Fed Housing Market Analysis: Inventory Still a Big Problem

The Federal Reserve recently offered some analysis of the 2012 housing market, in the form of minutes from a committee meeting. There were few surprises or revelations. But I thought you deserved to hear about it all the same. Here’s a summary.

Fed View of Housing Market

On January 24 – 25, 2012, the Federal Reserve held its Open Market Committee, a regularly scheduled “meeting of the minds” that occurs eight times a year. In attendance were Ben Bernanke, Chairman; William Dudley, Vice Chairman of the committee; members of the Board of Governors; and most of the Reserve Bank presidents.

They discussed the economy at large, with scattered comments about the housing market in particular. I’ve taken the liberty of rounding up the housing bits for you. Here is their analysis of the housing market for 2012.

Members noted that the residential real estate sector remained weak, for the most part. Though they did point out (rightfully so) that some local markets are actually doing well. We will get to the local vs. national picture in a moment. But first, I want to share what the Fed sees as the biggest challenges for the housing market. Above all else, they feel that home prices and housing recovery are being held down by three things:

  1. Large overhang of foreclosures and other distressed properties
  2. Uncertainty about the future of home prices
  3. Tight underwriting standards for mortgage loans

This assessment probably comes as no surprise to anyone who follows the housing market. I would agree with them on all three of these points, at least at a national or “generic” level. Let’s examine those three obstacles in turn:

1. Supply Overhang of Foreclosed / Distressed Homes

Meeting minutes: “House prices were continuing to decline in most areas, and the overhang of foreclosed and distressed properties was still substantial.”

Much of the so-called “supply overhang” was actually carried over from last year. Toward the end of 2011, RealtyTrac predicted that as many as one million pending foreclosures would be carried over into 2012. Many of these carryovers were the result of processing delays on the part of the banks, the result of governmental scrutiny stemming from the robo-signing scandal. Foreclosures were processed more slowly, so they backed up in the pipeline.

In most states, the foreclosure-processing time line has increased steadily over the last few years — dramatically in some states. In New York, for example, the average length of time it takes to process a foreclosure has more than tripled since 2007 (source).

In contrast, the actual rate of foreclosure and repossession has been steady in most states, at least compared to the changes in processing times. So for the last few months, we’ve had a situation where a steady number of homes were going into foreclosure, but the banks were taking longer to process them. This processing bottleneck only added to the existing problem of supply overhang, as the Fed committee members noted.

I don’t see this getting better anytime soon. In fact, the foreclosure settlement reached earlier this month, between the government and major mortgage lenders, should increase foreclosure activity. Going forward, banks will be able to move more swiftly in the processing of foreclosure homes (including the backlog many have been carrying). In the short term, this will look like a problem by increasing the number of distressed homes coming onto the market. But in the long term, it’s a good thing. It will expedite the seizure, processing and resale of foreclosures. It will help ailing markets find a bottom and rebound more quickly.

There may be another upside to the settlement, as well. According to Daren Blomquist, Vice President of RealtyTrac: “The finalized settlement should also prompt lenders and servicers to more aggressively pursue alternatives to foreclosure [short sales, deeds in lieu of foreclosure and loan modifications] in situations where the documentation necessary to foreclose is lacking.”

In short, the problem of oversupply will probably get worse before it gets better. It’s inevitable, given the current state of pending foreclosures in the U.S. But we might get through the woods at a faster pace now, in the wake of the foreclosure settlement. Time will tell.

2. The Fear of Falling Home Prices

Meeting minutes: “Activity in the housing market improved a bit in recent month, but continued to be held down by … uncertainty about future home prices.”

The Fed committee members pointed out that uncertainty over the future of home prices was hurting the housing market. This is actually the symptom of a symptom. Home prices are still falling in many areas, largely the result of the supply overhang mentioned earlier. This makes home buyers fear that they are investing in a declining market — a legitimate concern, in some cases. These fears weaken the demand side of the equation, which further destabilizes home prices. And so the vicious cycle continues. The cycle ends when prices hit “bottom.”

If there’s one thing we’ve learned over the last couple of years, it’s that low mortgage rates alone are not enough to spur the housing market. The average mortgage rate for a 30-year fixed loan has been hovering below 4% since December of last year, reaching an all-time low of 3.87% earlier this month. At the same time, mortgage applications among home buyers have declined (source). The fear of falling home prices has a lot to do with this, at least in most housing markets across the country.

3. Tight Underwriting Standards for Mortgage Loans

Meeting minutes: Housing market is being held back, in part, by “tight underwriting standards for mortgage loans.”

At a homebuilder’s conference last week, Fed Chairman Ben Bernanke pointed out that “potential first-time home buyers have been disproportionately affected by the very tight conditions in mortgage markets.”

This may be so, but it shouldn’t overshadow the fact that qualified borrowers can still get a mortgage loan these days. I know this firsthand because I am one of them, having purchased a home in July of last year. Sure, we had to jump through some extra hoops this time around. We had to provide a virtual mountain of financial documents. And we ended up being turned down by one lender due to a lack of cash reserves (I’m looking at you, BofA). But we eventually found a lender that was more than willing to work with us. “You guys are totally qualified,” the loan officer told us. “I don’t know what Bank of America was looking at.”

Message to home buyers: Don’t assume you’re not qualified for a mortgage loan. Apply for one to find out where you stand. And if you do get turned down by one lender, find out the specific reasons for it. Then go apply with a different lender.

Our View: There’s No Such Thing as “The” Housing Market

Meeting minutes: “The housing sector remained depressed, with very low levels of activity; there were, however, signs of improvement in some local housing markets.”

It’s good to see that key members of the Federal Reserve understand one of the fundamental truths about the U.S. residential real estate market. There is no such thing as “the” housing market. Over the last few years, we have seen an increasing level of regional variation in terms of housing stability and recovery. It is the age of micro-markets.

Those in the media must do a better job reporting the difference between (A) national / averaged trends, and (B)  local housing market trends. Believe it or not, there are local markets scattered across the country that are fairly stable right now. I wouldn’t hesitate to buy a home in Washington, D.C., Phoenix, Detroit (yes, I said it), or almost any city in Texas, if I lived in one of those areas. That’s not to mention the vast number of smaller, non-metro cities where prices are stabilizing.

Granted, there are more cities where a home purchase would be a bad investment right now — cities where home prices are still falling steadily. Home buyers need to be educated about the difference. They need to ignore the national bogeyman and research their local housing markets specifically.

Consider the difference:

  • In Houston, where the housing bust was virtually nonexistent, home prices are expected to appreciate through 2013.
  • By way of contrast, home prices in the Atlanta metro area are expected to keep falling, perhaps by 7% – 10% over the next two years. Prices there hit a 13-year low earlier this year.

Given these vast differences, how could anyone talk about “the” U.S. housing market as a single entity? It’s a surface discussion that often does more harm than good. Qualified borrowers and buyers in stable housing markets are afraid to buy, because of the national headlines they are reading. But those headlines may be no more relevant than a weather report from halfway across the country.