The bursting of the US real estate bubble precipitated the credit crunch, and so it seems only reasonable that the equity markets’ 2009 rebound is tied into the idea that property prices are bottoming.
And yet, on Christmas Eve, an otherwise quiet news day, the US government announced a substantial relaxation of the capital constraints on Fannie Mae and Freddie Mac, the largest sources of mortgage financing in the country. If the government believed that the real estate sector was in recovery, why suddenly expand the safety net?
Here’s the Bloomberg story: the key points of the US Treasury’s announcement were that the caps of US$200 billion each on backstop capital (imposed when the government took Fannie and Freddie into “conservatorship” in September last year) are to be scrapped for three years; and that an earlier requirement that the mortgage providers should shrink their assets by 10% per annum is to be replaced by a requirement that they keep assets below an overall limit, currently set at some 20% above Fannie’s and Freddie’s balance sheet sizes. While this limit is itself due to decline by 10% a year, clearly the lenders have scope in the interim to increase, rather than decrease their operations.
In the words of blogger Rolfe Winkler of Reuters, “Obama needs a slush fund to prop up housing, especially after Ben Bernanke stops printing money to buy mortgage-backed securities at the end of March. Fan and Fred will continue to serve nicely.”
The story illustrates in microcosm the dilemma that policymakers face. On the one hand Fannie’s and Freddie’s influence in allowing the US housing bubble to inflate is hardly open to question and, when combined with the reckless leverage ratios they had reached by last year, shrinking their operations seems the only sensible course to take. On the other, running them down threatens to remove a prop from housing prices and cause another dip in the economy - and hence the volte-face from Geithner’s Treasury department just before the holidays.
So far, house price index data are equivocal about the extent of any recovery. David Blitzer of Standard & Poor’s said yesterday in a commentary accompanying the December release of the S&P/Case-Shiller home price indices that “the turn-around in home prices seen in the spring and summer has faded, with only seven of the 20 cities seeing month-to-month gains, although all 20 continue to show improvements on a year-over-year basis. All in all, this report should be described as flat. Coming after a series of solid gains, these data are likely to spark worries that home prices are about to take a second dip.”
The government’s incurral of a new, open-ended commitment to Fannie and Freddie means that the outlook for housing in 2010 is critical in interpreting the prospects for the broader asset markets. Substantially more taxpayer money is now at risk, while the US government’s own creditworthiness will be under additional strain.
Both David Blitzer and Robert Shiller, creator of the eponymous home price indices, will be speaking at the Inside ETFs event in Florida that is less than two weeks’ away. Shiller is speaking on the panel entitled “The Rebirth of Real Estate?”, which I’m moderating, together with Jim Porter of New Century Capital Management and Robert Jergovic of CLS Investments. I, for one, can’t wait to hear what they have to say about property prices.