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Additional hope is in the air. Lower housing prices and low mortgage rates are driving improvements in home affordability. There are already signs that the rate of deterioration in housing, the epicenter of the credit meltdown, is decelerating. Existing home sales are up 4% from their low in June and housing inventories now appear to be peaking. While it could take months to fully absorb this inventory, the federal government is hoping to speed up economic recovery by buying inventories of mortgages, effectively repairing bank balance sheets and bringing about a low mortgage rate environment.

How Low?
The Treasury Department’s plan could send conforming 30 year mortgage rates to the 4%+ range, according to Bill Gross of Pacific Investment Management Company, LLC. According to Mr. Gross, “we are now morphing towards a world where the government fist is being substituted for the invisible hand*”… (*a term coined by Adam Smith in the 18th century to account for the mysterious benefits of free enterprise). (www.pimco.com, 12/2008).

The Wall Street Journal, in an article entitled “Rates could be as low as 4.5% for Newly Issued Loans”, reported that government officials are being pressured to stem the tide of foreclosures. In recent remarks to a Fed conference on housing finance, Federal Reserve Chairman Ben Bernanke said that foreclosures still remain “too high” and that “more needs to be done”. The newest program to help ease the credit crunch involves the Treasury buying securities to underpin loans guaranteed by mortgage giants Fannie Mae and Freddie Mac, which are currently under the control of the government. (finance.yahoo.com, 12/3/2008 & 12/4/2008) (Solomon & Paletta, WSJ, 12/08).

Just one month ago Credit Suisse analyst Daniel Oppenheimer reported that home prices were likely to fall an additional 15%. Loan modification schemes, favored by Treasury Secretary Henry Paulson were criticized as being ineffective. These schemes called for banks to modify the loan obligations of struggling borrowers. However, it was quickly shown that if lenders wrote-down enough of the loan balance so that the borrower would have positive equity, the lender would still bear the risk that the borrower could default in the future. Analysts concluded that home prices would continue to drift toward foreclosure pricing unless sharply lower mortgage rates were used to prop up home affordability, refinancing opportunities and property values (D. Oppenheimer, Credit Suisse, 12/08).

What a difference a month makes. The Treasury has a new plan and Oppenheimer now reports that affordability is returning to attractive levels in key building markets, i.e. Southern California. He also optimistically points to what can happen when affordability improves. In the early 1990s, affordability improved by 600 basis points and new home sales increased 55% from October of 1991 to December 1993. While it is unlikely that a snappy rebound will take place in the housing market, there is hope that the bottom of home sales will occur in 2009. The Treasury’s new plan should boost refinancing and stimulate home sales, hopefully averting further economic decline.

Clearly the Treasury’s move to bring mortgage rates into the 4% range reinforces a move towards improving home affordability. According to analysts, the median priced home now equates to 16.7% of median household income. This is an improvement of 430 basis points since last summer. Affordability is now better than at any time over the past several decades.



Affordability is the driver behind home sales. It is also worth noting that in prior cycles we’ve seen a rebound in home sales and stocks even as unemployment has risen sharply. Because the stock market tends to anticipate economic rebounds, a significant rebound in equities may occur within the next three months. At this point, I would be surprised if we do not get a rebound by April. However, much will depend on if and when 4% mortgage rates develop.

Contact us to learn more about working with Vaughn Woods Financial Group.

Best Regards,

Vaughn L. Woods, CFP®, M.B.A.

*Investors should be aware that there are risks inherent in all investments, such as fluctuations in investment principal. Past performance is not a guarantee of future results. Asset allocation cannot assure a profit nor protect against loss. Although the information has been gathered from sources believed to be reliable, it cannot be guaranteed. Views expressed in this newsletter may not reflect the views off Delta Equity Services Corp. The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. VW1/VWA0029

**Marketedge.com, Pershing NetExchange Pro, Bloomberg, Credit Suisse