The State of the American Homeowner is Strong
The State of the American Homeowner is Strong
The delinquency rate for loans on one-to-four unit homes including single-family residences declined from 3.96% in the fourth quarter of 2022 to 3.56% in the first quarter of 2023. This is according to the Mortgage Bankers Association, which reports that the 3.56% delinquency rate is the best (i.e. lowest) first quarter delinquency rate since they started tracking the data in 1979. Homeowners are stable and healthy. Why? And why does it matter? And will it last?
A Formula for Strength
There are several key variables at play. The first is that employment is historically strong. Today's unemployment rate of 3.4% is the lowest it has been since May 1969. People are working, and earnings are also rising, with the average hourly wage around the country hitting $33.36 in the month of April, up from $31.94 a year ago and up from $27.76 four years ago in April 2019. Low unemployment plus higher wages is a clear formula for stability (although I would note that the 4.4% jump in wages over the last year is still less than the inflation rate during the same time period).
Second, although pandemic-era loan deferral options for homeowners have generally ended by this point, federal rules that allowed homeowners to skip payments during the pandemic provided many people with the benefit of time to get stabilized before resuming their monthly payments. For those who were directly impacted economically by COVID-19 either through the closure of their business, a job loss, or in some cases Long COVID or other heath issues, the option to skip payments provided time to get through these challenges without falling behind on their mortgages. Generous stimulus payments during this time for both individuals and businesses also provided a financial boost. Although the direct benefits of all this stimulus have petered out, undoubtedly the jolt that such payments gave to the economy kept a lot of people employed and, in fact, continue to ripple today.
Lastly, a third reason why homeowners are doing well right now is that, as I've written about before, pre-July 2022 mortgages generally carry interest rates in the low 3.00% and even mid-to-high 2.00% range. As wages rise (and inflation, too), long-term fixed payments on 30-year mortgages become comparably more valuable at these low interest rates and, concurrently, easier to pay. The once-in-a-generation chance to obtain long-term debt at such historically low rates will benefit these homeowners for decades to come. On the flip side, these low-rate mortgages have created a “lock-in effect” where many people who otherwise might be interested in moving are instead staying put in their current homes because they don’t want to give up a 3.00% mortgage for a 6.50%+ mortgage (and at a higher price point, too). This lack of turnover deprives the housing market of much-needed inventory as fewer homes are getting listed with people deciding not to move. The lack of turnover is all the more acute with the low delinquency rate, too; homeowners who might normally realize they are in trouble or are nearing a point where they might not be able to make their payments might be inclined to get out ahead of the problems by selling. But right now, not many people are in that position, so there are fewer homes in this “homeowner peril” category, to the detriment of would-be buyers.
Why Does It Matter?
Why does the status of someone else’s loan payments matter to you? Well, other than a general feeling of concern and compassion for others, we are all connected in the great economic circle of life. Most will remember the 2008 financial crisis; even if you did not lose your job let alone your home, disaster in the home mortgage market ripped through the economy causing, among other things, a halving of the stock market from October 2007 to March 2009, a general freeze in hiring, and a massive slowdown in economic activity. Everyone was impacted in one way or another.
Could that happen again? There is a "what goes up, must come down" flavor to American public thinking when it comes to the economy and investments, including real estate. I think this is generally due to a healthy contrarian skepticism rooted in our Yankee conservative instincts, especially here in New England. But major economic events like the Great Depression, the Dot Com Bubble, and the Financial Crisis of 2008 are also baked into our collective understanding of how things work. When something is running hot, there is a natural expectation that it is not just going to cool off, but eventually collapse.
So surely with as much as home prices have risen in the past five years there must be a bubble that is about to pop, right? Well, actually no. While I expect that certain markets especially in the western United States are going to see price drops in the 20-30% range over the next year or two, nationwide home values might ease off and drop by a more modest 5-10%. This does not represent a crash, however, or a collapse of the current-day U.S. housing market.
It would be very unlikely that in 2023 the housing market would crash when homeowners are doing so well and the delinquency rate is so low. Short of a significant jump in unemployment, which would put millions of U.S. homeowners at risk of falling behind on their mortgage payments, the likelihood of a 2008-style financial crash (including a housing crash) is therefore quite low. This is why, however, it is so important the Federal Reserve not overshoot on hiking interest rates too much. Rising interest rates do not necessarily impact most current homeowners who have fixed rate mortgages, but they do (by design) slow down economic activity overall, which leads to less business growth and a decline in consumer spending. This could (and probably will) lead to job losses. And if the unemployment rate starts to rise significantly, homeowners may start to struggle, which could in theory have the same cascading effect it did in 2008.
But we are a long way from that. My guess is the unemployment rate at the end of the year will be higher than 3.4%, probably closer to 4.0% and then maybe even higher than that to 4.5%-5.0% or so this time next year. That would still be a decent rate all things considered, and would be reflective of a generally healthy labor economy. But if the unemployment rate eventually hits 5.5% or more, it will be more worrisome. In October 2008, which was when things were really starting to get bad, the unemployment rate was 6.5%; it then topped out just over 10% in 2009. It was in this October 2008 to March 2009 timeframe that things were the most bleak for homeowners and for the overall economy.
Just to add in one kicker on the side of not believing a collapse in the home loan market is coming, a fairly substantial number of owner-occupied homes today are actually paid off (i.e. there is no mortgage that can be defaulted on or leveraged into a collateralized debt obligation or some other exotic investment product). According to the U.S. Census Bureau via Construction Coverage, over 38% of U.S. homes are paid off. I have not been able to find data to compare this to 2008, but I have to think a higher percentage of homes are paid off today than in 2008.
Welcome Stability
After all of the bad headlines and worrisome developments in the banking sector over the last few months, the strength of loan portfolios is a bright spot that undoubtedly provides some comfort to banks, their executives, and shareholders (and, of course, ultimately their customers and employees).
I can confirm this is what I am seeing in my day-to-day work as a commercial lender. Most borrowers are making their payments, on time, most of the time. The pipeline of incoming loan requests is down from a year ago when rates were lower, but things are still active and busy. But the really interesting thing is that asset quality remains just so strong. Although what I write here does not reflect First National Bank, which is where I work, we are a publicly traded company and, as such, our results are public. For the quarter ending on March 31st, the ratio of Past Due Loans to Total Loan was just 0.10%, a historically low percentage that reflects strength in all areas of lending: residential, commercial, and consumer. That same earnings report will show what a lot of banks are dealing right now: tightening margins due to higher costs on the deposit side of things, but asset quality in the lending portfolio remains quite strong, which is reflective of good lending decisions, of course, but also very strong borrowers.
Ben Sprague lives and works in Bangor, Maine as a Senior V.P./Commercial Lending Officer for Damariscotta-based First National Bank. He previously worked as an investment advisor and graduated from Harvard University in 2006. Ben can be reached at ben.sprague@thefirst.com or bsprague1@gmail.com. Follow Ben on Twitter, Facebook, or Instagram. Opinions and analysis do not represent First National Bank. © Ben Sprague 2023.