"Daddy, they’re called board games because they’re so boring, right?"
-Lila Drake, age 4
My daughter came through with that gem this weekend.
Since she hasn’t quite perfected “R” annunciation yet, it came out as [little girl voice] “they’re called bowd games because they’re so borwing, wight?” and its social-cultural insight was only matched by its cuteness.
That our currently prevailing instant gratification and perma-sensationalist culture path is so suffusive a freshly minted 4 year old can unwittingly but perfectly capture its essence can’t not hold meaningful, medium-term implications.
Keith went all metaphysical historian yesterday, so I’ll yin that philosophical yang on a rainy, August morning. Kind of like the frosted (kid) side of your analytical shredded wheat missive.
Q: What do you call a sirloin that fell on the ground?
A: A mis-steak (mistake)!
I made that up when I was 8 or 9. I thought it was great. I told everyone.
Ever since, I’ve suffered a subconscious penchant for mentally cataloguing cheesy maxims.
Here’s a Tuesday trifecta:
“The time you enjoy wasting is not wasted time”
“a place for everything and everything in its place”
“those who care, don’t matter & those who matter, don’t care”
And, of course, the cringe worthy duo (after you’ve heard them the first 50x) ….
“failing to plan, is planning to fail” and “working hard or hardly working”
The democratization of information has been unequivocally positive, particularly in the push towards an investment meritocracy, but it’s pressured the signal-to-noise ratio lower …. and the supply of shallow, laconic aphorisms masquerading as deep, quotable sagacity continues to make higher, all-time highs.
Anyway, Happy Tuesday. TGIT … said no one, ever.
Back to the Global Macro Grind ….
In sharp contrast to the supply of corny colloquialisms, the supply of residential housing inventory continues to make lower (all-time) lows - a reality which continues to constrain the upside in volume while supporting ongoing acceleration in price growth.
We re-profiled the cyclical and secular factors impacting housing supply and detailed the probable path to market, supply-demand normalization in our recent 3Q Housing Themes call (email if you’re interested in the full presentation).
Because it remains both relevant and topical, I wanted to summarily review those key factors this morning. Today’s Chart of the Day summarizes the Why of Supply:
1. The Trap of Negative Equity
Approximately 7% of the 48mn owner-occupied encumbered homes in the U.S. are still underwater. The share of those loans with a loan-to-value (LTV) ratio between 95%-124% is approximately 5%. We consider 95% LTV underwater because of the typical 5% transaction cost. Excluding the 2% of loans that have LTVs greater than 125%, we are cautiously optimistic that this source of supply bottleneck will self-resolve over time as home prices continue to rise nationally. Specifically, we expect that within 3 years another 2.4 million homes will re-enter the potential supply pool based on assumptions of 6-7% annual home price increases coupled with 2.5% annual principal amortization. It's also worth noting that most of the homes still underwater are lower end homes and, thus, key to alleviating the first-time buyer supply bottleneck.
2. Still Tight Credit Conditions at the Low End
Mortgage credit availability has improved slowly but steadily since 2012, and recent changes announced by FICO and Fannie Mae will help to further ease lending standards for lower end buyers. We profiled these changes and their prospect impact to housing demand late last month (see: Early Look: Spokes On A Wheel)
3. Builders Catering to the High End
The trend towards building larger homes was consistent from the late 1990s until the great recession. That trend paused briefly in the immediate aftermath of the recession but then resumed from 2010-2015. The reason for this was that entry level buyers had a difficult time accessing credit after the recession. As such, builders catered to the customer they had -- the high end. More recently, however, this trend has begun to inflect with builders building a larger share of smaller, entry-level homes now that underwriting standards are easing on the margin, households incomes have realized protracted improvement and first time buyers are again growing as a share of the total. Construction of new Single-Family homes between 1,400-2,399 square feet was the fastest growing segment, increasing +21% year-over-year in 2016.
4. Institutional Investors
In the wake of the GFC, Institutional Investors (entities buying at least 10 properties in a calendar year) ramped up their investment in Single Family homes, with firms such as Blackstone reportedly purchasing $150mn of single family homes per week. This comports with data from real estate data vendor RealtyTrac, which reports that the share of institutional investor single family home purchases reached 9.5% at the height of investor home buying in 1Q 2013. The most recent RealtyTrac report shows that institutional investor share sank to a new low of 1.7% in 1Q 2017. It is important to note that while new investment in single family real estate has declined in recent years, these investors are unlikely to release the inventory of homes that they purchased back into the market anytime soon.
5. The Disincentive of Low Rates
Mortgage rates have a marginal impact on some would-be sellers decision to sell. Some potential sellers who purchased or refinanced their homes after the GFC have effectively become disincentivized by the thought of trading a meaningfully lower rate for today's higher rates. For reference, the share of borrowers who could refinance at a lower mortgage interest rate has plummeted from 41% in October 2016 to 16% in May 2017.
6.Mental Reflexivity
Tight housing supply can be self-reinforcing by negatively impacting the behavior of potential home sellers. Would-be sellers fear that they'll be unable to find a new house and so decide not to sell their existing house, further limiting supply in circular, reflexive fashion. Interestingly, the Fannie Mae Home Purchase Sentiment Index "Good Time to Sell" survey reached an all-time high in June. Yet, inventory remains at all-time lows.
7. Demographic Headwinds
While the Millennial generation offers great potential from a sheer numbers standpoint, older Boomer reticence to move coupled with financial hardships on the part of many Gen X'ers are likely to remain longer-term headwinds. A survey conducted by the AARP found that close to 9 in 10 older Americans intend to continue living in their current homes for the next five to ten years. Meanwhile, Gen X’ers took a major collective Financial hit from 2007-2013 as the median net worth for this cohort declined by more than -45%. This generation was disproportionally impacted by the GFC, and many have yet to recover. Boomers aging in place and Gen X’ers stuck in place = an overhang on supply & housing turnover.
The path to housing market normalization will remain a slow march. Boring, however, should not be synonymous with un-investible.
And as we’ve all been tragically reminded of late, the purposeful pursuit of boring – characterizing both journey and destination – would be a welcome reversal to the dystopian agenda on recurrent display and the collective social-cultural aspiration towards serially fabricated mania.
Our immediate-term Global Macro Risk Ranges (with intermediate-term TREND views in brackets) are now:
UST 10yr Yield 2.19-2.30% (neutral)
SPX 2 (bullish)
RUT 1 (neutral)
NASDAQ 6 (bullish)
XOP 29.64-31.43 (bearish)
RMZ 1137-1170 (neutral)
VIX 9.31-16.17 (bearish)
USD 92.51-94.00 (neutral)
Oil (WTI) 47.12-50.06 (bearish)
Gold 1 (bullish)
To Bored Games,
Christian B. Drake
