- Jonathan Poyer
It's Not 2008. Maybe Residential Housing is the Shelter from the Storm
Articles abound discussing the terrors facing the housing market OR the strength of the housing market. It is a bit tricky to navigate the news. By the end of Q1, the 30-year mortgage rate was around 6.3%.
The Case-Shiller Composite index has an interesting story to tell as well:
From our perspective, housing data continued to meet our expectations of "stickiness" in Q1. CoreLogic HPI in February was up 0.8% MoM and 4.0% YoY. Home prices were down a modest 3% from the peak in 2022, although there was regional differentiation with more weakness in the Sunbelt and West Coast markets. The recent decline in Treasury yields related to bank stress has reduced mortgage rates and has provided additional support to the housing market. The following factors continue to be supportive forces for home prices:
Low inventory driven by a long-term underproduction of housing
A record amount of borrower equity due to appreciation and a lack of "cash-out" refinances
Borrower "lock-in-effect" as mortgage rates have climbed significantly
Demographic trends supportive of household formation and baby boomers "aging in place"
In 2008, residential real estate was the center of the economic storm. Now, we believe residential housing could be the shelter from the storm. Low housing inventory, a result of various underlying factors, will likely be the major driver of resilient home prices over the short to medium-term. The absence of a “cash-out refi” boom (which is what took place in the mid-2000s) has left many mortgage borrowers with a significant amount of home equity in addition to a low mortgage rate.
For the remainder of 2023, we think the best way to take advantage of stability in the residential housing market will likely be residential mortgage credit. Mortgage defaults are likely to remain low given the aforementioned factors even in the absence of robust home price appreciation. While RMBS could likely be a solid place to be invested in the coming quarters, we continue to believe the best risk/reward exists at the bottom of the capital structure (common shares, preferred shares, corporate bonds) in certain residential mortgage REITs/related companies. Book values for the first quarter were likely only marginally lower (after dividends) and we believe investors should eventually realize today’s environment is not the same as 2008 or 2020.