May 3, 2005
Still bubbling
Last month I wrote about house prices, and concluded that while housing markets are definitely prone to bubbles, it wasn’t clear that we were actually in one.
A new report from the Federal Deposit Insurance Corporation (FDIC) sees some froth:
U.S. average home prices rose by almost 11 percent in 2004. This was the most pronounced gain in nominal home prices since 1979 and was a substantially higher rate of appreciation than the 7 percent gains in both 2002 and 2003. Adjusted for inflation, the price of the average home in the OFHEO [Office of Federal Housing Enterprise Oversight] sample increased by 8 percent–the fastest pace recorded in 30 years.
The acceleration in home prices last year appears to have been greater than the improvement in underlying economic fundamentals would have suggested. Fundamental economic factors, such as rental rates and personal income, typically help to determine home price trends. Last year, home prices rose 11 percent, but rents only increased by 2.7 percent nationwide. In 2003, the 7 percent gain in home prices also outstripped a 2.4 percent gain in rents.
As for personal income, it grew 5.8 percent in 2004 and 4.2 percent in 2003. While stronger than the pace of rent growth, this was still far less than the pace of home price gains during the past two years. This gap between growth in home prices and incomes has been widening since the decade began. Moreover, the price-income gap has become especially pronounced in high-cost metro areas.
The FDIC also worries that the number of individual boom markets in the U.S.—defined as those in which inflation-adjusted prices have risen by at least 30% over a three-year period—increased by 72% in 2004, to 55 metro areas:
Some 15 percent of the 362 metropolitan areas for which OFHEO publishes the HPI [house price index] met the boom criteria at year-end 2004. This represents the highest proportion of “boom” markets nationwide in the 30 years of historical price data published by OFHEO. The 55 boom markets last year compare to 22 just two years earlier and to only 9 boom markets identified as recently as 2000.
The FDIC’s biggest concern is that this broadening boom is being accompanied by a fundamental shift toward riskier forms of lending. In particular, it notes that sub-prime mortgage originations surged to almost 20% of all mortgage originations in 2004, up from just under 9%in 2003; that adjustable-rate mortgages accounted for almost 46% of the value of new mortgages, up from 29% in 2003; and that interest-only mortgages accounted for 23% of the value of non-agency mortgage securitizations. All of which suggests there are an increasing number of marginal (i.e., stretched) borrowers in the market.
Oddly, the FDIC report buries the trend that bothers me most:
Data from Loan Performance indicate that 9 percent of U.S. mortgages in 2004 were taken out by investors, up from just under 6 percent in 2000. Furthermore, this share is significantly higher in local markets that are experiencing the strongest home price appreciation. In some of these markets, it is estimated that the investor share of new mortgage originations is as high as 19 percent.
Residential property investors are less loss-averse than owner-occupants, which means they’re more willing to sell precipitously if the market declines. That, in turn, would exacerbate any downturn, making a soft landing for house prices unlikely.
If speculators account for one-fifth of all new mortgages in the frothiest markets, we’re definitely in a bubble—and it’s gonna go pop.
Posted by Stephen at 9:03 PM in Economics | Permalink | TrackBack (0)
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