S & P Outlook for U.S. Housing

The U.S. housing market continues to show signs of recovery, outpacing the relatively weak U.S. economic recovery. Standard & Poor’s baseline forecast assumes that the U.S. economy will continue to grow slowly in 2013, avoiding any substantial negative economic impact from the looming fiscal cliff and growing federal deficit. The U.S. economy grew 3.1% in the third quarter of 2012, up from 1.3% the previous quarter, and the unemployment rate declined to 7.7% in November from 8.7% a year ago. Both are moving in the right direction to support continued housing recovery in 2013. We believe that as long as the U.S. remains in recovery mode, U.S. housing fundamentals will continue to improve, bolstered by low interest rates and rising home prices. Taken together, we expect these trends to support improving consumer confidence and lead to a return to historical housing supply-and-demand fundamentals.

Our baseline forecast for housing assumes that U.S. national home prices (which rose 7% through the first nine months of 2012) will rise 5% in 2013, after a few months of seasonal weakness at the start of the year. Moderate economic growth, federal refinancing and loan modification programs, low mortgage rates, rising household formation, and limited new supply will contribute to price recovery, in our view. However, tight lending remains a key concern for housing demand because the limited availability of credit could weigh on borrowers.

Although the GSEs (government-sponsored entities, such as Fannie Mae and Freddie Mac) have been vital players in the U.S. mortgage finance market, 2012 was a strong year for mortgage banking, largely because of refinancing activity. This trend will likely continue in 2013, but banks may struggle to duplicate strong performance next year. Many non-bank finance companies have expanded their portfolios through servicing transfers at the cost of others exiting the business.


An improved outlook for housing, along with higher home prices, could increase the availability of mortgage credit and ease lending constraints, allowing borrowers with lower quality credit histories to refinance. More than 1.3 million borrowers have moved from negative to positive home equity in 2012, because of rising home prices. Homeowners with positive equity are able to refinance, taking advantage of the current very low interest rate environment. With more affordable mortgage payments, and some equity in their homes, consumers are less likely to default, which we view as positive for housing supply fundamentals. On the demand side, the rise in household formation over the past year is also positive for housing demand, in our view.

The impact of a recovery in housing fundamentals varies across the many housing related sectors and securities that we rate. While we expect all sectors to benefit from an improved housing forecast, the pace and depth of the improvement will depend on many factors, including each sector’s ability to participate in the recovery and their exposure to legacy portfolios and markets.

Banks’ Mortgage Earnings Will Moderate In 2013
Mortgage banking was a bright spot for banks in 2012, as refinancing volumes rose with the help of government programs and low borrowing rates. Banks may struggle to duplicate that strong performance in 2013 because the pool of borrowers eligible to refinance is shrinking, though rates are likely to remain low, and supportive government programs remain in place. Credit losses from residential mortgages continued to decline during the year, though the number of problem loans remains high and will continue to contribute to elevated losses in 2013 across the industry. Litigation risks for banks related to mortgage exposures grew in 2012 and are likely to continue to weigh on the industry in 2013 as state and federal regulators and investors seek to recoup losses from the past few years. Overall, the legacy residential mortgage exposure of banks should continue to weigh on results, but that drag on earnings and capital should continue to slow.

Homebuilders Benefit From Demand For New Homes
Buyers for newer homes returned to the single-family home market in 2012, resulting in better than expected operating results for most of the homebuilders we rate. Sales volumes and average selling price exceeded our initial expectations, and we currently expect that the homebuilders we rate will deliver on average 20% more homes in 2012 compared with 2011. Most new homebuilders have also posted healthy increases in average selling prices, outpacing overall market trends, as buyers gravitated toward competitively positioned new home communities and the supply of existing homes for sale has remained very low.

Despite our expectation that favorable housing demand and supply fundamentals will continue to support strong revenue and EBITDA growth in 2013, our outlook on the homebuilding sector remains stable. Improved fundamentals reduce downside risk in our view, particularly for the lowest rated companies, but we expect upside rating momentum will likely be more muted as homebuilders draw down their sizable cash balances (a primary support to liquidity over the past few years), and raise additional debt capital for future land and inventory investment in anticipation of higher sales volumes. The effect of this additional debt issuance will likely slow the leverage improvements necessary for more positive rating actions over the next 12 months.

We also remain concerned that the impact of a potential recession in the U.S. would be more significant for homebuilders than many other sectors, since a drop in consumer confidence would likely derail buyers’ appetite for large discretionary purchases such as single-family homes. In addition, decisions on numerous regulatory and policy initiatives that would have an impact on housing are slated for the first half of 2013, many of which could significantly affect the availability and cost of mortgage financing.

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Housing to Drive Economic Growth

The bursting of the housing bubble plunged the economy into a recession from which it has yet to fully recover. But economists say this could finally be the year that housing lifts us out of the doldrums. Over half of economists surveyed by CNNMoney identified a housing recovery as the primary driver of economic growth this year. The rest were split fairly evenly between consumer spending, increased domestic energy production and stimulus from the Federal Reserve as major growth drivers.

"Homebuilding activity will likely remain the strongest growing component of the economy in 2013," said Keith Hembre, chief economist of Nuveen Asset Management. "After several years of excess supply, demand and supply conditions are now in much better balance."

Home sales rebounded to the strongest level in five years in 2012, as home building bounced back to levels not seen since early in the recession. Near record low mortgage rates, rising home prices and a drop in foreclosures have combined to bring buyers back to the market.

The economists surveyed also forecast that there will be just under 1 million housing starts this year -- roughly matching the 28% rise in home building in 2012. Moody's Analytics is forecasting much stronger growth -- a 50% rise both this year and next year, which it estimates will create more than 1 million new jobs.

"There's a lot of pent-up demand for housing, and very little supply," said Celia Chen, housing economist for Moody's Analytics. "As demand continues to improve, home builders have nothing to sell. They'll have to build." She said that growth in building will mean adding not just construction jobs, but also manufacturing jobs building the appliances and furniture needed in the new homes, which in turn drives overall consumption higher.And economists say the tight supply and renewed demand for housing should lead to higher home values -- about a 3.7% increase according to the survey.

"One of the most significant indirect effects from the housing recovery is the 'wealth effect' on consumers due to the recovery in home prices," said Joseph LaVorgna, chief U.S. economist of Deutsche Bank, who said better home values can affect both consumer psychology on spending as well as their actual finances.
"Even small moves in home prices can have large effects on consumption, because housing comprises such a significant share of household assets," he said.
Source:CNN Money Reports