Housing Correction Duration Under Study at Harvard

By Glenn Roberts Jr. Inman News

The same forces that built up the housing boom also played a major role in its drop-off, according to the latest annual housing market report by Harvard University's Joint Center for Housing Studies.

"Except in the few areas facing real economic distress, this housing downturn has been driven largely by the market's own excesses. Chief among these is the oversupply of homes triggered by inflated demand from investors, second-home buyers and others intent on getting in on rapidly appreciating prices," according to "The State of the Nation's Housing" report.

Builders yanked the reigns on housing production to work off the oversupply, though "the retrenchment came too late," the report states. "Overbuilding does not appear to be quite as great today as in the years preceding the last major correction in 1987-1991, but it is close."

Markets such as Phoenix, which has strong job growth, should emerge first from the correction in housing inventory, the report states, while many overbuilt markets in California, Florida and the Washington, D.C., area "may not recover as quickly because their employment gains are not as great and their excess supplies are still high. These markets will be bellwethers for the duration and severity of the overall correction," the report states.

The fall of the real estate Gold Rush brought slowing homes sales, prices and production, and a rise in vacant for-sale homes, household debt and foreclosures.

Housing costs exceeded 30 percent of income for a record 37.3 million households in 2005, and the share of home mortgage debt in total household debt jumped from 65 percent in 2000 to 73 percent in 2006. "The rise in both mortgage and overall debt is evident for all households, all homeowners, and homeowners with mortgages, but is especially marked for low-income households," the report states.

The popularity of unconventional mortgage products and subprime lending during the real estate surge is now shaking out in rising mortgage payments, delinquencies and foreclosures. "The share of subprime loans originated in 2000 and foreclosed as of May 2005 was a distressing 12.9 percent," the report states, and "recently originated loans, which make up a much larger share of outstanding subprime mortgage debt, are on track to accumulate defaults at an even higher rate."

Among subprime adjustable-rate loans originated in 2006, by March 2007 the share of delinquencies or foreclosures was over 7 percent, compared to shares of less than 4 percent for 2005 loans and less than 2 percent for 2003 loans shortly after origination, the report states. The report cites research from Credit Suisse, which estimates the amount of adjustable-rate subprime debt resetting in 2007 and 2008 at $482 billion, with Alt-A loans accounting for an addition $57 billion worth of resets by 2008.

Things could get worse before they get better, according to the Harvard report. "Uncertainty about credit availability hangs over the housing market. While it is clear that lenders underestimated subprime risks, it is unknown how much worse conditions may get. It is especially troubling that subprime losses have been heavier than expected at only the first sign of softer prices and loan-rate resets. Much of the hope for a recovery in the for-sale markets now rests on the economy staging a soft landing, markets drawing down the excess supply, and loan performance improving," the report states.

It is uncertain when the real estate recovery will begin, the report states. "Now that the downturn is in full swing, the question of duration hangs over the market. Much depends on what happens with the economy, interest rates and credit availability. But it also depends importantly on just how much demand was inflated during the housing market run-up and how fast builders can work off the oversupply of homes."

Nicolas Retsinas, director of the Joint Center for Housing, said, "It's clear that we're in for a prolonged slump. Subprime lending and its implosion has certainly (delayed) any recovery."
The rate of job loss or growth is fundamental to the future of the housing market, Retsinas said, as is the extent to which foreclosures spike and the areas where foreclosures predominate.
Underlying demand for housing has propped up home prices, he said, noting that demographic trends are promising for household formation. But affordability remains a problem even with slowing or slight declines in price appreciation. Some markets are "hitting affordability ceilings," with a growth of overcrowding in some housing markets such as Los Angeles, he said.

"Even after the minimum-wage increase is fully implemented, households with a single minimum-wage worker will still be unable to afford even a modest two-bedroom rental apartment at today's rents anywhere in the country," the report states. "To escape ... heavy cost burdens, more and more households are resorting to long commutes or doubling up with other family members. With little regulatory relief in sight and slim chances for a significant expansion of federal (housing) subsidies, the prospects for a meaningful reduction in the number of housing cost-burdened households are dismal."

A market recovery should arrive quicker in the Northeast than in the Midwest, as the Midwest is wrestling with more severe economic problems than other U.S. regions, Retsinas said. The resale housing market recovery could begin later this year, he also said, while the recovery could be delayed until the end of 2008 for the new-home market.

The nation essentially "dodged the bullet of the housing market slump driving down the entire economy," though the real estate downturn "certainly dampened economic growth," Retsinas said.

Household growth is expected to grow from 12.6 million in 1995-2005 to 14.6 million in 2005-15, according to the report, because of high rates of immigration; the entry to the real estate market of "echo boomers," who are the children of the baby boom; and the longevity of pre-baby-boom generations.

Foreign-born U.S. consumers "are increasingly vital to the housing market, representing some 14 percent of recent home buyers and 18 percent of renters in 2005," the report states -- in California, New York, New Jersey and Florida about 20 percent of recent home buyers and 25 percent of renters are foreign-born.

"Home prices are likely to soften further," the report states, noting that most of the markets that experience drops in home prices typically have job losses and/or overbuilding. "Indeed, rapid price appreciation by itself seldom leads to corrections."