Although home price appreciation has cooled in most places across the country and housing affordability is weak for costal areas, the healthy labor market remains a bright spot in this scenario, Lehman Brothers analysts said in a recent report.

Although U.S. house prices increased 12.4% from first quarter 2005 to first quarter 2006, home price appreciation only increased 2.03%, or an annualized 8.12% rate - the slowest pace since 1Q04. "While annualized quarterly HPA (AHPA) is a more volatile series than year-over-year HPA (YOY HPA) and often subject to restatement, it does signal that the long housing market boom has finally begun to cool off," analysts stated.

But, on a brighter note, the national job market remains strong, as unemployment rates continue to trend below 5%. Louisiana and Mississippi, two states that saw unemployment rates spike in the fourth quarter of 2005, have returned to pre-hurricane levels.

In terms home price appreciation on the state level, every one except Louisiana has a lower annualized quarterly HPA, versus yearly HPA for 1Q06, indicating a slowdown from previous quarters. Moreover, for the first time in almost four years, two states - Iowa and South Dakota - experienced negative quarterly growth.

Out of the 379 MSAs that Lehman Brothers tracks, only 53 grew more than a 15% annualized rate in 1Q06, compared with 115 in 4Q05. On the other hand, 82 MSAs, or 33% experienced negative growth, the most since the fourth quarter of 1999. Pittsfield, Mass., led the states that showed an annualized growth rate of 36%; while Brownsville-Harlingen of Texas experienced the largest annualized price drop at 24%.

Furthermore, despite the general employment picture looking up there are still some problematic areas. For some states, for example, the combination of slow home price growth and a sluggish job market are driving poor credit performance. This is especially true in Ohio, Michigan and Kentucky, which are now plagued with low HPA and high unemployment rates. In addition, Louisiana and Michigan continue to show high delinquency rates because of hurricane Katrina.

As for the national housing opportunity index, it remains largely unchanged from 4Q05, at 41.3. Yet, as previously mentioned, coastal areas remain out of reach for median-income families.

"Now that some of the once white-hot housing markets have cooled down, we will keep a close eye on the credit performance in these areas to identify early trends...we continue to expect some of the most affordable areas to have higher losses in the near future," Lehman analysts projected.

Housing slowdown prospects

Harvard University's Joint Center for Housing Studies released its annual report on the housing market recently, which also noted the positive effect of the healthy job market on the sector, even as it is slowing.

According to the report, the current slowdown in housing is expected to be moderate as long as it is able to benefit from various factors, including solid job and household growth, recovering rental markets and strong home price appreciation. Furthermore, the study noted that sharp price declines of 5% or more seldom occur in the absence of severe overbuilding, dramatic employment losses, or a combination of the two. With building levels in check and the economy expanding, large home price declines are unlikely for now, said analysts.

Another concern within the market has been the potential impact when IO loans start to reset. The Harvard study noted that increases in principal payments for IO borrowers are still several years off, which actually provides time for incomes to catch up, interest rates to fall and for borrowers to refinance or sell their houses and move.

Longer term, demographics play favorably into the housing market outlook, the report stated. For example, over the next 10-years, household growth should increase to 14.6 million from 12.6 million. The report said that on the strength of this growth alone, housing production should set new records. Two sources for this growth include a growing baby boom population entering into their 60s. These individuals have the wealth to boost the market for senior housing and second homes. The second demographic factor driving growth is the increase in foreign-born and minority households - expected to expand to over 32% by 2015 from 28% in 2005 - the Harvard report stated.

The report warns, however, that with the economy generating so many low-income jobs, the current widespread affordability problems will intensify. It mentioned that from 2001 to 2004, the number of households paying more than half of their incomes for housing shot up by 1.9 million, bringing the total number of low- and middle-income households with severe cost burdens to 15.6 million.

(c) 2006 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.

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