What to Watch for with Home Prices

Lending Environment

Credit is the lifeblood of the housing market. With banks advertising mortgages for as low as 3.45%, primary mortgage rates are at all-time lows. However, only borrowers with pristine payment histories have access to credit. As Investment-Grade Non-Agency Bonds have rallied and are now close to par, the economics of securitization might begin to make sense again. While we do not expect to see the same level of securitization as in the heady days of the 2005-2007 bull market, the demand for mortgage assets in the capital markets could lead to a revival in securitization. Additionally, banks still have a lot of cash parked at the Federal Reserve. As banks and borrowers repair their balance sheets, banks will begin to lend again and this could fuel the demand for housing.

Takeaway - The thawing of the lending environment should be a tailwind going forward. However, a spike in Interest rates is an outlier risk that should be monitored closely.

Mortage Rates are close to all-time lows

IG Non-Agency Mortgage Bond prices are approachin Par

Declining Delinquencies

Delinquencies in banks' portfolios have declined dramatically as borrowers de-lever their balance sheets. Borrowers debt-to-income ratios have come down due to amortization, loan modifications and a drop in interest rates. Declining rates have decreased borrowers monthly payments and have increased the present value of homes which has helped borrowers stay afloat.

Takeway -- While delinquecies have proved notoriously difficult to predict, we believe the drop in delinquencies will continue to be a major positive going forward barring an increase in interest rates.

Delinquency Levels are returngin to normal

Consumers are repairing their balance sheets

Construction Spending

Spending on construction has been one of the most useful leading indicators for home prices. When investors on the ground decide to stop building it is reasonable to expect prices to fall. During the aftermath of the 2007 crisis, the government increased spending on construction in an attempt to mitigate the impact of the private spending slowdown. However, public spending on residential properties is only a tiny fraction of overall construction spending and has thus proven inadequate in moving the needle. Investors are now returning to the market and are facing a shortage in land which should dampen new supply. In response to the increase in private construction, there is less pressure for the government to spend on construction.

Takeaway -- Investors are backing a sustained recovery in housing.

Construction Spending is a powerful indicator

Public and Private spending are anti-correlated

Private construction is a dominant force

Global Prices

We have seen a de-coupling in property prices over the past couple of months as we get past the worst of the housing crash. Prices in places like Hong Kong and Canada have skyrocketed and many observers believe both locations are in bubble territory. If indeed these housing markets are frothy, US housing prices could be at risk since correlation increases in times of crisis.

Takeaway -- The biggest outlier risk on the horizon for US housing is a collapse of property prices in foreign countries.

Conclusion

The de-levering of consumers and banks balance sheets has created the environment required for a sustained recovery in housing. Interest rates and over-heated foreign property markets are risks to be closely monitored.

US Home Prices

Global Property Prices

US Prices by state