Kristina Hooper, CFP®, CIMA® is head of investment and client strategies for Allianz Global Investors Distributors LLC. She has a B.A. from Wellesley College, a J.D. from Pace Law and an M.B.A. in finance from NYU, where she was a teaching fellow in macroeconomics.
Housing, once the biggest drag on the US economy, is now staging a comeback that could quicken the pace of the recovery. While housing makes up only a tiny portion of GDP, it is a spark that fuels consumer spending—the largest component of GDP. Throw in the fact that stocks have been on a tear of late and manufacturing activity has picked up and you start to see positive momentum behind the macro story.
Last week, the S&P 500 closed above 1500 for the first time since December 2007. The move capped an eight-day winning streak for the S&P 500, its longest stretch of consecutive daily gains since 2004.
But as good as the stock market has been, the bigger story is the strides we’ve seen in the housing sector. The latest monthly data from the Commerce Department shows a decline in new home sales, but the longer-term trend is toward a higher volume of sales. Sales of new single-family homes dropped 7.3% in December to a seasonally adjusted annual rate of 369,000, which was below economists’ expectations. That’s down from 398,000 in November. While the December data was disappointing, the good news is that new home sales were significantly higher in 2012 than they were in 2011. In 2012, an estimated 367,000 new homes were sold, which was about 20% higher than the previous year. And the median price for a new home sold in December was up 13.9% to $248,900, from $218,600 a year ago. US home builders' confidence confirms this improvement: according to the National Association of Home Builders, confidence in January remained at the highest level in nearly seven years.
But progress in housing isn’t just about new home sales. Existing-home sales are also trending higher. Last week the Federal Housing Finance Agency said US house prices in November rose 0.6% (seasonally adjusted) from the previous month. This is the latest in a string of positive reports for existing home sales: November marked the 10th consecutive monthly increase in the index. For the rolling 12 months ending November 2012, US existing-home prices have risen 5.6%. According to the National Association of Realtors, existing-home sales fell 1% from November to December, but sales are up 12.8% for the year. In addition, the inventory of existing homes for sale shrank from 4.8 months of supply to 4.4 months—its lowest level since 2005.
The Wealth Effect
The improvement in housing is so important because, while housing represents just 1% of GDP, it has a significant impact on consumer sentiment and behavior. Rising home values create a “wealth effect” helping consumers feel wealthier and encouraging them to spend more. In fact, a working paper released last week by the National Bureau for Economic Research by Karl Case, John Quigley and Robert Shiller, shows that rising home values have a greater impact than a rising stock market in creating a wealth effect and influencing consumer spending. Specifically, the study found that an increase in real housing wealth comparable to the one experienced between 2001 and 2005 would, over that time frame, push up household spending by roughly 4.3%. A decrease in real housing wealth comparable to the crash between 2005 and 2009 would lead to a drop of about 3.5%. This effect is consistently larger than the effect of stock-market wealth on consumption, which was found to be much weaker.
Meanwhile, we’re also seeing very low mortgage-interest rates, resulting in more mortgage applications. Last week, the number of mortgage applications rose 7.9%, bringing the year-to-date rise in applications to 20.9%., according to the Mortgage Bankers Association. Low mortgage rates translate into greater affordability of homes, which has helped fuel home purchases and the housing recovery. However, low rates have been a key driver of refinancing as well. Of all the mortgage applications filed last week, 82% were for the refinancing of a mortgage. Homeowners who have availed themselves of lower mortgage rates through refinancing have more spending money, which typically means higher consumption.
Investors should be greeting the recovery in the housing market with enthusiasm. With home values significantly impacting consumer spending—and consumer spending in turn representing more than two-thirds of GDP—a recovery in housing is critical for US economic growth.
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