John Mauldin on US Housing: Are We Near The Bottom Yet?

In this week's newsletter, John writes the following Housing: Are We at the Bottom?

• Housing: Are We at the Bottom?
  
  The short answer is no, but let's look at the data from one of the most knowledgeable sources on that topic. John Burns of John Burns Real Estate Consulting consults with over 2000 of the largest banks and homebuilders in the country (his client list is a who's who of banks, builders, and hedge funds). He has a reputation for solid research and pulling no punches. Some of his hedge fund clients were the ones you read about who made billions. (He wishes he had negotiated a percentage!) He is deeply involved in analyzing trends in the housing market. His web site is http://www.realestateconsulting.com/. He has graciously sent me the executive summary of his latest posting (a 27-page executive summary) that we will be looking at for the next few pages.
  
  Let's start with a quote from John at the beginning of his report: "The prospects for the U.S. housing market have changed for the worse. It has become increasingly clear that the U.S. economy is on the brink of recession, as overall job growth has slowed to zero and retailers are reporting abysmal results. New home sales, traffic and pricing are all heading down according to the results of our survey of over 300 builder executives. Resale [existing home] sales are starting to plateau in some markets, but pricing continues to fall as distressed sales dominate the market. The new housing bill will help in some ways, but will first serve a devastating blow to homebuilders, with the elimination of seller-funded down payment assistance, which accounts for 17% of new home demand by one estimate."
  
  How far along are we? Burns thinks that home prices will drop by 22%, 12% of which has already occurred. His analysis differs from that of the Case-Shiller Indices, which suggests a much steeper decline. Note in the graph below that the Case-Shiller Index shows home prices rising more than does Burns' work. Part of it is different methodology and part of it is that the CS index focuses on major markets and Burns' work is more broadly based.

Not forgetting the Alt-A!!!

• Alt-A is the New Subprime
  
  By now, everyone in the world is aware of how bad the subprime mortgage business was. But now it is time to get ready to hear the same tale, told again, about Alt-A mortgages. These are mortgages made to borrowers with better credit scores than subprime borrowers, but who could not or decided not to document their income. One estimate is that 70% of Alt-A borrowers may have exaggerated their incomes (Wholesale Access). More than half of those were people who exaggerated their incomes by 50% or more! (Mortgage Asset Research Institute)
  
  How much are we talking about? Around 3 million US borrowers have Alt-A mortgages totaling $1 trillion, compared with $855 billion of subprime loans outstanding. $400 billion of that was sold in 2006. Almost 16% of securitized Alt-A loans issued since January 2006 are at least 60 days late. Many of these loans (around $270 billion) were interest-only or with a low teaser rate, and the resets were at 3- and 5-year lengths. These are called Option ARMs. That means starting next year we are going to see a wave of mortgages resetting to new rates. And it is no modest increase. Rates can jump 4-8% or more from teaser rates. Some Option ARMs are resetting at 12.25%. That can double a payment.
  
  Wachovia and Washington Mutual were big sellers of Alt-A loans, and had $122 billion and $53 billion, respectively, on their books at the end of the second quarter. Is it any wonder their stocks are under pressure? That is why it is so hard to quantify how many more write-offs there will be. You don't write down a mortgage until it starts to develop problems. These problems may not show up for a few years. I continue to stress I do not want to own a financial stock that has exposure to mortgage paper. Write-downs are going to continue to come for a long time.
  
  This means there will be a steady wave of foreclosures for the next two years in communities all over the US. As long as these homes keep coming onto the market, they are going to exert downward pressure on prices. Foreclosure sales are up by 109 from this time last year.

Read the rest of his write-up here

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