A recovery in housing starts activity must be preceded by a meaningful recovery of the sales pace, followed by a reduction in inventory. According to a recent PCA Economic Research report, the conditions needed for this process to begin will not be in place until mid-2010.
Although resets of "traditional" sub-prime mortgages are expected to reach an apex in mid-2009, exotic mortgages such as Alt-A and option adjustable mortgages will experience a dramatic increase in resets mid-2009 through mid-2010. Edward J. Sullivan, PCA chief economist, said this second wave of toxic resets will accelerate foreclosure rates and add to the large number of foreclosed homes in a crowded market.
Alt-A mortgages are stated mortgages -- requiring little income documentation. Option adjustable mortgages allow the borrower three basic options for payment including traditional principal and interest monthly payments, interest only monthly payments and negative amortized monthly payments. The latter is extremely vulnerable at a time of reset. Since many of these borrowers chose the minimum payment option, resets can cause monthly payments to triple.
"Housing construction activity cannot begin until sales recover," Sullivan said. "Increased foreclosures, coupled with deteriorating labor markets and tight credit conditions, will delay significant sales activity until mid-2010. Improvements in housing starts are not expected to be significant until 2011."
Although the housing recovery bill, along with bank efforts to rewrite toxic mortgages will mitigate the magnitude of potential defaults and foreclosures during the next 18 months, PCA expects a weak labor market and declining home prices will increase the number of foreclosed properties being added to the housing market inventory.
"Without further government cash injections into the banking system, tight lending standards could characterize the economy and mortgage lending through mid-2011 dragging down home sales," Sullivan said. "Under such a scenario, the housing recovery and overall economic recovery could be delayed significantly."