Our Perspective 11/ 8/ 2022

Jeff Budish featured in GlobeSt: Housing recession doesn’t always lead to actual recession

MINNEAPOLIS, MINNESOTA (November 8, 2022) – CoreLogic says that housing recessions do not always lead to overall recessions. In fact, in recent years, housing downturns are batting just .500 with that correlation.

“Recently, housing has been losing its status as a reliable predictor of recessions,” its economist, Thomas Malone, wrote in a report issued Nov. 7. The connection has been weaker statistically. If there is a recession next year, housing will be at two for four since 2000. “If there isn’t a recession, housing will be one for four, with the only recession it predicted being one where it was the cause of the recession.”

Housing Prices Tell Only a Partial Story
It has been widely reported that the housing market is in a recession.

Though prices remain high, sales of existing homes were down 30% as of August 2022, as were sales of new homes. Housing declines are historically a harbinger for recessions, but does this mean that a recession is imminent?

Though prices are typically the most widely discussed housing statistic, they tell us a partial, and often misleading, story about the overall state of the housing market. This is because housing typically follows a volume cycle, not a price cycle.”

Interest Rates: This Time It’s Different
Thomas Foley, Co-Founder and CEO of Archer.re., tells GlobeSt.com that the biggest difference in this period compared to prior “housing recessions” since 1980 is the direction of interest rates.

“We’ve largely seen a downward trend in interest rates, which has led to continuous inflation in asset prices for the same relative monthly payment,” Foley said.

“Not only are we seeing an increase in interest rates, which leads to less house afforded for every monthly payment, but we are also seeing a massive downward repricing across all assets along with layoffs across key employment sectors – which will put consumers on the sidelines for longer.

“The only caveat over the coming years with lower volume of residential sales may actually be misleading because of the fact that current homeowners that secured historically low mortgages may just be disincentivized to get a new loan at a much higher rate, but they could still be healthy consumers in the overall economy, even if the housing market will be slower.”

Current Interest Rate Spike ‘Doesn’t Matter’ to Many
Peter Ciganik, partner, head of capital markets at GTIS Partners, tells GlobeSt.com drew comparisons to earlier housing recessions and he agrees that home prices exhibit downward stickiness and sales volumes should show higher volatility than prices and are already down substantially.

“The reasons why prices are stickier and perhaps even more this time around is that most homeowners have locked in their mortgage rates and the current interest rate spike does not matter to them directly in regard to their mortgage payment,” Ciganik said.

He said that 65% of borrowers locked in their mortgage below 4% and 86% locked in below 5% in aggregate.

“Only about 10% of owners have adjustable-rate mortgages today vs. 35%+ in the last housing crisis. There is simply less likelihood of payment distress today and less reason to sell your house at a depressed price.

“Also, in contrast to the last housing cycle, supply remains relatively measured in most markets. At the last peak in 2005, we had well over 1.6 million new housing starts and the excess building lasted for several years.

“This time we have peaked at around 930,000 new home starts while the country’s population is significantly bigger than 15 years ago.”

Little Danger of a Negative Equity Spiral Like Last Time
Ciganik said that there are still markets that are short of housing today, manifested not just in high prices, but high rents.

“There is a substantial amount of builder inventory in construction, which may turn out to be excess supply – we will see how this plays out in the next few months,” he said.

“There are very few subprime mortgages today due to changes in underwriting standards following the GFC, therefore lower likelihood of foreclosures and little danger of the kind of negative equity spiral that engulfed the housing market in the last cycle.

“High mortgage rates and home prices are certainly causing a dramatic slowdown in the for-sale housing market, especially in contrast to the last few years of robust growth. As more millennial households form, many now with children, the desire for a suburban lifestyle will continue, but will likely shift to the rental side.

“The biggest beneficiary in relative terms will likely be the single-family rental sector, which can offer the same lifestyle without the high and often unattainable cost of ownership.”

‘Clear Disconnect’ Between Housing and Apt Finance Rates
David Fletcher, Excelsa Properties’ managing director and head of acquisitions, tells GlobeSt.com that there is a “clear disconnect” between agency home financing rates at ~7.16% and apartment financing rates at ~5.90%.

“These coupon rates massively constrain liquidity and in particular liquidity for houses, the largest asset in most households’ portfolios,” Fletcher said.

“Will that cause job losses: Yes, and it already has. Large lenders, builders, and brokers have announced slowing or negative revenue growth and are reducing hiring or employment. Housing is ~15 to 18% of GDP. Banking is ~7 to 8% of GDP.

“Sure, there are offsets: NIMs are up, households will rent instead of buy. But as long as [Federal Reserve Chair] Jerome Powell is swinging his biggest ax and cutting the biggest trees in the forest, planning for anything but a recession is purely a hope trade.”

Housing Situation Differs for Luxury Market
Michael Jalbert, CEO of Forbes Global Properties, tells GlobeSt.com that sales volumes may have declined from the “frenetic pace” set over the past two years, but this doesn’t necessarily signify an impending market correction across the luxury end of the housing market.

“Many wealthy buyers, especially those purchasing in US dollars, still have leverage to acquire properties for investment, and have more negotiating power in markets where prices have softened since the height of the pandemic,” Jalbert said.

“In fact, with the fluctuation in currencies this is a great time to buy in Europe for US purchasers leveraging the dollar. For savvy investors, economic uncertainty and stock market volatility spells opportunity for the acquisition of tangible assets such as prestige real estate.”

No Steep Run-Up in Construction Unemployment
Jeff Budish, managing director at Northmarq, tells GlobeSt.com that the health of the housing market certainly has an impact on the overall economy and whether we remain in an expansion or retreat into recession.

“In this case, the current decline in housing is almost entirely related to a drop in demand for for-sale housing, and that slowdown is almost entirely associated with the steep runup in mortgage rates,” Budish said.

The average 30-year mortgage rate has more than doubled year to date, beginning 2022 near 3 percent and topping 7 percent in late-October. This is different than in past cycles and certainly different than during the Great Recession from 15 years ago, he said.

“Looking ahead, the impacts of declines in housing demand that could spill over into the larger economy include a decreased need for construction employment that could weigh on overall employment and a decline in consumer sentiment as existing homeowners ‘feel’ less wealthy as they see their home equity decline.

“These potential outcomes are real but shouldn’t drive the economy into recession.

“For one, there hasn’t been a steep runup in construction employment as housing prices were pushing higher. We were supply constrained and labor constrained, so the prospect of millions of workers being let go is remote. Current construction employment at the national level is up just 2.2 percent from the pre-Covid peak.

“Second, the biggest drag on consumer sentiment right now is not about declines in home values, but rather because of a steep rise in inflation, and the biggest driver of inflation right now is the cost of housing. As housing costs come down, inflation will come down, and sentiment should improve—as long as the labor market continues to expand, even if the pace of job growth is modest.”

‘Bound to Have a Negative Effect’
Charles Byerly, CEO of Westport Properties, tells GlobeSt.com that the housing market drives so much economic output and every indicator is pointing to an abrupt and prolonged housing slowdown.

“The question is will it remain shallow due to inventory constraints or become deeper as more and more folks have a selling requirement,” Byerly said.

“In our self storage business, we need people to remain mobile, moving to new houses, larger or smaller and remodeling their homes. This remains a major driver of self storage usage and will hurt us a bit.

“However, in our multi-family business, we anticipate the housing slowdown to help us as the higher interest rates will limit new buyers from graduating from rental living to purchasing a home. However, the housing market drives so many other industries, it is bound to have an overall negative effect on the macro economy for some time.”

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