Housing Hiccup?
New York: April 26, 2010
By John Stephenson

House prices have started to head higher lately, but the outlook remains murky. While US house prices have bounced off the bottom and firmed recently, much of the credit for stronger prices is due to government stimulus programs. Just when it looked as if US house prices were headed higher, a renewed wave of selling helped push the market lower again. Since November 2009, US home sales have slumped by more than 22 per cent, despite a wall of supply and improved affordability. No doubt, some of the weakness can be attributed to payback from sales that were drawn forward into early 2009, with the $8,000 tax credit for first time homebuyers.

But with the home buyer tax credit set to expire at the end of April, US house prices will be lacking an important catalyst. Making matters worse is a rash of foreclosures and strategic defaults that has helped to apply downward pressure on house prices. In 2008, more than 1.7 million homes were lost through short sales, or foreclosures according to Moody's Economy.com. Last year, the number of American homes lost through foreclosure topped 2 million and Moody's is forecasting that this year's number will swell to 2.4 million.

But with the home buyer tax credit set to expire at the end of April, US house prices will be lacking an important catalyst. Making matters worse is a rash of foreclosures and strategic defaults that has helped to apply downward pressure on house prices. In 2008, more than 1.7 million homes were lost through short sales, or foreclosures according to Moody's Economy.com. Last year, the number of American homes lost through foreclosure topped 2 million and Moody's is forecasting that this year's number will swell to 2.4 million.

A key pillar in the US recovery plan seems to be a solid rebound in housing prices. Unfortunately, these plans seem to be on hold as the housing market has stalled and new fears are beginning to surface that another wave of lower prices may be heading our way. What led to the great financial collapse of 2008/2009 was a bubble in residential real estate. And while many American homeowners and the investment banks who structured complex derivative products linked to residential mortgages profited handsomely in the run-up, the collapse in residential real estate caught many participants in the housing market flat footed.

After the near collapse of the US financial system, Wall Street was vilified in the press and with the American people. No firm seemed to epitomize the greed, arrogance and utter irreverence for average Americans more than Goldman Sachs and the masters of the universe that worked there. News reports of record bonus payments at the firm only served to stoke anger amongst Americans.

But the tables have turned recently, as it was revealed that the U.S. Securities and Exchange Commission (SEC) has filed civil fraud charges against Goldman Sachs. The crime that Goldman is accused of perpetrating is one of improper disclosure on products they sold that were linked to residential mortgages. With the SEC starting to tighten the noose on Wall Street, the prospects for sharply higher bank stock prices would seem to be diminished.

And with mortgage losses likely to continue to pile up, the financials, which have staged a remarkable run on the stock market, appear to be ready to wilt. That, in turn, should put the brakes on the US recovery, since by the end of 2007, the financial services sector accounted for 40 per cent of the earnings on the S&P500 stock index.

With slower, rather than quicker US economic growth likely to lie ahead, investors are encouraged to focus on defensive stocks that pay a healthy dividend. These stalwarts of the economy pay investors while they wait for economic growth to rebound once more. Utility and telecommunications stocks appear to be the most attractively valued with many offering dividend yields in the six to seven percent range.

While the stock market has shown impressive gains over the last twelve months, a storm is brewing that once again appears to have its origins in the American housing market. Investors that are concerned about a possible slowing of the North American economy should consider re-balancing their portfolios to boost the proportion of stable dividend paying corporations that they hold.