by Calculated Risk on 10/28/2008 03:59:00 PM

Can you say volatility?

Market up 11%!

by Calculated Risk on 10/28/2008 03:54:00 PM

From Bloomberg: Fed Spurs Record Surge in Longer-Term Commercial Paper Issuance (hat tip Scott)

Companies yesterday sold more than 1,500 issues totaling a record $67.1 billion of the debt due in more than 80 days, compared with a daily average of 340 issues valued at $6.7 billion last week, according to data published by the Fed. Most of the difference was probably absorbed by the Fed ... The Fed began buying commercial paper from companies yesterday to reduce rates, lure back investors and unlock the market ...

by Calculated Risk on 10/28/2008 03:09:00 PM

From the SL Green conference call today (SL Green is a REIT focusing on commercial office and retail properties):

Analyst: Based on your estimation, when should we expect some of the [distressed property] to potentially start to enter the market?

SL Green: I think you'll certainly see more in 2009 than we did in 2008 as interest reserves run short. And then the real forced selling to the extent that there's not a replacement debt market and to the extent, depending on where cap rates shake out will be in '10, '11 as you start getting floating rate maturities. There are unlikely to be a lot of final maturities next year without extension options. But we'll see the stress where people burn their interest reserves and don't come up with cash.

Analyst: In the last few leases that you've actually signed, if you were to do those deals or look at those same deals a year ago, how far off are the economics on the deals you just signed versus what they would have been say at the peak on a percentage basis.

SL Green: They are probably down 10% on nominal rent with slightly bigger concession packages than we would have offered a year ago. So I think squarely within the ten to 15 that we've been referencing in the past. Some less, not many more. Not many more on a net [effective] basis ... we do costs dozens and dozens of leases per quarter it's hard to generalize but I think we've been taking most of those rents down by 10% what have we would have gotten earlier in the year.

The CRE version of stated income loans involved lending on overly optimistic pro forma income projections (aka wishful thinking), and the NegAM feature was called "interest reserves".

Just last month, chief economist at REIS, Sam Chandan noted:

"Even a modest slowdown, as we have already observed in the New York market, confutes the underwriting assumptions that prevailed in the period leading up to the last year's investment peak."

And Michael Slocum, executive vice president at Capital One Bank, added:

"The key issue is what happens to the overleveraged properties purchased and financed in the past three years. In many cases, the financial projects were based on rising rents and debt markets remaining stable. Many of the loans required the borrowers to provide interest reserves, but they will likely exhaust over the 2009-2010 time frame." ... "It always comes back to cash flow on commercial real estate. Properties financed on true cash flow should be fine."

At least everyone sees the problem coming!

by Calculated Risk on 10/28/2008 02:09:00 PM

Here is a look at the real (inflation adjusted) Case-Shiller Composite 10 and 20 city indices. Nominal prices are adjusted using CPI less shelter, and Jan 2000 is set to 100.

Click on graph for larger image in new window.

In real terms, prices have fallen close to 30% from the peak, and have fallen by about 2/3 of the way back to January 2000 real prices.

Of course there is nothing magical about 2000 prices, and prices could fall more or less than to 100 on the graph. I don't have much to add, but I think real prices are a better gauge than nominal prices as to how far prices will probably fall. I expect these real indices to decline for some time.

by Calculated Risk on 10/28/2008 12:15:00 PM

The yield on 3 month treasuries: 0.77%, down slightly from 0.82% (unchanged)

The 3 month yield was close to zero for a few days, so this is a significant improvement from the worst of the credit crisis. With the pending Fed Funds rate cut it is hard to guess just how high the 3 month should rise. Usually the 3 month trades below the Fed Funds rate by around 25 bps, so the current yield might be reasonable.

The TED spread: 2.69 down slightly from 2.76 (slightly better) This is still way too high, but significantly below the peak of 4.63 on Oct 10th.

I'd like to see the spread move back down to 1.0 or lower - at least below 2.0.

The two year swap spread from Bloomberg: 123.25 up from 117.75 (slightly worse). This spread peaked at near 165 in early October, so there has been significant progress, but I'd like to see this under 100.

Activity in the Treasury's Supplementary Financing Program (SFP). This is the Treasury program to raise cash for the Fed's liquidity initiatives. If this program slows down borrowing, I think that would be a good sign.

Here is a list of SFP sales. No announcement today. no progress.

The A2P2 spread is 4.35, up slightly from 4.32. unchanged.

During a recession, this spread usually increases because the risk of default for lower quality paper increases. However the recent values (over 400 bps) are far in excess of normal. If the credit crisis eases, I'd expect a significant decline in this spread. The high for the A2P2 spread was around 4.6 (I don't have the exact number)

I spoke with a senior manager at a public company yesterday, and his company has just received loan commitments from two major lenders for an acquisition (this is a good acquisition for all parties). Both lenders are on the list of banks receiving capital from the Treasury. This is a marginal credit risk deal, so I consider this a positive sign. The deal isn't done, but this is definite progress. (Note: the company is publicly traded so I can't reveal any details).

This is another day with little progress.

by Calculated Risk on 10/28/2008 10:32:00 AM

From MarketWatch: U.S. consumer confidence plunges to record low

U.S. consumer confidence plunged in October, reaching an all-time low in the series' 41-year existence, the Conference Board reported Tuesday. ... Despite falling gasoline prices, the October consumer confidence index fell to 38 from an upwardly revised September reading of 61.4.

I usually don't post consumer confidence numbers because they are mostly coincident indicators - they tell you pretty much what you already know - but a new record low is hard to overlook.

by Calculated Risk on 10/28/2008 10:00:00 AM

This morning the Census Bureau reported the homeownership and vacancy rates for Q3 2008. Here are a few graphs and some analysis ...

Click on graph for larger image in new window.

The homeownership rate decreased slightly to 67.9% and is now back to the levels of the summer of 2001. Note: graph starts at 60% to better show the change.

Here is an excerpt from a piece I wrote earlier this year on the impact of the change in homeownership rate (with a hat tip to Jan Hatzius):

As the graph shows, the homeownership rate increased from 64% in 1994 to 69% in 2004, or about 0.5% per year. With 110 million total households in the U.S., this change in the homeownership rate would mean an increase of about 550 thousand new homeowners per year during that period – even with no population growth.

The U.S. population has been growing just under 3 million people per year on average, and there are about 2.4 people per household. Assuming no change in these numbers, there would be close to 1.25 million new households formed per year in the U.S.

Since about two thirds of all households are owner occupied, an increase of 1.25 million households per year would imply an increase in homes owned of about 800K+ per year.

So we could add the 550K from the increasing homeownership rate, to the 800K due to the increase in households (due to population growth), and the U.S. would have needed 1.35 million additional owner occupied homes per year during the period from 1995 to 2004. If the homeownership rate now stabilized, the U.S. would only need 800K additional units per year.

And if the homeownership declined – as it has been for the last 2+ years – at a rate of around 0.5% per year, the U.S. would need 800K minus 550K new units per year, or only 350K additional owner occupied units per year!

This number can't be compared directly to the Census Bureau housing starts and new home sales. There are many other factors that must be accounted for, but this does show the homebuilders had a tailwind behind them for a decade, and are now flying into a headwind.

Even when the homeownership rate stabilizes, the U.S. would only need 800K new owner occupied homes per year – far below the level of 1995 to 2004.

This means the builders have two problems over the next few years: 1) There is too much inventory, and 2) demand will be significantly lower over the next few years than from 1995 to 2004.

Why did the homeownership rate increase?

A 1007 research paper by Matthew Chambers, Carlos Garriga, and Don E. Schlagenhauf (Sep 2007), "Accounting for Changes in the Homeownership Rate", Federal Reserve Bank of Atlanta, suggests that there were two main factors for the increase in homeownership rate between 1994 and 2004: 1) mortgage innovation, and 2) demographic factors (a larger percentage of older people own homes, and America is aging). The authors found that mortgage innovation accounted for between 56 and 70 percent of the recent increase in homeownership rate, and that demographic factors accounted for 16 to 31 percent. Even as we unwind some of the excesses of recent years, not all innovation is going away (securitization and some smaller down payment programs will stay). And the population is still aging, so the homeownership rate will probably only decline to 66% or 67%, not all the way to 64%.

In summary: For as long as the homeownership rate declines – probably for at least another couple of years - this means the need for new owner occupied units will stay depressed, and even when the homeownership rate stabilizes and the inventory is reduced, demand will only be about 2/3 of the 1995-2004 period.

The second graph shows the homeowner vacancy rate since 1956. The homeownership vacancy rate was steady at 2.8% (down from a record 2.9% in Q1).

A normal rate for recent years appears to be about 1.7%. There is some noise in the series, quarter to quarter, so perhaps the vacancy rate has stabilized in the 2.7% to 2.9% range.

This leaves the homeowner vacancy rate almost 1.1% above normal, and with approximately 75 million homeowner occupied homes; this gives about 825 thousand excess vacant homes.

The rental vacancy rate decreased slightly to 9.9% in Q3 2008, from 10.0% in Q2. The rental vacancy rate had been flat or trending down slightly for almost 3 years (with some noise).

It's hard to define a "normal" rental vacancy rate based on the historical series, but we can probably expect the rate to trend back towards 8%. According to the Census Bureau there are close to 40 million rental units in the U.S. If the rental vacancy rate declined from 9.9% to 8%, there would be 1.9% X 40 million units or about 760,000 units absorbed.

This would suggest there are about 760 thousand excess rental units in the U.S.

There are also approximately 200 thousand excess new homes above the normal inventory level (for home builders) - plus some uncounted condos.

If we add this up, 760 thousand excess rental units, 825 thousand excess vacant homes, and 200 thousand excess new home inventory, this gives about 1.8 million excess housing units in the U.S. that need to be absorbed over the next few years. (Note: this data is noisy, so it's hard to compare numbers quarter to quarter, but this is probably a reasonable approximation).

These excess units will keep pressure on housing starts and prices for some time.

by Calculated Risk on 10/28/2008 09:12:00 AM

S&P/Case-Shiller released their monthly Home Price Indices for August this morning. This includes prices for 20 individual cities, and two composite indices (10 cities and 20 cities). Note: This is not the quarterly national house price index.

Click on graph for larger image in new window.

The first graph shows the nominal Composite 10 and Composite 20 indices (the Composite 20 was started in January 2000).

The Composite 10 index is off 22.0% from the peak.

The Composite 20 index is off 20.3% from the peak.

Prices are still falling, and will probably continue to fall for some time.

The second graph shows the Year over year change in both indices.

The Composite 10 is off 17.7% over the last year.

The Composite 20 is off 16.6% over the last year.

The following graph shows the price declines from the peak for each city included in S&P/Case-Shiller indices.

In Phoenix and Las Vegas, home prices have declined about 36% from the peak. At the other end of the spectrum, prices in Charlotte and Dallas are only off about 3% from the peak.

This shows the difference between the bubble areas (Krugman in 2005 called the "Zoned Zones") and the "Flatland" areas.

There was a bubble in Flatland too caused by the rapid migration from renting to buying - facilitated by loose lending - that pushed up Flatland prices. But those bubbles were small compared to the bubbles in the Zoned Zones.

Now that the bubble has burst, prices in the more bubbly Zoned Zones are falling much more than in Flatland.

Detroit is an exception with prices off 27% from the peak, even though Detroit never had a price bubble. The reason is Detroit has a weak economy and a declining population. Since housing is very durable, there is excess supply in Detroit, and prices for existing homes are below replacement costs.

Another exception is New York. Prices in New York are only off 10.6% even though New York is part of the Zoned Zone. New York had a price bubble, but until recently prices had held up pretty well.

by Calculated Risk on 10/28/2008 09:10:00 AM

From Rex Nutting at MarketWatch: Home prices off record 16.6% in past year, Case-Shiller says

Home prices in 20 major U.S. cities dropped 1% in August compared with July and had fallen a record 16.6% from the previous year ... Prices have fallen in all 20 cities compared with a year ago.

More - plus graphs - as soon as the data is available online.

by Calculated Risk on 10/28/2008 12:02:00 AM

The 8-K filed by First Fed with the SEC today has some interesting information on current LTVs. (hat tip Brian)

Click on table for larger image in new window.

This table shows the original LTV of First Fed's $4.5 billion loan portfolio, and the current LTV using OFHEO House Price Index for price declines.

This shows that about 22.3% of First Fed loans (by dollar) are underwater. It would be a larger percentage using the Case-Shiller price index.

Approximately $1.0 billion in loans are underwater out of $4.5 billion in loans.

Using the above table, and the delinquent loans by LTV on page 8, we can determine the percent delinquent by LTV category.

As expected, the higher the current LTV, the larger the percentage of delinquent loans. Probably most of the loans listed as 90% to 100% LTV are also currently underwater too since First Fed uses OFHEO (and Case-Shiller is probably worse and I believe more representative of actual price changes).

Also see the bottom of page 7 for delinquencies by borrower documentation type. For Verified Income/Verified Assets loans, 5.7% of loans are delinquent. For Stated Income (and no income) loans, around 20% of loans are delinquent. Not exactly a surprise ...

This is important for the entire industry: the higher the LTV, the higher the delinquency rate. As house prices continue to fall, and more and more households have negative equity - Moody's Economy.com estimates 12 million households currently are underwater, and this will probably increase to 20+ million by the time housing prices bottom - the delinquency rate (and foreclosures) will continue to increase.