- The Washington Times - Monday, May 12, 2014

The nation’s battered housing market, one of the last sectors to join the recovery, is faltering again in the wake of rising interest rates, raising fears that it once again may drag down the rest of the economy.

New and existing home sales in March were down by 13.5 percent from their peak nearly a year ago, cooling the rise in housing prices that, during a brief spurt last year, grew by more than 12 percent on average.

Economists say the nearly 1 percentage point jump in 30-year mortgage rates spurred by Federal Reserve policy over the past year has combined with fast-rising home prices to make housing less affordable for the average consumer, who continues to be pinched by limited wage gains and impaired access to credit. Moreover, first-time homebuyers, a group that plays a pivotal role in propelling housing growth, have been in short supply because of high unemployment rates and bloated student loan debts among the millennial generation.

“The substantial increase in the cost of becoming a homeowner is hurting housing in a non-trivial way,” said Tom Porcelli, chief U.S. economist at RBC Capital Markets, who estimates that the cost of owning a home has gone up by 22 percent in the past year.

Federal Reserve Chair Janet Yellen last week cited the threat of a relapse in housing as a principal concern of the central bank. After the Fed announced a year ago that it would slowly withdraw stimulus from the economy, housing sales dropped 10 percent within months.

Hopes that housing would regain momentum this year amid a broader economic recovery have been disappointed. Reports show the housing slump continued, and even deepened, during the normally busy spring.

A Fed survey last week showed that banks have pulled back mortgage lending in recent months to a level not seen since 2010, further raising hurdles for homebuyers.

Banks, stung by huge losses on defaults during the housing and credit crisis, have been targeting buyers with credit scores in the near-perfect range of 750 to 800 and have been spurning altogether about 25 percent of aspiring homebuyers with credit scores below 600, analysts say. As a result, mortgage lending during the first quarter was at its lowest level in 14 years.

With demand for housing loans “painfully weak,” Mr. Porcelli said, he expects housing to contribute 0.1 percent or less to economic growth this year, after providing double-digit gains in 2012 and 2013.

Middle class left behind

With middle-income homebuyers getting short shrift, James J. Puplava, chief investment strategist at PFS Group, said the market is increasingly dominated by wealthy homebuyers and investors who have the money and strong credit ratings needed in today’s market.

Unlike middle-class wage earners, who have barely been able to keep up with inflation because of stagnated earnings since 2008, wealthy homeowners and investors are flush with income and cash thanks to superlative gains on their holdings in the stock market. Purchases of homes costing $1 million or more have surged by 7.8 percent in the year ending in March, according to the National Association of Realtors, while home purchases of $250,000 or less, which represent almost two-thirds of the market, plunged by 12 percent.

“The housing recovery is mirroring America’s wealth divide,” Mr. Puplava said. “Million-dollar homes in the U.S. are selling at double their historical average while middle-class property demand stumbles.”

Middle-class buyers also are competing with well-heeled investors for lower-priced homes in many markets, as investors snap up properties they can fix up and rent at profit.

As first-time homebuyers and middle-class families scramble to secure loans to buy lower-end properties, investors often do end runs around them by paying in cash.

“While investors drain the market of lower-end properties, builders are [catering to the wave of affluent buyers by] constructing more expensive houses that generate bigger profit,” Mr. Puplava said. That combination is “putting homeownership out of reach for many Americans,” especially in high-priced residential areas on the East and West coasts.

Dearth of first-time buyers

In normal economic times, a steady flow of first-time buyers would be providing a powerful boost to the market. Since the Great Recession, though, young adults have been held back by double-digit unemployment and a cumulative student debt load totaling over $1 trillion. That has forced many members of the millennial generation to postpone home purchases and continue living with their parents or other relatives.

The proportion of 18- to 34-year-olds living with their parents has jumped to 31 percent from 27 percent before the recession, according to the Census Bureau. Along with other financial obstacles, that drove the share of first-time buyers in the market to a record low of 26 percent this year, down from 40 percent in previous years, according to the National Association of Realtors.

The scarcity of first-time buyers has prevented the chain reaction of linked sales that fuels housing growth, said real estate analyst Barry Ritholz. Owners of starter homes find it more difficult to find buyers and trade up.

Moreover, millions of owners have no equity in their homes because they bought at the height of the housing bubble in the mid-2000s or have so little equity that they cannot trade up to more expensive homes without putting down additional cash, making them reluctant or unable to offer their homes for sale.

That has led to a paradox of too few houses on the market, creating bidding wars on properties and putting prices further out of reach for first-time and credit-constrained buyers, Mr. Ritholz said.

“Beyond the first-time buyers, there are problems with the links in the home-selling chain,” he said. “As households have been deleveraging from the mid-2000s credit binge, they also have maintained a low savings rate. Combine that with relatively low household equity — as well as no-equity and underwater households — and you end up with a housing market that lacks a crucial ingredient for a robust recovery.”

Economic growth at stake

Even so, many economists hold out hope that the housing market will resume growth this year and continue to bolster the economy. Housing growth historically has been an essential ingredient for igniting and maintaining economic expansions in the U.S.

“The importance of housing on the broader economy shouldn’t be understated,” said James Frischling, president of NewOak Capital. The combination of stingy lenders and weak borrowers “doesn’t bode well for the housing market,” he said, but he is optimistic that lenders will loosen their standards and enable the market to grow again.

“With so many banks looking to put money to work, this may yet prove to be a buyers’ market — with some patience,” he said.

But Pater Tenebrarum, a hedge fund analyst, said the seeming recovery in the real estate market in 2012 and 2013 was nothing but an “echo bubble” fueled by the Fed’s lenient policies and the government guarantee on more than 90 percent of mortgages made since the recession through Fannie Mae, Freddie Mac and the Federal Housing Administration.

The Federal Reserve has been purchasing Fannie’s and Freddie’s mortgage bonds for several years to drive down mortgage rates. A year ago, rates on 30-year loans reached a record low near 3 percent.

In the Fed’s move to gradually reduce and end those purchases starting in December drove rates to over 4 percent and precipitated the market slump.

“There is no reason to believe that the echo bubble is any more stable than its predecessor,” especially given the government’s overwhelming role in fostering the latest recovery, Mr. Tenebrarum said, contending that housing’s brief recovery may turn out to have been entirely “illusory.”

“It is probably best not to pin too much hope on the echo bubble,” he said. “Wall Street firms buying up homes in [bank-owned foreclosure]-to-rental schemes don’t represent organic demand, and in fact only serve to price out potential first-time buyers.”

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