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A false spring for housing

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Good morning. A relatively buoyant day in stocks yesterday, led by a homebuilder rally. Lennar rose 4 per cent after bumping up guidance for how many houses it would build this year. Homebuilders are liking this housing market, more on which below. Email us: robert.armstrong and ethan.wu.

Also, the latest episode of the Unhedged podcast features the two of us hashing out on air last week’s debate on whether crypto is a security. Listen, subscribe and tell your friends.

House prices: unfrozen?

Back in March we wrote that the rapid increase in interest rates had not crashed the US housing market, but had frozen it instead. 

On the supply side, a big increase in mortgage rates gives homeowners an excellent reason not to move. If they were to sell their house for, say, $500,000, and buy another house for that same price, their cost of ownership will go way up, if they were to use debt financing. On the demand side, median US house prices rose by more than a third between the end of 2019 and the beginning of this year, easily outpacing incomes. Affordability is therefore historically terrible. The result is few homes are being offered for sale, and few are selling (the action is all the market is in new-built homes, because there the owners — builders — always have reason to sell).

Since we wrote in March, mortgage rates has moved more or less sideways:

But home prices, which had dipped below zero, have bounced back into positive territory in the past few months:

Line chart of US house prices, quarter-over-quarter change annualised, 3-month moving average showing A bounce

This is surprising. Housing is supposed to be the most rate-sensitive of markets, and rates are high and heading higher (if the Fed is to be believed). What is going on? At least one commentator has argued that the home price bounce is evidence that the economy and inflation are both stronger than expected, and the Fed was wrong to pause rate increases this week. 

My guess is that this is a false spring. The revival in home price appreciation is not a sign of economic strength, and is not likely to continue. The simplest explanation for it is the small decline in mortgage rates in the early months of this year, which has now largely reversed.

There is a big difference — psychologically, at least — between a mortgage rate of more than 7 per cent and one in the mid-sixes. And remember that the lag between locking in a mortgage rate and closing a sale means that lower rates may appear in house prices at a lag of several months. Says Nancy Vanden Houten of Oxford Economics: 

The decline in mortgage rates we saw from November-February . . . brought some buyers off the sidelines and that also propped up prices in this environment of limited supply . . . With rates backing up a bit again, I think that will weigh on sales and prices.

A little more inventory has come on to the market. According to Zillow, the number of existing homes for sale moved from 830,000 in February to 880,000 in May. But that is a quiver of motion from an anaesthetised market: inventory in the Zillow series is normally 1.5mn or so. Other numbers show an even bigger gap. Inventory data from the National Association of Realtors is hovering around 1mn units, but usually averages 2-2.5mn, points out Jack Macdowell of Palisades Group. Such a modest bounce might result from a few sellers coming to market because, however hostile the rate environment, they could wait no longer. 

The bounce in sales volumes in February has been followed by two months of declines:

Column chart of US existing home sales, seasonally adjusted annualised rate, mn showing A weak recovery

We have argued that the Fed is less focused on cooling the jobs market than it was, but it still seems likely that one effect of tighter policy will be an at least somewhat higher unemployment rate in the months to come. Job losses create forced sellers and forced selling pressures prices. I don’t expect sales to fall much from here, barring a really bad recession. Inventory levels are low enough to prevent that. But what we are seeing in the market now looks more like a dead cat bounce than green shoots. 

House prices are more or less stuck, then. But they are stuck at a high level, which if nothing else lets people who have owned their house for a while believe they have some wealth (even if they are not wealthy enough to move at current mortgage rates). But there is a real downside to the frozen market, as well: it depresses residential fixed investment, an important contributor to growth that has been declining since early last year. The housing channel for monetary policy is working.

The China recovery that really, really wasn’t

Just seven months after the end to zero-Covid, the much-hyped Chinese recovery has flopped so badly that the state is already pressing the stimulus button. It has started cutting policy rates and is reportedly readying a new round of fiscal spending. From The Wall Street Journal:

As part of its stimulus efforts, Beijing is considering issuing roughly one trillion yuan, equivalent to about $140 billion, of special treasury bonds to help indebted local governments and boost business confidence, according to people familiar with the discussions.

The special bonds would be used to finance infrastructure projects and other initiatives aimed at boosting economic growth, the people said. They would also be indirectly used to help local governments repay their debt.

Beijing is also considering plans to scrap purchase restrictions on second homes in China’s smaller cities, as a way to boost the property market, the people said. Currently, buyers in many cities are prohibited from buying more than one property, a policy intended to prevent speculation.

The proximate cause is some limp economic data released this week, as our Financial Times colleagues nicely summed up in this graphic yesterday:

Again, it has been half a year since reopening. It is early in the cycle, and there should be a wave of pent-up demand getting released. If the Chinese economy can’t roar right now, when can it?

There is no shortage of problems holding back growth. High youth unemployment is sapping consumer confidence, dissuading big-ticket purchases on things like cars. Soft global growth is hurting Chinese exports. And as broadly weak demand has created excess supply, Chinese industry is facing deflation.

But one big problem looms over them all. It is that China’s “stimulate property when growth sags” button isn’t working like it used to. Property, still China’s largest sector at something like a quarter of GDP, is facing a multiyear crunch, even with government support.

In a recent note, Goldman Sachs analysts offer three reasons for why engineering a turnround will prove tough. First, excess property supply is concentrated in lower-tier (ie, smaller) cities, where, unlike in Beijing or Shanghai, there isn’t abundant organic demand. Second, grand schemes to support the market, like the central bank-backed shantytown renovation programme in 2015-18 (which did help), are probably too destabilising to try again now. Third, private developers face tight financing and leery consumers.

The upshot, argues Goldman, is that the government will try to “manage the multiyear slowdown rather than to engineer an upcycle”. The property debt bubble may end in a long string of disappointing growth numbers and deflated expectations, as the slow-motion financial crisis becomes a slow-motion growth crisis. Is that any better than the bubble popping? (Ethan Wu)

One good read

The FT’s Leo Lewis’s 2022 column on Japanese slackers, which has just won an honourable mention at this year’s SOPA awards.

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