Housing

1
HousingStill CRAZY After All
These Years

• Economic Issues Residential Real Estate
• Business Trends Forum
• Washington, DC -- May 2005
• David Lereah, Ph.D., Chief Economist
• NATIONAL ASSOCIATION OF REALTORS

2
Bubble or Bust?

• Wall Street Bears -- Monitoring Housing
  Performance
• Media Sensationalizing Bubble Stories
• Loose lending and speculative buying raising
  bubble risks
• Sub-prime, interest only, ARMS, and negative
  amortization loans on the rise
• Speculative Buying What is it?

3
Wall Street Monitoring Ratios

• Price-to-Income Ratio
• Price-to-Rent Ratio
• Overvalued/Undervalued Markets
• Homeowners Carrying Burdensome Mortgage Debt

4
Home Price to Income Ratio
Source NAR
5
Home Price to Rent Ratio
House price index 100 and rent index 100 in
1983
Source NAR, BLS
6
Mortgage Debt Service to Income

Several Markets experienced price declines when
above 10
Source Federal Reserve
7
Mortgage Debt
Source Federal Reserve
8
Often-Said Overvalued - Undervalued Markets
Overvalued Undervalued
San Francisco Buffalo
San Diego Toledo
Los Angeles Syracuse
New York Indianapolis
Honolulu Salt Lake City
9
Speculative Buying What is it?

• Quick and sizable profit and loss potential
• More difficult to recoup initial transaction cost
• More vulnerable to panic selling
• Lose tax advantage if non-occupied and selling
  within 2 years
• Wider prevalence of interest-only, cash-flow
  (negative amortization), and adjustable-rate
  mortgages
• Heavy pre-construction
• purchase/sales
• Flipping

10
Looser Lending Standards

• Fierce industry competition
• Short-term focus
• Lower FICO score
• Higher debt servicing-to-income ratios
• Rising minimal-documentation loans
• Reliability of desktop/drive-by appraisals?
• Government push to lend in areas with high risk
  borrowers
• Will unseasoned loans come under pressure from
  rising rates and weaker labor market?

11
Recent Surge in Adjustable Loans Despite Low
30-year Rates

Source Federal Housing Finance Board
12
Markets With More Adjustable Loans

Source Federal Housing Finance Board
13
Where is it Happening?

• Select Hot Vacation Communities
• Select Hot Retirement Destinations
• Select Markets with Vibrant Downtowns

14
The Other Side of the Housing Coin
15
Other Side of the Housing Coin

• Market realties suggest rational buying
• Second-home buying on the rise
• Inventories remain lean
• Housing affordability remains high
• Lower closing costs
• Larger down payments
• Real price declines are misleading
• Comparisons to stock market are nonsensical
• Foreign housing markets possess larger bubbles
  than U.S.
• Main street not listening to Wall Street

16
Housing Market Realities

• Buyers outnumber sellers
• Financial checks and balance in place
• Mortgage companies screen and lend to only those
  that are financially capable
• Mortgage companies are for-profit and will be
  financially disciplined if taking on too much
  risk
• Lower closing cost allows for additional
  financial stretching
• Sought-after homes are often non-quantifiable
• Nice weather, ocean views, vibrant downtown

17
Existing-Home Sales
In million units
Source NAR
18
Second-Home Buying on the Rise
Source NAR
19
Typical Second-Home Buyers
Investment Homes Vacation Homes
Age 47 years old 55 years old
Income 85,700 71,000
Distance from primary home 18 miles 49 miles
Home price 148,000 190,000
Reason for buying Rental income and diversify investments Family retreat and future retirement home
Source NAR
20
Top Markets for Second-Home Purchases

Source 2003 HMDA
21
Top Large Markets for Second-Home Purchases

Source 2003 HMDA
22
Housing Inventory
Source NAR
23
Typical Homebuyers Mortgage Payment
Source NAR
24
Housing Affordability Still High
Rates have to rise to 8.6 to bring Affordability
to 100
Source NAR
25
Lower Closing Costs
Source Federal Housing Finance Board
26
Larger Down Payments

Source Federal Housing Finance Board
27
Real Home Prices Do Decline
Source NAR
28
Misleading Real Home Price Analysis

• Real price growth nominal price growth
  consumer price inflation
• If home price rise 2 and inflation heats to 3,
  then real home price decline of 1
• A homebuyer does not suffer from this real price
  decline
• Buys a typical home at 185,000 with 10 down
• Price rise 2 to 188,700
• 18,500 down payment results in 3,700 return
• Rate of return 20, easily beating 3 inflation
  rate

29
Misleading Stock Market to Real Estate
Comparisons

• NASDAQ bubble resulted in 75 peak to trough
  decline (2000 to 2002)
• A similar offing for housing?
• Apples/Oranges Comparison

30
Apples/Oranges
Feature Stocks Homes
Buy and Sell Easy, quick Time-consuming
Transaction cost 7 to 200 thousands
Benefits Purely financial Financial and a place for life experiences
Investment funds from where? No questions asked Mortgage lender scrutiny
Price Declines Some years, months, days, hours, seconds No national price decline since the 1930s
31
Foreign Markets
Price-to-rent above historical norm (2004) Price-to-income above historical norm (2003)
U.S. 32 23
U.K. 60 50
France 46 N/A
Australia 60 33
Spain 60 68
Source The Economist
32
Foreign Markets
Recent price trend
U.S. 8.5 in 2003 and 9.3 in 2004
U.K. 25 in 2002 and more than 10 in 2003 and 2004
France 16 in 2004
Australia 19 in 2003 and 3 in 2004
Hong Kong 31 in 2004
Spain 17 in 2004
Source The Economist
33
Foreign Markets
Condo/Apartment Price per square foot
Tokyo 1,271
Hong Kong 1,220
London 1,101
Singapore 906
New York (Manhattan) 890
Sydney 839
Paris 700
San Francisco 620
Source Corcoran Group
34
Main Street Benefiting byNot Listening to Wall
Street
trillions
3 trillion gain in four year
Source Federal Reserve
35
Most Local Balloons will Deflate Rather than Pop

• Modest rise in mortgage Rates
• Growing local economy
• Steady job gains
• Lean inventories

36
Perfect Storm Required for Local Home Price
Decline

• Strong prior run-up in home prices
• Economic recession
• Local job losses lasting several years
• Sharp rise in inventories
• Speculators leaving the markets quickly

37
Boom/Bust Indicators
Boom Indicators Bust Indicators
Home sales Rising Falling
Price growth Exceeds historical average Below historical average
Housing inventory Less then 5.5 months supply More than 6.5 months supply
Days on market Falling Rising
Local job growth Rising Falling
Mortgage rates Falling Rising
Net migration Positive Negative
Loan-to-Value Falling Rising
38
Real Estate Doesnt Need A Boom to Roar
39
The Benefits of Real Estate

• Real Estate
• Outperforms stocks
• Is number-one vehicle for creating wealth
• Is Americas greatest
• leveraged investment
• Offers great tax benefits and government
  subsidies
• Increases borrowing power
• Generates social benefits to both the property
  owner and community

40
Real Estate Outperforms Stock Market Over Many
Years
thousand
RE gains home price in 2004 home price in
start year 20 down payment Stock gain 20
down payment stock market growth from start
year to 2004 Note excludes amortization
Source NAR
41
Median Household Net Worth
thousand
Source Federal Reserve
42
Leveraging Power of Real EstateSmall
Appreciation Large Rate of Return
Rate of return on initial funds (down payment
10,000 closing fees)
5 price appreciation 10 price appreciation 20 price appreciation
10 down payment 36 71 143
20 down payment 21 42 83
30 down payment 15 29 59
43
Tax Benefits and Government Programs

• Mortgage Interest Deduction
• Property Tax Deduction
• Capital Gains Tax Exclusion (for most)
• FHA/VA Mortgage Products
• Fannie Mae/Freddie Mac
• Low Down Payment Products
• Federal Home Loan Bank

44
Increased Borrowing Power

• Cash-out Refinancing
• Home Equity Loans
• Home Equity Lines of Credit (HELOC)

45
Cash Out Refinances
billions
Source Freddie Mac
46
Social Benefits of Owning Real Estate

• Higher Student Test Scores
• Lower Teen Delinquency
• Higher Lifetime Income
• Higher Voter Participation
• Better Physical Health
• Easier Access to Small Business Capital
• Neighborhood Stability
• Pride in Neighborhood/Community

47
Economic Backdrop
48
Economy Expanding butLosing Momentum
Source BEA
49
Jobs AddedBut Not Consistently Robust
Source BLS
50
Consumer Spending Weakening
Source BEA
51
Durable Goods Orders Tumbling
change from a year ago
Source Census
52
Stock Market Pessimistic about Future Business
53
Accumulating Risks

• Budget Deficit
• Trade Deficit/Dollar
• High Oil Price
• Inflation
• Social Security reform/non-reform
• Tax reform
• GSE reform

54
Deficit Continuing
CBO assumes tax rates revert back to pre 2001
Source CBO
55
Trade Deficit Swelling
Source BEA
56
Dollar Under Pressure
Source Federal Reserve
57
Inflation Building
change from a year ago
Source BLS
58
High Oil Price May Bring Stagflation Economic
Stagnation with Inflation
Source Dept. of Energy
59
Fed Nervous About Inflation Forced to Tighten
Credit
Forecast to 4.00 by Dec. 2005
60
Narrow Spreads Suggest Further Short-term Fed
Rate Hikes Pushing up Long-term Rates
61
Industry Challenges

• Tax Reform
• Mortgage interest deduction
• Home equity loan interest deduction
• Second home interest deduction
• Property tax deduction
• Capital gains tax exclusion
• Estate tax
• National sales tax
• GSE Reform
• Financial scandals
• Impact on mortgage liquidity

62
Economic Outlook
2005 2006
GDP 3.3 3.3
Unemployment Rate 5.3 5.5
CPI Inflation 2.9 2.8
Real Disposable Income 3.5 3.8
10-year Treasury 4.6 5.2
63
Housing Outlook
2005 2006
Existing-Home Sales 6.70 million 6.47 million
New Home Sales 1.17 million 1.04 million
Housing Starts 1.97 million 1.83 million
30-Year FRM 6.2 6.8
1-Year ARM 4.8 5.6
Existing-Home Price Growth 7.1 4.5
64
HousingStill CRAZY After All
These Years

• Economic Issues Residential Real Estate
• Business Trends Forum
• Washington, DC -- May 2005
• David Lereah, Ph.D., Chief Economist
• NATIONAL ASSOCIATION OF REALTORS