It’s important to have the right people by your side when you’re ready to buy a home. Consider reaching, out to a housing counselor, real estate agent and lender to help you achieve r your homeownership goals. Freddie Mac
The Nation’s Monetary Monitor
The year was 1790, the War for Independence had ended, but the new country was beset with problems. Its leaders were confronted with repaying the war debt, reestablishing commerce, restoring the value of the currency, and lowering inflation.
Enter, stage right, Alexander Hamilton. This Hamilton didn’t know from hip hop but was a prolific writer and very probably a genius. He submitted a report to Congress in which he outlined his plan for a national bank based on the charter of the Bank of England. He proposed a bank that would issue paper money, keep public funds secure, provide commercial banking facilities, and act as the government’s fiscal agent, paying its bills and collecting taxes.
If you are familiar with Lin Manuel-Miranda’s hit play, you know that this bank quickly became a bone of contention between Hamilton and Thomas Jefferson. The future president saw the U.S. as an agrarian society, not one based on banking and commerce and felt such a bank would favor financiers and merchants over plantation owners and farmers. Hamilton, however, prevailed and on December 12, 1791 the first Bank of the United States opened in Philadelphia. Over the next 14 years branches were opened in eight other cities including New York, Charleston, Baltimore, and New Orleans. The original bank was capitalized at $10 million, making it the largest corporation in the country and the sale of its shares was the largest initial public offering in the country to that point.
The bank performed most of the tasks Hamilton had e operated as a commercial bank. Its banknotes, backed by gold reserves, were widely accepted nationwide (at that time state banks also issued currency) and by foreign governments and were the only currency that could be used to pay federal taxes.
The Bank’s initial 20-year charter was set to expire in 1811 and its shareholders started petitioning Congress to extend it in 1808. However, many of those who had fought it earlier still opposed it. Hamilton was dead, his pro-bank Federalist Party was out of power, and there were lots more state banks, many of which feared both the competition and the power the bank represented. After a protracted battle, Congress failed, by one vote, to renew the charter.
The nation was without a central bank for more than 100 years and the interval featured frequent episodes of panic, bank failures, and scarce credit. Runs on banks (a were common and financiers such as John Pierpont Morgan had to inject their own capital into the economy to right the ship.
Crises were frequent enough that in 1913 Congress passed an act establishing the Federal Reserve System and decreeing it would manage the nation’s monetary policy and stimulus, keep banks safe and sound, and make sure an appropriate amount of money was circulating. It did not, however, want to establish a true central bank but instead divided the U.S. into 12 districts based on trade regions and other considerations that existed at the time.
Each of the 12 districts has its own Federal Reserve bank which operates independently but under the supervision of the Fed’s seven-member Board of Governors. There is also an Open Market Committee (FOMC) composed of the governors and the 12 bank presidents. It is most familiar to Americans as the group that sets the fed fund rate that ultimately affects nearly all other interest rates including those for credit cards, auto loans, and home mortgages.
The Fed, especially after passage of the Federal Reserve Reform Act in 1977, has been expected to use monetary and fiscal policy to “promote maximum employment, production, and price stability.” It has several tools with which to do this, and as we will see, it has used many of them during recent economic downturns.
21st Century Recessions
A recession is usually defined by a significant downturn in economic activity spread across the economy, and lasting more than two quarters, i.e. 6 months. This usually implies negative economic growth, higher unemployment rates, lower personal spending, company earnings, industrial production, and retail sales.
In the last 20 years the country has had two recessions meeting this definition, the so-called Dot-Com Recession (March-November 2001) and the Great Recession (December 2007-June 2009). The current recession, which began last June, doesn’t follow many of the old rules. First, of course, it was caused by disease rather than economic factors. Second, it was officially designated a recession in less than one quarter let alone after two.
In making it official, the National Bureau of Economic Research said, “the unprecedented magnitude of the decline in employment and production, and its broad reach across the entire economy, warrants the designation of this episode as a recession, even if it turns out to be briefer than earlier contractions.”
Home buyers care more about windows than you might imagine. In a recent survey by Homes.com, 5000 consumers called windows, both the number and size, as the most important exterior features of a home’s curb appeal. Nineteen percent picked the number of windows in the home while their size came in second at 18.4%. The existence of a porch or patio also scored high as did the shape of the roof.
The most important feature by far of the home’s interior at 59%, was its layout. Following at a distance were storage space (11.4%) and flooring (9.4%). Homes.com
The Housing Recession
But let’s put the current crisis on hold for a moment, just because it is atypical, and look at the tools the Federal Reserve used, starting in 2008, to mitigate the Great Recession. Its first move, in almost any downturn, is to cut interest rates. The federal funds rate is a benchmark for other short-term rates and influences longer-term ones. This move is aimed at lowering the cost of borrowing on mortgages, auto, home equity, and other loans, This, it is hoped, will keep businesses borrowing to purchase inventory and equipment, expanding or at least maintaining their workforces, and to encourage consumers to use, use, use those credit cards. Since the Great Recession was kicked off by a housing crisis, homebuying was especially crucial. The Fed quickly cut its funds rate all the way to zero.
That didn’t do it, so in December 2008, three months after Lehman Brothers collapsed, four months after Fannie Mae and Freddie Mac were placed in federal conservatorship, the Fed started multiple rounds of “quantitative easing” (QE), injecting liquidity in the system by buying securities. In the end they bought up $4.7 trillion of long term Treasury bonds and mortgage-backed securities (MBS) and continued– to hold some of those assets for more than six years. It also opened a Term Asset-Backed Securities Loan Facility (TALF) which enabled a secondary market for student loans, auto, credit card, and Small Business Administration loans. It was all about keeping credit flowing to both companies and households.
Today’s Systemic Shock
The current crisis hit harder and faster than the Great Recession; 22 million claims for unemployment benefits were filed in just four weeks. The Fed responded in kind. The fed funds rate was immediately cut by 50 basis points early last March and by another 100 basis points at the March meeting two weeks later, effectively knocking the rate to zero. On March 15 it renewed QE, announcing an initial round of about $500 billion to purchase Treasuries and $200 billion for MBS and completing purchases of $80 billion over the follow.
COMPETITIVE HOUSING MARKET
“Homebuyers are experiencing the most competitive housing market we’ve seen since the Great Recession. Rising mortgage rates and serve supply constraints are pushing already overheated home prices out of reach for some prospective buyers, especially in more expensive metro area. As affordability challenges persist, we may see more potential homebuyers prices out of the market and a possible slowing of price growth on the horizon.” Frank Martell, President and CEO, CoreLogic.
The new communities typically offer homes with up to four bedrooms. Many have patios, courtyard entries, 10-foot ceilings, and finishes that are higher-end than most apartments. These may include stainless steel appliances, granite or quartz countertops, in-unit laundries, and high-grade laminate floors. NexMetro, which has built around a dozen communities in Arizona, markets them with the slogan, “Rents like an Apartment. Lives like a Home.”
The choice of finishes is for more than curb appeal. Developers say they are building for durability, and minimal maintenance. The homes typically have no carpet and the laminate wrapped cabinets, while more expensive to install than wood, cost less in the long run. One says, “We ask ourselves, ‘Is [a new product] desirable, is it durable, and is it efficient?’ It has to be all three, because we’re not building these homes for anybody else. We’re building them for ourselves, and the plan is to operate them for 10 to 15 years or more.”
Joe Bousquin, writing in Forbes, calls BTR a new kind of starter home market and an entirely new institutional investment asset class. He also sees it as providing alternatives to some of those “squeezed” renters. Builders are targeting Millennials who have started families and want indoor and outdoor space but are either renters by choice or still saddled with student loan debt and can’t afford a new home. One developer says his company is targeting residents who have a good income but not a high one. Bousquin calls this group “the missing middle.” Another target audience is Boomers who want turnkey living when they downsize but aren’t willing to forgo space and privacy. Tenants in fast growing cities are often recent arrivals who want to know committing to ownership.
Developers are not just shooting for a high occupancy rate (and BTR projects are currently running around 95%) but low turnover. The “missing middle” part of the market tends to have a longer rental tenure than those who are more upwardly mobile and soon able to buy.
BETWEEN THE LINES
Two homes that appear similar may have hugely different values if one is impeccable and the other a rambling wreck. The GSEs require appraisers to rate properties on a quality and condition scale from C1/Q1 (best) to C6/Q6 (worst), but automated valuation models (AVMs) are quickly replacing appraisals. Lacking “eyes on,” most AVMs assume average quality and condition.
Now CoreLogic is taking real estate agents MLS comments and other messages and using them to augment AVMs. The output is familiar to most of us from ads and memes, word clouds. The company says counting negative words is a simple way to get quality and condition indicators and a sophisticated machine learning model can derive meaning from text. CoreLogic Insights blog
Gasoline on the Fire
Nationwide, the sweet spot for single family rents is around $2,000 per month so getting cheap land is key to making the concept work. One company executive told Bousquin “Prior to COVID, we were leasing our new homes and our overall portfolio extremely well. COVID has just poured gasoline on the fire and has really driven areas to the suburbs.” And that is exactly where the builders can find, if not cheap, at least cheaper land.
While it is still early appears bright. The companies are getting an excellent ROI and consumer demand is likely to remain high, RENT- Cafe.com projects that an estimated 45 million Gen Z-ers will have entered the housing market by 2025 and most will be more likely to rent.
While Realtor Magazine worries that the growing numbers could pose greater competition for house hunters, particularly at entry-level where there are already shortages, that may not be a major concern. The BTR market is good for home builders, allowing them to sell in one than individually, and allows them an alternative market when homebuying slides. This eliminates some risk and potentially allows them to increase their production overall.
Still, as one real estate consultant says, “It’s going to be fascinating to watch this space in the post-COVID time frame because of the upward pressure in rents, home prices, and land prices. It will be increasingly difficult for all home builders, land developers, and the people in the BTR space to make deals pencil. And it’ll be fascinating to see how the creative minds deal with that going forward.”