Economists predict 'soft landing' for housing

“After topping out in the third quarter of last year, it is pretty clear that the housing sector is in a period of transition,” said David Seiders, NAHB chief economist, in an April 28 news release. “Sales and starts are trending lower toward more sustainable levels.”

Michael Moran, chief economist at Daiwa Securities America Inc., added, “The housing sector is going through an adjustment, not a collapse.”

Taking a bullish view on the current economic and inflation outlook, Jim Glassman, managing director and senior policy strategist with JP Morgan Chase & Co., said several factors will bode well for housing.

“Real estate is pricing itself back to reality, and in the long-run it is reasonable to expect starts in the 1.8 million to 2 million range,” said Glassman. “Housing won’t continue to make the same contribution to the economy that it has. But when I think about where the economy is, I think we’re in the fifth inning with a good chance of going into extra innings. This expansion may prove to be the longest one ever seen.”

Glassman added that inflation is key to the longevity in the current economic expansion, and he said that Federal Reserve Board policy makers are doing a good job of keeping inflation in check.

Both Seiders and Glassman believe that recent interest rate hikes should be enough to ease inflationary pressures in the coming months and keep the Fed from calling for additional rate hikes. Citing higher energy prices and a low unemployment rate, however, Moran predicted that the central bank won’t stop until it raises the federal funds rate to 5.5 percent. As of March 28, the federal funds rate was 4.75 percent.

Market segments

Seiders said that new home sales in the first quarter of this year were down 10 percent from the fourth quarter in 2005. He expects them to ease further in the coming months before leveling off in 2007.

NAHB is forecasting that new home sales will hit 1.13 million units in 2006, down 12 percent from last year’s all-time high of 1.28 million units, and then move down slightly in 2007 to 1.09 million.

“Hopefully, most of this decline will be due to investors and speculators stepping out of the market. What we don’t want to see is investors dumping homes on the market,” Seiders said.

After posting a record 1.7 million single-family starts in 2005, NAHB is predicting that new home construction will level off to 1.6 million units in 2006 and 1.5 million in 2007, which would still rank high by historical standards.

Commenting on the dramatic home price increases in many markets in recent years, Seiders said home price appreciation is expected to fall from an average 12 percent in 2005 to about 4 percent in 2007, and that mortgage rates should move up to 6.7 percent later this year.

Seiders added that the multifamily market has remained “eerily stable” since the late 1990s, and is expected to continue the same pattern this year, with starts dropping slightly to 351,000 apartment units from 355,000 last year.

The rental market has solidified, and Seiders said he expects it to regain some ground while the red-hot condo markets start to cool. Seiders also is predicting that residential remodeling expenditures will continue on an upward trajectory, in part because “an immense amount of home equity will continue to support this spending.”

Financing factors

“Housing is the most interest rate-sensitive industry in the country,” said Frank Nothaft, vice president and chief economist of Freddie Mac. “Mortgage interest rates, home prices and family incomes – these are the three ingredients that families think about when deciding to buy a home.

“We expect mortgage interest rates to rise slowly through the end of 2006, but they’ll still remain well below historical norms,” Nothaft said. “The affordability problem is a function of increases in home prices.”

He noted that among families with prime mortgages, 87 percent of the loans are fixed-rate.

“So even if the Federal Reserve continues to raise interest rates, most American families will be insulated because they have fixed-rate mortgages,” Nothaft added.

The major tailwinds – rising interest rates, weakening demographics, increasing housing inventories and less investor demand – that have driven loan originations in recent years have swung 180 degrees, and could be major headwinds in the coming years, said Scott Anderson, senior economist for Wells Fargo & Co.

“The federal reserve is doing its best to take away the punch bowl,” Anderson said. “It should be no surprise that the housing market is going to slow down.”