Last week, S&P/Case-Shiller released its latest data, up through July 2014. The 20-city home price index was up, year-over-year by 6.7 percent. S&P’s spokesman described the latest data as evidence of a “broad-based deceleration in home prices.” It’s true that’s the smallest YOY change since December 2012, but 6.7 percent is still a long way from zero or negative territory. July was the 8th month in a row that the YOY change in the index got smaller, and while I’m certainly not in the prediction business, that trend looks a lot like what we saw in 2006 as the last housing boom started to lose steam quickly. This graph provides a quick visual reminder of recent home industry history:
The old bubble is obvious over on the left side, and then there’s the following bust. That little eruption back up into positive territory in 2010 was largely a result of the first-time homebuyer tax credit that was pushed through at that time. Many buyers rushed to make a purchase in time to qualify for the tax credit, pushing prices up temporarily. But prices headed down again in the wake of the tax credit, which had only really provided an incentive to hurry up for people who were already planning to buy anyway. To halt that downward slide you see in late 2010 and 2011, the Fed kicked in QE2, and managed to re-inflate a new housing bubble.
Policymakers Don’t Care About Affordability
Pushing up home prices is basically gospel at this point with the central bank, so from their perspective the last two years have been a success story. The problem for ordinary people, of course, is that home prices are up. In fact, even in this environment of “weakening” home price inflation, 6.7 percent in one year is a punishing rate of price growth for an ordinary person. If you decided to wait a year and put your money in the bank while you saved more for your down payment, well guess what: you certainly didn’t get 6.7 percent on your savings account. You just lost a bunch of money to inflation over that year. It doesn’t matter to the important people though, because for the sake of too-big-to-fail banks and major investment institutions who still have a lot of mortgage-based investments on their books, the prices just had to be forced back up. As we can see in the second graph, Mission (Partially) Accomplished:
Low Rates Beget the Need for Even Lower Rates
Thanks to various QEs and relentless subsidization through Fannie and Freddie and low interest rates, home prices are slowly clawing their way back up to where they were in 2006. But it hasn’t been nearly as easy as the Fed had hoped. When mortgage rates fell at the end of 2001, borrowing activity surged, and surged a lot. And back then we’re talking about rates that we could consider to be “high” in today’s environment, although they were in the mere 5-6 percent range. Those rate cuts (following big cuts in the federal funds rate) back in 2001 and 2002 led to huge increases in home purchases and refinance activity. But since 2009, even though the Fed keeps pushing rates lower and lower, and well below anything seen after the dot-com bust, the response from consumers keeps getting more and more tepid. In spite of the Fed’s best efforts, home sales transactions are not at all comparable to what was seen prior to 2008, and a lot of the activity we do see is among investors looking to rent out houses, and not among resident homebuyers, even though that’s who we’re told benefit from easy-money policies. Below, we see how since 2006, the average 30-year fixed mortgage rate has gone down 39 percent (I’ve multiplied the mort. rate by 25 to put it on the same scale as the price index). And yet, in spite of incredibly low rates - down under 4 and 1/4 percent - we’re not seeing anything near the price growth (and demand) we saw back from 2002 to 2006. (I’m aware that mortgage rates rely on many factors other than just the federal funds rate, and are thus not directly set by the Fed, but the Fed’s actions are certainly the key variable in the current environment):
Here’s a longer historical perspective, going back to 2000. Basically, from 2000 to 2006, the home price index went up 100 percent as mortgage rates fell 30 percent over that period. But even with a mortgage rate down below 4 percent in recent years, consumers are simply unable to respond how they might have a decade ago. Home prices should be continuing to accelerate in the face of such low rates, but the problem is the employment situation continues to be mediocre at best, and the capital upon which many consumers could draw upon ten years ago has long since been exhausted.
