First American has released its proprietary Potential Home Sales Model for the month of March. The Potential Home Sales Model measures what the healthy market level of home sales should be based on economic, demographic, and housing market fundamentals.
For the month of March, First American updated its proprietary Potential Home Sales Model to show that:
- Potential existing-home sales decreased to a 5.35 million seasonally adjusted annualized rate (SAAR), a 2.5% month-over-month decrease.
- This represents a 53.5% increase from the market potential low point reached in February 1993.
- The market potential for existing-home sales decreased by 10.7% compared with a year ago, a loss of 641,700 (SAAR) sales.
- Currently, potential existing-home sales are 1,439,400 (SAAR), or 21.2% below the pre-recession peak of market potential, which occurred in April 2006.
Chief Economist Analysis: The Credit Crunch Cometh?
“The housing market has faced its fair share of headwinds leading up to this year’s spring home-buying season. While mortgage rates have retreated from recent highs, they remain elevated compared with one year ago, and house prices, while down from the peak, also remain elevated. All while housing supply remains historically and unseasonably low,” said Mark Fleming, Chief Economist at First American. “These headwinds are not new to the housing market, but there is a new concern on the horizon–tightening credit standards.”
Potential Home Sales Model
“Our Potential Home Sales Model, which measures what we believe a healthy market for home sales should be, based on the economic, demographic, and housing market environments, dipped this month, and the biggest reason for the month-over-month loss was tightening credit conditions,” added Fleming. “At the onset of the pandemic, tighter credit was the biggest contributor to the loss of potential home sales, as lenders reduced credit to account for a higher likelihood of forbearance and delinquency. The Potential Home Sales Model uses the Chicago Fed National Financial Conditions Credit Subindex (NFCI), which is a comprehensive indicator of credit conditions. Given the recent banking crisis, let’s examine how and why credit conditions may affect the housing market.”
This Time it’s Different
“There are fears that the recent bank failures will prompt lenders to be much more conservative with their lending. At a high level, when lending standards are tight, fewer people can qualify for a mortgage to buy a home. When homeowners are less likely to qualify for a mortgage, they are more likely to stay in their current home or, for potential first-time home buyers, not buy one at all,” said Fleming. “Credit tightening can come in many forms. For example, the availability of mortgages or other loan products may fall, or it may become more difficult to qualify for a mortgage because of lender requirements for higher credit scores, lower debt-to-income ratios, or larger down payments or greater cash reserves.”
“While the NFCI Credit index indicated that credit tightened in March, which reduced housing market potential, the credit tightening was modest and far from recent pandemic lows, and certainly nothing like the Great Financial Crisis (GFC) period,” said Fleming. One of the reasons that the residential mortgage sector may be protected from credit tightening is that mortgage lending is less sensitive to bank balance sheet pressures.”
“According to a recent analysis from Goldman Sachs, only 18% of mortgages are held on bank balance sheets, while nearly 70% of outstanding mortgages are securitized into mortgage-backed securities, so the lender doesn’t have to fund the loan from their deposits or manage the credit risk,” said Fleming. “The securitization market, dominated by government agencies (Fannie Mae, Freddie Mac and Federal Housing Administration), sets the mortgage eligibility requirements.”
Mortgage Banker Analysis
“Mortgages typically held on bank balance sheets include non-conforming and jumbo loans. Lenders may tighten lending requirements for these balance-sheet products. In fact, in a recent report, the Mortgage Bankers Association indicated that mortgage rates for jumbo loans increased, while rates for conforming loans declined,” said Fleming. “The divergence in rates suggests that banks may be tightening credit in response to banking uncertainty for those products. By tightening credit and limiting the number of jumbo loans they originate, banks can reduce their exposure to credit risk and conserve their cash if needed.”
Fleming continued: “Affordability and lack of inventory remain the primary challenges to housing market potential. While credit conditions tightened in the March NFCI report, it’s unlikely that the recent banking crisis will materially impact residential mortgage availability,” said Fleming. “Additionally, the GFC and pandemic fears of foreclosure and forbearance are not top of mind for lenders.”