Dark clouds gather over the US housing market - If the fall we are seeing at the top spreads, the impact could be significant.
The US economy is white hot. Consumer confidence is higher than it has been since the 1990s. Unemployment just hit its lowest level since 1969. Using amazingly bold language for a central banker, US Federal Reserve chairman Jay Powell says he is “very happy” about the “ remarkably positive” outlook which he predicts may continue “for quite some time”. So why, amid all this good news, is the US housing market slowing?
It is a hugely important question, because housing is still where the majority of Americans keep most of their wealth, and it has been a traditional bellwether for economic trends. Nationwide, sales and building permits are down. Several once soaring markets, including New York City, the San Francisco area, and Denver, have been softening. Construction activity has been slowing, too, which is a concern given the disproportionate role that home building plays in US economic growth.
The problem is, ironically, the growth of the housing market itself, which has been bifurcated and has outpaced the ability of most consumers to pay for shelter.
Just as there is now a “superstar” effect of winner-takes-all in countries, industries, and even companies, so too is there one in the housing market. If you look at the 20-city Case-Shiller index of home prices as a whole, there would seem to be little cause for concern — it is just 2.4 per cent above its 2006 peak. And yet, there is a huge divide between the winners and the losers. Ten cities have set new highs and their prices are 23 per cent higher on average. The best performer, Denver, is a whopping 54 per cent above its pre-recession peak. Meanwhile, prices in 10 laggard cities are an average of 11 per cent below their pre-recession peaks. In housing, as in all else, the US is incredibly divided.
The top cities rise because they are where the jobs are (job creation is also incredibly bifurcated). Yet house prices in those cities have risen much faster than wages themselves.
That has, in turn, made it harder and harder for middle-class people to live in such places. “If I were Denver, I would be hoping that Amazon didn’t set up shop in my town,” says one investor.
In some luxury markets, such as Manhattan, price increases have also been damped by increased federal scrutiny of foreign buyers, a trend that will probably continue given the nationalistic stance of the current administration in the White House. Because the aggregate statistics are so skewed towards the high-end markets, those shifts are worth paying attention to.
“I’ve lived through four economic cycles, and I’ve never seen a slump like we’re seeing in the New York City market that didn’t spread to the rest of the country,” says investment banker Daniel Alpert, who teaches at Cornell University.
A wider fall in house prices is not expected to cause a 2008-style systemic collapse, because most mortgages are now lent at fixed rates and borrowers are required to show more evidence they can repay their lenders.
That has reduced the risk of mass foreclosures, but it has also meant that much of the investment gains from housing in the past decade have flowed to the oldest, richest buyers.
Younger people have an average of $30,000 in student loans and have come of age in a weak employment market. That makes it harder for them to get on the housing ladder than it was for past generations.
If the fall we are now seeing at the top of the market spreads, the impact could be quite significant. Asset growth, rather than income, has driven so much of the US economy in recent years. A new academic paper to be presented at a St Louis Fed conference on home ownership this week finds that the problems of debt in the US housing market are still very much alive and well.
Four decades ago, a 20 per cent decline in house prices would have created negative home equity equivalent to about 1 per cent of aggregate income. Today, the same drop would amount to 5 per cent, or roughly $600bn in negative equity.
It is possible that the small pick-up we have seen in wage inflation in the past few months could increase, although the September number was down slightly on August. It is also possible that Jeff Bezos’s decision to raise minimum worker pay to $15 an hour at Amazon is a signal of some broader trend. But I doubt it.
The labour share of income is at a post-second world war low of 60 per cent, and even that slice is skewed towards people such as Mr Bezos. When the largest pay rises come from billionaires who announce they want to be beneficent, that is not a sign that the system is working — it is a sign that it is not.
No matter what the headline numbers say, 10 years after the financial crisis the US still does not have a healthy housing market, or — beneath all the debt and asset price increases — a truly healthy economy.
Indeed, the Fed’s recent decisions to raise interest rates are yet another reason behind the nascent housing decline because they increase the potential cost of home ownership.
Investors should be watching closely to see where home prices are by the November midterm elections, and whether consumer confidence remains as strong as it is today.