

In each newsletter I pick a key topic to focus on. This week it’s the root of the whole problem - a reliance on credit.

Increasing loan defaults force banks to cut back on lending. Firstly, banks need to protect themselves against loans going bad. Secondly, they are no longer able to package debt into financial products and sell it off to investors. A lot of investors have had their fingers burned and nobody wants anything to do with loans and mortgages anymore.

This has a knock on effect on house prices. The perceived risk of lending has forced up the interest rates you pay, despite aggressive cutting of base rates by central banks. The Fed can cut rates, but they can’t force banks to lend money.

So what does this all mean? A lack of availability of credit means that a much higher percentage of the purchase price of a house must be funded with cash. We haven’t been good at saving, just spending, so our deposits are small. If we can’t afford houses at their current price levels, then house prices will fall until they realign with the funds we do have available. Guess what? That’s much lower than current levels, despite the falls noted above. Homeowner’s paper profits will disappear.

The lack of credit is also impacting corporations around the world. Vast numbers of jobs are being lost, which leads to more loan defaults, more conservative banks, further evaporation of money, and of course, further pressure on house prices.

Whatever way you look at the financial world at the moment, I can’t see any positives for homeowners.

Please remember that we have just entered this new era of credit contraction. My view is that we will see a number of years of credit contraction before the economy has sufficient energy to begin rising again. Don’t be expecting a quick turnaround. Don’t be expecting the Fed to save the day with a few quick interest rate cuts.

Do expect further cuts in interest rates, for the dollar and pound to continue losing their value, for stocks and house prices to keep falling, and for commodities to keep rising.

Back to Section Index >

News Review

In this next section I relate current news headlines to the trends we see emerging in the housing market and in other key financial markets. It has been a busy period for news, and this week's summary is well worth a review. Happy reading…

High debt burdens lead to loan defaults, foreclosures and falling house prices…

It was a bad news period for homeowners…

During the period we learned that house prices across 20 major U.S. cities fell 10.7% versus a year ago, the steepest fall in the history of the S&P/Case Shiller home price index.

The National Association of Realtors also reported price falls. According to NAR the median U.S. sales price fell to $195,900, down 8.2% from a year earlier, the largest price decline recorded since the Realtors began tracking both single-family homes and condos in 1999. They reported that the price of single-family homes fell 8.7% in the past year, the most since the records began in 1968. Sales are now down 23.8% compared with a year ago representing a 9.6-month supply at the February sales pace.

Existing home sales rose 2.9% in February as the modest spring bounce got underway. It is the first rise in 7 months. Normally buyers flood the market in springtime, but in the current environment their desire to buy property is being tempered by falling house prices, the scarcity of available funding and a weak economic outlook.

Looking at sales of new homes, in the U.S., the Commerce Department reported a drop of 1.3% in February to a 13 year low. Sales have fallen four months in a row and are off 30% in the past year. The number of homes on the market dropped by 2.1% to 471,000, the lowest since July 2005. The inventory of homes for sale represented a 9.8-month supply at the February sales rate, the highest since 1981. The median sales price of new homes fell 2.7% in the past year to $244,100.

The Commerce Department reported that construction on single-family homes dropped by 6.7% in February to a seasonally adjusted annual rate of 707,000, the lowest in 17 years. Building permits dropped 7.8%, biggest decline in 13 years.

On the commercial side, a key barometer of activity is signalling that the abrupt downturn in commercial construction could run deeper, and last longer, than previously expected. The American Institute of Architects said its Architecture Billings Index for last month declined to 41.8, its lowest monthly reading since the aftermath of the Sept. 11, 2001, terrorist attacks, amounting to a 24% swoon over those two months.

In response to the ongoing weakness, regulators eased the excess capital requirements for two government sponsored U.S. mortgage giants. Fannie Mae and Freddie Mac were allowed to add another $200bil into the home loan market. I do not believe this action will have any notable impact on worsening sentiment.

In the U.K., lender Nationwide reported that house prices fell in March for their fifth consecutive month, falling 0.6% since February. The data brought annualized house-price growth down to 1.1%, the lowest level since March 1996, compared to an annual pace of 2.7% in February.

The property information group Hometrack also reported price declines, stating that house prices fell by an average of 0.2 per cent in March, for a decline of 0.4 per cent year-on-year. This was the sixth consecutive month in which house price rises slowed, reaching the lowest level since March 2006. The data also suggested that London house prices may also come under pressure as the number of new properties listed for sale rose by 8.4 per cent, while new registered buyers were up just 1.9 per cent.

Banks curb lending, individuals and corporations suffer as credit evaporates…

JP Morgan agreed to buy failed investment bank Bear Stearns for $2 a share. The shares traded at as much as $170 in 2007. Bear collapsed when its liquidity position significantly deteriorated following the popping of the global credit bubble. Investors received little public sympathy.

Seeking to deter rival bids, JP Morgan later increased its bid to $10 a share. At that point Bear chairman James Cayne, seeking a way out of the mess, sold his entire shareholding for around $61m. Private investors may want to follow suit, it is extremely unlikely you will recoup the value you have just lost, so use the money more wisely elsewhere.

Following concerns raised in the last Market outlook, Carlyle Capital Corporation announced it is to be wound up after the $22bn Amsterdam-listed mortgage fund said its shareholders had approved an application for a court appointed liquidator to sell its remaining assets.

Investment bank Lehman Brothers said it plans to raise $3 billion of capital to quash questions about its stability. As the credit markets dry up you can expect to see many more firms seeking to raise capital, else they go bust. But at some point investors’ appetite for pouring good money after bad will also dry up, and the number of failures will escalate.

Stock markets price in corporate woes and fall…

The S&P500 started the period with a new low for the correction, closing 19% down from its October high. The Nasdaq followed suit, down 24% since its own October high. Both markets have since entered into a fledgling rally, rising on high trading volume on March 20th. But this isn’t a rally to be chasing. As we would expect during the unwinding of a credit bubble, negative news and events continue to emerge and will carry on doing so for some time to come. The stock markets will not be able to swim against this overwhelming tide of distress for long.

Central Banks try to help, lowering interest rates and pumping out money…

The Fed cut rates by another 0.75% to 2.25% on March 18th, noting downside risks to growth and ongoing credit market problems.

The scale of the Fed cuts to date has been shocking, and suggests significant panic. Given that we are only a short way through this saga, the Fed will need to continue cutting rates in an attempt to boost liquidity and stop the financial system from grinding to a halt.

But here’s the thing, I would love to know what the Fed is going to do for an encore when they have cut interest rates all the way down to 0%. By that time the economy will be in a real slump and the Fed will be desperate to stimulate demand. However, as we saw in Japan in the 90’s, when a spectacular credit bubble deflates, lowering interest rates is unlikely to encourage people to borrow. By that point real estate values have fallen so dramatically that the last thing the public wants to do is take on more debt to finance purchases of any kind. The public will have turned a good deal more conservative than at any time before the bubble popped.

Their currencies fall in value as a result…

The Dollar rose following the rate cut as some traders expected rates to be cut a full 1% and the Fed warned about the risks of inflation, implying the rate cuts may be nearing an end. The Dollar’s small rise ended weeks of continuous drops.

My view is that the risk of lending money will continue to increase due, for example, to falling house prices or loan defaults following job losses. Banks will be forced to curb lending and the amount of credit up for grabs will continue to disappear at an accelerating rate. As homeowners and corporations struggle, the Fed will continue to cut rates aggressively in an attempt to halt economic collapse. Over the medium term the Fed will favour cutting rates over guarding against inflation. Their comments about vigilance against inflation is lip service, they have to say that so as not to appear to have lost control.

It is inevitable that further rate cuts are in the pipeline, which means the trend for the dollar will continue to be downwards. The value of the Dollar has been falling for years. The Dollar Index, which measures the strength of the Dollar against a basket of major international currencies (see it here) has fallen around 40% from its peak in 2001. Inflation has eroded its purchasing power and Dollar denominated assets are quickly losing their brand of quality. More people now want to sell their Dollars and Dollar denominated assets than buy them. The path for the Dollar is almost certainly down, down, down.

Commodities rise as currencies fall in value…

The smaller than expected Fed rate cut, and the above notion that the Fed will guard against inflation, caused commodities to sell off during the period. Gold gave back some of its recent gains. After reaching a high of $1,034oz on 17th it fell back to $916oz by period end. Silver, copper and wheat also fell. Crude oil, which topped $110 a barrel on 17th, fell back initially but prices rebounded by the end of the period to close at $105.62.

The price of rice, a staple in the diets of nearly half the world’s population, has almost doubled on international markets in the last three months. Rising prices and a growing fear of scarcity have prompted some of the world’s largest rice producers to announce drastic limits on the amount of rice they export.

If the trend for the Dollar is down, the trend for commodities will continue to be upwards. There are strong fundamental drivers behind these trends which are orders of magnitude more powerful than central bank intervention. 30+ years of exponential money supply and credit growth cannot be unwound quickly in 2008 with by a few sharp interest rate cuts.

As the prices of goods rise, disposable incomes decrease leading to more bad debts, loan defaults, foreclosures and falling house prices…

Pressure continued to be applied to jobs data. In the U.S. Citigroup said it was cutting about 2,000 more investment banking and trading jobs, as the largest U.S. bank moves to lower costs after sub-prime mortgage and credit problems led to a record quarterly loss. The cuts are on top of 4,200 job losses announced in January.

In the UK, Northern Rock staff were warned that about one-third of the 6,500 workforce faced the axe, as the nationalised UK bank begins the painful process of paying back the taxpayer and complying with European state aid rules.

U.S. foreclosures are occurring at the highest rate in decades. Last year, sales of foreclosed homes rose just 4.4%, while the supply of homes for sale more than doubled. As of the end of last year, about 2% of all home loans were in foreclosure, or double the average rate over the past 28 years. It is the highest foreclosure rate since the Mortgage Bankers Association, a trade group, began collecting data in 1979. Lenders describe the current situation as the worst since the Great Depression. I can believe it.

We also heard reports that Social Security and Medicare are facing “enormous” financial challenges, with the threat to Medicare far more severe. Trustees warned that the Social Security trust will be depleted by 2041, while the reserves in the Medicare trust fund that pays hospital benefits will be gone by 2019.

Back to Section Index >

Which Way Home final comments

In this period I was disappointed to see the Fed set a bad precedent by rescuing Bear Stearns. Central banks are supposed to be a lender of last resort but currently seem to have adopted a role as lender of first resort - creating and pumping huge sums of money into their economies, stepping in to bail out institutions which thrive on risk taking and profit maximisation. I can understand that the collapse of one bank could worsen the current credit crisis, leading to a chain reaction of failures, but the point is that if the perception existed that no bail out will come, these institutions probably wouldn’t take as many risks in the first place.

So there is no confusion, I do not believe the root of the problem lies with the banks. It is the fault of the governments for operating a policy of exponential expansion of their monetary bases (i.e. an exponential increase in their money supply). That the banks then take that supply of money and create an exponential supply of credit is a natural function of financial market mechanics.

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