NEW YORK - In the ongoing debate over if and when the oft-referenced housing bubble will burst, the latest ABS analyst to publicly weigh in expressed his belief that the bubble will experience a "slow hiss" as prices gradually decline. "Most of the time, bubbles end softly...the air hisses out," said Mark Adelson, director and head of structured finance with Nomura Securities, speaking at the Asset-Backed Securities Summit hosted by Financial Markets World last week.
Adelson said that, given the strength of basic economic conditions such as low inflation, low unemployment in the 4.9% to 5.1% range and a Gross National Product solidly above 3.5%, a slow decline in real estate prices is the most likely scenario. In a recent report on the topic, Nomura analysts also noted that, on a nationwide basis, U.S. home prices have appreciated every year since the Great Depression, and home price appreciation has averaged 6% per year since 1976. "Thus, on a nationwide basis," wrote the analysts, "we think mean-reversion (i.e., a period of slow home price appreciation) is somewhat more likely than absolute price declines."
The report also referenced a recent study by the Federal Deposit Insurance Corp., in which the organization found that 83% of regional home price booms end without a "bust," defined by the FDIC as a real price decline of 15% or more within five years, from 1978 to 2002. The report also quoted U.S. Census Bureau statistics that put U.S. population growth at 1% per year through 2010, increasing the demand for U.S. homes. The aging trend is also seen as a positive for the housing market, as Baby Boomers have the highest homeownership percentage, at more than 82%.
However, Adelson noted the possibility of an "unhappy ending" - in which home prices could decline 5% to 10% per year over the course of two or three years - cannot be overlooked. In such a scenario, some regions that have experienced the greatest price appreciation could see declines of more than 30%. For this case, Adelson referenced the mid- to late-80s when national average home prices declined a full 8% and declined 25% to 30% for the Pacific and New England regions before stabilizing in the early 1990s.
The report cites several areas of concern, including the fact that overheated home prices make new mortgage loans more sensitive to home price declines. Also of concern is the fact that certain regions, such as California, the northeast states and warm weather states like Arizona, Florida, Hawaii and Nevada have outpaced housing appreciation in other parts of the U.S., and that securitization investors may be particularly vulnerable to a regional bubble in California, because 35% or more of the loans backing securitizations are from California.
Adelson wrapped up by saying he recommended up-in-credit trades, as lower rated home-equity ABS would be the first to get into trouble if home prices continue to decline, and recommended agency debt as well. He also recommended subprime mortgage paper over jumbo mortgage paper, as the subprime paper offers greater credit enhancement.
Adelson compared the choice between the two trades as similar to being asked to carry $100 million dollars in a briefcase through a nice neighborhood unprotected, or through a bad neighborhood but protected by an armored military division. "I'll take the armored division," he quipped.
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