Global Market Commentary

March 24, 2016

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Economic Momentum Will Support Housing in 2016

Between its peak in July, 2006, and its bottom in March, 2012, the Case-Shiller home price index, which aggregates data from 20 metropolitan areas in the U.S., registered a drop of more than 27 percent. Since that bottom, the index has registered a steady recovery, up more than 31 percent as of the end of December.


Source: Bloomberg

Though still shy of its pre-recession peak, the index, which is corroborated by other major indices such as those constructed by the National Association of Realtors, shows a recovery based much more in economic reality than the bubble which preceded it. (Our readers have no doubt read a great deal about the conspiring forces of macroeconomics, speculative intransigence, and regulatory malfeasance that drove the housing bubble, so we won’t rehash that here.)

Now that January and February’s spasm of irrational recession fear seems to be receding from the consciousness of market participants, it’s a good time to look at the fundamentals that are supporting the continued recovery of housing

What Will Keep Driving Housing

Prices aren’t the only thing increasing; both existing home sales and new housing starts show a steady uptrend since the bottom of the housing market:


Source: Bloomberg

Obviously the fundamental force driving the recovery is the slow-and-steady economic growth that has characterized the U.S. recovery from the Great Recession. Our readers know from our previous writing that we are not completely sanguine about this growth, which since the turn of the millennium has remained significantly below its long-term trend. Nevertheless, we anticipate solid GDP growth in the U.S. of 2.2 or 2.3 percent in 2016.

Source: Bloomberg

This growth will support the continued health of the U.S. housing market in a few basic ways:

  • First, it will support continued strengthening of the labor market. We expect that U-3, the core measurement of unemployment, will continue to improve; so will U-6, the broader measure that includes involuntary part-time workers and other “underemployed”; and
  • Second, that strengthening labor market will lead to continued wage growth.

With more money in their pockets, workers will be better able to buy, and less likely to default once they do.

Another trend that will support home sales will be the pace of rent inflation. In the final quarter of 2015, average rent in the top 50 U.S. metropolitan areas grew at an annual rate of 4.85 percent — and that rate has been climbing steadily since the end of 2009. Rents may begin to moderate, but while they remains high, and mortgage rates remain historically very low, the rent-or-buy decision will continue to move towards buying. (We note that these data all concern the major metropolitan areas, and may not apply as robustly to smaller cities and rural areas in the U.S.)


Year-on-Year Growth in U.S. Household Formations, 1958 through 2015

Source: U.S. Department of Commerce

All of this is occurring against a fundamental secular backdrop: household formation by millennials.  The creation of new households was suppressed by the Great Recession, and has been gradually recovering since.  As long as the economic fundamentals remain supportive, this secular trend will continue to support the U.S. housing market.

Housing Outlook

For the rest of 2016, and likely the next several years, the U.S. housing market should be healthy, supported by GDP growth, household formation, a steadily improving job market, steadily improving wages, historically low mortgage rates, and rising rent inflation.

The outlook is good until the arrival of the next financial crisis — which, as we have noted often, we expect could originate in the next two to three years either in Europe (where the banking system has yet to adequately recapitalize itself) or in China (where an economic collapse is not happening, but financial stresses are beginning to metastasize into potential trouble). Barring the arrival of such a crisis, we see continued clear sailing for  the U.S. housing market.

Investment implications: Housing is the best part of real estate, outperforming industrial and commercial properties over the last 20 years. However, real estate is always local, and investors should always monitor the regions in which they invest, to see how they are performing relative to the U.S. economy as a whole. In our view, home-ownership and apartment property ownership make the most sense for  retail investors. With rising interest rates over the next two or three years, real estate investors should be  careful to focus on properties that can cash-flow positively even in a modestly rising interest-rate environment. Housing matters most, perhaps, as one of the key dials on the Fed’s “dashboard.”

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