As foreign capital continues to pour into the U.S. housing market - in no small part through investment in U.S. residential-mortgage backed securities and CDOs - investors, analysts and others continue to search for indications of when, or if, that demand could wane.
An inflated U.S. housing market is not at the top of the list of concerns for Asian investors, anecdotal evidence would indicate. Investors attending Citigroup Corp.'s credit conference earlier this month in Thailand said they were more concerned with rising corporate default rates than a slowing housing market, according to Citi. Asked during an informal survey to rank their concerns regarding the U.S. market, nearly 30% of respondents voted, "corporate defaults spike in 2006," while about 25% answered, "the floor drops out of the U.S. housing market." Also, 18% of respondents were most concerned with a surge in inflation brought on by rising oil prices while a little more than 15% said they were most worried about liquidity suddenly vanishing.
Richard Rogers, a managing director at Prudential Financial, said one of the factors that could impact the entire economic landscape - including the shape of the yield curve - is how demand for U.S. securities from foreign investors trends. Regarding the factors that could impact home equity ABS performance, Rogers, while speaking during a panel discussion at the ABS West conference in Phoenix earlier this month, said, "We're on very good job footing for the next several years. With a flatter yield curve, it's harder for originators to make money, but the bigger risk may be on the rate side if the Fed significantly overshoots, and if demand from foreign buyers for U.S. securities diminishes."
A subprime problem?
But William Sidford, a senior vice president at Alliance Capital Fixed Income, said the potential that at least one large subprime mortgage originator will encounter major financial problems amid heightened competition could create a change in foreign sentiment.
"When foreign investors read negative press, and see a couple blow ups, their pull back in demand could cause spreads to widen significantly," Sidford said. "We don't think that is going to happen, but I wonder what the consolidation [within the lending industry] will do."
The total dollar amount of U.S. assets - including CDO investment - held by foreign investors reached $4 trillion in 2004, up from about $3.4 trillion in 2003 and roughly $1.9 trillion in 1998, according to the National Association of Realtors.
However, a look at the stock market indicates how quickly foreign capital can flee. Foreign investors held some $37.9 billion worth of U.S. real estate-related stocks in 2004. But the total was almost $41 billion in 2000 before falling to roughly $35 billion in 2001.
Waiting for the bubble to implode
"Whenever I speak to my senior management in Tokyo, they are just waiting, waiting for the U.S. real estate bubble to implode," said David Jacob, a managing director and international head of fixed income research at Nomura Securities International Inc. Jacob, speaking at the Phoenix conference, added that non-Japan Asian investors are less risk-averse than Japanese investors seem to be.
"In our view, foreign demand will continue, which should keep a reasonable cap on how high long-term rates will go," Jacob said.
As of 2004, Japanese investors had held the largest direct stake in the U.S. real estate sector for a decade, according to NAR. But the country's investment had fallen some 60% since 1998. In 2004, the Japanese accounted for 14% of total foreign real estate investment. Germany, Canada, the U.K. and the Netherlands each accounted for roughly 10%, according to NAR data, while Latin America accounted for 12%.
NAR estimated in December that a withdrawal of foreign capital would increase long-term interest rates by six percentage points.
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