TOM NOON REMEMBERS LIKE it was yesterday when California's last housing boom stalled. After unheard-of sales and price growth throughout the 1980s, the state's housing bubble started leaking air in the spring of 1990 and deflated “pretty quickly,” says Noon, D.R. Horton's COO-California. The causes included usurious interest rates, severe job losses, and parity between supply and demand. The consequence was a six-year-long recession during which builders and unemployed homeowners evacuated the state in search of more-stable ground.
Those conditions don't exist today, in California or many other markets where prices and sales have exploded. The nation's housing market is on an unprecedented roll, propelled by favorable demographics and low interest rates. Horton, the nation's largest builder, reported a 26.9 percent revenue gain on a 15 percent increase in unit sales for the nine months ending June 30. But this boom has also produced exorbitant price increases—“froth,” to use Alan Green-span's buzzword—driven by inventory shortages and mutated by speculative buying.
The housing market attracts attention because it is one of the country's few reliable job producers, because so much of the banking industry's assets are tied up in mortgage lending, and, of course, because everyone needs a place to live. But everyone and his brother seem to be weighing in on whether the latest boom will end with a bang or a whimper and what either result might mean for the country's economic health.
One authoritative source, the National Association of Realtors' (NAR) chief economist David Lereah, says that homeowners' net worth has swelled by $3 trillion during the market's run-up. Barring an unlikely spike in interest rates or an unforeseen international “event,” Lereah expects demand to stay reasonably solid. (NAR projects that home sales in 2005 will rise 2.8 percent to 6.97 million units.) But he told The Wall Street Journal in July, “You can't sustain double-digit price appreciation and keep homes affordable.”
That Journal article cites first-quarter data from Economy.com showing that median-income households in 41 of 325 metro areas couldn't afford their markets' median-priced homes. The FDIC stated that, during the 12 months through March, price appreciation outpaced income growth in 38 of 50 states. Bears such as Morgan Stanley's chief economist Stephen Roach disparage the current boom as a house of cards whose day of reckoning has been delayed only by “a mountain of debt” taken on by buyers through interest-only and negative amortization mortgages and propped up by foreign investment capital.
On the other hand, a sizable contingent of economists and builders appears to agree with Credit Suisse First Boston's analyst Ivy Zelman, who sees a “bubblish” housing sector with some markets more vulnerable than others to imploding. In its report “U.S. Home Prices: Does Bust Always Follow Boom?”, the FDIC estimates that 55 markets had inflation-adjusted price appreciation of at least 30 percent over the past three years. But history is instructive here: The FDIC also notes that between 1978 and 1998, there were 54 booms and 21 busts (when nominal prices fell at least 15 percent over a five-year period). This suggests that most booms settle into periods of regional price stagnation rather than spiral into national disasters.
Some economists insist that today's boom simply conforms to prevailing market fundamentals. Mark Vitner, senior economist for Wachovia's Economics Group, explains that over the past two decades, the U.S. population has increased by 57 million people, three quarters of whom reside in the 15 states under the greatest price appreciation pressure. Vitner also notes that “there's absolutely no supply out there,” and U.S. Census Bureau data show that of the 439,000 homes on the market nationwide in May 2005, 20.5 percent hadn't been started and 57.2 percent hadn't been completed.
Two Federal Reserve Bank of New York economists, Jonathan McCarthy and Richard Peach, wrote last December that between 1990 and 2003, American families gained 130 percent in purchasing power due to steep interest-rate cuts and a 50 percent gain in median household incomes. During those 13 years, by comparison, the Home Price Index calculated by the Office of Federal Housing Enterprise Oversight rose 72 percent.
BUILDER looked back at three regions with tumultuous housing-sector histories —Texas, New England, and California—and found that sales typically declined more precipitously than did prices. But when bubbles burst, recovery took years and, by winnowing smaller companies, often strengthened the competitive positions of deep-pocketed large public builders.
TEXAS HOLD 'EM David Weekley's worst memory of Texas' economic descent in the mid-1980s was “buying down” mortgages, by as much as 10 percent of the selling price, to entice buyers when interest rates were 18 percent. “It was bizarre,” recalls Weekley, chairman of Houston-based David Weekley Homes.