In a post back in April I talked about the forclosure rates in the US and how these were predominently (87%) occuring in a select number of states. It is an interesting paper and well worth a read, but todays post is about another item that really caught my attention in that paper, namely the relationship between foreclosures and the reduction in housing affordability leading up to the crash. So this got me thinking. One would assume a relatively linear link between falling housing affordability and foeclosures. A simple eqaution – when housing affordability falls, an increasing % of the individual or family’s income must go to meeting mortgage payments.
Another report on topic, the 5th Annual Demographis International Housing Affordability Survey said:
“Much of the reduction in prices has occurred in markets that have experienced the greatest loss in housing affordability in the past. The largest house price decreases over the past year occurred in susceptible Ireland, New Zealand and the United Kingdom, where housing affordability in nearly all markets had reached “severely unaffordable” (Median Multiple over 5.0). In the United States, the house price declines have been far higher in those markets that had experienced the greatest housing price increases, while markets that experienced much smaller price increases experienced far more modest losses.” For the full report go to http://www.demographia.com/dhi-ix2005q3.pdf
And yet in the University of Virgina report, the writers find the following:
“Restoring balance between house prices and incomes is complicated by imbalances between a shortage in supply of dwellings where people prefer to live and an overabundance of dwellings in other locations. Metropolitan areas vary in the range in their political jurisdictions of house value to family income and in foreclosure rates. San Francisco provides an extreme, but clear, example.
In 2007 the ratio of house values to family incomes was excessive in each jurisdiction. The lowest house value to family income ratio, 5.7 to 1, was in Solano County which also had the highest foreclosure rate, 3.69 percent of housing units. The house value to income ratio suggests that Solano County on the edge of the metropolitan area had more dwellings relative to demand than other jurisdictions. The high foreclosure rate indicated that buyers’ capacity to pay mortgages was fragile, and, perhaps, that an accumulation of foreclosures hampered new sales.
In contrast, the highest house value to income ratios were in central jurisdictions—City of San Francisco, Marin County, and San Mateo County. They had house value to income ratios of 9.7, 8.5, and 8.5 to 1. But their foreclosure rates were the three lowest in the metropolitan area. Perhaps more residents in those jurisdictions had purchased when prices and mortgages were lower. Or, perhaps owners unable to pay mortgage costs were able to sell at acceptable prices because demand was strong (Appendix 1 San Francisco Metropolitan Area).”
This shows quite clearly that housing affordability alone is not a guide to the success or fail of a specific market.
So what can we use as a guide. This is by no means meant to be a conclusion, as from my readings no one is really sure, but here are my ideas:
1. Housing Affordability. This has to be a factor. A Housing Affordability drops, so must demand.
2. Purchaser Profile. Without doubt foreclosures have been high in markets with high % of first home buyers. These transactions in recent times are characterised by large incentives from governments and very low (or non-existent) deposits (and therefore high mortgages). If we think of a home owners propsensity to work through troubled economic times (lets call it their Home Ownership Price Elasticity – HOPE), it is lowest in these purchasers. Owners who have significant equity in their home and a history of saving, obviously have a greater ability to weather financial difficulties, which reduces foreclosure rates and hence provides stability to prices.