Great charts. From my experience, we need to consider the actual benefit COVID did for the US Economy after COVID. My view is that 90% of economist failed to realize that COVID provided the cleansing of excessive inventory build and expansion as most firms remained cautious. As a result, the benefit COVID gave is that most companies were inadvertently prepared for the Fed tightening except banks and the housing sector. Most banks bought the story from Wall Street economists that it would take 5 years (KKR’s forecast at a conference in 2020) before yields had any material risk to the upside. As a result of this consensus view, most banks extend the durations of their investment portfolios, and at least FRC made many long term fixed rate loans to increase interest margins during ZIRP. This aggressive move has caused FRC and SVB to fail and to cause depositors to move out of many banks to reduce the risk of having an uninsured deposit at a non SIFI bank. The housing sector should be in a typical housing recession but instead it is being propped up artificially by the lack of sellers due to the fact that the ones who don’t want to sell have 3% mortgages that they don’t want to give up. This has had the perverse benefit of propping up housing prices, which has mitigated the normal paper loss of wealth that homeowners are faced with like in 2008 from declining home prices. If you take all of this into account then it explains why we are not in the predicted recession and why we are nit likely to experience one if the Fed only raises one or two more times. This cycle is markedly different from all others that we have been looking at for hints at what is to come.
Thanks Waldo for the well-considered points. Yes I believe "mortgage jail" is a real thing, and a big factor... and perversely it could end up being that house prices only fall when rate cuts happen as all that delayed/dampened selling comes to market.
Sep 20, 2023·edited Sep 20, 2023Liked by Callum Thomas
Could be true, but then falling rates will increase the number of buyers by at least the same amount and so we may still not see a material dip in housing prices. Once again, home and stock prices play a significant role in consumer spending because consumers pull back on spending when they have large unrealized (or paper) losses on their homes and stock portfolios. This is called the wealth effect and it played a large role in the Great Recession as both home and stock prices fell by a large amount. Milton Friedman wrote about how large reductions in wealth contribute to recessions in his Island of Mu article.
100% -- you remind me of one of my fav charts of this year: indicative cost of servicing a new mortgage (which is now as high as it got back in the 80's in CPI adjusted terms)... vs the housing market valuation indicator (based on price to rent and price to income ratios) >> which remains near record highs. To me it says something somewhere in that picture has to make a big adjustment sooner or later: https://topdowncharts.substack.com/p/chart-of-the-week-us-housing-market
This illustrates my point that home prices should be down 20% on average based on the cost/value indicators. However, by the Fed’s own doing, the 3% mortgages that were executed during COVID are artificially propping up home prices because there are not enough seller. If home prices were down 20% or more then there is a high probability that the US would be close to recession right now due to the adverse impact of the paper loss of home equity wealth on retail sales. Thanks
I don’t read much but I read this and beats anything I ever found in FT, very helpful and honest appraisal of macro and impacts on outcomes in markets. Thanks.
Great charts. From my experience, we need to consider the actual benefit COVID did for the US Economy after COVID. My view is that 90% of economist failed to realize that COVID provided the cleansing of excessive inventory build and expansion as most firms remained cautious. As a result, the benefit COVID gave is that most companies were inadvertently prepared for the Fed tightening except banks and the housing sector. Most banks bought the story from Wall Street economists that it would take 5 years (KKR’s forecast at a conference in 2020) before yields had any material risk to the upside. As a result of this consensus view, most banks extend the durations of their investment portfolios, and at least FRC made many long term fixed rate loans to increase interest margins during ZIRP. This aggressive move has caused FRC and SVB to fail and to cause depositors to move out of many banks to reduce the risk of having an uninsured deposit at a non SIFI bank. The housing sector should be in a typical housing recession but instead it is being propped up artificially by the lack of sellers due to the fact that the ones who don’t want to sell have 3% mortgages that they don’t want to give up. This has had the perverse benefit of propping up housing prices, which has mitigated the normal paper loss of wealth that homeowners are faced with like in 2008 from declining home prices. If you take all of this into account then it explains why we are not in the predicted recession and why we are nit likely to experience one if the Fed only raises one or two more times. This cycle is markedly different from all others that we have been looking at for hints at what is to come.
Thanks Waldo for the well-considered points. Yes I believe "mortgage jail" is a real thing, and a big factor... and perversely it could end up being that house prices only fall when rate cuts happen as all that delayed/dampened selling comes to market.
Could be true, but then falling rates will increase the number of buyers by at least the same amount and so we may still not see a material dip in housing prices. Once again, home and stock prices play a significant role in consumer spending because consumers pull back on spending when they have large unrealized (or paper) losses on their homes and stock portfolios. This is called the wealth effect and it played a large role in the Great Recession as both home and stock prices fell by a large amount. Milton Friedman wrote about how large reductions in wealth contribute to recessions in his Island of Mu article.
100% -- you remind me of one of my fav charts of this year: indicative cost of servicing a new mortgage (which is now as high as it got back in the 80's in CPI adjusted terms)... vs the housing market valuation indicator (based on price to rent and price to income ratios) >> which remains near record highs. To me it says something somewhere in that picture has to make a big adjustment sooner or later: https://topdowncharts.substack.com/p/chart-of-the-week-us-housing-market
I have own homes since 1973 and have seen it all.
This illustrates my point that home prices should be down 20% on average based on the cost/value indicators. However, by the Fed’s own doing, the 3% mortgages that were executed during COVID are artificially propping up home prices because there are not enough seller. If home prices were down 20% or more then there is a high probability that the US would be close to recession right now due to the adverse impact of the paper loss of home equity wealth on retail sales. Thanks
I don’t read much but I read this and beats anything I ever found in FT, very helpful and honest appraisal of macro and impacts on outcomes in markets. Thanks.
Thank you, I appreciate you taking the time to say that.
Very good work, as always Callum. Have a good weekend.
cheers mate, same to you!
great update! thank you very much. Greetings from Argentina.
cheers!