The Addict: The charts below tell the story. The typical U.S. consumer has become addicted to debt, and the banker/dealer continues to supply more debt drugs in the form of credit cards as well as low interest rate loans for homes, cars, televisions, and even cell phones (cheap phones in exchange for multiyear contracts). Business owners and governments are just as addicted. Why wait for what you want when you can get your fix right away by signing on the dotted line?
The History: The history is very clear and made even clearer by great research done by economists Reinhart, Rogoff, Fisher, Minsky, Kindleberger and others. Recessions preceded by credit booms are prolonged and vicious, particularly for those involved in housing. To shed some light on why housing or the broader economy for that matter has yet to sustain any measurable recovery, one needs to look no further than the household balance sheet and the relationship to growth in liabilities versus growth in income, particularly since 2002.
The Problem: Historically, household debt and disposable personal income have moved in lockstep, with income growth exceeding debt from 1952 up until 2000, a 48 year holding pattern. However, this trend sharply reversed itself during the recent credit boom, hinting at the unsustainable nature of the housing bubble. As seen in the chart above, from 2000 through 2008, household debt surged 111%, rising from $6.9 trillion to $14.6 trillion. During this time, disposable personal income grew by less than half that rate, rising 54%, from $7.2 trillion to $11.1 trillion. Moreover, of the $7.7 trillion added to the household balance sheet from 2000 to 2008, $6.1 trillion, or 80%, was attributed to home mortgage debt. Consequently, the household debt-to-income ratio ballooned to over 135%, as seen in the chart below.
The Recovery: While many statistics are mean reverting (often times blowing through the mean), we don’t believe that household debt-to-income levels need to return to their long-run average of 78.5% for the housing market or the overall economy to rebound. Consumers from Gen Y to Baby Boomers have become more comfortable with debt compared to past generations and in many ways have no choice. Thus, assuming that 2002 represents normal conditions, we are close to halfway through the deleveraging phase of this downturn, a process that has taken roughly four years, and suggests another 4+ years before returning to normal economic conditions.
The Dealer: Our need to save is apparent, but you can’t grow an economy when people are saving. Understand that the Fed wants the banker/dealer to keep lending because without loans there is little spending. The Fed is trying to engineer a scenario where the debt junkies in society slowly pay down their debts while they continue to spend just enough to prevent another recession. To do this, the Fed will have to keep interest rates low for a very long time to allow principal to be repaid.
Great Decision Making: This debt reduction process, known as delivering, needs to be an important component of your decision making as you plan for the future of your business. For the last five years, it has been an important component of our bearish forecasts, and it is now an important component of our slow growth recovery scenario.
Keep in mind that delivering is the “best case” scenario. The alternative scenarios, which occur when the debt cannot be repaid, result in bankruptcies, job losses, deflation followed by widespread inflation, and shocks to the financial system. The high likelihood of these alternative scenarios is one reason why markets are so volatile today, and confidence is so low.
We stay on top of the macro trends by charting and analyzing more than 100 macro variables every month, and publishing them in our US Housing Analysis and Forecast, which serves as the macro analysis for all of the granular analysis done by MSA and by our consulting team. More information is available here.
U.S. Housing Market Statistics
Economic Growth………………………………………………………………….D+
The U.S. job market showed some improvement this month, with September job growth coming in above expectations along with upward revisions for August and July. While still up YOY, personal income fell sequentially in August for the first time since October 2009. Moreover, real personal income excluding government transfers was down sequentially for the second month in a row. The U.S. economy grew at a 1.3% annual rate during 2Q11, an upward revision from the advance estimate of 1.0%. Consumption (the largest component of aggregate growth) slowed to a 0.49% growth rate in 2Q11, its lowest since 4Q09.
Leading Indicators…………………………………………………………………C-
While a horrible month for the stock market stole most of September’s headlines, other leading indicators were mixed this month. The ECRI index fell to an annualized growth rate of -8.1% in September, down from -4.4% in August. In late September, ECRI officially called a recession based on continued deterioration in this index as well as their other leading indices. The NFIB’s Small Business Optimism Index fell for the sixth consecutive month in August, dropping to 88.1. Revenues for state and local governments grew on a YOY-basis for the seventh straight quarter in 2Q11, with a boost in income taxes providing much needed support to government coughers.
Affordability…………………………………………………………………………..C+
Mortgage rates hit new all-time lows this month, pushing our JBREC Affordability Index to an A+ grade. That said, owners continue to see the value of their home fall in value, further eroding their equity position and ultimately preventing a measurable portion of sales – namely move up. The average loan-to-value for all homeowners is now 84%.
Consumer Behavior………………………………………………………………..D
Our consumer behavior metrics remained relatively poor in September, resulting in an unchanged overall grade of D for the month. All three of the major consumer psyche metrics we track (confidence, sentiment, and comfort) remain at an F.
Existing Home Market……………………………………………………………..D
The existing home market remains weak, with this subsection of the economy grading at a D for September. Though prices have deteriorated lately, sales volumes and supply levels have improved slightly over the past several months, a trend we will continue to monitor into the Fall and Winter months.
New Home Market……………………………………………………………………D+
The new home market declined slightly this month, as our overall grade for this subsection of the economy stayed at a D+. The volatile single-family median new home price fell from $229K in July to $209K in August. Prices are down 8% YOY, their worst annual rate of decline since April 2009. New home sales (SA) also fell this month from 302K in July to 295K in August.
Repairs and Remodeling…………………………………………………………..D+
Indicators for residential repairs and remodeling were mixed this month. Following nine consecutive months of YOY declines, private residential construction has now risen on a YOY-basis for four months straight. Homeowner improvement activity increased in 2Q11, climbing at a 1.3% YOY clip. Also, the Remodeling Market Index (current) fell in 2Q11, dropping from 46.1 to 44.8, below its historical average of 46.4. The Remodeling Market Index (future expectations) fell from 46.8 in 1Q11 to 43 in 2Q11. The Remodeling market Index (future expectations) is now below its historical average.
Housing Supply………………………………………………………………………..F
While permits rose from last month, our overall housing supply indicator remains at an F. Single-family permits increased to 413K units (SA), while single-family starts fell to 417K units (SA). Single-family permits have generally trended up since February of this year. Multifamily permits are up 22% YOY (SA), while multifamily starts are down 14% YOY (SA). New housing units completed fell this month to 623K (SA), while manufactured housing placements increased to 42K (SA).
