Housing Horror Movie Continues

12/18/2008 12:00 pm EST


Gary Shilling

Columnist, Forbes

Gary Shilling, editor of INSIGHT, says the unwinding of the housing bubble will have long-lasting impact on markets and the economy.

Housing starts have nosedived from 2.3 million, seasonally adjusted at annual rates, in January 2006 to 791,000 in October, a post-World War II low. Meanwhile, homebuilder sentiment is now at record lows.

Leaping foreclosures, among other forces, have pushed up the homeowner vacancy rate. Estimates are that lenders own 826,000 foreclosed houses as of September, up from 129,000 two years ago. This number should continue to leap as foreclosures climb with falling house prices. But 44% of all first mortgages were in default at the end of 1933.

In any event, we estimate that about 1.7 million extra inventories, over and above normal working levels, remain from the 1995-2005 house-building boom. That's a lot considering that 1.55 million are started each year on average.

As lenders spilled foreclosed houses on the market, they were sold for only 70% of the unpaid loan balance in the third quarter compared with 78% in 2007, and losses averaged 44% of the loan balance compared with 29% a year earlier.

With about 40% of existing home sales coming from foreclosures, or "short sales," in which the mortgage amount exceeds the house's value, the prices for selling homeowners and builders are forced to decline to compete.

Existing home prices are down in October 20% from their peak in October 2005 as measured by the National Association of Realtors, and 21% from their second-quarter 2006 peak, according to the S&P/Case-Shiller Home-Price indices.

At present, around 12 million homeowners, a quarter of those with mortgages, are under water with their houses worth less than their mortgages. Among those who bought their homes in the past five years, 29% are under water. If our forecast of a 37% house price fall is reached, about 25 million, or almost half the 51 million with mortgages, will be under water. Adding in the 24 million who own their houses free and clear, and one-third of the total will be in trouble

The financial crisis spawned by the collapse of the residential mortgage market and the follow-on Wall Street woes obviously just had to depress the goods and services economy. With the collapse in stock prices and evaporation of home equity, consumers have no other meaningful source of borrowing to fund their spending growth in excess of their after-tax income gains.

Home equity withdrawals through cash-out mortgage refinancing and home equity loans reached about $900 billion at annual rates, or around 10% of consumer spending. Now it's negative as principal repayment exceeds home equity withdrawals. So, consumers' 25-year borrowing and spending binge is over.

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