Housing’s Next Phase –puppeteers and interest rates

After past recessions, interest rates had nowhere else to go except down but after the great recession, interest rates have nowhere else to go except up. 

The Federal Reserve has always been the tail that wags the dog – not so much anymore. The rise and fall of housing is directly affected by the Federal Reserve’s actions because they are the puppeteer. Did you know that for over 35 years, the Federal Reserve has been lead by only three puppeteers?

• Paul A. Volcher 1979 – 1987 (1981 recession)
• Alan Greenspan 1987 – 2006 (1991 & 2001 recessions)
• Ben Bernanke 2006 - 2014 (2008 Great recession)

How would you rate their performances?

I remember the 1981 recession very well. You had to buy your home with a credit card with an interest rate of 18%! We watched the Fed’s action every month to see if the interest rates would be lowered. We probably refinanced our home three times during that period of time in which interest rates continue to go down. What is your interest rate today?

The 1991 recession was triggered by the Savings and Loan failures. All of the toxic real estate assets were bundled into the newly formed RTC - which worked very well. This approach should have been the solution to handle the 2008 bust.

Since 1979, we have had six Presidents – three Democrats and three Republicans! We know everything about the President’s but know very little about the operations and balance sheet of the Federal Reserve.

The Federal Reserve has been printing money, more money and more money to trigger economic growth – now for years………………. Fast forward to today:

Bureau of Economic Analysis: “Real gross domestic product -- 

the output of goods and services produced by labor and property located 

in the United States -- decreased at an annual rate of 2.9 percent in the 

first quarter of 2014 according to the "third" estimate released by the 

Bureau of Economic Analysis.  In the fourth quarter of 2013, 

real GDP increased 2.6 percent.”

          4th Qt 2013                   +2.6% 

                                                             Change of 5.5% in 3-mo

          1St Qt 2014                   -2.9%

“Profits from current production (corporate profits with inventory 

valuation adjustment (IVA) and capital consumption adjustment (CCAdj))

 decreased $198.3 billion in the first quarter, in contrast to an 

increase of $47.1 billion in the fourth.” 

        4th Qt 2013                  +$47.1 billion  

                                                                Change of $245.4 billion in 3-mo

            1St Qt 2014                 -$198.3 billion

So if the puppeteers are not having success with dramatic mood swings in the economy, what do you expect will happen to interest rates which are already at historic lows AND housing is not responding!  

Do you really think the Fed can manage a gradual increase in inflation by adjusting interest rates slowly? The Fed is between the sword and the wall? It will not end well.

Increasing inflationary pressures and having higher interest rates will not make us feel better nor cause us to have greater confidence in the economy. It is time to change economic course before it is too late. We can handle the truth but manipulating the truth for gain has us disconnected and disengaged.     

 

1970’s

2-income families increased about 20% since 1970. 50% of that increase occurred during the 1970’s. The balance of the shift occurred over the next 30-years.  It is the second earner that will allow buyers to buy a home …….but what happens if they choose not to buy?

The change in the family to a 2-income family caused the median price of homes to skyrocket. In the ‘70’s, the move-up market was created! The second income added over 30% to the available income to be qualified for a home mortgage.  The housing market shifted over night as builders built homes to meet the demand primarily driven by available family income – the market changed!

What do you think the result would be of a Fed action that would cause interest rates to increase above 6%? We do know that everything will cost more including our national debt.

1970 - 1979               2010-2012                 2014

Prime Rate                                        12%                            3.25%                         3.25%

SF Housing Starts                           888,100                      800,000                      900,000

US Population                                  213,300,000              314,000,000      317,600,000

Home Ownership Rate                   64.4%                         65.3%                         64.8%

Participation Rate                            61%                            64.0%                         63.0%

Please tell me that you see the stark differences between 1970 and 2012

But also see the deep concern in the differences compared to 2014.

This is not going to end well for the housing industry. 

Interest rates over the past four decades+ have always had an impact on the everyday consumer. Unfortunately, Millenials have not experienced the effects of higher interest rates.

1980’s

Internet Source: “In 1982, the Garn-St. Germain Depository Institutions Act was passed, which allowed S&Ls to raise interest rates on deposits, make commercial and consumer loans, and removed restrictions on loan-to-value ratios. At the same time, the Federal Home Loan Bank Board regulatory staff was reduced thanks to budget cuts.

The Garn-St. Germain Act -- which freed S&Ls to make risky loans, eliminate deposit caps, and hold less capital. S&Ls used their new freedom to pay higher rates to depositors and invested those new deposits in commercial real estate projects and junk bonds.”

In part, this led to the recession(s) of the ‘80’s.

2000’s

Lenders who ultimately lent funds to people with poor credit and a high risk of default were the cause of the great recession and they ruined families as they went.

A subprime mortgage is a type of loan granted to individuals with poor credit histories (below 600), who, as a result of their bad credit ratings, would not be able to qualify for conventional mortgages. Because subprime borrowers are a higher risk for lenders, the lenders offered subprime mortgages with interest rates above the prime lending rate. Why is this any different than a “loan shark”?

2010’s

                                             

                                                1970               2010               Jan  2014           My Nov 2016                                                                                                                                        Estimate

Annual Average                   5.03%             4.69%             4.40%                         6%

Interest Rates

Income                                   $7,494            $47,425          $52,000                      $55,000         

Price of Home that can      

be purchased with               $33,500          $218,000       $244,500                   $205,000*

income*
 

Median Price of                    $23,400          $221,800       $270,200                   $280,000

a Home in US

*This price includes a minimum down payment but doesn’t account for PMI costs. PMI is now charged to the borrower over the life of the loan! Also, a borrower would need over $50,000 for a minimal down payment and cover closing costs.

For historical context during previous recessions, the following are annual interest rate averages:

                                                            4-years later

1974                 9.19%                       9.0%                                                              

1981               16.63%                       13.1%

1989               10.32%                       8.0%

2000                 8.05%                       5.7%

2008                 6.00%                       3.9%

Housing – Next Phase

As the population increases the sheer number of people not owning a home or active in the workforce increases even if the homeownership and participation rates stay the same. The sheer number of people that are not working is the problem and will be THE problem for decades. The pent-up demand is extraordinary even with historically low interest rates.

The Federal Reserve is expected to control the pace interest rates increase before reaching a new economic norm. It will take a herculean effort to manage the rate of inflation and dodge another recession by 2016.

Housing will be on the sidelines until there is a defined economic path recognizable by the first time homebuyer.

Next week…………………….

“The Key to Our Economic Recovery is in the Hands and Minds of Millennials”