Household Borrowing and the Mortgage Resets

On Monday, we looked at the upcoming Mortgage Payment Resets; Let’s take a closer look at the data involved, and what this means to the housing and mortgage markets, and the economy at large.

Back of the envelope math on the $2 Trillion worth of Mortgage Resets works out to additional monthly mortgage payments of ~$1.241 Billion per month, per 1% increase in reset rates. That’s about ~$15B in additional mortgage payments per year (per 1% increase).

This $15 Billion is not the key worry, as the economy should be readily able to absorb that amount. Rather, the concern is the much bigger Macro
issue of the economy’s loss of Mortgage Equity Withdrawals – the prime driver
of consumer spending
(for more details see:  Real-Estate Boom Soon May Sputter As an Engine of Retail Sales and GDP w/o Mortgage Equity Withdrawal).

A study by former Fed Chair Alan Greenspan estimated that over $600 billion in cash
out refis took place in 2004; Goldman Sachs estimated that in 2005, home owners withdrew $834 billion.
The estimates are that consumers used between 50% (Greenspan) up to 68% (Goldman Sachs) of that money as discretionary spending.

Over 2 years, that amounts to over a trillion dollars in consumer spending — and THATS a number worth worrying about.

Look at this graphically: The charts below come to us via Northern Trust’s Asha Bangalore. Net borrowing of households was $1204.7 billion in 2005, up from $1023.4 billion in 2004. The 2005 reading is the highest on record:

Total Liabilities, Households:
The no-savings, debt-driven shopping spree: Wheeee!



Since we have been discussing adjustable rate mortgage resets, lets take a closer look at those loans as a percentage of total Mortgages: In 2004 and 2005, adjustables were greater than 30% of all mortgages written:

Arm Loans, by %



But its more than just the resets that are of concern:  According to JP Morgan, the Mortgage Banker’s Association Purchasing Index (MBA-PI) is signaling a pause or future slowdown in housing-market conditions.

Further, they note:

"The average monthly MBA-PI have now declined for three consecutive months through February 2006. The last time that the MBA-PI monthly data declined for three consecutive months was during September 1999. One year later, (i.e., September 2000), housing starts had dipped by 5.3% on a year-over-year basis, which happens to be a very reasonable estimate of what one should expect will occur one year from today . . . One has to go all the way back to September 1999 to find another comparable period in which the average monthly reading of this index actually declined for three consecutive months. Following such declines in this index, housing starts fell by 5.3%, one year later. With such compelling evidence in hand, we remain convinced that a 5% to 6% easing in housing starts over the next year appears to be a very reasonable expectation."

I suspect that JPM is being rather conservative in their estimates of how much New Housing starts could fall off next year. Given the huge housing boom ultra-low interest rates created, I would expect a minimum drop-off of 10-15% was more likely. Depending upon other factors, it could be even more significant that that.

Finally, let’s take a look at the National Association of Home Builders’ Housing Market Index (HMI). In March, it dropped to the lowest reading since November 2001 (The red line in the chart below). HMI is correlated with future sales of new homes — which have dropped in four out of the six months ended January.




Northern Trust notes that: "The survey results suggest that it should not be surprising to see further declines in sales of new single family homes. The index measuring traffic of prospective buyers dropped to 39.0, the lowest since April 2003."

The drop in HMI — from the present lofty levels — suggests that a much larger than 5% decline may be in the offing . . .

UPDATE March 16, 2006 9:56am

Housing Starts declined 7.9% to a
seasonally adjusted 2.120 million annual rate during February, the Commerce Department  reported. Starts had surged 15.8% during what
was the warmest January in roughly a century. Note that this number is notoriously volatile, and should be taken in 2 month averages.

The WSJ reported:  "Building permits fell alongside housing starts in February,
dropping 3.2% to a 2.145 million annual rate. Permits increased 6.8% in January
to 2.216 million.

Homebuilding is widely expected to moderate this year amid higher
interest rates and fading sales rates. The average rate on a 30-year fixed-rate
mortgage was 6.25% in February, up from 6.15% in January and 5.63% in February
2005. Sales of previously owned homes have dropped five straight months and
demand for new homes is well off the peak set last July."




Household Borrowing Gathered Steam in 2005
Asha Bangalore
Northern Trust, March 13, 2006

Housing Market Could Get Homelier
Anthony Chan, PhD.,
Chief Economist, J.P. Morgan Private Client Services
Barron’s, March 14, 2006

Home Builders Survey Signals Noticeable Loss in Sales Momentum
Asha Bangalore
Northern Trust, March 15, 2006

Energy Prices Cool Off, Helping Restrain CPI; Home Starts Slide 7.9%
March 16, 2006 10:07 a.m.

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