Current Commentary

Fed tapers rate subsidy program:
Expect impact on mortgage rates and home prices

The Fed announced yesterday they would taper down their mortgage subsidy program to end in about 6 months (start of Q2 2010, there had been speculation they would cold turkey it end of '09, that would be like landing a plane using the nose dive technique). The Fed has been making 85% (25 billion a WEEK) of all mortgages since the program started. This means traditional private lenders/investors (remember what those are?) have been making only 15% (just 4 billion a week) at the current interest rate level. When the Fed pulls the plug, how are you going to entice those traditional lenders to increase their mortgage lending by a factor of 7 and fill the 25 billion dollar a week gap? Mortgage interest rates will have to rise.

Mortgage rates should follow a somewhat positive parabolic slope from now until then (that’s an upward slope who’s angle increases the further out, in other words, the rate of increase will accelerate the closer to the cut off we get) and therefore housing prices should follow a somewhat negative parabolic slope that lags 3-4 months behind the rate changes.

The critical question is how much? How much will rates rise and how much will housing prices fall? The initial announcement of the Fed's subsidy plan dropped rates about 1 full point in about 1 month so you could simplistically say that taking mortgage rates from 5% (about where they are now) to 6% would bring back the private investors, but that's not the only moving part. During the same period of time (Q4 08), 10 year treasury yields tanked from 4 to 2%. This was primarily a result of a flight to quality from a "sky is falling" stock market (remember the 1000 point single day moves?), plus inflation at the time was something only people like myself were warning about. Now you have legitimate inflationary concerns that are being voiced by the MSM and MSFM. Low inflationary concerns = low long term interest rates. While there unfortunately is no "investor's inflation concern index" there is something that is pretty close: GOLD. I would thus argue the "investor's inflation concern index" is up 36% from the 4th quarter of 2008.

In short, 6% would be the absolute floor for mortgage rates after the Fed subsidy tapers to zero, and the ceiling is going to be based on the risk analysis of many investors. It is clear they will be analyzing that risk with much greater concern for inflation than a year ago and therefore demand a premium interest rate for it resulting in a post subsidy or "natural" interest rate of something over 6%. Based on current interest rates, the median home price is a principal and interest payment that is 13% higher than the median home price from a decade ago financed at the national contract average rate (weighted average of fixed versus adjustable, basically the rate the average person is really paying).

The 1998 calculation is 125k at 7% for pi of 831/month, the 2008 calculation is 175k at 5% pi for pi of 939/month. This fits nicely with the nominal (real numbers are derived from an unreal CPI) median income growth of 18% (43k to 51k) over the same period of time. When you factor increases in property taxes and hazard insurance premiums, the median total mortgage payment of principal, interest, taxes, and insurance is now at a level that is very much in line with the median housing expense to recent spiked divergence from the long term historical trend line. In short, housing is affordable right now, it is just as affordable now as it was 10 years ago. The long term average mortgage interest rate is right around 7%, excluding the spike from 1978-1987. Returning to a historical average rate of 7% would push median home prices down an additional 20% to 141k. However, if the Fed lets inflation get out of control and we return to double digit interest rates, all bets are off.

Assuming the Fed can keep inflation in the single digits, my final call is for rates to increase to the 8-9% range because of the inflation risk premium, maybe even 10%, and that would push median home prices in today's dollars down to 128k-117k, maybe even as low as 107k.

As the preceding 10 years have shown, the only way for real, sustainable median home price appreciation is through real wage growth, which according to a recent Census Bureau report, there was none (-3.5% to be technical).

[Published at seekingalpha.com.]

Saturday, September 19, 2009 

So Bernanke says the recession is 'likely over'

Here's what he said in March 2007 about another problem:

"At this juncture ... the impact on the broader economy and financial markets of the problems in the subprime markets seems likely to be contained," – Ben Bernanke in prepared testimony to Congress' Joint Economic Committee March 28, 2007.

And now Bernanke says, "The recession is very likely over at this point."

I, and the 15 million people who are out of work in this country, disagree.

Charge-off rates for credit card issuers Discover, Amex, B of A, Chase, and Citi are ranging 10% to 15%, all showing significant year-over-year and month-over-month increases except Amex. The charge-off rate is the percentage of accounts where the borrower completely gives up paying and the creditor "writes the debt off" as a loss for tax purposes.  

A 10% and climbing unemployment rate does not reconcile with a rebounding economy either. And the unemployment rate especially does not reconcile with a rebounding economy if you count "discouraged workers" and those who would like to work full-time but can find only part-time work. Using that calculation methodology (the methodology used in the 1930s), the unemployment rate is 16.8%.

As for the stock market being up since March, in nominal terms yes, but measured in ounces of gold no.  The recent slight increase in retail sales is directly attributed to the rising cost of gas. The recent increase in home sales activity (note that prices are still falling everywhere even in light of centrally planned, artificially low interest rates) is attributable to an increase in foreclosure sales. 

A closer examination of any "silver lining" or "green shoots" reveals structural rust and weeds.

Saturday, September 12, 2009 

If you make over $34k/year in MD,
you are in the 50% tax bracket

25% federal income tax 
+ 6.2% employee SS tax 
+ 1.45% employee Medicare tax 
+ 6.2% EMPLOYER SS tax (An elementary econ lesson is that the true burden of a tax does not always fall on whom the tax is aimed at. In the absence of the employer contributed payroll tax, your pay would be higher.) 
+ 1.45% EMPLOYER Medicare tax 
+ 0.8% federal unemployment tax 
+ 2.4% state unemployment tax 
+ 4.75% state income tax 
+ 1.25% to 3.2% local income tax 

And that equals a grand total of 49.5% to 51.45% (depending on what county you live in) for a single person making from $33,950 to $82,250.

(Interestingly and perversely, because of the regressive nature of the SS tax, after $106,000 in earnings, a person would get his/her taxes reduced by 12.4%.)

It does not matter what you call it, as long as it is being taken from you. If you make over $34K a year and live in Maryland, you are paying more than 50% of your earnings in taxes.