At worst the tax cuts will validate current market valuations, says Tom Essaye. At best they’l...
Feds to Remove Housing's Life Line
09/21/2009 3:30 pm EST
The program that gives first-time homebuyers an $8,000 tax credit is due to expire at the end of November.
The Federal Reserve will talk about winding down its buying of mortgage-backed securities in its two-day meeting this week.
Will that be the end to the rally that saw new home sales rise 9.6% in July from June (the biggest sequential month-to-month jump since 2005)? And that saw stocks of homebuilders such as DR Horton (NYSE: DHI) and Lennar (NYSE: LEN) soar 40% and 66% from July 1 to September 21?
Congress is in no mood to renew the first-time buyer tax credit. It might or might not be good policy, but lawmakers don't have any stomach for anything that raises the deficit. Lawmakers may have only a fuzzy grasp of economics and the history of the Great Depression, but they can read poll numbers: A Bloomberg News poll conducted between September 10 and September 14 found that 62% of those polled would be willing to risk a longer recession to avoid more government spending.
(Did you get surveyed, by the way? Me neither.)
The homebuilding industry looks like it has started to anticipate an end to the tax credit. To qualify for the credit, you need to buy a house before December 1.
ince it takes about four months to build a house, nothing started after August 1 will find a buyer before the current credit expires.
So, guess what? Single-family new housing starts fell 3% in August, according to the Commerce Department. That was the first decline since January.
And since first-time homebuyers accounted for 43% of sales since the tax credit went into effect in February (that's up from 32% before the credit passed as part of the stimulus package, according to the National Association of Realtors), I don't think the industry is going to be in a hurry to ramp up starts until it sees whether there is a drop off in demand.
The Federal Reserve could pick up the slack by buying more mortgage-backed securities and forcing down mortgage rates some more, but the Fed looks like it's moving in exactly the opposite direction. The question likely to be debated when the Fed meets tomorrow and Wednesday isn't whether to expand its buying program, but whether to end it before it's scheduled to lapse at the end of the year.
The Fed is scheduled to buy up to $1.25 trillion in mortgage-backed securities. So far, it has purchased $860 billion.
One problem facing chairman Ben Bernanke is that even with all this buying, the Fed hasn't been able to make mortgage money especially cheap. The interest rate on a 30-year mortgage fell to 5.04% last week, but that's not cheap if you remember that the Fed has set short-term interest rates at just 0% to 0.25%.
The yield on mortgage-backed securities is now about 1.4 percentage points above that on ten-year US Treasury notes. If the Federal Reserve stopped buying these securities, experts say their yield would rise about half a percentage point. That would send mortgage rates for homebuyers climbing as well.
You can think of the decision not to extend the tax credit and to let the Fed's buying program end on schedule as a grand laboratory experiment: Let’s withdraw this support and see if the housing sector has really launched a sustainable recovery or if it will head down into a second bottom.
Exciting stuff, to be sure. But do I have to be one of the lab rats?
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