Could the housing recovery be illusory?

Photographer: Brett Gundlock/Bloomberg

Housing's Feeble Recovery Is Here to Stay

A. Gary Shilling is president of A. Gary Shilling & Co., a New Jersey consultancy, and author of “The Age of Deleveraging: Investment Strategies for a Decade of Slow Growth and Deflation.” Some portfolios he manages invest in currencies and commodities.
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Has the long-awaited U.S. housing boom finally arrived? You would think so, judging from statistics so far this month. But don't hold your breath. 

In the week ending Jan. 9, mortgage applications leaped 49 percent from a week earlier and 30 percent from a year ago. Refinancing applications were up 66 percent -- the highest since July 2013. Loan applications for new home purchases also rose 24 percent, the highest level since September 2013.

Homeownership Reconsidered

The rate on 30-year fixed-rate mortgages, meanwhile, dropped to 3.89 percent in early January, the lowest since May 2013. It's headed even lower as the yield on the 10-year Treasury note, to which 30-year loans are tied, plummets. In other good news, builders broke ground in December on 728,000 single-family homes, the most in seven years.

Residential construction is a small and volatile part of the U.S. economy. It now accounts for about 3 percent of gross domestic product, down from more than 6 percent in 2005. Still, housing can provide a big boost in an economic recovery, which is why the federal government has been trying to lift the housing market.

When the Federal Reserve lowers interest rates at the beginning of a recession, housing usually takes off. This time, though, the housing recovery has been relatively weak, with prices still 18.5 percent below their peak, having declined 34 percent during the bust. Housing starts at an annual rate of 1.1 million remain well below the 2006 peak of 2.3 million and the average of 1.5 million since 1959.  

Sales of existing houses have flattened after a modest recovery, while new home sales had a very limited rebound before leveling off. The residential construction component of GDP, meanwhile, fell by 0.8 percent in the third quarter from a year earlier. 

Not surprisingly, people prefer to rent, not own, their homes these days. New home owners, though, are crucial to the housing market: If they don't buy starter houses, sellers can't move to the next rung on the ladder, and so forth. Prospective buyers are often young and suffering from falling real incomes -- if they have jobs at all. They also tend to have huge college debts, inadequate credit scores and insufficient funds to meet 20 percent down payments. High rental costs, low salaries and student debt repayments are preventing them from building assets and improving their credit scores. 

Delays in marriage and child-bearing resulting from depressed incomes are also curtailing home buying. So is the fear factor: Young adults realize that, for the first time since the 1930s, house prices on a nationwide basis fell hard in the recent housing bust -- and could again. 

No wonder young people are increasingly living at home with parents while avoiding home ownership altogether. According to a Fannie Mae survey in December, just 60 percent of consumers thought it was a good time to buy a house, the all-time low for the survey, which began in 2010. 

Only 12 percent of owners in 2013 expected to stay in their homes five years or less, compared with 30 percent in 2006, when many saw house-flipping as the route to riches. Slower turnover rates reduce demand for new homes, while slower price appreciation lessens the appeal of home ownership. Together, they add up to less home construction. 

Furthermore, after the collapse in housing, builders concentrated on higher-priced houses because only upper-income people had the money to buy. But that market is saturated now. And with the price spread between new and existing houses at an all-time high of $70,000, lower-income buyers now favor less expensive existing abodes. 

From 2009 to 2013, the median price of a new home rose 24 percent, compared with 14.7 percent for existing houses. Yet when people purchase existing homes, nothing is spent on construction (except perhaps for some remodeling) and therefore the broader economic benefit is minimal. 

This price gap would be wider if the many homeowners who took their houses off the market (because they couldn’t stomach the low bids) had sold them instead. This category is included in the Census Bureau’s “vacant units held off the market for other reasons,” which leaped in the downturn but has leveled off in recent years. It remains a potential source of existing house sales -- and a dampening effect on prices. Many of these homeowners are baby boomers who haven't yet sold their single-family houses and moved into condos, but no doubt eventually will. 

Underwater mortgages are also holding back the housing market. In the third quarter of last year, mortgages worth more than the market value of the underlying home were 10 percent of all home loans, down from 13 percent a year earlier and from 26 percent in 2009. Another 19 percent don't have enough home equity to cover the down payment for a new home and moving expenses. Including them brings the total to 29 percent of "stuck" homeowners. 

Tomorrow, I’ll explain why government efforts to stimulate housing haven't moved the needle much.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

To contact the author on this story:
A Gary Shilling at insight@agaryshilling.com

To contact the editor on this story:
Paula Dwyer at pdwyer11@bloomberg.net